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Tax CORNER
LAWALLIANCE LIMITED
In the tax systems of many countries, where corporate restructuring is necessary to enhance business outcomes, so long as it is driven by a genuine commercial purpose, it should incur minimum tax costs or none at all.
Nevertheless, it is sad to say that in some civil-law countries where legal interpretations adhere closely to statutory wording rather than the intent of the legislation, corporate restructuring may result in unexpected outcomes for shareholders. Thailand is a good example.
In general, the Thai Revenue Code requires that distribution as a result of a capital decrease could result in a taxable income for shareholders in so far as the company has profits or reserves that have been set aside from profits (on which corporate income tax has not yet been imposed). The wording implies that to be subject to tax, it is necessary that there must be a distribution from the company to its shareholders.
Based on the above legislation, when a company with retained losses reduces its capital by setting it off against losses, its shareholders do not have to worry about their tax liabilities, as they are not receiving anything, and the concern is very much limited to their ability to deduct the investment loss for tax purposes.
On the other hand, if the registered capital is deducted while the company has retained earnings and/or reserves, the shareholders will have to pay tax on the portion of the refunded capital that does not exceed such retained earnings or reserves. The Revenue Department looks at the amount of retained earnings and reserves as stated in the company's audited balance sheet at the end of the accounting year preceding the capital decrease as a basis in determining the taxable income.
Although the main purpose of the above legislation is to prevent shareholders from avoiding tax on dividends by receiving the equivalent amount in the form of capital refunds instead, it could bring about an undesirable effect even if the capital decrease is a genuine transaction to restructure the company. If this is the case, the shareholders could end up paying tax while receiving nothing from the company.
For instance, a holding company is established with registered capital of, say, 100, half of which was had been paid up at the time. Subsequently, the company decreases its registered capital by 50 via a reduction of unpaid capital, as there was no more business need for such additional capital. As a result, the shareholders receive no refund for the reduced capital.
In this case, the Revenue Department took the position outlined in the Civil and Commercial Code, which is the law governing corporate matters. It requires that when shareholders subscribe to shares, they are bound to pay up all the par value of the shares, and when the company releases the shareholders from such obligations by setting off the unpaid par value with the decreased capital, the shareholders are deemed as having received a capital refund. Thus, if the company's retained earnings at that time are higher than the reduced capital, the shareholders will be liable to pay tax on the amount, although they received nothing from the company.
Regardless of whether the outcome is right or wrong, it seems that the Revenue Department did not really take into account the intention of the Revenue Code in preventing dividend tax avoidance. As there is no disguised payment in the above scenario from the company to its shareholders, the department's position is based solely on the fact that the shareholders are being released from their obligations to pay the unpaid capital - hence expanding the income tax base.
This is not the end of the story. Besides having to pay tax on the decreased capital while receiving nothing, the corporate shareholders are not allowed to deduct the reduced par value of shares as a tax expense until the day that they sell out all shares or the issuing company is liquidated. Again, this is another classic interpretation from both the Tax Court and the Supreme Court that the capital reduction does not result in a "real" loss to the shareholders but only a reduction in value - more like impairment.
In fact, the government should allow more flexibility to the taxpayer to implement genuine corporate restructuring without any tax cost - as a means to improve a business's position during an economic downturn. It seems that there are quite a number of issues at hand for officials at the Revenue Department to reconsider - if they really want to.
By Rachanee Prasongprasit and Piphob Veraphong. They can be reached at admin@lawalliance.co.th
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