Tax implications of cross-border trade
"Decree 20 also gives the tax authorities the power to use internal databases for TP assessment purposes in the case of a taxpayer being deemed non-compliant with the requirements of the decree."
Together with the increment of foreign direct investment capital in Vietnam and cross-border transactions of selling goods and providing services by foreign suppliers to Vietnamese buyers, the concerns regarding the Foreign Contractor Tax and the control of transfer pricing that could affect these transactions have accordingly increased.
Foreign Contractor Tax implications
In Vietnam, the Foreign Contractor Tax (FCT) describes the tax obligations of overseas contractors who do business in or receive income from Vietnam on the basis of a contract or agreement with Vietnamese buyers.
The FCT mainly comprises of two components, those being VAT and income tax. In which, VAT and Corporate Income Tax (CIT) applies to a foreign contractor who is an overseas business entity; and VAT and Personal Income Tax (PIT) applies to an individual business foreign contractor.
Currently, the direct method is the common method applied by most international contractors due to the advantages compared with other methods. Under this, foreign contractors are not required to directly pay FCT to the Vietnamese tax authority since the Vietnamese party is required to withhold and file FCT from payments made to the foreign contractor at the deemed percentage of taxable turnover.
Depending on the nature of each transaction the FCT rate, composed of the deemed VAT rate and deemed CIT rate as the direct method is applied, could be different for VAT rate from VAT exemption to 5 per cent; and for CIT rate from 0.1 to 10 per cent. Tax terms on the contract or agreement could also affect to the tax amount to be withheld. At the current time, there are three common tax terms applied in contracts of cross-border supplies.
The first is the gross price. If the contractual price is agreed to be the gross price, it is understood that the payment under the contracts shall include FCT (VAT and CIT components) that will be withheld by Vietnamese parties before making the payments to foreign contractors.
The second term is net price. If the contractual price is made on a net basis, foreign contractors shall receive the exact net price (i.e. the amount after the FCT). For local FCT purposes, payments must be grossed up by Vietnamese parties for FCT calculation.
Finally we have the split price, in which both parties agree that foreign contractors shall bear the CIT/PIT component and Vietnamese parties shall bear the VAT component of the FCT. In this case, Vietnamese parties would withhold CIT/ PIT before making the payments to foreign contractors.
Opportunities to reduce FCT
Fortunately, to integrate with the global economy and reduce tax burdens for foreign contractors, Vietnam has concluded more than 76 Double Taxation Agreements (DTA) with various markets including Singapore, Hong Kong, China, South Korea, Japan, Germany, the United Kingdom, Denmark, and Canada. A number of other DTAs are also in stages of negotiation. It is noteworthy that a DTA between Vietnam and the United States has been signed, but it is not effective at present.
Generally speaking DTAs mainly aim to eliminate double taxation by, firstly, granting tax exemption or reduction to residents of the contracting countries that have signed DTAs with Vietnam, or second, allowing credit against the taxes payable in their home countries. Besides, DTAs provide legal framework for the co-operation and assistance between the tax authorities of Vietnam and the contracting countries in the international tax administration to prevent tax evasion on incomes and assets. In the case of Vietnam, these taxes are CIT for foreign business organisations and PIT for overseas business individuals.
DTA application follows three basic principles. First, if there is inconsistency between provisions of DTAs and local tax laws, the provisions of DTA shall be prevailed. However, if relevant tax obligations stipulated in the DTAs do not exist in Vietnam or the DTAs requires to tax at higher tax rates than local tax rates, the local laws shall be prevailed. Finally, where a term in a DTA is not defined, it will be interpreted as defined by local laws.
However, there are some notable points which foreign contractors should take into account when applying DTA. Tax exemption or reduction under a DTA is not automatically granted. Generally, foreign contractors must conduct certain procedures, including submission of a dossier of notification of eligibility for tax exemption or reduction under a DTA to the Vietnamese tax authorities 15 days before commencing an assignment or contract in Vietnam.
In some certain cases, the deadline of submission of the dossier will be separately stipulated by local laws. Foreign contractors can authorise Vietnamese parties (who engage in agreements with the foreign contractors or have the assets which are owned by them) to submit the dossier on behalf of the contractors.
Generally, the application usually requires several documents. These include a notice of eligibility for tax exemption or reduction under the DTA; an original copy of the residence certificate granted by the tax authority of the country of residence in the year preceding the year of notification of eligibility for tax exemption or reduction; and a copy of the contracts and other relevant supporting documents.
In failing to submit such documents, Vietnamese parties will be responsible for withholding and paying the taxes on behalf of the foreign contractors but the refund can still be claimed within three years from the date arising tax liability. The refund procedures are normally more onerous, time-consuming, and costly.
Transfer pricing control
In addition to the concerns on FCT and DTA as above, transfer pricing (TP) issues should also be taken notice of when it comes to cross-border transactions between related parties. The price of cross-border transactions between Vietnamese parties and related overseas parties must be proper with the arm’s length principle.
At present, the prevailing TP regulations are Decree No.20/2017/ND-CP dated February 2017 prescribing tax administration for enterprises incurring related parties’ transactions and Circular No.41/2017/TT-BTC dated April 2017 by the Ministry of Finance providing guidance on implementation of certain articles of the government’s Decree 20, which were effective from May 2017 and applied for the fiscal year of 2017 onwards. Under these regulations, several new principles and rules were issued to tighten the control of the pricing and CIT implications of cross-border transactions among related parties.
Decree 20 provides detailed guidance on comparability analysis, including the use of data resources, selection of transfer pricing methods, minimum number of comparable companies, and other adjustment factors such as location-specific advantage. Decree 20 also gives the tax authorities the power to use internal databases for TP assessment purposes in the case of a taxpayer being deemed non-compliant with the requirements of the decree.
In consistence with recommendation of Base Erosion and Profit Shifting Action 13, Decree 20 introduces a three-tiered TP documentation approach to collect more tax-related information on the business operation of multinational corporations (MNCs). Particularly, this TP documentation approach includes a profile of global corporations containing standardised information for all members of the MNC; a nation profile containing related party transactions of the local taxpayer; and a report on the global assets and transactions of the MNC.
Decree 20 requires taxpayers to prepare their TP documentation before the submission of their annual CIT return. Given that CIT returns are due within 90 days from the taxpayer’s year-end, preparation of TP documentation requirements will become extremely challenging. In addition, taxpayers must submit their TP documentation to the tax authorities within 15 working days upon request during a tax/TP audit, reducing the period from the current 30 working days. Accordingly, it is crucial that taxpayers have their TP documentation completed prior to receiving notification of a tax audit.
In summary, the system of Vietnamese laws is still in the process of change and improvement, and cross-border transactions often attract the FCT imposition even though the DTA can help taxpayers reduce certain implications. The TP control requires cross-border transactions among related parties to follow the market price arm’s length principle to avoid the adjustment and additional tax from Vietnamese tax authorities.
During the trade expansion among ASEAN countries, foreign suppliers and Vietnamese buyers should take a careful look at several tax aspects on cross-border transactions, such as the contract or agreement and relevant tax terms therein, or work with professional firms to ensure proper compliance with the prevailing laws, so as to be aware of the potential tax risks.