PwC in the News: Wooing MNCs to set up holding firms in S'pore

By Lim Hwee Seng, Tax Partner at PwC Services LLP

This article was contributed and first published in The Business Times on 17 July 2012.

HK-Jakarta double taxation treaty shows many cities are narrowing gap with the Republic

BOTH Singapore and Hong Kong have long been seen as two of the better locations in Asia for multinational corporations (MNCs) to set up regional holding companies. Competitive tax regimes, strategic geographical locations and free-market economies are just some of the attributes these two cities possess.

Between the two, Singapore has been the more attractive option. We have an estimated 69 comprehensive avoidance of double taxation agreements (DTAs) as compared to Hong Kong's 23. Singapore's comprehensive tax treaty network has played a key role in attracting MNCs to set up shop here. On top of this, we also have a wide range of tax incentives that may help lower business costs.

To close the gap with Singapore, Hong Kong has taken steps to expand its existing tax treaty network. One of these steps was the signing of a DTA with Indonesia on March 23, 2010. It was announced on March 2, 2012, that the Indonesian government had finally ratified the Hong Kong-Indonesia DTA (Hong Kong ratified it on June 22, 2010).

The earliest dates where this tax treaty will come into force are Jan 1, 2013, for Indonesia and April 1, 2013, for Hong Kong.

Indonesia is quickly becoming a key investment destination. It has an abundance of natural resources, a large and growing domestic market and a fast-improving investment climate. MNCs looking to move into the Indonesia market will be looking for a place to set up their regional holding companies.

Traditionally, Singapore has tended to emerge as the preferred choice due to its proximity and the benefits under the Singapore-Indonesia DTA.

However, with the ratification of the Hong Kong-Indonesia DTA, Hong Kong will become a promising option for investment into Indonesia, thanks to a couple of key features. The first is the withholding tax rate on dividends paid by Indonesian companies to Hong Kong companies. The 5 per cent tax rate is the lowest rate among all tax treaties signed by Indonesia. The corresponding withholding tax rate under the Singapore-Indonesia DTA is 10 per cent.

Hong Kong holding companies will therefore be able to repatriate funds more cheaply by way of dividend.

In Indonesia, there is a "capital gains" tax of 5 per cent on the gross consideration (even in the absence of a gain) when a foreigner sells shares in a private Indonesian company. The Hong Kong-Indonesia DTA provides for exemption from this tax in certain cases in Indonesia. Contrastingly, the Singapore-Indonesia DTA does not offer such protection.

Although these two key features appear to give Hong Kong a significant upper hand in attracting MNCs that are investing into Indonesia, it is advisable for MNCs to adopt a wait-and-see approach. The reason for this is that Indonesia's Directorate General of Taxation (DGT) had previously issued rules that prevent the abuse of treaties.

Foreign companies are now required to complete a form and make a series of declarations before they are allowed to enjoy the benefits under treaties. In particular, a foreign company is required to declare that the income earned from the Indonesian company must be subject to tax in the foreign company's home country.

As Hong Kong exempts all foreign-sourced income from tax, Hong Kong-resident holding companies are not technically able to make such a declaration. There is no clarity on the situation and obtaining treaty relief under this DTA may not therefore be as straightforward in reality as it seems.

Important difference

Comparatively, foreign-sourced income is taxable in Singapore, unless companies are able to satisfy certain conditions. This is an important difference.

Now, in the recent Budget 2012, it was announced that Singapore will provide greater upfront certainty on the tax treatment of gains on the disposal of shares in companies.

Should companies meet the conditions stated, they will be able to dispose of shares without having to worry about setting aside time and resources to convince the Inland Revenue Authority of Singapore why the gains should be considered "capital". Hong Kong's Internal Revenue Department does not provide such certainty.

Looking at the Hong Kong-Indonesia DTA and the proposed change in Singapore's Budget 2012, it does seem that MNCs may be able to obtain some savings through the lower dividend withholding tax rate and capital gains protection by using Hong Kong as a gateway.

However, owing to the DGT's strict requirements for tax treaty relief, the cost savings are not for certain. In addition, the lack of certainty on the taxation of disposal of shares in Hong Kong could deter investors.

The Hong Kong-Indonesia DTA shows that many cities are quickly narrowing the gap with Singapore. It is crucial that Singapore remains agile and continues to take steps to improve itself as an attractive destination for regional holding companies even though the certainty provided for in Budget 2012 already goes a long way in tilting the balance more in our favour.

Given Singapore's current advantages over Hong Kong, including a government that has proactively put in place policies to attract more foreign investors, we are optimistic that Singapore will continue to be one of the best locations in Asia to set up regional holding companies.