In 2003, Watsons Personal Care Stores Holding Limited borrowed USD 36,842,335.00 from Watson Labuan in order to acquire a substantial number of shares in Watson Malaysia and in 2012, the Company borrowed another USD 1,276,000.00 from Watson Labuan to finance the acquisition of shares. According to the loan agreement the annual interest rate was 3% plus the London Interbank Offered Rate (LIBOR) and the principal amount was to be paid on demand by Watson Labuan. In 2013 the tax authorities (DGIR) requested information from Watsons Personal Care Stores Holding Limited relating to cross border transactions for transfer pricing risk assessment purposes and following an audit for FY 2010-2012 the tax authorities informed the Company that the interest would be adjusted under section 140A of the ITA (Malaysian arm’s length provision). Furthermore, the interest expenses paid would not be allowed as a deduction because the transaction as a whole would not have been entered into between unrelated parties. Watsons Personal Care Stores Holding Limited filed a complaint against the assessment and in a decision handed down in 2020 the Special Commissioners of Income Tax (SCIT) allowed the appeal and set aside the assessment of the tax authorities. The tax authorities then filed a Notice of Appeal against the decision with the High Court. Judgement of the Court The Court upheld the decision of the Special Commissioners of Income Tax and set aside the assessment issued by the tax authorities. Excerpts “20. Having read Rule 8 (1) and 8(2) of the TP Rules together, it is clear that while the DGIR has the power to disregard structures that differ from those which would have been adopted by independent persons behaving in a commercially rational manner and the actual structure impedes the DGIR from determining an appropriate transfer price, if DGIR so chooses to disregard the structure under Rule 8(1), Rule 8(2) requires the DGIR to make the adjustment as it thinks fit to reflect the structure that would have been adopted by an independent person dealing at arm’s length.” (…) “36. In contrast I find that the DGIR has not put forward any evidence to refute the Company’s TP analysis, and there is no basis on which the DGIR would have concluded that the interest charged is higher than what would have been agreed between independent persons. Therefore, I view that the DGIR’s rejection of the comparables amounts to a bare denial, lacking in any evidence or basis as the SCIT had correctly held in its Grounds of Decision. 37. In the circumstances, the DGIR did not substantiate its allegations in any documentary form to show that the interest rate is not at arm’s length. What is available is only the TP Documentation prepared by the Company, which was entirely disregarded by the DGIR in coming to its Decisions. 38. I view that the SCIT’s decision is founded on a correct application of the law and inference of facts that are consistent with the primary facts and evidence of the case as the SCIT had set out in its Grounds of Decision dated 19.5.2021. 39. This court is of the view that the DGIR is utilizing section 140A of the ITA to disregard the transactions undertaken. Thus, the DGIR did not act within the powers conferred to it under the said section. 40. It is to be noted that section 140A of the ITA does not give the DGIR the power to disregard/ignore any transactions. Instead, section 140A clearly requires the DGIR to substitute the price in respect of the transaction to reflect an arm’s length price for the transaction where it has reasons to believe that the transactions were not carried out at arm’s length. 41. Therefore, I view that the SCIT correctly held that the DGIR’s failure to make any adjustments to the Loans or substitute an arm’s length rate is contrary to section 140A of the ITA: – [14] The Respondent also did not make any adjustments to the structure of the loan transactions or substitute the interest rate that would have been expected between an independent persons to the loan transaction between the Appellant and Watson Labuan as stipulated in Section 140A of the ITA and Rule 8(1) and (2) of the Income Tax TPR. The Respondent merely substituted the interest rate with 0% on the basis that no independent party would carry out such transaction. (See: page 11 of the Additional Record of Appeal (Enclosure 29)) 42. I find that the DGIR’s insistence that it can substitute a price with zero is misconceived and in effect, disregarding the transaction without substituting an arm’s length price. This shows that the DGIR failed to read Rule 8 of the TP Rules in its entirety. The DGIR only chose to apply Rule 8(1) of the TP Rules but failed to consider Rule 8(2). For ease of convenience Rules 8(2) is reproduced below: – “(2) Where the Director General disregards any structure adopted by a person in entering into a controlled transaction under subrule (1), the Director General shall make adjustment to the structure of that transaction as he thinks fit to reflect the structure that would have been adopted by an independent person dealing at arm’s length having regards to the economic and commercial reality” (emphasis added) 43. The DGIR in its submissions attempts to argue that it ‘substituted’ the interest with 0% because no independent person or Company would enter into similar transaction. Therefore, the interest rate ought to be 0%. 44. I find that the DGIR’s arguments is devoid of merits for the following reasons: – 44.1 The test under Rule 8(2) is not whether an independent person would enter into a similar transaction. The test is a price which “… would have been adopted by an independent person dealing at arm’s length… ” The DGIR’s argument is legally inconsistent with the language of Rule 8(2); and 44.2 The language in Rule 8(2) notwithstanding, the DGIR has not provided any evidence to support its allegations that no commercial ...

Executive Offshore Shipping SDN BHD is in the business of chartering offshore support vessels. It is related to another company, one Eagle High (L) Limited which is a ship-owning company registered in the special tax zone of Labuan where transfer pricing provisions were first introduced in 2020. Eagle High (L) Limited provided (i) charter hire of vessels and (ii) crew management services to Executive Offshore Shipping for the Years of Assessment – 2014 to 2016. In consideration for these services Executive Offshore Shipping paid a cost-plus mark-up rate of 35% as the charter hire and crew management fee. Following an audit the tax authorities asserted that Executive Offshore Shipping SDN BHD had underreported the its taxable income for FY 2014 to 2016. An assessment was issued where additional income of RM19,808,218.39 had been determined by reference to the arm’s length principle. The tax authorities rejected the benchmark study and transfer pricing methods applied by Executive Offshore Shipping. Executive Offshore Shipping filed an application for leave for judicial review with the High Court. The tax authorities submitted that the application should not be granted. “As a general rule, when there is an alternative remedy by way of an appeal, in the instant case, under s 99 of the ITA, it should have been exhausted first before an applicant could commence an application for judicial review.” Judgement of the High Court The High Court Judge granted the application for leave for juridical review. Excerpts “Applying the law to the facts of the case, in para 15(g) of AIS-2, Ms Ling affirmed as follows: The Respondent also failed to take into account that EHLL is governed by the Labuan Business Activity Tax Act 1990 (“LBATA”) in which case the arm’s length principle does not apply prior to the coming into effect of Section 17D of the LBATA on 1.1.2020. This assertion of failure to abide by the statutory provision remains unrebutted, at least at this leave stage. In any event, Ms Ling further alleged that the DGIR had failed to provide supporting transfer pricing documentation to support the DGIR’s contention the applicant’s transfer pricing documentation is inappropriate. This too, is not contradicted by the DGIR, again, at least at this leave stage.” “For the aforesaid reasons, my findings are as follows: (a) Although there is an alternative remedy in the form of an appeal to the SCIT under s 99 of the ITA, the applicant has established exceptional circumstances that justify the grant of leave. (b) One of the exceptional circumstances is that there is an allegation that the putative respondent had ignored the statutory provision under the LBATA. (c) At least at this leave stage, the allegation stands unrebutted.” “In the instant case, the issue that is of significance is whether the DGIR is under a legal obligation to provide supporting transfer pricing documentation to support his contention that the applicant’s transfer pricing documentation is inappropriate. That calls for further arguments at the substantive stage.” “It is, therefore, plain to me that the applicant has crossed the low threshold for leave in a judicial review application.” Click here for English translation ...

Ensco Gerudi provided offshore drilling services to the petroleum industry in Malaysia, including leasing drilling rigs, to oil and gas operators in Malaysia. In order to provide these services, the Ensco entered into a Master Charter Agreement dated 21.9.2006 (amended on 17.8.2011) (“Master Charter Agreement”) with Ensco Labuan Limited (“ELL”), a third-party contractor, to lease drilling rigs from ELL. Ensco then rents out the drilling rigs to its own customers. As part of the Master Charter Agreement, Ensco agreed to pay ELL a percentage of the applicable day rate that Ensco earns from its drilling contracts with its customers for the drilling rigs. By way of a letter dated 12.10.2018, the tax authorities initiated its audit for FY 2015 to 2017. The tax authorities issued its first audit findings letter on 23.10.2019 where it took the position that the pricing of the leasing transactions between the Applicant and ELL are not at arm’s length pursuant to s 140A of the Income Tax Act 1967 (“ITA”). The tax authorities proposed that the profit earned by ELL should remain with the Ensco by reducing the cost of the leasing asset by 20% or equivalent to the margin obtained by ELL. Ensco disputed the tax assessment and brought the case to court for an appeals review. Decision of the High Court The High Court granted orders in terms of Ensco’s application allowing an appeal. Excerpts “It has been said that additional assessment is rooted in fairness and that there is a duty on the part of the Respondent [tax authorities] being an important public authority to give its reasons more so, when the issues pertaining to transfer pricing are complex matters and can never be straightforward. As the Applicant [Ensco] has submitted and this Court agrees, that at the very least, the most basic Transfer Pricing Report by the Respondent will be able to shed some light on the Applicant on this issue because without some basis, how would the Applicant be able to adequately defend itself before the Special Commissioners of Income Tax. The Applicant’s [Ensco] basis and justifications for the pricing of the leasing transactions is definitely in stark contrast to the Respondent’s failure to provide its own Transfer Pricing Report to the Applicant. In the present matter, exceptional circumstances of the case have been established at the leave stage which is a starting point in judicial review cases. Illegality, unlawful treatment, error of law and failure to adhere to legal principles established by the Courts tantamount to an excess of jurisdiction and all of which this Court finds have been demonstrated by the Applicant ...

Ensco Gerudi provided offshore drilling services to the petroleum industry in Malaysia. The company did not own any drilling rigs, but entered into leasing agreements with a rig owner within the Ensco Group. One of the rig owners in the group incorporated a Labuan company to facilitate easier business dealings for the taxpayer. Ensco Gerudi entered into a leasing agreement with the Labuan company for the rigs. Unlike previous transactions, the leasing payments made to the Labuan company did not attract withholding tax. The tax authorities found the Labuan company had no economic or commercial substance and that the purpose of the transaction had only been to benefit from the tax reduction. The High Court decided in favour of the taxpayer. The Court held that there was nothing artificial about the payments and that the transactions were within the meaning and scope of the arrangements contemplated by the government in openly offering incentives. The High Court ruled that taxpayers have the freedom to structure transactions to their best tax advantage in so far as the arrangement viewed in a commercially and economically realistic way makes use of the specific provision in a manner that was consistent with Parliament’s intention ...