(Tax update) Tax Implications of Bumiputera Unit Release Fees in Malaysian Property Development

Ehsan Armanda Sdn Bhd Case

The key takeaway from the Ehsan Armanda Sdn Bhd case, regarding the tax-deductibility of payments made to the State Authority for exemption from low-cost housing construction (Bumiputera release fee) in a project under section 33(1) of the Income Tax Act 1967 (ITA 1967), is as follows :

The Court of Appeal reversed the decision of the High Court, ruling that such payments are a capital outlay and therefore not deductible for tax purposes under sec. 33(1) of the ITA 1967. This establishes a precedent in the interpretation of what constitutes a deductible expense under this section.

The Court of Appeal made a notable distinction between this case and the Mitraland case. In the Mitraland case, the Court of Appeal held that payments for Bumi Lot Exemption were tax-deductible.

The different outcomes in these cases highlight the complex approach of the court in determining the nature of payments (capital or revenue) and their tax implications.

Penalty ?

The payment to the state government for the release of Bumiputera units, comprising a 10% refund related to the Bumiputera quota and an additional 5% as a penalty for breaching quota terms, is typically viewed by the Inland Revenue Board of Malaysia (IRBM) as punitive.

IRBM argue that the taxpayer sold the Bumiputera units prior to securing approval from the state government. Consequently, this action is interpreted as a legal infringement by the taxpayer. As a result, the payment is considered not to be an incidental part of the taxpayer's business operations and therefore, is not eligible for tax deduction under prevailing regulations.

Recent Tax Cases - Revenue vs Capital

The issue of tax deductibility for payments made by developers for the release of Bumiputera units to non-Bumiputera purchasers in Malaysia has been addressed in several court cases. Here are the key points:

Court of Appeal Ruling on Bumiputera Release Fee

The Court of Appeal has ruled that the Bumiputera release fee, paid by property developers to state governments for the release of Bumiputera units when they cannot sell these units to Bumiputera purchasers, is deductible.

This decision was made in the case of Ketua Pengarah Hasil Dalam Negeri Malaysia v Mitraland Kota Damansara Sdn Bhd. The court found that the payment is not penal in nature and is closely related to the developer's business operations, as it enables the sale of unsold Bumiputera units to non-Bumiputera buyers.

High Court Decisions on Tax Deductibility

Several High Court cases have supported the position that Bumiputera Unit Release Fees are deductible business expenses under Section 33(1) of the Income Tax Act 1967.

These cases include Mitraland Kota Damansara Sdn Bhd, Taman Equine (M) Sdn Bhd, Sovereign Teamwork (M) Sdn Bhd, Setia Indah Sdn Bhd, and others. The High Court has consistently held that these payments are not penalties and are incurred in the course of business, enabling the sale of properties and generating income.

Summary

This decision has significant implications for businesses engaged in property development. It suggests that payments to state authorities, which are linked to long-term benefits or alterations in the capital structure of a business, might be considered capital in nature and thus not eligible for tax deductions.

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