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Substance Over Form: ABB Subsidies
ABB group is one of the largest engineering companies in the world. In 2002, ABB group in Thailand reorganised its corporate structure by dissolution of its 10 subsidiary companies in Thailand and 2 companies were liquidated in 2004. Until now, 2 companies are unable to complete the process of liquidation.
In early June 2011, the Thailand Central Tax Court publicly released its decision to accept the tax assessment made by the Thai Revenue Department ("TRD") against the intercompany subsidies transacted among the ABB companies in Thailand.
In 2005, tax assessment was conducted by the TRD against the liquidator of ABB Engineering and Construction Ltd ("ABB E&C"), a Thai incorporated company, during its liquidation process.
TRD considered that the subsidy funds made by ABB E&C to its sister companies in Thailand (ABB Distribution Ltd and ABB Power Ltd) were deemed as a distribution of dividend to its Swiss shareholder, ABB ASEA Brown Boveri Ltd.
It is interesting to understand the position of the TRD and the Tax Court on their current practices in respect to 'Substance Over Form' against the alleged tax avoidance, in particular, intercompany transactions involved by the related companies. However, the decision by the Central Tax Court is not the final step in the court procedures in Thai tax system and may be overridden by the Supreme Court. The party that disagrees with the tax court's decision can file the appeal with the Supreme Court to challenge the decision of lower court.
The Facts of the Case
ABB E&C was held 49% of total shares by ABB ASEA Brown Boveri Ltd ("ABB Swiss"), a Swiss company, while the rest of shares (51%) were held by the Thai company, ASEA Brown Boveri Holding Ltd. ABB Swiss, also held 49% of total shares in each of ABB Distribution Ltd and ABB Power Ltd.
26 December 2002, ABB E&C registered its company liquidation and was in the process of dissolution. The Revenue Department conducted the tax assessment against ABB E&C on 10 November 2005 during the liquidation process to impose amount of withholding tax and surcharges on failure to deduct withholding tax from the deemed dividend remitting to its foreign shareholder (ABB Swiss). As a result, the process of liquidation of ABB E&C was pending and unable to complete its liquidation.
The rationale of the tax assessment is on the basis of the unconditional subsidy funds actually made by ABB E&C to its sister companies in which it was deemed a dividend distributable to ABB Swiss. Details of subsidies and deemed dividend including assessed tax payable are illustrated in the table below.
TRD in this case considered that a part of the subsidy paid (THB 99 M) by ABB E&C was proportionate to the percentage of shareholding by ABB Swiss (48.93%) in ABB E&C and was deemed a distribution of dividend. The payment of unconditional subsidy is deemed to pay the dividend to the ABB Swiss due to the amount of subsidy were used by the sister companies to repay their intercompany loan in the ABB group.
Following to the facts, ABB Holding is a Thai incorporated company and held 51% shares in ABB E&C and no issue of withholding tax on dividend due to tax exemption of shareholding in ABB E&C exceed 25% of total voting shares.
Shareholding structure and flow of subsidy together with loan transactions can be shown below.
The Central Tax Court considered that the unconditional subsidy made by ABB E&C is not the ordinary course of business in which the 'reasonable' business operator will undertake although it is a transaction among the same group of companies. In addition, it is not a justifiable ground to give the subsidy fund without compensation in return.
The tax court ruled in concurrent with the position of the TRD in which ABB Swiss is the ultimate recipient of 'assessable income' (deemed dividend) partially paid (48.93% of THB 99 M) by ABB E&C through the subsidy transaction. The main reason of tax court decision is on the basis that ABB Swiss is the shareholder of both of payer (ABB E&C) and recipients (sister companies) of subsidy fund.
The tax court believed that the purpose of subsidy is to avoid withholding tax 10% if the dividend is directly paid to ABB Swiss, and therefore, the substance of this transaction is to remit the fund to ABB Swiss.
Under the Thai Revenue Code ("TRC"), distribution of a dividend to the offshore shareholder is subject to withholding tax at the rate of 10%. The withholding tax rate is the same rate under the double tax agreements entered into between Thailand and another 54 countries.
Withholding tax on distribution of dividend shall not be applicable if the corporate shareholder carrying on business in Thailand derives the dividend from the share issuing company. In addition, the tax exemption in this regard shall be eligible to the shareholding not less than 25% of total voting shares within the certain duration and without cross shareholding between the shareholding company and issuing company.
In addition to the above tax exemption, the TRC provides that the dividend is allowable not to include as a taxable income derived by the shareholding company for corporate tax purposes. The above tax privileges will also apply to the shareholding company which is a listed company in the Stock Exchange of Thailand without condition of minimum shareholding in the issuing company. In practice, the shareholding company will adjust its 'net profit' in the corporate tax return by deducting amount of dividend received for the corporate income tax computation.
Substance over form and tax consequences
There is no specific anti-tax avoidance scheme under the TRC. However, the TRD and tax court including the Supreme Court consider the real intention of the contractual parties to be the underlying basis to prove the transaction. In this regard, the burden of proof will fall to the taxpayer when the government challenges its transaction by tax assessment. The tax authorities consider the substance of a transaction over the form and many tax cases in the past the Supreme Court ruled in favour of the taxpayer who can prove its contractual intention under the substance of contract.
In 2010, the Supreme Court released its decision in the landslide case of the franchise market in Thailand. In this case, Minor Food Group ("MFG") entered into the franchise contract with Pizza Hut Inc for the pizza business in Thailand. Under the franchise agreement, MFG is required to spend its marketing expenses at the rate of 3% of annual gross sale as a minimum. Marketing expenses were paid to the third party suppliers and used to expand the brand awareness of 'Pizza Hut' in Thailand.
Surprisingly, the Supreme Court ruled with the TRD that marketing expense shall be deemed as 'assessable income' derivable by Pizza Hut Inc for its brand benefit in Thailand. As a result, marketing expense shall be regarded as a part of franchise fee paid by MFG to Pizza Hut Inc, and therefore, it is subject to withholding tax at the rate of 15% as well as self-assessed VAT 7%.
After the final decision, MFG paid many millions Baht to the TRD without indemnification from Pizza Hut Inc due to both parties terminated the franchise contract without amicable negotiation prior to release of court decision many years.
The trigger point of this case including the MFG case is 'assessable income' which is calculated in terms of monies regardless of whether it will be directly paid or settled with the recipient of income or not. In addition, we found that the 'justifiable ground' is another criteria to consider whether the transaction will be acceptable or not. The line between tax evasion and tax planning is still blurred when a lack of specific law or practical guidelines for the taxpayer and the tax authorities to follow.
It is worthwhile to note that the adoption of 'substance over form' concept in Thailand is still not clear at the level of Revenue officer and court level. In addition, there is no specific tax law under the TRC to provide the 'anti-avoidance' scheme including 'substance over form' to disregard the abusive tax avoidance. However, tax practitioners should be aware of this tax development and monitor their practices not to reduce the risk of tax exposures that can arise from the debate of 'substance over form'.
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