AS BUSINESSES expand, they often form groups with multiple subsidiaries or associate companies to provide specialised services and support one another.
For example, a property development company may rely on its subsidiaries for construction, procurement, landscaping and project management. This structure is commonly found in larger groups, where specialisation allows for economies of scale.
As the group grows, the volume of intercompany transactions inevitably increases. These transactions generally fall into three categories: goods and services, financing (loans and advances), and payments made on behalf of one another.
However, as businesses grow, particularly in medium-sized and smaller groups, accounting for these intercompany transactions may not receive the attention it deserves. Entrepreneurs often justify this neglect with the reasoning that accounting is a “back-office operation” that does not directly generate revenue. Unfortunately, this mindset can lead to significant problems, particularly in the accurate recording and reconciliation of transactions between related companies.
Over time, inaccuracies in these records can result in discrepancies that accumulate, sometimes leading to substantial imbalances. When these discrepancies go unaddressed, they can spiral into larger issues, especially when the discrepancies involve large sums of money.
Addressing these differences at a later stage can be challenging and costly, with both accounting and tax implications. Entrepreneurs who once paid little attention to the details may find themselves facing unexpected surprises. Adjustments to reconcile these balances will not only affect the profit and loss account but also the balance sheet. These adjustments will also require justification to auditors, tax authorities, investors and other stakeholders, adding to the complexity of the situation.
The tax ramifications
The first step in settling intercompany balances involves rectifying discrepancies by adjusting the balances upwards or downwards between the involved parties.
These adjustments can have a significant impact on the current year’s profits and losses, as well as retained earnings for the respective companies. This can raise concerns among bankers, investors, and shareholders, who may not fully understand the reasons behind the adjustments.
One key issue when settling intercompany balances is distinguishing between trade and non-trade items. If there is a waiver or forgiveness of a debt, the entity benefiting from the waiver may face taxable income. However, the party forgiving the debt may not be entitled to a tax deduction unless it can be demonstrated that the debt is a bad debt, irrecoverable under the law, and that the write-off is justifiable.
The Public Ruling on this matter states that businesses should “make a stringent examination before deciding to write off a trade debt arising from a related or connected person.” Furthermore, to support such write-offs, businesses must provide evidence proving that the decision was made on an arm's length basis and for valid business or commercial reasons.
Where intercompany debts have arisen from trade transactions, and one party has claimed deductions or capital allowances, waiving the debt can trigger tax consequences. If a debt was written off in one party’s tax records but later forgiven or waived, the tax benefits previously claimed may need to be recaptured.
Another common approach to settle the intercompany balances is to capitalise the amount outstanding through the issue of new shares by the debtor to the creditor. This will be tax neutral.
Whether a company chooses to write off intercompany debts, waive them, or capitalise them, it is essential to consider the broader accounting, tax, and legal implications of these adjustments.
Conclusion
Settling intercompany balances is not a simple task and requires careful attention to accounting practices and tax regulations. The potential tax consequences, such as the recapture of tax deductions, and the need to demonstrate arm’s length and business-driven decisions, mean that businesses must be thorough in their approach to managing these balances. Therefore, businesses must prioritise proper documentation, regular reconciliations, and a proactive approach to intercompany accounting to mitigate these risks.
This article is contributed by Thannees Tax Consulting Services Sdn Bhd managing director SM Thanneermalai (www.thannees.com).
Source: The Sun Daily
A word from our sponsor:
Need Help With Your Personal Finance / Money Issue or need a coach to help you structure or just want to learn the financial skill to self manage your financial matters and retirement. iLearnFromCloud.com
Need to solve a problem quickly, now you can solve it by learning the art of problem solving Art Of Problem Solving
Feeling hungry. Latest food news from Best Restaurant To Eat Malaysian Food and Travel Blog
Memory loss. Need to organize better. Solve problem fast with Free Mind Mapping Software Mind Mapping 101
Need A Customized System Development for your business or Going Paperless XPERT TECHNOLOGIES - Empowering The Paperless Economy
No comments:
Post a Comment