The status quo
Under the applicable legal provisions on corporate financial transactions, enterprises other than credit institutions are allowed to lend their idle money to other enterprises, provided that this is a sporadic activity and does not form part of the lender’s ordinary business operation.
Taking advantage of these provisions, companies, especially parent companies and its subsidiaries, often use interest-free loans to provide financial support to each other. These loans are not usually subject to interest to ensure that the lending activity does not generate profit and consequently should not be construed as part of the lender’s regular business operations. However, the tax treatment of interest-free loans has not always been crystal clear.
On 10 August 2020, the General Department of Taxation (“GDT”) issued Official Letter No. 3231/TCT-CS (“Official Letter 3231”) to the Tax Department of Nam Dinh province in relation to the tax obligations of Smart Shirts Garments Manufacturing Bao Minh Company Limited (“Smart Shirts Bao Minh”). Specifically, Official Letter 3231 clarifies the tax consequences of interest-free lending between two companies in Vietnam.
Accordingly, the interest-free loan that Smart Shirts Bao Minh granted to another company between 2017 and 2018 shall be taxable at a rate determined by the tax authorities. The rationale for such conclusion by the GDT is that since the interest-free loan did not reflect the market common transaction values, it is a breach of tax regulations and must thus be taxed in accordance with Article 37.1(e) of the Law on Tax Administration 2006. The GDT applied the Law on Tax Administration 2016 in preparing Official Letter 3231 although the legislation had expired on 1 July 2020 as this was the law applicable to the loan granted by Smart Shirts Bao Minh between 2017 and 2018.
However, it should be highlighted that the GDT’s view remains applicable under the current laws since the new Law on Tax Administration 2019 contains similar provisions on the tax authority’s right to levy taxes under similar circumstances. Specifically, Article 50.1(dd) of the Law on Tax Administration 2019 mirrors Article 37.1(e) of the Law on Tax Administration 2006, granting tax authority the right to impose taxes on transactions where the value of goods and services does not reflect the market’s common values. Consequently, the GDT’s view expressed in Official Letter 3231 that interest-free loans are lending activities not in accordance with market values remains applicable, and the extent of tax exposure remains unchanged.
What does this mean to businesses?
As a consequence of Official Letter 3231, the lender of an interest-free loan would be retroactively liable for any unfulfilled tax obligations, such as CIT, arising out of the loan. Pursuant to Articles 49.2 and 50.2 of the Law on Tax Administration 2019, the tax authority can either fix the payable tax amount or the relevant factors to calculate the same on the basis of the followings:
• Database of the tax authority and commercial database;
• The tax amount payable by a comparable entity (in terms of products, industry and scale) in the same locality; otherwise the tax amount payable by a comparable entity in another locality;
• Effective inspection results; and
• The applicable industry tax rate under tax laws.
In light of the above, to mitigate the tax risks associated with interest-free loan, companies should proactively apply interest rates, however minimal, to all of their loans, including those granted to other group member companies.
 Article 6 of Decree No. 222/2013/ND-CP dated 31 December 2013; Article 4.8 of Circular 219/2013/TT-BTC dated 31 December 2013; and Articles 3, 4 of Circular 09/2015/TT-BTC dated 29 January 2015
This briefing is for information purposes only. Its contents do not constitute legal advice and should not be regarded as detailed advice in individual cases. For legal advice, please contact our Partners.
By Mr. Nguyen Anh Tuan – Partner