Taxing matters
Business Times - 27 Jul 2006
FAST-GROWING companies have one thing in common - they are able to respond swiftly to changes in market forces. This nimbleness enables them to penetrate new markets quickly and enjoy rapid sales growth. However, while life in the fast lane can pay off handsomely, they should pause to pay heed to tax issues which affect their businesses.
When one thinks of tax, one thinks of it as an obligation - the very payment of which chips away at the bottom line. But there are also opportunities to be harnessed if you look hard enough. We take a look at the top 10 issues emerging companies face, from a tax perspective.
1 Growth structure
Tax considerations influence the structuring of businesses. The key to getting it right is this: keep it simple and keep it efficient. In selecting the right structure, investors in emerging companies must take into account the likelihood of the company evolving into a larger enterprise. Companies should also consider whether an initial public offering could be on the cards as the need for additional capital coincides with the next growth phase.
2 Ownership structure
Very often, businesses do not plan for the appropriate exit scenario until it approaches. An attractive feature of Singapore's tax system is that capital gains are not taxed. It is thus important for shareholders of fast-growing companies to structure their shareholdings efficiently to take advantage of the capital gains exemption regime. A sound exit strategy for investors is crucial, especially if there is increasing shareholder value. An efficient structure will optimise value and provide for an effective harvest strategy.
3 Intellectual property
The strong enforcement of protection of intellectual property is essential to prevent the infringement of a company's rights to its designs, patents and trademarks. In addition, many companies do not realise that managing the tax exposure of income to be derived from intellectual property is an important part of the overall tax strategy. Fast-growing companies should register their intellectual property in countries where taxes on income derived from intellectual property can be minimised.
4 Tax incentives
Singapore has a plethora of tax incentives, designed to promote entrepreneurship, support certain industries, encourage in-bound investment and foster research and development. Fast-growing companies should do their homework in order to take advantage of these tax reductions and rebates in order to lower their effective income tax rate.
5 Borrowing costs
Emerging companies need capital to grow. Borrowing to fund the needs of the company is often a popular and viable option, but this is accompanied by an increasing interest expense burden. However, with careful planning and structuring of the business, companies can take advantage of the tax deductibility of interest expense.
6 GST/VAT compliance
Oversights in the collection and reporting of goods and services tax (GST) or value added tax (VAT) could pose a problem, especially among smaller companies. GST or VAT compliance levels may be lacking due to inadequate system support and less developed risk management practices. As GST or VAT are rates that are applied on the topline, it can be punitive if companies get it wrong. The key to making sure there is no room for error is to implement appropriate procedures and systems at the outset to ensure proper accounting and correct reporting.
7 Human capital
Human capital is a huge asset to fast-growing companies, or for that matter any business. As these companies expand beyond borders, they might transfer employees overseas to penetrate new markets. However, global mobility comes with additional compliance requirements and employers will have to ensure that they adhere to the reporting and payment obligations of employment tax and social security systems in different jurisdictions.
These employers must design human capital policies that will minimise taxes for employees, reduce exposure to penalties and also optimise costs. A poorly designed human capital plan could mean that employers will end up shelling out unnecessary extra expenses for taxes and social security payments, which could eat into funds that can be better used for expansion.
8 Transfer pricing
In order to proceed to the next phase of growth, it is almost inevitable that fast-growing companies will expand their wings beyond Singapore's shores. This means that transfer pricing is likely to come into play. Transfer pricing affects the profit structure on which local taxes are paid. Tax authorities are becoming more aggressive in ensuring proper and fair transfer pricing practices. To avoid being hauled up by tax authorities, fast-growing companies should strengthen their documentation practices and inter-company communication protocols on transfer pricing.
9 Cross-border taxation
When emerging companies set up a presence in overseas markets, such as establishing a sales office or manufacturing premises, they should do their homework regarding the tax legislation in the foreign country. They may be able to take advantage of investment incentives, tax reliefs or tax rebates for foreign invested companies in the foreign country. At the same time, they should also be vigilant on compliance matters and keep up to date on tax rulings such as those on withholding tax and foreign exchange controls.
10 FTAs and customs issues:
The transfer of goods across borders generally attracts duties. Fast-growing businesses should take advantage of concessions on customs duties tariffs offered under free trade agreements (FTAs) which could lead to incremental savings and boost the bottom line. What many companies don't realise is that while they spend resources to manage corporate tax, they should also devote some resources to measuring the impact of transactional taxes such as customs duties which hit above the line. For example, the company can take advantage of the terms of an FTA which can minimise landed costs of goods imported.
In summary, while fast expansion is a key feature of emerging companies, they should also be aware of the need to develop an effective tax strategy that is aligned with their business drivers. Ignorance of potential tax minefields here could threaten to put the brakes on their red-hot growth.
