Updated Malaysian Transfer Pricing Tax Audit Framework

Introduction

In Malaysia, under the self assessment system, the Inland Revenue Board of Malaysia (“IRBM”) conducts tax audits to examine a taxpayer’s business records and financial affairs. This ensures that the tax returns filed and the tax payable comply with tax laws. For taxpayers engaged in transactions between related parties (“controlled transactions"), the IRBM initiates a Transfer Pricing Audit (“TP Audit”) to ensure compliance with the relevant transfer pricing requirements, including Section 140A of the Income Tax Act 1967 (“ITA”), Income Tax (Transfer Pricing) Rules 2023 (“TP Rules 2023”) and the prevailing Malaysian Transfer Pricing Guidelines (“MTPG 2024”).

Transfer Pricing Frameworks Issued by the IRBM

In line with global best practices expected from tax authorities, the IRBM first issued the Transfer Pricing Tax Audit Framework dated 1 April 2013. This was later replaced by the Transfer Pricing Tax Audit Framework dated 15 December 2019 (“TPTAF 2019”). Due to rapid changes in the transfer pricing requirements in Malaysia, the TPTAF 2019 has now been succeeded by the Transfer Pricing Tax Audit Framework (“TPTAF 2024”), issued on 24 December 2024.

The TPTAF provides a comprehensive handbook for the IRBM officers, taxpayers selected for TP audits, and tax agents representing the taxpayers during the TP Audit. The scope of the frameworks issued in 2013, 2019 and 2024 has remained largely similar, with minor adjustments to keep up with the latest developments in TP and to suit the prevailing TP landscape.

Briefly, this framework sets out various understanding of almost every aspect of a TP Audit, including:

• Year of assessment covered
• Basis for selection of cases
• Manner of communication between the IRBM and taxpayers
• Types of documents required for submission prior to the audit visit
• List of procedures to be followed by the IRBM’s officers during the audit visit
• Expected duration of audit settlement
• Procedure for voluntary disclosure
• Rights and responsibilities of the IRBM, taxpayers and tax agents
• Structure of penalty scheme and surcharge rate for TP Audit adjustments
• Payment procedures
• Appeal process

What are new for TPTAF 2024?

The IRBM has updated certain aspects in the TPTAF 2024. The spotlight of these changes relate to the clarity provided on how the taxpayers will expect from the IRBM where offences have been committed, as set out in item 10: Offence, Penalty and Surcharge of the TPTAF 2024.

1. Surcharge Structure under Section 140A(3C)

Section 140A(3C) of the ITA came into effect on 1 January 2021 and is applicable to TP Audits that commence on or after this date, regardless of the years of assessment covered in those audits.

With regards to the surcharge structure, Item 10.1.2. of the TPTAF 2024 states that:

• If an adjustment is made following the findings of a TP Audit and results in an increase in income or a reduction of any deduction or loss, a surcharge may be imposed at a rate of up to 5% on the amount of the adjustment.
• A surcharge may still be imposed even if no assessment or additional assessment is raised because the surcharge rate is imposed on the amount of the TP adjustment.
• The surcharge rate for a voluntary disclosure (“VD”) is 0% to 4%.

Crowe's observation:

The imposition of a surcharge under Section 140A(3C) of the ITA for TP Audit cases is unique and is payable by those who have been subject to the IRBM’s TP adjustments during a TP Audit. This surcharge is levied irrespective of whether the taxpayer is in a loss position or is a tax-exempt entity enjoying tax incentive.
It is noted that taxpayers who submit their file under VD cases can benefit from non-imposition of surcharges (i.e. 0%) or lower surcharge rates ranging from 1% to 4%. The IRBM encourages taxpayers to voluntarily disclose any past TP errors or any discrepancies in their TP practices before they are being selected for TP Audit, by offering a lower surcharge ranging from 0% to 4%. The lower penalty range suggests a shift towards fostering cooperation between taxpayers and the IRBM. 

Other than VD cases, the TPTAF 2024 does not specify the exact circumstances under which taxpayers can enjoy a surcharge rate lower than 5%. This lack of guidance may be intentional, providing more flexibility for IRBM officers and taxpayers to negotiate and agree on the settlement. The surcharge structure published by the IRBM allows officers to impose a maximum surcharge rate of 5%. Consequently, the authority to offer a lower surcharge rate lies with the IRBM officer, who will negotiate with the taxpayer during the TP Audit.

Another area worth mentioning is that effective 1 January 2021, the surcharge under Section 140A(3C) is replacing the penalty imposed under Section 113(2) of the ITA. Section 113(2) empowers the IRBM to impose penalties of up to 100% on the amount of tax that has been undercharged. As a concession, the IRBM normally imposes penalties at the rates of 15%, 30% or 45%, depending on the number of offences committed by the taxpayers. Where there is no additional tax, no penalty will be imposed under Section 113(2).

2. Penalty Scale under Section 113B

The MTPG 2024 outlines the requirements for preparing Transfer Pricing Documentation (TPD), which is essential for providing relevant information about controlled transactions and demonstrating that the approach and practices adopted by taxpayers comply with the arm’s length principle. Typically, taxpayers are requested to submit business information slides and the TPD before the scheduled audit visit by the IRBM.

Effective from year of assessment (“YA”) 2023, taxpayers who fail to comply with the TPD requirements may be subject to a penalty of between RM20,000 and RM100,000 under Section 113B of the ITA for the following offences:

• Failure to submit TPD to the IRBM within 14 days from the date of service of a written notice;
• TPD does not prepare in accordance with the TP Rules 2023 and MTPG 2024; or
• TPD is prepared after the tax return filing deadline.

A prosecution action may be instituted if taxpayers fail to respond to the IRBM’s written notice within 14 days. If convicted, the taxpayer may be fined between RM20,000 and RM100,000, or face imprisonment for up to 6 months or both.

The penalty amount imposed depends on the period of delay in submitting the TPD, as follows:

(*) Calculated from the expiration of 14 days from the date of the service of a written notice by the IRBM, until the day a complete TPD is submitted to the IRBM.

The IRBM is granting a concession on the implementation of the above penalty structure to taxpayers whose accounting period begins before 29 May 2023, e.g. 1 June 2022 to 31 May 2023 or 1 May 2023 to 30 April 2024.

Crowe’s observation

The issuance of the penalty structure under Section 113B, as stated in the TPTAF 2024, is timely and is a welcome move. Previously, taxpayers had to worry about facing the maximum penalty of RM100,000 for failing to furnish TPD to the IRBM on time. The penalty range of RM20,000 to RM100,000 is quite broad, and taxpayers would hope for leniency from the IRBM in not imposing the maximum penalty.

In practice, the 14-day time window given by the IRBM to respond with a complete TPD has proven challenging for many taxpayers. This period is quite short, especially considering that a typical TP Audit can cover up to 6 years. Often, taxpayers need to request an extension of time from the IRBM to furnish the TPD. However, according to the penalty structure stated in the TPTAF 2024, even if the IRBM grants an extension beyond the initial 14 days, the penalty under Section 113B would still apply.

Therefore, to avoid any penalties under Section 113B, taxpayers must prepare the complete TPD ahead of time, and no later than the due date of filing the annual tax return. This is in anticipation that the IRBM may conduct a TP Audit at any time after the submission of the tax return for a given YA.

The penalty amount is computed based on the period of delay for each year of assessment, rather than for each TP audit exercise. For example, if a taxpayer receives a TP Audit letter from the IRBM on 1 February 2025 for an audit period covering FY 2018 to FY 2023 (6 years) and is given 14 days from 1 February 2025 to furnish the complete TPD, submits its TPD to the IRBM only on 28 February 2025, resulting in a delay of 14 days from the deadline. The IRBM may impose a penalty under Section 113B amounting to RM240,000 (RM40,000 x 6 years). These penalties can be excessive and impose a heavy financial burden on taxpayers, even before the TP Audit work commences. This stringent penalty aims to drive improved compliance with TPD requirements by the taxpayers.

While the penalty for late submission of TPD is clearly stated, there is no mention of the penalty scale for offences where the contents or formats of the TPD do not comply with the requirements stated in the TP Rules 2023 and MTPG 2024. In the absence of a specific scale, the penalty may be imposed at the discretion of the IRBM, ranging between RM20,000 and RM100,000 per year of assessment.

Regarding the concession granted by the IRBM, it appears that the penalty under Section 113B will only be imposed on companies with a financial year ending on or after 31 May 2024. This transitional period allows companies ample time to adjust their TP practices and ensure compliance with the new regulations. It reflects the IRBM's understanding of the challenges businesses may face during this adjustment phase.

Conclusion

The TPTAF 2024 serves as a cornerstone for ensuring that TP Audits are conducted with fairness, transparency, and impartiality. The major updates relate to the surcharge structure under Section 140A(3C). Taxpayers reporting their TP Adjustments under VD will benefit from lower surcharge rates, from 0% to 4%. Otherwise, taxpayers may potentially face up to the maximum surcharge rate of 5% on TP Adjustments. This broader range provides an opportunity for both tax officers and taxpayers to negotiate and agree on a rate that results in a win-win situation for both parties. Regarding the penalty scale under Section 113B of the ITA, the hefty penalty regime based on the time delay discourages taxpayers from late submission of TPD.

In light of the strict rules and heavy penalties outlined in the TPTAF 2024, taxpayers should prioritise compliance and proactive engagement with the IRBM. This includes maintaining a good set of TPD, adhering to submission deadlines, and being transparent during audits. By doing so, taxpayers can minimise the risk of penalties and surcharges. Additionally, staying informed about the latest regulations and seeking professional advice when necessary can help taxpayers navigate the complexities of transfer pricing requirements effectively.

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