LABUAN TRUSTS LAW UPDATES Peter K Searle EC Trust (Labuan) Bhd
Labuan Offshore Trusts Act, 1996 (“LOTA”) Section 7.(1) A trust is an offshore trust where – (a) the settlor is a qualified person [non-resident of Malaysia] at the time the trust is created; (b) the trust property does not include any immovable property situated in Malaysia, unless otherwise allowed by the relevant authorities and laws for the time being in force; (c) subject to subsections (2) and (3), all the beneficiaries under the trust are qualified persons at the time the trust is created or at the time any one or more of them otherwise become entitled to be beneficiaries under the trust; and (d) at least one of the trustees is a trust company.”
Labuan Offshore Trusts Act, 1996 (“LOTA”) • “trust company” means any company registered to carry on business as a trust company under section 4; • “trust company business” means the business of carrying on any economic activity by a company as a trustee, agent, executor or administrator pursuant to the objects of the company and, without limiting the generality of the foregoing, includes- • (a) establishing or using a share transfer office or share registration office; • (b) administering, managing or otherwise dealing with property as an agent, legal personal representative or trustee, whether by servant or agent or otherwise;” (emphasis added)
Regulation and benefits of Labuan Offshore Trusts
Section 2 of the LOTA • “qualified person” means a person who is not a resident of Malaysia; • “resident” means any person - (a) who is a citizen or permanent resident of Malaysia; or (b) who has established a place of business and is operating in Malaysia, other than an offshore company or a foreign offshore company incorporated or registered under the Offshore Companies Act 1990, and includes a person who is declared to be a resident pursuant to section 43 of the Exchange Control Act 1953;” (emphasis added)
Section 3 of the LOTA • Section 3 of LOTA defines a trust as follows – “3. A trust exists where a person holds or has vested in him or is deemed to hold or have vested in him property of which he is not the owner in his own right and is under an obligation as a trustee to deal with that property - (a) for the benefit of any beneficiary, whether or not ascertained or in existence; (b) for any purpose which is not for the benefit of the trustee; or (c) for both such benefit and purpose mentioned in paragraphs (a) and (b). “
Section 9 of the LOTA Section 9 of LOTA expressly provides for the recognition and enforceability of Labuan offshore trusts; 9.(1) An offshore trust, validly created in accordance with or as provided by this Act, whether in Labuan or abroad, shall be recognised and be enforceable in accordance with its terms, by the courts in Malaysia situated at Labuan or at such other place as may be designated by the Chief Justice of the Federal Court notwithstanding the provisions of any other law.”
Benefits provided to Labuan offshore trusts “10(1) Where an offshore trust is validly created in accordance with or as provided by this Act, the Court shall not vary it or set it aside or recognise the validity of any claim against the trust property pursuant to the law of another jurisdiction or the order of a court of another jurisdiction in respect of – (a) the personal and proprietary consequences of marriage or the termination of marriage; (b) succession rights, whether testate or intestate, including the fixed shares of spouses or relatives; (c) any claims or orders of court with regard to matters referred to in paragraph (a) or (b) in reference to the personal laws of the settlor or the beneficiaries; or (d) the claims of creditors in an insolvency subject to the provisions of section 11.”
Section 11 of LOTA 11(1) Where it is proved beyond reasonable doubt, the onus of which is on the claiming creditor, that an offshore trust created or registered in Labuan, or property disposed of to such an offshore trust – (a) was so created or registered or disposed of by or on behalf of the settlor with principal intent to defraud that creditor of the settlor; and (b) did, at the time such creation or registration or disposition took place, render the settlor, insolvent or without property by which that creditor's claim, if successful, could have been satisfied, then such creation, registration or disposition shall not be void or voidable and the offshore trust shall be liable to satisfy the creditor's claim out of the property which but for the creation, registration or disposition would have been available to satisfy the creditor's claim and such liability shall only be to the extent of the interest that the settlor had in the property prior to the creation, registration or disposition, and any accumulation to the property, if any, subsequent thereto.”
Sections 11(3) to (5) of LOTA 11(3) An offshore trust created or registered in Labuan and a disposition of property to such trust shall not be fraudulent as against a creditor of a settlor - (a) if its creation or registration, or the disposition, takes place after the expiration of two years from the date that creditor's cause of action accrued; or (b) if its creation or registration, or the disposition, takes place before the expiration of two years from the date that creditor's cause of action accrued and that creditor fails to commence such action before the expiration of one year from the date of such creation or registration, or disposition.
Sections 11(3) to (5) of LOTA 11 (4) An offshore trust created or registered in Labuan and a disposition of property to such trust shall not be fraudulent as against a creditor of a settlor if the creation or registration, or the disposition of property, took place before that creditor's cause of action against the settlor accrued or had arisen. 11 (5) A settlor shall not have imputed to him an intent to defraud a creditor solely by reason that the settlor - (a) has created or registered an offshore trust or has disposed of property to such trust within two years from the date of that creditor's cause of action accruing; or (b) is a beneficiary. “ (emphasis added).
Strict confidentiality regime 41.(1) Subject to the terms of the trust and to any order of the Court given on special and exceptional grounds, a trustee or any other person shall not be required to disclose to any person any document or information which discloses – (a) his deliberations as to how he should exercise or has exercised his functions as trustee; (b) the reasons for any decision made in the exercise of those functions; (c) any material upon which such a decision was or might have been based; (d) any part of the accounts of the trust; or (e) any letter of wishes given by the settlor or beneficiary.
Strict confidentiality regime in relation to Labuan offshore trusts – (2) Notwithstanding subsection (1), where a request for the disclosure of any document or information relating to or forming part of the accounts of the trust is made by a beneficiary under the trust or, in the case of a trust for a charitable purpose, by a charity referred to by name in the trust instrument as a beneficiary under the trust, the trustee shall be obliged to disclose the document or other information requested. (3) Except as is required, permitted or otherwise provided by this Act, or by the terms of the trust or as may be necessary for the purposes of the trust, and notwithstanding the provisions of any other law - (a) every trustee and every other person shall at all times regard and deal with all documents and information relating to a trust as secret and confidential; (b) no trustee or other person shall at any time be required to produce to or before any court, tribunal, board, committee of inquiry or any other authority or to divulge to any such authority any matter or thing coming to his notice or being in his possession for any reason, where such matter or thing relates to a trust.
Strict confidentiality regime (4) Any trustee or other person who, except as is required, permitted or otherwise provided by this Act, or by the terms of the trust or by the Court, at any time communicates or attempts to communicate any matter of thing relating to a trust to any person shall be guilty of an offence. Penalty: Imprisonment for five years or thirty thousand ringgit or both.” The confidentiality regime that exists in Labuan has satisfied the OECD that there is sufficiency transparency and exchange of information provisions for Labuan in particular and Malaysia in general to be considered a complying jurisdiction. Thus, no international regulatory bodies consider Labuan or Malaysia to be a non-cooperative tax haven. Contrast with Hartigan Nominees Pty Ltd v Rydge (1992) 29 NSWLR 405, a case concerned with disclosure of a memorandum of wishes addressed to the trustees by Sir Norman Rydge (who was in substance, but not nominally, the settlor).
Labuan Offshore Business Activity Tax Act, 1990 (“LOBATA”), • provides for the taxation of offshore trusts by defining offshore companies to include Labuan offshore trusts (sub-section 2(1)).
A broad summary of the taxation treatment of Labuan offshore trusts. • LOBATA taxes offshore trading activities (excluding shipping and petroleum activities) carried on by a Labuan offshore trust at the rate of 3% on its audited offshore trading profits or, upon election, at a fixed rate of MR20,000. (The MR is fixed at the rate of 3.8 to the US$). • Offshore non-trading activities relating to investments in securities, stock, shares, deposits and immovable properties derived by Labuan offshore trusts are not chargeable to tax in Malaysia. • Interest, royalties and management fees paid by a Labuan offshore trust to a non-resident or another offshore company are not subject to withholding tax. A Labuan offshore trust is not subject to stamp duty under the Stamp Duty Act, 1949. There is no Malaysian tax on dividends paid by a Labuan offshore trust in respect of dividends distributed out of income derived from offshore business activities or income exempt from income tax.
WHAT IF AN OFFSHORE COMPANY INCORPORATED UNDER THE OCA, RATHER THAN A TRUST COMPANY, IS TRUSTEE OF A TRUST?
Section 3B Income Tax Act, 1967 • tax shall not be charged under this Act in respect of income from its offshore business activity carried on by an offshore company.
Under Section 2(1) of LOBATA, • “offshore non-trading activity” does not include investment income derived by an offshore company acting as trustee of a trust. • Thus, “offshore non-trading activity” includes investment income derived by an offshore company acting as trustee of a trust. Such income is therefore taxed under LOBATA in the hands of an offshore company acting as trustee of a trust (or trusts) at the rate of either 3% of its audited offshore trading profits or, upon election, at a fixed rate of MR20,000. • Of course, if the offshore company is a subsidiary of a trust company and is acting as agent for and on behalf of a trust company, it may well be that the trust is defined as a Labuan offshore trust. In such a case, income from offshore non-trading activity would not be taxable.
The Taxation of Offshore Trusts by High Tax Jurisdictions
High tax jurisdictions tax trusts Directly Indirectly The direct method of taxation often involves treating the trust as a resident of the high tax jurisdiction. The indirect method of taxation is commonly an adjunct to Controlled Foreign Corporation (“CFC”) legislation.
CONTROLLED FOREIGN CORPORATION (“CFC”) LEGISLATION • Such legislation taxes “controlled foreign corporations” on an accruals basis to the resident “controller” of the corporation on certain types of income. • The design of CFC legislation varies from country to country depending on the policy objectives of that particular country. • An example of a modern accruals system as it applies to non-resident trust estates is the Australian legislation, including section 102AAT of the Income Tax Assessment Act, 1936.
Absent CFC legislation, non-resident companies owned by residents or offshore trusts, only taxable on foreign source income if dividended back to country of residence CFC legislation seeks to prevent that deferral of tax Control of CFC and Transferor Trusts Attribution to shareholders of CFC Passive income Tainted income Listed and unlisted countries “Fail-safe” attribution from listed countries “Subject to tax”
Comparison: treaty countries to those without Treaty advantages: resolution of dual residence provided no permanent establishment “business profits” not taxed interest dividends & royalties lower withholding often subject to participation privilege Non treaty disadvantage: double tax
5. Residence of companies and Corporate Trustees France, Germany, Japan: head office or corporate seat US: place of incorporation UK pre 1988, & Malaysia: central management & control test only Australia & UK post 1988: place of incorporation or central management & control Classic UK cases on central management & control Australia: Esquire Nominees’ case Recent UK cases: Untelrab & Dimsey Principles: Place of board meetings; residence of board members
Absent CFC legislation, non-resident companies owned by residents, only taxable on foreign source income if dividended back to country of residence CFC legislation seeks to prevent that deferral of tax Control of CFC Attribution to shareholders of CFC Passive income Tainted income Listed and unlisted countries “Fail-safe” attribution from listed countries “Subject to tax” Unlisted country deemed dividends: s47A
Use of Labuan companies owned by offshore trusts Trader in goods Manufacturer “Offshoring” Provider of Services Computer Services Architectural Drafting Royalties Software Licensing Book Author Rock Band Music Composer
Trader in goods Austco buying & selling outside Australia Austco looking for more vendors & purchasers Australian sales through Austco, foreign sales through Offshoreco If Offshoreco in Labuan, income not “tainted sales income” No attribution under CFC
Manufacturer “Offshoring” Austco manufacturing in Australia Raw material sourced inside or outside Australia from unrelated parties Finished product sold inside or outside Australia to unrelated parties Wants to manufacture in China due to lower cost Australian sales through Austco, foreign sales through Offshoreco If subsidiary of Offshore formed in China, sales to Offshoreco not “tainted sales income” as Offshoreco not an Australian resident If Offshoreo formed in Labuan, sales to unrelated parties not “tainted sales income” No attribution under CFC
In the case of each Offshoreco referred to - Trader in goods Manufacturer “Offshoring” Computer Services Architectural Drafting Software Licensing Book Author Rock Band Music Composer Dividends paid back to Austco will be exempt under s23AJ. However, if an offshore trust is the only shareholder, there will be no exemption.
Treaty Shopping E.g. companies or individuals resident in the Middle East have no treaty protection from, say, Australian taxation Residents of countries which have DTAs with Malaysia have no DTA with Australia Whilst a Labuan company is not protected under the Australia/Malaysia DTA, an ordinary Malaysian company is protected NonTreaty Residents can “treaty shop” into Australia using a domestic Malaysian company owned by a Labuan company (“Malay Satay”), as Foreign source income earned by the domestic Malaysian company is not taxed in Malaysia (even if remitted) Dividends paid by the domestic Malaysian company to its Labuan parent are free of Malaysian tax (which would have borne 28% Malaysian tax if paid to NonTreaty Residents direct)
LABUAN TRUSTS LAW UPDATES Peter K Searle EC Trust (Labuan) Bhd