This article first appeared in Forum, The Edge Malaysia Weekly on March 6, 2023 - March 12, 2023

The retabling of Budget 2023 was a clarion call by Prime Minister and Finance Minister Datuk Seri Anwar Ibrahim to all Malaysians to muster strength to “forge a new direction”.

He plainly laid out some unvarnished hard truths — on where we stand economically as a country, with headwinds due to slowing global growth in 2023; high inflation, the effects of which have been increasingly felt throughout the four quarters of 2022; high unemployment particularly among the youth; and less foreign direct investments into Malaysia compared with pre-pandemic levels.

He called out the ineffectiveness of certain areas of governance in administration, as reported by the Auditor General, and acknowledged the downward trend of Malaysia on key international rankings such as the Corruption Perception Index and the World Competitiveness Ranking.

Fiscal consolidation is a key goal and the government plans to gradually reduce the fiscal deficit to 3.2% by 2025, with a planned deficit of 5% for 2023. The key tax policy themes of this budget centre around the broadening of the country’s tax base and improving the efficiency of the tax system, as they had been the focus for a number of years.

One trend in particular is becoming more prominent — increased taxes where they can be afforded, coupled with lower taxes for the needy. We see this in the proposals to increase the individual taxes of higher-­income individuals; reduce the taxes of middle-­income individuals; impose a Luxury Goods Tax; and lower the tax rate for micro, small and medium enterprises (MSMEs). We have also heard that the timing is not right to reintroduce the Goods and Services Tax, given the difficult economic situation faced by the majority of Malaysians. There are also timely measures to increase tax collection, for example, to step up on tax enforcement to curb leakages due to smuggling and encourage taxpayers to come forward with a new round of voluntary disclosures from June 1, 2023, to May 31, 2024, with the possibility of a 100% penalty waiver.

Plans were also announced to restructure the tax incentive regime so that tax rates are tiered based on outcomes while strengthening the monitoring of the incentives granted. A few well-considered tax incentives were introduced or extended to encourage environmental, social and governance (ESG), for example, carbon capture and storage and electric vehicles.

However, one proposal to widen the tax base has caught a lot of attention — the potential introduction of a Capital Gains Tax (CGT) in 2024, on disposals of non-listed shares by corporate shareholders which, if implemented, will represent a significant change to our tax system, which currently generally only imposes tax on “income”, with limited exceptions, for example, the Real Property Gains Tax (RPGT).

Although novel for Malaysia, the taxation of gains on the disposal of shares is quite common in many countries. The introduction of the proposed CGT may also be in line with the adoption of prudent fiscal policies per international expectations.

The International Monetary Fund (IMF) conducts an annual surveillance of the economic and financial policies of member countries, and through a process called the Article IV Consultation, provides its evaluation and recommendations. The 2022 report states that “Malaysia’s tax revenues have been on a declining trend and are low compared to peers, and the pandemic highlighted the need for revenue mobilisation” and suggests the need to fiscally consolidate in the medium term via sustainable revenue raising measures.

The report said, “The 2022 budget introduced targeted, mostly one-off, tax measures to raise revenues. These measures are to be complemented by more permanent measures that would address Malaysia’s long-standing revenue weakness under the medium-term revenue strategy.”

The report goes on to suggest that “the authorities should continue to implement past fund advice on fiscal governance reforms contained in the 2018-2019 Article IV consultations reports, with a focus on reducing vulnerabilities to corruption”. This refers to advice to “… broaden the tax base and reduce investment incentives (which are tax expenditures) (2018). At the current juncture, other revenue measures will be needed, such as strengthening the SST [Sales and Service Tax], revisiting tax incentives, increasing excise taxes, broadening the personal income tax base, and introducing a Capital Gains Tax (2019) …”

The IMF report provides some context on the need and timing of the proposal to introduce the CGT mentioned. The proposal is couched as something that will be studied further, which is both thoughtful and necessary, in order to gain more confidence that this proposal will yield a net positive outcome for Malaysia and gather ideas on how best to develop the tax rules and design how this should be scoped and implemented.

A few immediate considerations come to mind:

•     Impact on the attractiveness of Malaysia as an investment destination. A CGT on disposal of shares will increase the tax cost and overall cost of investment. However, the extent to which this will affect investment decisions depends on many factors. In regard to tax, the relative overall tax cost among competing locations is a relevant aspect. As said, many countries do impose tax on gains on transfers of shares, and if we compare the position of major Asean countries, Indonesia, Thailand, Vietnam and the Philippines already tax such gains. The only exception is Singapore, but Singapore may not necessarily be viewed as a direct competitor to Malaysia for certain types of investors or investments.

In his speech, the finance minister alluded to a lower rate of tax, if the CGT is implemented, and presumably this will be positioned to ensure Malaysia continues to be tax competitive compared to other competing investment destinations. There may also be a need to consider exemptions, “safe harbour rules”, or a 0% rate or nominal rate for certain shareholding profiles, for example, those that have been held for long periods.

• Impact on the cost of doing business. Corporate groups may incur tax costs for intra-group transactions, for example, where intra-group transfers of shares are made as part of a business reorganisation or restructuring. Currently there are exemptions from stamp duty and RPGT, and without going into the details, it is sufficient to say that the conditions for meeting the exemption criteria are complex, subject to interpretation, and increasingly administered in a narrow way.

In the proposed CGT regime, “rollovers” or exemptions should be designed to aid corporate groups in avoiding a crystallisation of tax where there has not been a true realisation of gains for the group, for example, there has been no disposal to a third party. A cash tax payment for such a legitimate corporate exercise diminishes available capital for productive investments and corporate groups may be impeded from organising the business and shareholdings dynamically to optimise or enhance efficiency.

•     There are a host of other tax adjacencies to be aligned with. For example, the interaction of this new CGT with the RPGT regime, or the interaction with the normal income tax regime where a share disposal may under certain circumstances nevertheless be taxed under the corporate income tax rate of 24%. The taxation of certain profiles of taxpayers, such as share traders or prolific investors, including the private equity segment, are among the issues that many tax authorities are considering. The CGT design should also consider anti-abuse provisions and the effects of certain types of international holding structures.

•     There are many insights from other countries that already tax gains on share disposals. In developing the right framework for Malaysia, we should glean appropriate lessons from other jurisdictions. We should not be in a hurry to introduce a new tax, but instead take time to listen and consult broadly with the business community. These are probably the most important aspects for successful implementation.

This budget speech felt different. It conveyed a sense of urgency and put a stake in the ground from which we must go forward. As stated in the speech, the budget was created with a spirit of “reform to set a new and fresh policy direction”. With this in mind, it would be the right thing to keep an open mind about the budget proposals, and consider longer-term views and broader perspectives.

Yeo Eng Ping is the EY Asia-Pacific tax leader and partner at Ernst & Young Tax Consultants Sdn Bhd

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