With effect from January 1, 2020, registered foreign service providers (FSPs) who provide any digital services to a consumer in Malaysia will be required to charge 6% service tax on digital services.
This development is in line with global and regional trends where countries have sought to impose taxes on the digital economy. It is laudable that Malaysia has not imposed any unilateral measure in the form of direct taxes on the digital economy, but has instead introduced service tax, which is a form of consumption tax, on electronically-supplied services provided by FSPs to Malaysian recipients.
The Service Tax (Amendment) Act 2019 (Amendment Act) which seeks to impose the service tax on imported digital services, received royal assent on June 28, 2019 and was gazetted into law on July 9, 2019.
Since the Amendment Act has been passed into law, pieces of legislation providing for the details of the implementation of the impending service tax have been gazetted and the Royal Malaysian Customs Department (Customs) had also published its Guide on Digital Services (Guide) to provide FSPs some further guidance on its interpretation of the law.
With less than three months away from the implementation of service tax on imported digital services, FSPs should start assessing the impact of the impending service tax on their business and supply chains and consider if they would fall within the impending service tax regime: Particularly as the regime is broader than other similar overseas vendor registration regimes in the region, in that it also captures provision of digital services to businesses.
Scope of the Service Tax on Imported Digital Services Regime
Only FSPs who provide digital services to a consumer in Malaysia will be caught under the impending service tax regime.
Therefore, initially, foreign businesses should consider the following in assessing whether they would fall within the impending service tax regime.
Scope of “Digital Services”
“Digital services” is defined under the Amendment Act to mean any service that is delivered or subscribed over the internet or other electronic network and which cannot be obtained without the use of information technology (IT) and where the delivery of the service is essentially automated.
Some examples of digital services that were provided by Customs under its Guide include:
(a) online licensing of software, updates and add-ons website filters and firewalls;
(b) mobile applications and video games;
(c) provision of digital content, e.g. music, e-book, film, images, text and information;
(d) advertisement platform, e.g. provision of online advertising space on an intangible media platform;
(e) online platform, e.g. offering of a platform to trade products or services;
(f) search engines services;
(g) social networks;
(h) database and hosting, e.g. website hosting, online data warehousing, file-sharing and cloud storage services;
(i) internet-based telecommunication;
(j) online training, e.g. provision of distance teaching, e-learning, online courses and webinars;
(k) online newspapers and journals subscription; and
(l) payment processing services.
In determining whether a service falls within the scope of digital services, Customs takes the position that the services must be delivered with “minimal or no human intervention from the service provider.” As such, where the transmission of the services is via e-mail and the delivery of the services requires some form of human intervention on the part of the service provider, such services would not fall within the scope of digital services.
Unfortunately, the Guide does not provide any further clarification on the meaning of “minimal human intervention” or what it means where delivery of services are “essentially automated.” Given these uncertainties surrounding the scope of digital services, FSPs may want to consider engaging with Customs to obtain certainty on this issue.
Who are FSPs?
“FSP” means any person who is outside Malaysia providing any digital service to a consumer and includes any person who is outside Malaysia operating an online platform for buying and selling goods or providing services (whether or not such person provides any digital services) and who makes transactions for provision of digital services on behalf of any person.
In interpreting who would be regarded as an FSP, Customs takes the position that the following persons would be regarded as an FSP:
(a) a person who sells digital products directly to consumers;
(b) a person who (i) sells digital products indirectly through intermediaries such as an online platform; and (ii) issues the invoice for such a sale; and
(c) an online platform who (i) makes sale transactions on behalf of an overseas service provider; and (ii) issues an invoice under its name (Platform Operator).
This definition includes foreign providers of digital services as well as foreign Platform Operators who sell products or services on their platform.
However, it is unclear based on the current legislation, if a foreign Platform Operator who makes sale transactions on behalf of a local service provider would be regarded as an FSP who is required to charge 6% service tax on sales made via its platform.
Who Would be a “Consumer” under this Regime?
A “consumer” is a person who fulfills any two of the following three proxies:
(a) makes payment for digital services using credit or debit facility provided by any financial institution or company in Malaysia;
(b) acquires digital services using an internet protocol address registered in Malaysia or an international mobile phone country code assigned to Malaysia; or
(c) resides in Malaysia.
In determining whether a person resides in Malaysia, Customs has confirmed under its Guide that FSPs may rely on the following information:
(a) the billing address of the service recipient;
(b) the home address of the service recipient; or
(c) the service recipient’s country selection.
Unfortunately, no further clarification has been provided in the Guide in relation to the other two proxies, namely the payment proxy and the access proxy.
If a foreign business has made an assessment that it would be regarded as an FSP who provides digital services to consumers in Malaysia, the foreign business would next need to consider whether it meets the mandatory service tax registration threshold for FSPs of 500,000 Malaysian Ringgit ($119,605) annual turnover in respect of the provision of digital services to consumers in Malaysia.
For Platform Operators who are regarded as FSPs, the Platform Operator would be required to compute its annual turnover by including (i) the value of digital services it makes to consumers in Malaysia; and (ii) the value of digital services made by the FSPs through its platform to consumers in Malaysia.
If the foreign business meets the mandatory registration threshold, the foreign business will be required to register with Customs online. Online registration has been made available from October 1, 2019 and the effective date of registration is January 1, 2020 for all FSPs who register with Customs prior to January 1, 2020.
Compliance with Service Tax Related Obligations
Once an FSP is registered with Customs, the FSP will be required to comply with all service tax related obligations under the Service Tax Act 2018.
FSPs Must Charge and Account for 6% Service Tax on Digital Services
FSPs must charge 6% service tax on all digital services that are provided to consumers in Malaysia. Given that the definition of “consumer” is sufficiently broad to include a business which fulfills two out of the three proxies, FSPs must also charge 6% service tax on digital services that are provided to Malaysian businesses which fulfill two out of the three proxies. Where a Malaysian business has been charged service tax by an FSP, the Malaysian business will be exempted from the current obligation to reverse charge on the same service where the service is an imported taxable service.
In terms of timing, FSPs are required to account for service tax on digital service at the time when the payment for the digital service is received by the FSP. Where any digital service is provided before January 1, 2020 and the digital service spans on or after January 1, 2020, FSPs must consider if there is a need to apportion the services and account for service tax on the service that is being provided post January 1, 2020 under the transitional rules.
FSPs Must Issue Invoices in Respect of the Digital Service Transaction
In addition to the requirement to charge service tax, a registered FSP is also required to issue an invoice with the following prescribed particulars in respect of the digital service transaction:
(a) date of invoice;
(b) the FSP’s service tax registration number;
(c) description sufficient to identify the digital services provided; and
(d) total amount payable excluding service tax; the rate of service tax and the total service tax chargeable shown as a separate amount.
FSPs are allowed to have the amounts stated in a foreign currency as Customs has confirmed in its Guide that there is no strict requirement for FSPs to convert the amounts stated in the invoice or document to Malaysian Ringgit.
FSPs Must File Service Tax Returns and Remit the Service Tax due to Customs
FSPs are required to file service tax returns on digital services on a quarterly basis by way of a prescribed DST-02 Form. The value of the digital services and the service tax amount must be declared in Malaysian Ringgit. FSPs are allowed to convert the amounts to Malaysian Ringgit using their own exchange rates. If any errors are made in the service tax return, the FSP may correct such errors.
FSPs are also required to pay the service tax due and payable for a particular taxable period to Customs in Malaysian Ringgit through electronic service or at any institutional bank. Such payments are deemed to be received by Customs at the time the payment is made to any institutional bank and the amount is credited to the representative account. The service tax can be paid from a foreign bank account.
In order to comply with such obligations, FSPs will need to dedicate time and resources to configure their internal systems to correctly identify the relevant digital service transactions which service tax should be collected on and to also issue service tax compliant invoices. Incorrect classification of the transactions will lead to the filing of incorrect returns and potentially the failure to charge and remit service tax, which are offenses under the Service Tax Act 2018.
Whilst the Guide provide some clarifications on the regime, there are also many aspects which may not be clear for FSPs. The issues and application of the rules may differ depending on the structure of the transactions and what type of services are supplied.
One primary factor to take note of is that the Malaysian service tax regime for imported digital services is much wider than other value-added tax/goods and service tax regimes for electronically-supplied services, mainly because transactions with businesses will also fall within the service tax regime, unlike other regimes which only target transactions with non-business consumers. FSPs dealing with Malaysian customers will need to consider these rules carefully to determine if they are caught within the Malaysian service tax regime.
Yvonne Beh is a Partner and Sarah Sheah is an Associate at Wong & Partners, Malaysia.
This column does not necessarily reflect the opinion of The Bureau of National Affairs, Inc. or its owners.