Malaysia, like the rest of the world, is jumping on the bandwagon to impose tax on digital transactions.
The Minister of Finance of Malaysia, Mr Lim Guan Eng, announced during his first Budget speech on November 2, 2018 that the Malaysian government will be widening the service tax net to capture digital products and services purchased by consumers in Malaysia from foreign service providers under a business-to-consumer (B2C) regime, from January 1, 2020. The additional revenue generated from this B2C regime will also help narrow the revenue gap after the abolishment of the goods and services tax (GST) regime in Malaysia.
Service Tax on Digital Services
With the introduction of service tax on imported digital services, Malaysia is seen to be catching up with the global trend, as it joins many other countries, such as Australia, Japan, New Zealand and Singapore, to introduce a consumption tax on B2C cross-border digital services.
Similar to other countries in the region, Malaysia intends to introduce a foreign service provider registration system to collect service tax on digital services which are imported by consumers in Malaysia.
“Digital service” means any service that is delivered or subscribed over the internet or other electronic network and which cannot be obtained without the use of information technology (IT) and where the delivery of the service is essentially automated. This may potentially include streaming of music, videos, cloud storage services, provision of software online and digital advertising services, among others.
Under this B2C regime, foreign service providers who supply digital services to consumers in Malaysia will be required to register themselves with the Royal Malaysian Customs Department (Customs) if they meet the mandatory registration threshold of 500,000 ringgit (approximately $125,000) in terms of the annual value of digital services that are provided to consumers in Malaysia.
Once registered, the foreign service provider would be required to charge 6 percent service tax on the value of the digital service that is charged by the foreign service provider, at the time when the payment for the digital service is received by the foreign service provider. The obligation will be on the foreign service providers to remit the collected service tax to Customs.
Leveling the Playing Field
Currently, digital services that are purchased by individual consumers in Malaysia from foreign suppliers are not caught within the Malaysian service tax regime, whereas digital services that are purchased from local suppliers are subject to service tax under the existing regime.
As such, the Malaysian government’s proposal to impose service tax on imported digital services is often said to be for the purposes of leveling the playing field between local and foreign suppliers, as well as between offline and online service providers.
The Malaysian government’s proposal to implement the B2C regime is also in line with the recommendation by the Organization for Economic Co-operation and Development (OECD) that consumption tax should be imposed based on the place where the services are consumed, and it has indeed been encouraging to see Malaysia observing and adhering to international tax standards.
However, what this would mean for individual consumers in Malaysia is that with effect January 1, 2020 they will likely see an increase in the prices for digital services, such as apps, online games, streaming of music and videos as well as cloud storage services that are purchased from foreign suppliers. This is because it is likely that foreign suppliers will pass on the service tax burden to the Malaysian consumers.
Higher Cost for Businesses in Malaysia?
Higher prices for digital content and services for individual consumers were expected, but what came as a surprise for many digital economy players were the comments that were raised during the parliamentary debate on the Service Tax (Amendment) Bill 2019 (Bill) which was passed at the Lower House of Parliament on April 8, 2019. From the parliamentary debate, it appears that the Malaysian government had intended for the B2C regime to not only capture individual consumers in Malaysia, but also for it to be extended to businesses in Malaysia.
Under the Bill, “consumer” is defined sufficiently broadly to cover both individuals and businesses that fulfill any of the following two out of three proxies:
- Payment proxy—where payment for the digital services is made using credit or debit facility provided by any financial institution or company in Malaysia.
- Access proxy—where the digital services are acquired using an internet protocol address registered in Malaysia or an international mobile phone with the country code assigned to Malaysia.
- Residence proxy—where the individual or business resides in Malaysia.
To date, Customs has not released any further guidance on how it intends to implement the identification and collection of these proxies.
But what is clear at this juncture is that businesses in Malaysia could potentially be subject to double taxation on the same service, in light of the broad definition of “consumer.”
This is particularly the case where a service that is imported by a business in Malaysia falls under the definition of “digital service” and the scope of “IT services” (which is currently “taxable services” under the service tax regime), as set out below:
- the foreign service provider would be required to charge 6 percent service tax on the digital service that is provided to the business in Malaysia, under the proposed B2C regime; and
- the business in Malaysia (as the service recipient), regardless of whether it is registered for service tax in Malaysia, would be required to self-account for 6 percent service tax on the acquisition of the taxable service from a person who is outside Malaysia via a reverse charge mechanism, under the existing business-to-business (B2B) regime which came into force on January 1, 2019.
As such, it is expected that businesses in Malaysia who acquire IT services such as cloud computing services or digital advertising services from foreign service providers will be required to incur higher costs commencing January 1, 2020, given that such services would fall within the scope of “digital services” (under the B2C regime) and “IT services” (under the B2B regime).
This double taxation issue is compounded since there is no ability to claim any input tax credits under the Malaysian service tax regime.
How can Foreign Service Providers Start Preparing Now?
In light of the short lead time before the implementation of the new B2C service tax regime in Malaysia, foreign businesses should undertake an assessment of the services which they sell into Malaysia to determine if their services would fall within the ambit of “digital services,” as soon as possible.
Foreign businesses that provide digital content including music, videos and e-books, cloud computing storage subscription, software, or online platform services would likely be regarded as providing digital services for purposes of the B2C service tax regime.
Foreign businesses providing online platforms for the sale of digital content will also come under the scope of the B2C service tax regime. It should be noted that the 500,000 ringgit annual value of digital services to Malaysian consumer threshold is relatively low, and may potentially capture many foreign businesses providing digital services to Malaysian consumers.
Additionally, foreign businesses who expect to meet the mandatory registration threshold in 2020 should ensure that they register themselves with Customs before the registration deadline of September 31, 2019.
Lastly, foreign businesses should also start considering the steps for implementing this new B2C service tax regime. In most instances internal systems will need to be updated to cater for this new service tax regime, in order to ensure that they are able to comply with their legal obligations come January 1, 2020.
In this regard, foreign businesses should look again into their invoicing systems and templates in light of the invoicing requirements under the B2C regime. Foreign businesses who provide in-scope and out-of-scope services should also have a system in place to internally track the transactions that would be caught under this B2C regime so that service tax can be collected and remitted to Customs accordingly.
There are no further details released yet at the time of writing, in relation to the registration process, other than registration can be done electronically. There may be areas of concerns which businesses may wish to clarify with Customs, in order to ease compliance.
Given the relatively short lead time ahead of the implementation deadline of January 1, 2020, clarity in relation to the scope and compliance-related issues should be obtained as soon as possible.
Yvonne Beh is a Partner and Sarah Sheah is an Associate at Wong & Partners, Kuala Lumpur (a member firm of Baker & McKenzie International)