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Interpretation on Royalties Analysed to Mitigate Tax Risks
Scrutiny on cross-border transactions by the Thai Revenue Department ("TRD"), particularly related to withholding tax on payment of royalties, has recently increased. Taxand Thailand reviews the major tax cases related to royalties to understand the court's decision in order to inform future decisions and therefore mitigate future tax risks.
TRD interpretations and Supreme Court decisions in relation to royalty income have significant impact on the franchise market. As a result of this landslide case, the franchising parties should review its franchise contract in order to restructure the franchising transactions and amend the terms and condition of franchise in order to avoid further tax investigation on future royalties on cross-border transactions. However, current amendments to franchise agreements cannot adjust the royalties paid in the past and therefore a risk of a tax investigation still exists.
Thai taxpayers, as the payer of royalties, should carefully negotiate the terms and conditions of a royalties transaction with the non-resident recipient on to ensure that the parties clearly understand the tax consequences of such transaction. In addition, both parties should be aware of the practices and interpretations adopted by TRD and Supreme Court on this issue. It is important for taxpayers to understand the development of this interpretation in order to avoid any tax risk that may arise in the future.
The Supreme Court ruled in the major tax cases relating to royalties as follows:
|Year||Supreme Court Decisions|
Facts: issuance of company shares in exchange for receiving the right to use the patent in manufacturing of tyres.
Held: issuance of shares deemed to be payment of royalties.
Facts: design of the plant and layout as well as construct the factory of plastic manufacturing including installation of equipment without provision of technology.
Held: activities not regarded to be those that would generate the royalties.
Facts: lump sum fee that consisted of royalties and other consulting fees. Tax assessment for the whole amount to be treated as royalties.
Held: consulting fees not deemed royalties income and tax assessment not accepted by the Supreme Court.
Facts: provision of right to use the information and technology in petroleum exploration with the restriction not to disclose such technology.
Held: activity considered to generate royalties income.
Facts: remuneration for the right to produce coffee using a specific formula and know-how with advice on the processing of production and condition to retain the confidential information and return all relevant documents after expiration of agreement.
Held: remuneration regarded as payment of royalties.
Facts: engineering and technical assistance agreement relating to the trademark license agreement with a condition to maintain high quality of cream and advising on process of production. The advice of technical assistance must be kept confidential and all advising documents returned to the service provider after termination of contract.
Held: remuneration for technical assistance agreement considered royalties.
Facts: marketing service agreement to provide advice, assist with the general administration and negotiate commercial contracts, select distributors, promote, procure, advertise the sale of products in Thailand. Marketing materials under consultation become the ownership of the service recipient. No provision of sole distributorship to use the brand or trademark for the sale of products. No provision of special information and experience which is not restricted to disclose to the public.
Held: remuneration under this agreement not deemed as royalties.
Facts: remuneration for the marketing and commercial channel including database of customers (name, address, price, terms of business).
Held: remuneration regarded as royalties as the information relates to commercial experience.
Facts: under the Franchise Agreement, the Thai franchisee is required to follow to the control and sole discretion of foreign franchisor in relation to promotion and advertising. Franchisee has no independence to do the advertising in terms of form and content. Franchisee is responsible for the budget of the promotion and advertising in Thailand but does not pay it to the franchisor.
Held: while the budget is not the fee derivable directly by the franchisor, it does benefit the franchisor economically not to pay this budget to promote its franchise in Thailand. The promoting budget is required to be paid at certain rate of gross sale in exchange of provision of franchise, and therefore, it shall be deemed that the franchisor derives this assessable income as a part of franchising fee and be regarded as royalties.
The Supreme Court decisions on royalties rely on 'substance over form' with the following key factors:
1. Provision of specific information arisen from the experience
2. Provision of the right to use the intellectual property or trade secret
3. Confidentiality conditions
In practice, there are many tax rulings issued by TRD on cross-border royalties but unfortunately many cases have not been brought to the high court.
The Thai and foreign business operators should take into account the recent development of the decisions and interpretations on royalties. As Thailand is a key capital import country, most of the recipients of royalties are foreign operators. It is these foreign operators that will need to identify the impact of the rulings on royalty payments they will receive from Thai entities.
Your Taxand contacts for further queries are:
Hatasakdi Na Pombejra
T. +66 2632 1800 ext. 111, 112 (secretary)
T: +66 (0) 2632-1800 ext. 182