This article first appeared in Forum, The Edge Malaysia Weekly on April 3, 2023 - April 9, 2023

Now that it is clear that the government does not intend to make any wholesale changes such as the reintroduction of the goods and services tax, there should be some focus on improving the existing tax system to make it more business-friendly.

The sales and service tax, commonly referred to as “SST”, in its current form is difficult to navigate. Overburdened by process, it negatively impacts exporters and attracts multiple layers of tax through the supply chain. Due to its narrow scope, the burden of the tax is also more skewed towards the manufacturing and services sectors, with other sectors impacted in only a limited fashion.

These inherent issues in the SST must be addressed if we want to maintain our competitiveness in the region. We look at some critical areas:

Malaysia aspires to be a regional manufacturing hub, with good reason, as a lot of manufacturing is based here. However, there is now a lot more competition — we need to compete with our neighbours such as Indonesia, Thailand, Vietnam and even Singapore. Ideally, we would want to ensure that goods exported from Malaysia are “tax-free” as these goods would be taxed in the country where they are exported to and consumed. It is also consistent with international norms, as most countries (including all of our key competitors) adopt a GST or VAT (value-added tax) type of tax that allows for “tax-free” imports, that is, no tax is charged and embedded in the price.

While the sales tax provides for a multitude of “exemptions” and “drawback claims” that allow manufacturers to remove any embedded sales tax, in practice, this is cumbersome and inefficient. We have encountered numerous scenarios where exporters encountered difficulty in accessing these concessions and, as a consequence, needed to bear the cost.

Furthermore, the ability to offset or reduce the SST cost is limited to sales tax, while service tax continues to be an additional burden that needs to be factored into the final price. Our competitors have regimes where exporters can offset all of the GST or VAT they pay, so they are truly free of tax. At best, our SST only allows partial offset and, in some cases, none at all.

The export services sector does not fare much better as the service tax only “exempts” export services in limited and “vague” circumstances. Our competitors have adopted the GST or VAT concept of taxing services where the customer “consumes” the service, whereas Malaysia has a principle of exemption only if the “subject” of the service is “outside of Malaysia”. The former is much clearer on when tax needs to be applied.

There is also very little guidance on how and when tax should be imposed in Malaysia. Many exporters simply impose a service tax on their services, which increases their service costs. Additionally, as the foreign customer is most likely in a GST or VAT jurisdiction, they would need to pay tax under their domestic rules for importing services. This creates a further competitive disadvantage for Malaysian exporters of services.

While the term SST implies it is a single tax, it actually comprises two separate taxes operating independently of each other with no common principles. Sales tax is a tax on manufacturers and importers and is imposed on the import and wholesale value. Service tax is imposed on the provision of services and on the final sales price charged.

While there are exemptions or concessions in both of these taxes, they are only available to those operating under the respective tax regime, meaning a service tax registrant cannot claim a concession under sales tax without first being registered for sales tax and meeting the relevant conditions. The tax rates that apply are also not consistent, with sales tax using rates of 5%, 10% and exempt, while service tax has 6% and exempt.

From a tax policy standpoint, it is not good for one form of business activity to be taxed on totally different principles than another form of business activity, as we see here between the manufacturing and services sectors. As both sectors are critical to the Malaysian economy, it would make sense to have a more consistent methodology for taxing these activities.

The recent pandemic has highlighted how interdependent our supply chains are. It is no longer the case where you have a single business responsible for all facets of how a product is ultimately delivered to you. In this technological age, we are seeing even more advancements in the way services are being delivered.

If Malaysia is to continue to be a competitive “cog” in this global supply chain, it needs to ensure that the SST system is not creating additional “cascading” costs. Unfortunately, the service tax and, to a lesser extent, the sales tax, can create multiple layers of tax throughout the supply chain.

Since the reintroduction of the SST in 2018, there have been attempts to address the issue of double taxation or cascading taxation. These have largely been patchwork and firefighting measures that have resulted in concessions with limited application and complex requirements, which have ultimately failed to tackle the core issue.

What is outlined above is certainly not a comprehensive list of all the issues that businesses are facing with SST. However, I consider these to be the most critical in ensuring that we retain our competitiveness.

Here are a few measures that can be explored to “modernise” the SST and put our businesses on a level playing field with our counterparts in Vietnam, Indonesia and Thailand:

•  Allow exporters of goods and services the ability to offset or refund any sales tax and service tax incurred in relation to undertaking that activity.

•  Adopt a “consumption test” for exported services so that only services consumed in Malaysia are subject to tax.

•  Provide a broad-based “offset” for any sales tax or service tax incurred by a business through its supply chain to ensure tax is only paid once and not multiple times.

While the government has made it clear that now is not the right time to reintroduce the GST, it does not mean we cannot take steps to modernise our SST so that it does not impact our competitiveness as an economy and our attractiveness as an investment destination.

Senthuran Elalingam is an executive director of Deloitte Tax Services Sdn Bhd and a partner at Deloitte Southeast Asia

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