In operating specific manufacturing business in Indonesia, there are times when the price of raw material can soar, especially in the period approaching Idul Fitri or Christmas. In such times, manufacturers do not have many options. The high price of raw material causes immediate increase in cash fund needs and results in an imbalance in cash flow. To maintain the flow of production, manufacturers usually seek loans from indirect shareholders, because obtaining a bank loan takes time. As with any other type of loan, the loan from the indirect shareholder applies interest, which is usually charged at the interest rate applied by the manufacturer's creditor bank.
In this matter, three issues must be considered:
- the type of tax obligation under Indonesian law that applies to the loan interest payment to an indirect shareholder;
- the interest rate allowed to be applied by the indirect shareholder; and
- whether there are any restrictions under the tax laws and their implementing regulations that prohibit an indirect shareholder from receiving interest on a loan they have granted to the company.
The Income Tax Law (Law 7 of 1983 on Income Tax as last amended by Law 17 of 2000), specifically Article 18(3), provides that the Director-General of Taxation is authorized to re-determine the amount of income, and also to treat the loan as capital, when calculating the amount of taxable income of a taxpayer who has a relationship with another taxpayer, in accordance with proper and arm's length business consideration that is not influenced by any kind of special relationship.
Article 18(4) of the Income Tax Law stipulates that a special relationship is deemed to exist:
- if the taxpayer has a capital participation, whether direct or indirect, of more than 25% in another taxpayer, or combined with another taxpayer has a capital participation of more than 25% in two or more taxpayers; or
- if the taxpayer controls another taxpayer or if two or more taxpayers are under the same control, whether directly or indirectly; or
- if there is family relationship by blood relation or by marriage in a direct vertical or horizontal line.
Under the Income Tax Law, income is defined as any economic benefit received or earned by the taxpayer from within, as well as outside, Indonesia that can be used for consumption or to increase the wealth of the taxpayer concerned, in whatever names and forms. Interest is classified under the definition of income and so is taxable under the Income Tax Law.
Pursuant to Article 23(1)(a) of the Income Tax Law, income in the form of interest defined in Article 4 (1)(f) paid by or payable by government organizations, resident tax subjects, event organizers, permanent establishments or other representatives of foreign companies to resident taxpayers or permanent establishment will be deducted with withholding tax of 15% of the gross amount by the paying party. The paying party will deduct interest income paid by or payable by these organizations to non-resident taxpayers other than permanent establishments in Indonesia with withholding tax of 20% of the gross amount or the rate under any applicable tax treaty subject to a domicile proof of the relevant non-resident taxpayers.
- A company that was granted a loan from its indirect shareholder is required to withhold 15% of the gross amount of the interest if the indirect shareholder is a resident taxpayer.
- A company that was granted with loan from its indirect shareholder is required to withhold 20%, or the rate under any applicable tax treaty, of the gross amount of the interest if the indirect shareholder is a non-resident taxpayer.
- The allowed interest rate would be the interest rate that would be applied to a party who has no special relation with the indirect shareholder, whether directly or indirectly.
- Tax laws and their implementing regulations do not set restrictions on an indirect shareholder receiving interest on a loan granted to their company.
Tyana Asri Martianti