The Inland Revenue Authority of Singapore (IRAS) has recently introduced a significant change impacting investors in the form of a capital gains tax on the transfer of 'foreign assets' – the Foreign Disposal Tax or FDT. Effective from 1 January 2024, the amendment aims to tax the disposal of foreign assets by entities resident in Singapore under certain circumstances.
Foreign Disposal Tax: An overview
For a long time, Singapore has been considered an ideal location for setting up investment vehicles for global ventures. While there are various factors, including access to a pool of highly skilled and experienced professionals, a world-class banking and financial infrastructure, and a consistent and business-friendly legal and political environment, a favourable tax regime stands out as a key catalyst in bolstering Singapore’s attractiveness as an investment hub.
Singapore imposes a competitive corporate tax rate of 17% and has historically not levied a capital gains tax. It also provides several targeted tax exemptions to certain entities, including family offices set up as Section 13O/13U companies. Under certain conditions, these entities enjoy a tax exemption on income from shares, debt securities, and other designated investments.
Starting from January 1, 2024, Singapore may levy capital gains tax in specific scenarios. These include instances where certain Singapore entities receive income in the form of capital gains in Singapore upon the transfer of a foreign capital asset (i.e., capital asset not located in Singapore). However, such a tax would be levied only if the concerned Singapore entity is unable to demonstrate economic substance within Singapore. The IRAS has also published a detailed guidance note listing out the criteria for determining economic substance. Furthermore, capital gains received in Singapore from the transfer of foreign intellectual property would be taxable in Singapore, regardless of the entity’s economic substance within the country.
While most investment vehicles would fall within the scope of FDT, its impact on family offices remain uncertain. To be eligible for the Section 13O/13U exemption, the taxpayer entity must fulfill several conditions pertaining to size of the fund, employing investment professionals, annual business expenditure thresholds, and local investment requirements. Given that these conditions have a direct bearing on the economic substance of the entity, it is likely that qualifying for the exemption could prima facie indicate that FDT should not be applicable to such family offices. However, official clarity from the IRAS is required for the same.
Commercial substance and global trends
Singapore has introduced the FDT to address concerns associated with international tax avoidance. This step discourages setting up Singapore entities solely with the objective of claiming tax benefits, aligning with the trend in the international tax regime of favouring ‘substance’ of a legal structure over ‘form’. The introduction of FDT joins other developments such as the Pillar 1 and 2 rules, General Anti-Avoidance Rules, and the Principal Purpose Test, all of which place strong emphasis on commercial substance over legal form and discourage adopting structures solely for tax benefits.
In this ever-changing landscape, preference must be given to simpler corporate structures. In addition to ease in management, simpler corporate structures can help global investors by decreasing administrative and regulatory compliance costs. Effective legal guidance can help align corporate structures with the core commercial objectives of investors.
