Significant Vietnam Tax Developments

In September the Vietnam Ministry of Finance released draft regulations which have introduced significant changes with respect to the taxation of cross border transactions.  These include the introduction of a thin capitalization rule restricting interest deductions, changes in the withholding tax rates as well as new transfer pricing provisions which include the initial regulatory basis for an advance pricing agreement regime.

The thin capitalization and withholding tax changes once finalized will be effective from 1 January 2012 while the transfer pricing provision including the APA regime will be effective from 1 January 2013. 

Thin Capitalization                                                                 

This is the first time that Vietnam has a tax thin capitalization regime restricting companies’ tax deductions for interest.

The rule is relatively generous by international standards, interest is non-deductible to the extent loans exceed 5 times legal capital (equivalent to equity). 

The new rule should not impact on companies established before 2006 as, prior to that time, under the former Law on Foreign investment there was a requirement, from an investment rather than tax perspective of 30% legal capital to 70% loan capital.

Changes in Withholding Tax Rates

Vietnam operates a comprehensive withholding tax regime.  Most payments received by a foreign enterprise from a Vietnamese party are subject to withholding tax, other than payments for the pure supply of goods at or before the Vietnam border and dividends.  The withholding tax applies whether or not the foreign party has a permanent establishment in Vietnam.

Under the draft regulations the interest withholding tax rate will be reduced from the current 10% rate to 5% and for special projects approved by the Prime Minister 2%.  This change had been lobbied for by the business community, in general foreign lenders require Vietnamese borrowers to gross up the interest for the tax.   In the case of large infrastructure projects in particular this increase in the cost of funding has been a discouragement. 

Less positively it is also proposed that the deemed corporate income tax withholding rate that applies to the provision of services by foreign enterprises will be increased from 5% to 10%.  While obtaining relief under tax treaties is not a straightforward process in Vietnam the increase in the withholding tax rate is likely to make this more common in future. 

In addition to the deemed CIT a deemed 5% VAT withholding applies to payments for services which will remain the same.

However under the proposal there is a change for foreign oil & gas services companies.  They may no longer be able to apply the 5% deemed VAT rate but have to register for VAT and charge VAT at the standard rate of 10%.  The appears to be intended to level the playing field for local companies in this sector that must charge VAT at the standard 10% rate.

Transfer Pricing 

Vietnam introduced comprehensive transfer pricing regulations, broadly based on OECD Guidelines in 2006.  These did not include any provisions regarding Advance Pricing Agreements (APAs).

While the implementation of the Transfer Pricing Regulations had been slow this has rapidly accelerated over the last year.

This has been due to a combination of factors.  The introduction of a new Circular in the middle of 2010, while not significantly different from the original Circular allowed the tax authorities to refocus on transfer pricing and provided an opportunity for the central tax authorities to train local officials.

This coincided with tax and other governmental authorities surveying foreign companies which they found to in the majority be loss making, which was attributed to abusive transfer pricing.  The issue of transfer pricing and foreign companies then became very high profile in the media and of significant of public interest, with the naming of several well-known multi-nationals.  It was not unexpected that this media interest would be followed by strong action from the tax authorities.

This action included an ultimatum on back filing of transfer pricing annual declarations with the threat of severe penalties, demands for the production of full transfer pricing documentation, increased audit activity and most recently a semi-public list of high profile companies being released which the tax authorities intends to audit together with their intended revenue target.

The recent development of Vietnam’s transfer pricing regime and its implementation has also meant that taxpayers and the tax authorities alike would like to obtain greater certainty in relation to transfer pricing by obtaining advance agreement on transfer prices.   New draft regulations introduce an APA regime under which taxpayers and the tax and customs authorities can enter into an agreement on transfer prices.   The period of validity of APAs will be a maximum of 5 years. 

The APA rules are contained in the draft revised Law on Tax Administration.  The Draft Law on Tax Administration also contains provisions on information sharing between Government departments to develop a database of secret comparable as well as measures focused specifically on loss making companies ranging, depending on the circumstances, from annual transfer pricing audit to the revocation of the company’s business license.

Tom is one of Vietnam’s most experienced tax specialists, having advised a wide range of businesses, both international and domestic on all areas of Vietnam taxation since 1998. 

Tom has over 20 years of international tax experience, originally commencing his career in New Zealand.

Tom has led the corporate income tax advisory and structuring for many offshore investors in a diverse range of industries in Vietnam from oil and gas, consumer goods and financial services to media, information technology and real estate. He was the principal tax advisor to foreign investors seeking to acquire stakes in two of the three largest SOE equitizations in Vietnam and advised the purchaser in the largest private equity transaction to date.

Tom is heavily involved in tax policy in Vietnam and contributing to the development of Vietnam’s tax regime.

Tom is the Chairman of the Taxation Committee of the European Chambers of Commerce in Vietnam.  

Tom is the co-author of the first published guide to Vietnam Taxation; CCH Taxes in Vietnam – An Overview.

Tom can contacted at tmcclelland@deloitte.com or on +84 8 3 9110 727.