This content is from: Local Insights

SPVs and beneficial ownership

For about 10 years now, Indonesian corporations have been issuing bonds and other debt instruments by using the internationally known special purpose vehicle (SPV) structure to make the process more effective and cost efficient. The parent company of the SPV would issue a guarantee for the instrument and would make payments to the SPV in consideration for the funds derived from issuing the instrument. In other words, the SPV lends the money to its parent company in exchange for the guarantee and repayments from the parent, which will ultimately be used to pay principal and interest/coupon to the holders. The use of an SPV was necessary to achieve at least two goals:

  1. to administer the instruments more effectively: the parent company, being the ultimate beneficiary of the transaction, would not have to deal with different tax withholding rates depending on the domicile of each ultimate holder, which would vary due to the trading of the instrument in the secondary market (this will usually be combined with the creation of a global registered instrument to be held by a legal owner who holds it on behalf of the beneficial owners); and
  2. to enjoy reduced withholding tax rate on interest payments: the SPV would be established in a tax-efficient country that has executed a tax treaty with Indonesia and the parent, by virtue of the structure, would have to pay back the loan it receives from its SPV plus interest. If the parent and the SPV are not defaulting, the parent's cost of borrowing will be mainly interest payments made to its SPV plus withholding tax (because normally the structure would have gross-up provisions).

As standard practice in this type of transactions, legal opinions would be issued to confirm that the structure was fine and that its cost-efficiency goals were legitimate and would be respected by the tax authority. It is no longer so.

In tax treaties, taxpayers who are entitled to enjoy the benefit of reduced tax rates are only those who are residents of the contracting states and those who are beneficial owners of the payments made and affected by the treaty. This has always been what is written in tax treaties but, for whatever reason, this has not always been the practice, not in Indonesia at least. This is why on July 7 2005 the Indonesian directorate general of taxation issued a circular letter SE-04/PJ.34/2005 that reiterated that payments made to an SPV in the form of interests, dividends and or royalties are subject to the common withholding rate of 20%. SPVs are not beneficial owners and so are not entitled to the benefit of a reduced tax rate under tax treaties to which Indonesia is a party. This policy would increase the cost of borrowing of Indonesian corporations and make issuance of debt instruments more difficult than it already has been. Although this policy does not affect the validity of the transaction, a new structure needs to be established to address this issue.

Satrya Wijaya Teja

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