THE PANAMA PAPERS AND THAILAND’S TAX SYSTEM

The global uproar over the Panama Papers has generated quite a bit of press coverage in Thailand, as it has been widely reported that the names of many Thai individuals and companies are in the files. Amid assurances from numerous government agencies that an investigation will be forthcoming, the statements from many leading bureaucrats and business leaders on the issue have either been naive or outright misinformed. It’s time to separate the signal from the noise.

To start things off, let’s look at the words of Learned Hand, a distinguished judge on the US Court of Appeals, in a landmark 1934 tax case: “Anyone may arrange his affairs so that his taxes shall be as low as possible; he is not bound to choose that pattern which best pays the treasury. There is not even a patriotic duty to increase one’s taxes. Over and over again the courts have said that there is nothing sinister in so arranging affairs as to keep taxes as low as possible. Everyone does it, rich and poor alike and all do right, for nobody owes any public duty to pay more than the law demands.”

So the basic premise is that above board methods of reducing one’s tax burden is the right of every taxpayer. Legitimate tax planning is a good thing.

Which brings us back to the recent statements of some officials regarding the Panama Papers. In an April 11 article in the Bangkok Post, “Lesson of the data leak”, it is stated that the director-general of the Revenue Department said: “I don’t want the public to jump to the conclusion they did something wrong, as there are many reasons people set up these entities [tax haven companies].” In the same article, the finance minister is quoted as saying: “If you want to buy out a business in the US, instead of using a Thai entity for the transaction, you can use a new company in a tax haven to avoid a tax payment for the income from that business in the US, as these countries waive taxes for foreign-owned companies.” As we will see later, this is, at best, a misleading statement.

In another Bangkok Post article on April 6, the following statements were attributed to the chairman of the Thai Chamber of Commerce:

“Mr Isara [Vongkusolkij] admitted that offshore holdings were necessary for transnational business in the past as the country’s regulations restricted bringing profits from overseas businesses back to the country. For example, a business that made money in foreign countries had to pay tax overseas and be subject to double taxation when they brought the money into the country. A high corporate tax rate of 30% was among the reasons for businesses using offshore structures. Companies had to pay 30% corporate taxes when they brought the capital back on top of the 20% paid to the country of investment.”

Mr Isara was speaking of the past, as the rules changed over a decade back.

Under Royal Decree 442, which was issued in 2005, a Thai company investing in a foreign company does not face double taxation on dividends received from the foreign company as long as the following conditions are met: the Thai company holds shares with at least 25% voting rights for six months before the dividend is received, and the statutory tax rate in the foreign country is at least 15%. If these conditions are met, the dividends received by the Thai company are fully exempt from Thai corporate income tax.

Now let’s look at the finance minister’s example of a Thai company buying a US company. Assuming the US company earned a pretax profit of US$154 and paid US taxes at the statutory rate of 35% or $54. That leaves a net profit of $100 that can be paid out as a dividend. The US has a statutory withholding tax (WHT) rate on dividends paid to foreign shareholders of 30% (in addition to the 35% tax). So if the Thai company held the shares via a tax haven entity (say in the Cayman Islands, Bermuda or the British Virgin Islands), the dividend of $100 would be subject to a 30% WHT or $30, leaving $70 in cash in the haven company.

If, however, the Thai investor held the shares directly, the WHT on the dividend would only be 10% by virtue of the tax treaty between Thailand and the US, so the net cash would be $90 — considerably better for the Thai investor. Using a tax haven entity to hold the shares could be even worse should the Thai investor decide it wants to have the haven entity remit the $70 in cash back to Thailand to pay out a dividend. In this case, RD 442 will not apply and that dividend will be subject to the Thai corporate income tax rate of 20% or $14, resulting in net cash of only $56. This is because RD 442 stipulates that the statutory tax rate in the country of the dividend payer be at least 15%. The tax rate in the haven is zero, and RD 442 does not permit a “look through” to the US, the ultimate source of the dividend.

This scenario is not limited to investments in the US. While most European and Asian countries have tax treaties with Thailand calling for a dividend WHT of just 10%, none have treaties with tax-haven countries, so the WHT rate on dividends paid to a haven will be higher.

Since the enactment of RD 442, there is no valid reason, as far as Thai taxes are concerned, to use a tax-haven entity to hold a foreign investment. In fact, as shown by the example above, it would be far more prudent not to do so.