eKTP 111

Earning Stripping Rules
Part 1 of 2 

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Definition

New  S.140C – Restriction  on  deductibility  of  interest  (Earnings Stripping Rules) [w.e.f.1 January 2019

“Control” has the meaning assigned to it in subsection 140A(5A);
“Controlled transaction” shall be construed as a financial assistance—(a) between persons one of whom has control over the other; or

between persons both of whom are controlled by some other person (in this section referred to as “third person”);

“financial assistance” includes loan, interest bearing trade credit, advances, debt or the provision of any security or guarantee;

“interest expenses” - Payment economically equivalent to interest but excludes the expenses in connection with the raising of funds.


BACKGROUND

As part of earnings stripping, a foreign-controlled corporation (or parent company makes a loan to its Malaysian subsidiary for operational expenses.

Subsequently, the Malaysian company pays an excessive amount of interest on the loan to parent company and deducts these interest payments from its overall earnings.

Earnings stripping is simply a method by which a business entity reduces its tax liability by paying excessive amounts of interest to another corporation in another country.

This method involves transferring taxable income from a Malaysian subsidiary to a foreign affiliate under the guise of tax-deductible interest payments on internal debt.


IRB Action

To curb the practice of earnings stripping, the IRB placed a  10%-30% restriction on related-party interest deductions paid to a foreign-owned company in a controlled transaction.

The remaining interest will be disallowed in the computation of taxable profit.


With the implementation of ESR, companies should review the interest charged on financial assistance between related parties to reduce the disallowance of interest as well as meeting the arm’s length principle from the transfer pricing perspective.  Companies with intra-group financing will definitely be affected by ESR.