Table of ContentsINTRODUCTION11.0Resident bank22.0Overseas business loss33.0Non-banking business income44.0Bank with overseas subsidiary44.1Foreign withholding tax imposed on dividend income44.2Underlying tax65.0Incentives to bank66.0 Chargeable Income67.0 Interest paid by banks or finance companies77.1 witholding tax on net working funds87.2 Tax planning87.3 Case law decision on net working fund98.0 Tax planning on foreign banking income98.1 FOREIGN ACCOUNT TAX COMPLIANCE ACT (FATCA)139.0 Investment in shares and property held by bank149.1 shares as trading stock1410.0 Deductibility of bad debt1510.1 Meaning of reasonably estimated15

INTRODUCTIONDEFINITION OF ' BANKING BUSINESS 'What is banking business? Banking business defined as a company's financial dealings with an institution that provides business loans, credit, savings and checking accounts specifically for companies and not for individuals. The banking business is also known as commercial banking and occurs when a bank, or division of a bank, only deals with businesses. (http://www.investopedia.com/terms/b/business-banking.asp)However, a bank that deals mainly with individuals is generally called a retail bank, while a bank that deals with capital markets is known as an investment bank.** In the past, investment banks and retail/commercial banks had to be separate entities, under the Glass Steagall Act, but now a single bank can deal with business banking, retail banking and investment banking.In Malaysia, the operations of commercial banks and finance companies are governed by the Banking and Financial Institutions Act 1989, and closely supervised by Bank Negara Malaysia (Choong Kwai Fatt, 2014). Under Act 53 of Income Tax Act 1967, the only section related to banking business is Section 60C. This section is categorized in part III- ascertainment of chargeable income under chapter 8 special cases (Act 53 Income Tax Act 1967). In order to understand the tax treatment for banking business, the discussion didnt solely rely on this section. We are referring to another section which is related such as section 132 and section 133 double taxation relief.Refer to the above statements, we are general explaining what is banking business. Further the discussion is about the distinguish treatment between bank or financial institution with other business, solving the problem arising relate to tax, and how to record the appropriate treatment for bank and financial institution. Lastly, the calculation of chargeable income for bank or financial institution will be discussed as well.

1.0 Resident bankSection 60C of Act 53 Income Tax Act 1967 states that:Where a person who is resident for the basis year for a year of assessment carries on a business of banking in Malaysia and elsewhere, his gross income and adjusted income or adjusted loss for the basis period for that year of assessment from that business and his statutory income for that year of assessment from that business shall be ascertained by reference to his income there from wherever accruing or derived excluding the gross income, adjusted income or adjusted loss and statutory income attributable to an offshore business activity of a licensed Malaysian offshore bank.In brief, the banking business source, namely as banking business income is taxed on world income scope, wherever it accruing in or derived. The world scope of taxation means the income of a financial institution resident in Malaysia is taxed on a world scope basis. This scope only applies to the banking business and cover the relationship of Malaysian head office (bank/ financial companies) with overseas branches carrying on the business of banking (Choong Kwai Fatt, 2014).As we know, when the income derived from outside Malaysia, such income would be subject to Malaysia income tax as foreign income (Public Ruling No. 11/2011). In the cases of suffering foreign tax, a tax relief called as double tax relief would be allowed against the income tax payable in accordance with section 132 double taxation arrangement and section 133 unilateral relief from double taxation (Act 53, Income Tax Act 1967). The bilateral relief under section 132 is computed when the foreign country has a double taxation agreement with Malaysia. The condition of this relief is the person should make a claim on it, otherwise this relief will not be given. Beside that, it must noted that total bilateral credits should not exceed total Malaysian tax payable on chargeable income before allowance of any bilateral credit (Public Ruling No. 11/2011). The amount of bilateral relief to be claim is the lower of tax payable in the foreign country and Malaysian tax payable on foreign income.Whereas, if the foreign country does not have a double taxation agreement with Malaysia, a unilateral relief would be allowed to be claimed. The tax credit is limited to one-half of the foreign tax payable on the foreign income for the year or the Malaysian tax chargeable in respect of the foreign income, which is also taxed, whichever is lower (Public Ruling No. 11/2011). In according to Paragraph 15 of Schedule 7, Income Tax Act 1967, an employee who pays Malaysian tax and foreign tax on employment exercised outside Malaysia may claim a unilateral credit for the foreign tax, irrespective whether or not he/she is a tax resident of Malaysia.In the nutshell, the foreign income from banking which subject to be taxed can seek a tax relief either bilateral or unilateral relief in according to the condition provided.2.0 Overseas business lossThe section 60C provides that statutory income from the business of banking is computed by reference to world income scope. Although adjusted loss from banking is also determined by reference to world income scope, it would not be allowed to set off at the aggregate income level (Choong Kwai Fatt, 2014). This is because the deduction is not provided by section 60C. However, when referring to section 44 (2), it permits only Malaysia current year business loss against the aggregate income. This meaning that deduction of current year business loss (adjusted loss) is only restricted to Malaysian banking business income accruing in or derived from Malaysia. After the statutory income stage, all deductions available which are permitted under the Act are restricted to those incurred in Malaysia. For example, donation deduction.So, when a banking business subject to be tax on world income scope basis suffer adjusted loss for the particular year, only the banking business income accruing in or derived from Malaysia are allow to be deducted as current year business loss against aggregate income level.

3.0Non-banking business incomeIf the resident bank carries on other than banking business such as investment and leasing business, the scope of income taxation would be the modified territorial scope namely as Malaysia derived income and foreign source income received in Malaysia from outside Malaysia. 4.0Bank with overseas subsidiaryIf the resident bank in Malaysia has overseas subsidiaries providing the banking business, the world income scope will not be applied for the overseas subsidiarys income. Therefore, it will be taxed based on the foreign jurisdiction. In short, there is no Malaysia income tax imposed on the foreign source income. However, dividend paid from the overseas subsidiary to the Malaysia holding company will be taxed based on the Malaysia income tax. It will be treated as investment income under the section 4(f) other income. If the dividend and interest received from overseas investment to the Malaysia investors other than the resident company carry on banking business in Malaysia, it is exempted from tax. Besides that, the foreign investors who are non-resident are exempted from tax if the interest received is paid by the Malaysia banking or financial business (Public Ruling No. 2/2014 Taxation of Investors on Income from Foreign Fund Management Company, 2014).4.1Foreign withholding tax imposed on dividend incomeThe withholding tax charged on the foreign dividend income, that withholding tax is accord either unilateral or bilateral relief against the Malaysia income tax. Withholding tax means a method of collecting income tax from non-resident deriving Malaysia income paid to the Inland Revenue Board of Malaysia. If there is underlying tax provision, the underlying tax is allow to use in the computation of unilateral or bilateral relief after taking into account of withholding tax. However, if there is no underlying tax provision, only the withholding tax is used to compute unilateral or bilateral relief. Below is the formula used to compute the unilateral and bilateral relief:a) Bilateral relief is the lower of: a. ORb. Foreign tax payableb) Unilateral relief is the lower of: a. ORb. Below is the example of calculating bilateral and unilateral relief. RMNet premiums140,000,000Allowable expenses100,000,000Investment income:Rental34,000,000Dividend (25% tax @7,000,000)28,000,000Interest (Malaysia)9,000,000Interest (UK tax 100,000)1,000,000

Computation of tax payable: RMNet Premiums140,000,000Less: allowable expenses(100,000,000)Statutory income from business40,000,000Rental34,000,000Dividend28,000,000Interest (Malaysia)9,000,000Interest (UK)1,000,000Total Income112,000,000Income tax charge (25%)28,000,000Withholding tax in UK (10%)100,000

Bilateral Credit: =1,000,000/112,000,00028,000,000 = RM250,000ORRM100,000 whichever is lower. Therefore, the bilateral credit is RM100,000.

Unilateral Credit: =1,000,000/112,000,000 28,000,000 = RM250,000OR=1/2 100,000= RM50,000 whichever is lower. Therefore, the unilateral credit is RM50,000.

4.2Underlying tax Underlying tax is the tax imposed on the profit arising in the foreign country when dividend is paid. In computing bilateral relief, underlying tax is allowed as part of the foreign tax due to the foreign country want to encourage investment in their country. The underlying tax is negotiated and stated into the double taxation agreement. Double taxation agreement is occurred when the income derived by a person from a source is brought to charge in more than one country. This is the taxation agreement between two countries. The shareholders will be received net dividend income after deduction of withholding tax. 5.0Incentives to bankBanks who will get exemption on statutory income from business conducted in international currency business and qualifying Ringgit accounts are international Islamic bank, international Takaful operator and international currency business units. The international currency business means the business is carried on non-RM. However, qualifying Ringgit accounts mean business is carried on Ringgit Malaysia. Income derived from international currency business and qualifying Ringgit accounts are two different income sources. The exempted statutory income will be brought into an exempt income account. Besides that, those banks also can enjoy stamp duty exemption on certain instruments for promoting Malaysia International Islamic Financial Centre (Malaysian Tax and Business Booklet, 2013/2014). This incentive is valid from 1 January 2007 till 31 December 2016. 6.0 Chargeable IncomeThe Chargeable Income (CI) is computed based on the general income tax provisions, there are no special regulations or rules on the taxation of banks and financial institutions. The computation as follows :RM

Gross Income [s 4 (a)]XXX

(-) Expenses wholly and exclusively incurred in the production of income (s33)XXX

Adjusted IncomeXXX

(-) Capital allowance (Sch 3)XXX

Statutory Income (World scope)XXX

(-) Business losses b/f (Malaysian)XXX

Chargeable IncomeXXX

Gross income for bank and financial institutions included interest and discount receivable, commissions, realized gain on foreign exchange, dividends from short-term investments, rental of safe deposit boxes , sales of Malaysian Government Securities (MGS), etc7.0 Interest paid by banks or finance companiesAccording to the paragraph 33 of schedule, for those who are not resident in Malaysia and do not have a place of business in Malaysia receiving interest from bank or finance companies , then he/she will be exempted from withholding tax. Witholding tax is a methd of collecting income tax from non-resident deriving Malaysian income. Tax is deducted at source which means pay in net. Besides that, any interest income paid by Islamic bank established under the Islamic Banking Act 1983 and other financial institutions approved by the Minister of Finance is also exempted from withholding tax. Example such as, Kuwait Finance House (Malaysia) Berhad. However , the exemption does not applicable for the interest paid by branches of a foreign bank that carrying business in Malaysia to its head office or other branches outside Malaysia for the purpose of maintaining the net working funds of the Malaysian branch. Working fund of banks refer to the funds deployed by a bank in its business or in other sentence it means total resources of the bank. It includes capital, reserves and surplus, deposits , borrowings , other liabilities and provision. 7.1 witholding tax on net working fundsAccording to the section 37(1)(a) of bank and financial institutions act 1989 , foreign banks required to maintain 6% of the total assets or RM10 million whichever is the lower as net working funds. During shortfall, foreign bank would remit fund from oversea branchs or head office, those interest paid to an oversea branches or head office as a return on the remittance will be subjected to 15% of withholding tax. 7.2 Tax planning It is more tax efficient for interest to be charged by the overseas branch or head office when funds are remitted into Malaysia for net working fund purposes. This is because such interest expense is allowable expenses in computing the tax liability of Malaysia branches. This is because the corporate tax rate is 25% , while withholding tax on interest payment is only at 15% (lower rate is presecibed under the bilateral credit.)

Scenario 1Overseas bank do not charge interest on funds remittedRMScenario 2Overseas bank do charges interest on funds remittedRM

Gross Income100,000100,000

(-) Interest paid to overseas branch__(20,000)

Chargeable income (CI)100,00080,000

Income tax (25%)25,00020,000

Withholding tax paid (15%x RM 20,000)__3,000

Total tax paid25,00023,000

Tax savings (A-B)= RM 2,000

7.3 Case law decision on net working fund

In U Bank Ltd v KPHDN (1996) MSTC 2,646, the appellant carried on baking business in Singapore and also in Malaysia, through a branch set up in Kota Kinabalu.Permanent establishment under the Double Taxation Agreement (DTA) of Malaysia branch with Singapore were has made interest payments attributable to fund used to maintain net working fund to the head office in Singapore and also overseas branches during year of assessment (YA) 1982 to 1996. The issue of the determination is whether the interest income received by the head office are rightly not exempted from tax by the proviso in para 33 of Sch 6 or the interest income was not subject to tax by relying on Article IV and XV of the Double Taxation Relief (Order) 1973.Both companies are distinct and separate enterprise, interest make by the branch were received by the head office to form part of the income & profits. Therefor liable to tax in Malaysia. Under para 33 of Sch 6, interest charges received by the head office from it permanent establishment were not interest accruing and also paid to maintain net working funds.8.0 Tax planning on foreign banking income Malaysia resident bank has been taxed on world scope basis including branch profits derived in Malaysia. Therefor, advisable for Malaysia bank to set up a subsidiary in foreign countries because profit of subsidiary will not be taxed in Malaysia at the point of accrual and will only be taxed at the prevalent tax rates in that foreign country. The dividends declared of foreign country were received by the Malaysia bank then only subject to tax.

Example: Titanic Bank Berhad (Titanic) (Malaysia resident) is a licenced bank having several branches in Malaysia and an overseas branch in Alphaland. Titanics result for its financial year ended on 31.12.2014 were: Adjusted income computed for Malaysia tax purpose: RMHome branches 500,000Alphaland branch 200,000 The following additional information is supplied: 1. Titanic has a 15% shareholding in Betabank, net dividend of RM18,900 was received in Malaysia in 2014 were not included above. Malaysia has double taxation agreement with Betaland which is full tax credit relief were tax including for a shareholding exceeding 10% in any company, relief for underlying tax. Betabank deducted tax of 10% on paying the dividend. For the year 2014, Betaland suffered tax equivalent to RM50,000 and its accounting profit after tax were equivalent to RM150,000.2. Titanic has suffered Alphaland tax of RM46,800 on the income of its Alphaland branch for 2014, calculated at 25% on branch income as adjusted for Alphaland tax purposes (RM180,000). Malaysia has a DTA with alphaland, which provides for tax credit relief. Profit of Alphaland branch for 2013 is RM40,000 was remitted to Malaysia in 2014.

Answer:

Bilateral tax credit: RM RM RMa. alphaland branch profits Malaysia tax 200/728 x RM 182,000 50,000Aphaland tax 46,800Lower of 46,000

b. Betaland dividend RM RM RMMalaysia tax 28/728 x RM 182,000 7,000Betaland tax net dividend 18,900Add:withholding tax RM 18,900 x 10/90 2,100 2,100 21,000Add: underlying tax 21,000/150,000 x 50,000 7,000 7,000Gross amount 28,000 Tax suffered 9,100 Lower of 7,000 53,800

8.1 FOREIGN ACCOUNT TAX COMPLIANCE ACT (FATCA) FATCA is a legislation to help counter tax evasion in the United States of America. FATCA creates a new information reporting and withholding regime for payments made to certain foreign financial institutions and other foreign entities. The FATCA requirements came into effect on 1 July 2014. FATCA is intended to increase transparency for the United States (U.S.) Internal Revenue Service (IRS) with respect to U.S. persons that may be investing and earning income through non-U.S. institutions. While the primary goal of FATCA is to gain information about U.S. persons, FATCA imposes tax withholding where the applicable documentation and reporting requirements are not met. FATCA requires a foreign financial institution (FFI) like Bank Islam (the Bank/Bank) and other financial intermediaries to report to the U.S. Internal Revenue Service (IRS), a U.S. Persons specified foreign financial assets maintained with the Bank in the form of depository financial accounts that exceed certain thresholds. For Bank Islam, depository financial account includes all deposit accounts and investment accounts offered to individuals and entities. For Bank Islam, depository financial account includes all deposit accounts and investment accounts offered to individuals and entities. persons will also be impacted as they may now be required to withhold a 30% tax on that income paid to a non-U.S. person under FATCA.FATCA is applicable both:1.All new to Bank customers regardless if the applicant is an individual or entity applying to open a deposit account or an investment account. 2.Existing customers regardless if account holder is an individual or an entity holding a deposit account or an investment account.

9.0 Investment in shares and property held by bank

Shares is short term were related to banking business whereas property is long term investment were non banking business. The distinction is crucial as gain form realization of the long term investment are not subject to income tax. However, the investment held by banks as current assets that constitute stock in trade held in connection with its normal banking business will be subject to tax were any gain from the disposal assets. 9.1 shares as trading stock

A liability to income tax would arise where investments in shares are held in connection with the banking business, example were the share held to meet the withdrawal of depositors, earning income to pay the interest expense commited on deposits. Under Traditional view: In punjab co-operative bank ltd v CIT (1940) bank would be taxed on profit derived from its investments because linked with deposits and withdrawals of cash.Under Current development: In waylee investment ltd v CIR(1990) were bank was able to hold long term investment and the profit of disposal was not taxable. In this case, the bank intended to hold the investment for an indefinite period. The following principles are established: (a) An Investment is acquired as trading stock if it was held by the bank as being available to meets the demands of the depositors. (b) financial institutions are able to hold long term investment separate from any portfolio of short term investments. The criteria to determine this is not only the length of the period of holding and the purpose for which the shares were acquired but also whether the investment in question could reasonably be treated as part of the financial institutions capital structure, or whether they were held as part and parcel of funds available to meet demands of depositors.

10.0 Deductibility of bad debt

Under S34(2) on deductibility of bad debt would need to satisfy the following requirements:(1) it has to be a trade debt (2) it is reasonably estimated in all circumstances of the case to be wholly or partly irrecoverable. (3) it arises in the course of carrying on the business and not from taking over the debts from other traders.

10.1 Meaning of reasonably estimated Tax authorities may require the bank to show that all necessary actions, including legal action have been instituted to recover the trade debts, before a tax deduction is allowed. The tax authorities would allow a tax deduction when a provision is made for the following reason: (a) The debtor is insolvent(b) The debtor has absconded (c) The debtor has passed away (d) The debt is statute barred In order for debt to qualify for deduction under S34(2) of the Act, it must first come within the meaning of debt as defined in S34(3), which includes: (1) a debt in respect of interest of the kind referred to in S24(5), example interest which has been treated as business income for tax purposes.(2) a debt arising in respect of a loan of the kind mentioned in S24(5) granted in the course of carrying on the business, example loan from which was derived the interest that was treated as business income for tax purposes.

BibliographyMalaysian Tax and Business Booklet. (2013/2014). 28.Public Ruling No. 2/2014 Taxation of Investors on Income from Foreign Fund Management Company. (2014, April 28). Retrieved from Inland Revenue Board of Malaysia: http://www.hasil.org.my/pdf/pdfam/PR2_2014.pdf

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