With robust GDP growth of 7 per cent in 2014 that is expected to increase to 7.3 per cent in 2015 and 7.5 per cent in 2016, as well as a reputation as an unrestrictive and relatively easy market to enter and do business in, with country risk viewed as moderate due to recent political stability, Cambodia is increasing on foreign investor’s radar screen and has even been coined the darling of frontier markets. However, upon taking a closer look, foreign investors may find a country which has recently corrected areas that it has been historically lax in. In particular, a much more assertive tax department that is increasing its regulatory grip. This is progressively making Cambodia a less friendly environment for foreign investors.
Real versus estimated taxpayers
It is no secret Cambodians are adverse to paying tax, as most of us are. As a consequence, the government has found it challenging in collecting tax revenues. With the exception of the largest companies, accounting and recordkeeping has generally been tenuous or non-existent. Until now there has been no requirement to actually have a bank account, and the exceptionally unfair treatment of real regime taxpayers versus estimated regime taxpayers have all limited the government’s capacity to dramatically increase tax collection.
In paying their monthly tax, an estimated tax regime taxpayer pays tax to a tax officer who comes around monthly to assess the estimated tax, which is generally two per cent of estimated revenues. This is usually a miniscule sum compared to what a real regime taxpayer pays. A registered business as a real regime taxpayer is confronted with basic taxes such as a withholding tax of 10 per cent on rent, salary tax of zero to 20 per cent, value added tax (VAT) on sales of 10 per cent, a tax on profit of one per cent of revenues, and withholding tax of 15 per cent on services received from an unregistered business. At year-end, if the real regime taxpayer manages a profit, they are then faced with a 20 per cent tax on profit. In other words, two businesses, let’s say a retail shop, and a restaurant or hotel, can be doing exactly the same business and the estimated regime taxpayer may pay USD 50 a month while a real regime taxpayer may pay thousands.
Unfair and full of potential cash
Foreigners generally register their business as real regime taxpayers and would be at a significant disadvantage to those competitors in the estimated regime. Moving estimated taxpayers to real regime taxpayer, levels the playing field and is an enormous opportunity to increase tax revenues for the government. However it would mean converting substantially, if not almost all, Khmer-owned small to mid-sized businesses to significantly increased tax bills.
While real regime taxpayers are required to charge 10 per cent VAT for supplying goods and services to their customers, estimated regime and unregistered business are not. The unfairness is only amplified as a real regime taxpayer is required to pay 15 per cent withholding tax for services provided to them by a company that does not charge the business VAT. So instead of receiving a VAT credit, which could be an offset and thus translate to no tax paid, a real regime taxpayer is further penalized for businesses that refuse to be in the tax system, forced to effectively pay their tax for them.
Uncertainty and penalties
There have also been tax code interpretation issues that the newly increased staff of tax auditors, who are now paid 10 per cent of the total penalties imposed on any company, appear to be specifically targeted in audits. While a real regime taxpayer is burdened with withholding tax on rent and salary tax as a significant expense to the business, these taxes would not be deductible as an expense unless the rent and salaries are grossed up. The tax code is relatively vague on this requirement and although the business actually pays the tax, they may face challenges from tax auditors on the deductibility, unless these expenses are properly grossed up.
The recent Prakas 1139 for renewal of tax patents (which requires taxpayers that were registered with the General Department of Taxation (GDT) before November, 2014 to complete new lengthy tax registration forms)have the chairman physically present themselves at the GDT to be photographed and fingerprinted, present proof that the landlord of the business has paid their property tax and have the Chairman produce a residential lease and residency letter that they live in Cambodia, has caused angst and confusion.
A foreign investor may also be surprised to find that entertainment expenses are non-deductible and there are no VAT credits on the purchase of oil/diesel and mobile operator services. Surprisingly, the GDT also announced a tax and minimum interest rate on shareholder loans in 2015 (which is retroactive to 2014) continually changing its tax position on shareholder loans. Having to file and pay taxes monthly has also seen an increased administrative burden compared to most other markets.
How Cambodia could become a true investor’s darling
There is no question there has been progress on tax collection and enforcement and that should be applauded. Rather than having an intense focus on increasing collection revenues on those already in the tax system and further regulation on them, it is time to bring those outside the system, who have a huge competitive advantage, inside the tax system. A reduction in the administrative burden and in bureaucracy would be greatly welcomed. That will give foreign investors more confidence in Cambodia and truly be the darling of frontier markets.
Taxation expert Anthony Galliano is Group CEO of Cambodian Investment Management and frequent contributor in the Post.