tax treatment on advance to director
Loan or Advance to Director by A Company - Tax Impact
On 30 November 2015, IRB issued Public Ruling (PR) No.8/2015 - Loan or advances to director by a company. Generally, this PR has elaborated the tax treatment of:
1. Loan or advances provided to the director by company without interest or with interest rate lower than arm’s length rate; and
2. Company is deemed to receive the interest income from the loan or advances.
Key takeaways:
You will understand: -
1. What is the tax treatment?
2. What are the sources of funding?
3. Treatment for other circumstances.
4. How to determine the deemed interest income?
5. What is the circumstance if a dormant company makes loan or advances to directors?
Summary of learnings:
1. What is the tax treatment?
If the loan or advances to directors was wholly raised from internal funds, then an interest income will deem to be received by the company, and subject to tax under [Section 140B of Income Tax Act (ITA)].
However, no tax will be charged on the loan or advances which are raised from external funds.
2. What are the sources of funding?
3 categories of funds:
(i) Internal
Mainly arise from the injection of capital, retained earnings, and reserves.
(ii) External
Loan from bank or third parties.
(iii) Mixed (Internal + External)
Only interest income generated from internal funds will be subject to tax. For external funds, all the supporting and proof must be kept properly.
Interest restriction [Subsection 33(2) of ITA] may come in if part of the loan is from external funds used for investment purposes.
3. Treatment for other circumstances
(i) If the loan or advances from external funds to directors who are also employees of a company, a perquisite (interest expense incurred from the loan facility) needs to be reported as part of the employee’s gross income under [paragraph 13(1)(a) of
the ITA].
(ii) For a partnership, if the director is also a partner of the company, the loan or advances provided will also be subject to Section 140B of ITA, considering partnership is not a separate legal entity from the business owner.
4. How to determine the deemed interest income?
(i) Interest-free loan
Interest will be computed based on prescribed formula in subsection 140B (2) of ITA, using Average Lending Rate (ALR) published by Bank Negara Malaysia (BNM).
(ii) With interest
Interest will be determined by comparing the interest rate charged by the company and the rate computed from the prescribed formula.
Whichever lower will be disregarded, while the higher amount will be reported as interest income of the company.
5. What is the circumstance if a dormant company makes loan or advances to directors?
The company will be treated as an active company, whose business will be deemed to commence operations under subsection 21A (8) of the ITA. The loan or advances granted will still be subject to Section 140B of ITA.
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