In 2018, the Taiwan government implemented some amendments on corporate income tax to structure a fair taxation system to cope with domestic demand. Accordingly, the corporate income tax rate has been increased from 17 per cent to 20 per cent as a remedy for reduced personal income tax collections. In addition, the withholding tax rate for foreign investors has been slightly increased from 20 per cent to 21 per cent. To mitigate the implications of the above amendments, the tax rate on undistributed earnings has been decreased from 10 per cent to 5 per cent.
For the purpose of industry innovation, Taiwan offers several tax incentives in the Statute for Industrial Innovation to encourage companies to invest in R&D, Intellectual Property, 5G, etc. in exchange for income tax credit in the coming year.
In addition to the above taxes, Taiwan now has tax treaties with many major economies, including Canada, Japan, the United Kingdom, France, Germany, Switzerland, the Netherlands and Australia. However, it still does not have a tax treaty with the United States, one of its largest trading partners.
As a result of political obstacles, Taiwan's tax authority is relatively isolated from the tax community in the rest of the world. Taiwan is not a member of the Organisation for Economic Co-operation and Development (OECD). Accordingly, Taiwan has not participated in the information exchange of the Common Reporting Standard. However, Taiwan has agreements with Japan and Australia to exchange financial and tax information.
Although the Taiwan tax authority always maintains that it generally follows OECD guidelines and practices, in reality it tends to cherry-pick OECD guidelines in its favour, and in many instances does not follow the generally accepted international interpretation of tax law. The aggressive demand for the withholding tax for cross-border payments outbound from Taiwan is the most notable example of this.
II COMMON FORMS OF BUSINESS ORGANISATION AND THEIR TAX TREATMENT
To conduct businesses in Taiwan, a foreign company often sets up a subsidiary or a branch office in Taiwan.
A subsidiary can be a limited company or a company limited by shares. There is a less onerous administrative and corporate maintenance burden for a limited company. However, if the foreign shareholder needs to carry out merger and acquisition projects in Taiwan, or if the Taiwan subsidiary is a joint venture, then a company limited by shares is more appropriate, because the Taiwan Company Law provides extensive corporate governance guidance for a company limited by shares (the requirements for a limited company are less sophisticated) and only a company limited by shares can participate in merger and acquisition activities under the Company Law and the Business Mergers and Acquisitions Law. Effective from 4 September 2015, a new entity type – a closely held company limited by shares – was added to the Taiwan Company Law. The reason behind adding this new variety of company limited by shares is to relax certain requirements of a traditional company limited by shares that assume that such a company will have many shareholders, and that most of these are general and small investors who need statutory protection. For instance, for a closely held company limited by shares, compared to a traditional company limited by shares, the scope of non-cash contributions is broader, there are more approaches to convene a shareholders' meeting (i.e., a written resolution or video conference is permissible) and profits can be distributed semi-annually.
The foreign company can also set up a branch office in Taiwan to conduct business. Currently, from a business-conducting perspective, a branch is generally the same as a subsidiary. The administrative and corporate maintenance burden for a branch is even lighter than for a subsidiary. However, the main legal concern is that a branch office is part of the headquarters and is not an independent legal entity.
In practice, a branch is more popular because of tax reasons. For example, the profit of a subsidiary is subject to Taiwan corporate income tax (currently at a rate of 20 per cent), but when remitting dividends outbound from Taiwan, a 21 per cent (if no tax treaty exists between Taiwan and the destination country) withholding tax will also be imposed. On the other hand, although the profit of a branch office is subject to the same corporate income tax, there is no dividends withholding tax equivalent when the branch office remits back the profits.
A partnership under the Civil Code is a possible format for a foreign company to conduct business activities in Taiwan. However, this is not a suitable format for a foreign company. A partnership under the Civil Code is not an independent legal entity. It is a contract between individuals or companies. As a result, partners under the partnership contract are subject to unlimited liability. This is one of the reasons why partnerships are not a popular business format. The profit earned by the partners through a partnership will be included as part of the partner's income and subject to the partner's income tax rate.
After the limited partnership came into effect in 2015, the limited partners' liability has been limited to the amount of his or her capital contribution under a limited partnership agreement while the general partners should be jointly and severally liable when the assets of the limited partnership are not sufficient to meet its liabilities. There is no minimum capital requirement for partnerships. A limited partnership is considered a legal entity. All partners of a partnership and general partners of a limited partnership (after being elected) have the authority to represent the partnership unless otherwise provided by the partnership agreement or the resolutions of the partners and bind the partnership with respect to third parties. The equity contribution and profit-sharing percentage among partners may be provided for in the partnership agreement.
For a limited partnership, in principle, its income should be subject to the corporate income tax. However, if a limited partnership meets certain conditions regarding the capital and investing activities, pursuant to Article 23-1 of the Statute for Industrial Innovation, within 10 years from the fiscal year of establishment, it can choose to be taxed on a see-through basis.
III DIRECT TAXATION OF BUSINESSES
i Tax on profits
Determination of taxable profit
Taxable profits are based on accounting profits and are adjusted for by tax law. Profits are taxed on an accrual basis. In principle, taxpayers are taxed on worldwide-source profit. For any profit-seeking enterprise operating within Taiwan, profit-seeking enterprise income tax shall be levied. For any profit-seeking enterprise with its head office within Taiwan, profit-seeking enterprise income tax shall be levied on its total profit-seeking enterprise income derived from both within and outside of Taiwan. On the other hand, a branch of a foreign company is taxed only on its Taiwan-sourced income.
Depreciation is tax-deductible based on a table of service lives for various categories of assets. Service lives actually adopted cannot be shorter than those in the table, and an estimated residual value is required to calculate the annual depreciation. Depreciation methods allowed include straight line, fixed percentage on a declining base, sum of the years' digits, units of output and service hours. Any other method adopted requires advance approval from the tax authority. Amortisation of intangibles is provided on the following useful lives: (1) operating rights: 10 years; (2) copyright: 15 years; and (3) trademarks, patents and other franchise rights: the remaining statutory lives.
Capital and income
Generally, all profits are taxed on an actual realised basis with only two exceptions:
- Land: gains on sales of land are free from regular income tax but subject to a land increment tax based on a special formula and government-regulated prices. However, starting 1 January 2016, capital gains of foreign nationals derived from the disposition of real estate acquired after 31 December 2015 will be taxed at a rate of 45 per cent for real estate held for less than one year. This rate will be reduced to 35 per cent if the real estate is held for more than one year.
- Securities: gains from the trading of securities are generally free from regular income tax but subject to an alternative minimum tax.
Tax losses are allowed to be carried forward for 10 years. No loss carry-back is allowed under Taiwan law.
The current corporate income tax rate is 20 per cent.
There is only one level of corporate income tax in Taiwan, known as the profit-seeking enterprises' income tax. An enterprise is required to pay an interim income tax based on 50 per cent of the previous year's income tax payable in the ninth month of the year. Alternatively, under certain circumstances, an enterprise can choose to pay the interim tax based on the actual operating results of the current year's first six months.
An enterprise is then required to file an annual income tax return in the fifth month of the following year. The return should be filed along with the simultaneous payment of any taxes due.
Enterprises are encouraged to have their income tax returns certified by certified public accountants (CPAs) prior to filing. Income tax returns filed with a CPA's certification are in theory less likely to be chosen for a tax audit by the tax authority. This certification involves a limited audit of the balance sheet accounts and a more extensive audit of the profit and loss accounts.
The tax authority does not have a fixed audit cycle and will only choose targets for audit randomly. The statute of limitations is five years if the tax return is filed on time and no tax fraud is involved.
It is possible to obtain advance rulings from the tax authority for clarification of tax treatments.
There are clear administrative remedy procedures to resolve disputes with the tax authority. In Taiwan, tax litigation cases are handled by two levels of administrative courts: the high administrative courts and the supreme administrative courts.
Taiwan does not have consolidated tax grouping rules except for financial holding companies, and for companies that have been through a merger, acquisition or spin-off executed in accordance with the Business Merger and Acquisitions Law. All group companies with holdings over 90 per cent shall be included if tax grouping is selected. The company's taxable income and loss are allowed to be offset with each other. Other than that, there is no other meaningful tax benefit under a tax grouping. Basically, this is simply a combination of group companies' taxable income and loss, and thus is not a true consolidated tax grouping.
ii Other relevant taxes
Other than corporate income tax, business tax is the other major tax of interest to multinational companies doing business in Taiwan. Sales of goods and services in Taiwan are subject to business tax, which comes in two forms: value added tax (VAT) and gross business revenue tax (GBRT), currently at a rate of 5 per cent of gross revenues. GBRT mainly applies to financial institutions and is borne by sellers. VAT applies to other general industries, and is to be collected from buyers of goods and services by the sellers. Sales of certain products and services are exempt from VAT, whereas exports of goods and services are generally entitled to a zero rate of VAT.
Net profit not appropriated before the end of the following year will be subject to a surplus tax on retained earnings at a rate of 5 per cent. Unlike in the past, any surplus tax paid can no longer be creditable against the dividends withholding tax when the profit is subsequently distributed.
IV TAX RESIDENCE AND FISCAL DOMICILE
i Corporate residence
Corporate residence is determined based on where the corporate entity is incorporated regardless of the place of effective management (PEM) under current law.
However, Taiwan introduced a new provision regarding the PEM in July 2016 through the addition of Article 43-4 to the Income Tax Act. Prior to the amendment, only companies incorporated under Taiwan laws will be subject to corporate income tax in Taiwan, and foreign companies will not be taxed in Taiwan unless they maintain a fixed place of business or a business agent in Taiwan. With the introduction of the PEM rules, foreign companies will be taxed in Taiwan if they are construed as having their PEM within Taiwan. According to Article 43-4 of the Income Tax Act, foreign companies will be deemed Taiwan tax residents if all of the following conditions are met:
Decision makers (individual and corporate) for significant operation management, financial management, and human resource management are residents in Taiwan or incorporated in Taiwan; or such decisions are made within the territory of Taiwan;
Creation and storage or financial statements, accounting records and shareholders'/directors' meeting minutes are within the territory of Taiwan; and
Main business activities are executed within Taiwan.
Nevertheless, the effective date of this new provision is still pending.
ii Branch or permanent establishment
Foreign companies can do business in Taiwan through a branch, and will only be taxed on the profit of that branch in Taiwan. The tax will be limited to the branch's Taiwan-sourced income, and head office expenses can be allocated to Taiwan through a special mechanism. The definition of the permanent establishment varies from treaty to treaty.
From the income tax perspective, the Income Tax Act does not provide the definition of the permanent establishment. However, the Income Tax Act has a similar concept, which is the 'fixed place of business' and 'business agent'. The term 'fixed place of business' refers to fixed places for operation of business, including administrative offices, branch or sub-branch offices, business offices, factories, workshops, warehouses, mining fields, and construction sites; however, this shall exclude warehouse or storage sites used exclusively for purchase of goods and maintenance shops not used for processing or manufacturing products.
The term 'business agent' means an agent fulfilling any of the following requirements:
- where the agent, in addition to representing its principal in the purchase of goods, is authorised to regularly represent the principal in making business arrangements and in signing contracts;
- where the agent regularly keeps in store goods of its principal and delivers the same, for its principal, to others; and
- where the agent regularly accepts, for its principal, orders for goods.
V TAX INCENTIVES, SPECIAL REGIMES AND RELIEF THAT MAY ENCOURAGE INWARD INVESTMENT
According to the Statute for Industrial Innovation, Taiwan offers some tax incentives to attract foreign investment.
Taiwan companies or limited partnerships can either get an income tax credit at a rate of 15 per cent of their annual R&D expenditure in the current year, or at a rate of 10 per cent of the R&D expenditure to offset the profit-seeking enterprise income tax payable in the ensuing three years. The R&D tax credit is capped at 30 per cent of the annual taxable income.
Starting from 1 January 2019, Taiwan companies or limited partnerships that have invested in brand-new smart machines for their own use or have invested in brand-new hardware, software, technology or technical services introducing 5th-generation mobile networks by spending a total of NT$1 million up to NT$1 billion in the same taxable year, the company or limited partnership may select one of the following incentives for crediting the funds so invested by it against the corporate income tax payable by it in the taxable year. Once the company or limited partnership selects an incentive, it cannot change its selection, and the creditable amount shall not exceed 30 per cent of the corporate income tax payable by it in the then-current year:
- up to 5 per cent of the annual spending sum may be credited against the corporate income tax payable by it in the then current year; or
- up to 3 per cent of the annual spending sum may be credited against the corporate income tax payable by it in each of the three years from the then-current year.
Starting from 1 January 2019, Taiwan companies or limited partnerships receive revenue from assignment or licensing of its intellectual property rights in its own R&D results, up to 200 per cent of its R&D expenditures in the then-current year may be deducted from the amount of its taxable income up to the amount of the above revenue in that year, and the company or limited partnership may choose between the tax credit against its R&D expenditures and the investment tax credit.
VI WITHHOLDING AND TAXATION OF NON-LOCAL SOURCE INCOME STREAMS
i Withholding on outward-bound payments (domestic law)
Payments of dividends are subject to a 21 per cent withholding tax rate and payments of interest and royalties are subject to a withholding tax at a rate of 20 per cent unless there is an applicable tax treaty that offers preferential withholding rates.
ii Domestic law exclusions or exemptions from withholding on outward-bound payments
No exemption is available for payments of dividends.
Interest payments to foreign governments and interbank interest payments are free from the Taiwan withholding tax.
Royalties paid for the introduction of patents, trademarks and computer programs to 20 designated industries can qualify for an income tax exemption with advance approval from the competent authority.
iii Double tax treaties
Taiwan has entered into 32 tax treaties, and the following table shows the withholding rates applicable under the respective tax treaties as of 20 November 2019. Without a tax treaty, the withholding rate for dividends is 21 per cent, whereas the withholding rate for both interest and royalties is 20 per cent.
|Jurisdiction||Dividends (per cent)||Interest (per cent)||Royalties (per cent)||Effective|
|Australia||10, 15||10||12.5||1 January 1997|
|Austria||10||10||10||20 December 2014|
|Belgium||10||10||10||1 January 2006|
|Canada||10, 15||10||10||19 December 2016|
|Denmark||10||10||10||1 January 2006|
|France||10||zero, 10||10||1 January 2011|
|Gambia||10||10||10||1 January 1999|
|Germany||10, 15||10, 15||10||1 January 2013|
|Hungary||10||10||10||1 January 2011|
|India||12.5||10||10||1 January 2012|
|Indonesia||10||10||10||1 January 1996|
|Israel||10||7, 10||10||1 January 2010|
|Italy||10||10||10||31 December 2015|
|Japan||10||10||10||13 June 2016|
|Kiribati||10||10||10||1 January 2015|
|Luxembourg||10, 15||10, 15||10||1 January 2015|
|Macedonia||10||10||10||1 January 2000|
|Malaysia||12.5||10||10||1 January 2001|
|Netherlands||10||10||Nil**||1 January 2002|
|New Zealand||10, 15||10||10||1 January 1998|
|Paraguay||5||10||10||1 January 2010|
|Poland||10||10||3, 10||30 December 2016|
|Senegal||10||15||12.5||1 January 2005|
|Singapore||40*||Nil**||15||1 January 1982|
|Slovakia||10||10||5, 10||1 January 2012|
|South Africa||5, 15||10||10||1 January 1996|
|Swaziland||10||10||10||1 January 2000|
|Sweden||10||10||10||1 January 2005|
|Switzerland||10, 15||zero, 10||10||1 January 2011|
|Thailand||5, 10||10, 15||10||1 January 2013|
|United Kingdom||10||10||10||1 January 2003|
|Vietnam||15||10||10||1 January 1998|
* The total tax imposed on the dividend together with profit-seeking enterprise income tax should not exceed 40 per cent of pre-tax income.
** There is no provision for a reduced withholding tax rate under the treaty.
iv Taxation on receipt
Local dividends from one Taiwan company to another Taiwan company are free from the Taiwan income tax. In Taiwan, dividends are only taxable when they reach the hands of Taiwan individual shareholders or foreign shareholders.
Foreign dividends received by Taiwan companies are subject to the regular corporate income tax at a rate of 20 per cent. Dividends withholding tax paid at source can be used to credit against corporate income tax in Taiwan, but only to the extent of the additional income tax incurred by the inclusion of the foreign dividends in the taxable income.
VII TAXATION OF FUNDING STRUCTURES
i Thin capitalisation
Taiwan has thin capitalisation rules that set the debt-to-equity ratio at 3:1. Only debts from related parties or guaranteed by related parties count, and interest expenses on excessive borrowing are not tax deductible.
ii Deduction of finance costs
The law itself is general and vague. It only stipulates that expenses necessary for the operation of the business shall be tax deductible, and interest expenses are generally regarded as necessary for generating taxable income and are, therefore, tax deductible.
iii Restrictions on payments
Dividends can only be declared from retained earnings. Companies with a cumulative deficit are not allowed to declare dividends.
Ten per cent of annual earnings must be set aside as a legal reserve before the declaration of dividends until the accumulative legal reserve set aside equals the paid-in capital. Certain chartered industries, such as banking and insurance, have higher reserve requirements for setting up various reserves before dividends can be declared.
iv Return of capital
Return of capital is tax-neutral. The main barrier to capital reduction is that there might be a minimum capital requirement for some chartered businesses.
VIII ACQUISITION STRUCTURES, RESTRUCTURING AND EXIT CHARGES
A foreign company will normally have its existing subsidiary or a newly incorporated special purpose vehicle in Taiwan acquire a majority holding and follow up with a statutory merger with the target. There are two main reasons behind this acquisition structure. The first is to ensure a 100 per cent acquisition. A direct acquisition cannot guarantee a 100 per cent buyout, whereas a statutory merger can legitimately squeeze out the minority shareholders. On the financial side, the acquisition fund can be a mix of capital and intercompany loans, bearing in mind that the thin cap rule sets the debt-to-equity ratio at 3:1.
Mergers and demergers (or spin-offs) are allowed under the Business Mergers and Acquisitions Act and can be executed on a tax-free basis. Shareholders' dividend withholding tax may be triggered under certain special circumstances. A merger with a foreign company is possible, and will require statutory approval from both sides.
Taiwan law does not permit the change of domicile of a Taiwan corporate entity into a non-Taiwan corporate entity. Thus, if a foreign business decides to relocate from Taiwan, it can only liquidate its Taiwan business and pay whatever tax is due before relocating to another country. Other than the tax liabilities that may be due following the liquidation, there are no additional tax penalties from this process.
IX ANTI-AVOIDANCE AND OTHER RELEVANT LEGISLATION
i General anti-avoidance
Controversies and even litigation cases have often arisen in the past when the tax authorities assessed tax liabilities by relying on the 'form over substance' principle for lack of a more precise legal basis for its position. To fill that void, the legislature enacted Article 12-1 of the Tax Collection Act on 15 May 2009, which mandates that the application of tax law and regulations shall be based on the concept of taxation by law, taking into consideration the legislative purpose of the relevant applicable tax laws, economic meaning and fair tax in substance. Article 12-1 further stipulates that when construing tax events and objects, the tax authority will base its construction on substantive economic substance and the related ownership and sharing of the substantive economic benefit. Finally, Article 12-1 stipulates that the tax authority shall bear the burden of proof for the application of substance over form.
Taiwan does not have any tax regulations that target low-tax jurisdictions. It does not have controlled foreign corporation (CFC) rules, although the government has considered the idea on several occasions.
Taiwan introduced CFC rules in July 2016 through the addition of Article 43-3 to the Income Tax Act, which requires a Taiwan corporate taxpayer to include in its taxable income its pro rata share of the taxable profits of its CFC. For the purposes of Article 43-3 of the Income Tax Act, CFCs are defined as corporations established in low-tax territories that are more than 50 per cent owned (directly or indirectly) or dominantly influenced by a Taiwan business entity. Exemptions apply when a CFC has actual business activities in the jurisdiction of its incorporation or its profits do not reach the threshold prescribed by the Taiwan tax authorities. The adoption of CFC rules would eliminate the deferral of taxation on those overseas profits and would discourage businesses from leaving earnings in foreign jurisdictions.
Nevertheless, the effective date of this new CFC regime is still pending. According to recent news, it is possible that the CFC regime will come into effect in the next two years.
iii Transfer pricing
Taiwan introduced its transfer pricing rules in 2004, which follow the general principles and concepts adopted by the OECD Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations and the United States of America Inland Revenue Code Sections 482-1 to 482-6 and their corresponding regulations.
Since then, Taiwan taxpayers have been required to explicitly state on their income tax returns whether related-party transactions are executed within an arm's-length range. However, a comprehensive contemporaneous transfer pricing report will only be required within one month of the receipt of a transfer pricing audit notice from the tax office if the safe harbour threshold is exceeded.
Under the current safe harbour rules, taxpayers will not be required to prepare a comprehensive contemporaneous transfer pricing report if:
- their annual turnover is below NT$300 million;
- their annual turnover is between NT$300 million and NT$500 million without the utilisation of loss carry-forward or any income tax incentive; or
- the total of related-party transactions is below NT$200 million.
Advance pricing agreements are available to qualifying taxpayers. An advance pricing agreement is usually valid for three to five years. An extension of up to five years is available.
To keep up with the international trend, Taiwan introduced the three-tiered reporting requirement in 2017, where companies exceeding the safe harbour threshold summarised below are required to file master file and country-by-country reports (CbCRs) at the end of the following year.
A Taiwan entity that meets any one of the following conditions will be exempt from filing the master file:
- the Taiwan entity's total annual turnover (including operating and non-operating) does not exceed NT$3 billion; or
- the Taiwanese entity's total cross-border controlled transaction amount does not exceed NT$1.5 billion.
An enterprise in Taiwan meeting any of the following conditions will be exempt from CbCR filing:
- the ultimate parent entity (UPE) of a multinational enterprise (MNE) group is a Taiwan entity and with annual consolidated group revenue in the immediately preceding fiscal year of less than NT$27 billion; or
- a Taiwan subsidiary or branch with a UPE outside of Taiwan, which meets one of the following conditions:
- the jurisdiction of tax residence of the UPE has statutory provisions to file the CbCR, and also meets the exemption requirements for filing the CbCR;
- the jurisdiction of tax residence of the UPE does not have the statutory provisions to file the CbCR, the MNE appoints one of the members to act as a surrogate parent entity (SPE) to file the CbCR, which meets the exemption requirements for filing the CbCR; or
- the jurisdiction of tax residence of the UPE does not have the statutory provisions to file a CbCR, nor do they appoint any other members as an SPE, but meet the exemption requirements to file the CbCR in Taiwan (annual consolidated group revenue during the fiscal year immediately preceding the reporting fiscal year that does not exceed NT$27 billion).
iv Tax clearances and rulings
The taxpayer can apply for advance tax rulings to secure certainty. No tax clearance or ruling will be required for the acquisition of a local business.
X YEAR IN REVIEW
Taiwan introduced a number of significant reforms to its income tax law effective in 2018: the imputation system was abolished, corporate income tax was raised from 17 per cent to 20 per cent, the highest tax bracket for personal income tax was dropped from 45 per cent to 40 per cent, and the surplus tax on retained earnings was cut from 10 per cent to 5 per cent, among other items.
Income tax on non-resident companies that sell electronically supplied services to Taiwan was introduced. This is the first regime in the world to levy income tax on the cross-border digital economy.
XI OUTLOOK AND CONCLUSIONS
Following the passage of significant tax reform in 2018, we expect that the Ministry of Finance (MOF) will not make any substantial changes to the law in 2020. The challenge for the MOF in 2020 will be to continuously keep up with the Common Reporting Standard. With its unique political standing in the world, it is extremely difficult for Taiwan to engage with the international tax community to exchange information. Although Japan and Australia have agreed to conduct information exchange with Taiwan, Taiwan still needs to sign a multilateral competent authority agreement with other countries that currently have tax treaties with Taiwan towards the exchange of information.
1 Michael Wong is a principal partner and Dennis Lee is a senior consultant at Baker McKenzie.