Vietnamlawmagazine

Hoang Duy Khang and Nguyen Khac Dai

Russin & Vecchi

In an effort to nurture the domestic export business, the Vietnamese government frequently granted investment incentives to foreign-invested enterprises (FIE) that met certain export ratios. These incentives were recorded on the FIE’s business license (Investment Certificate), along with other business particulars. As of January 1, 2012, these incentives will terminate. That means export incentives still in existence on that date will end, irrespective of what the Investment Certificate says. This is necessary in order for Vietnam to comply with WTO commitments it made in January 2007.

This article identifies strategies that an FIE may adopt to retain some incentives.

A ruling that addresses the issue:

According to Article 11.2 of the Investment Law, if changes in laws or policies occur and if those changes adversely affect existing investors, the Government commits to adopt offsetting measures (such as reducing tax or offering some form of compensation) in order to approximate the same conditions that existed before the change. With the knowledge that it must eventually end the export incentive program, the Ministry of Finance (MOF) introduced such a measure in its Official Letter No. 2348/BTC-TCT, issued on March 3, 2009 (OL 2348).

Under OL 2348, if an FIE has export incentives that are scheduled to extend beyond December 31, 2011, the FIE will be entitled to such alternative incentives as were in existence either at the time the FIE was originally licensed or at the time of Vietnam’s accession to the WTO, and to which the FIE would have been entitled had it failed to meet the export criteria at that time. That means when an FIE loses its export-based incentives on January 1, 2012, it can choose non-export based incentives. However, the legislation from which it may choose, in some cases, has already been replaced.

According to OL 2348, the alternative incentives must have been available to a project under the corporate income tax (CIT) legislation in effect at the time the project was licensed or under CIT legislation which was adjusted as a result of Vietnam’s WTO commitments (Adjusted CIT Legislation). The only Adjusted CIT Legislation appears to be Government Decree No. 24/2007/ND-CP (effective January 1, 2007) (Decree 24). Decree 24, however, does not provide any alternative incentives. It mainly eliminated CIT incentives based on export ratios. It also confirmed that CIT incentives previously granted would continue to be applied through the end of 2011. The current CIT Legislation, however, repealed Decree 24 in January 2009. Nevertheless, because OL 2348 (issued after Decree 24 was repealed) refers to CIT legislation effective at the time a project was licensed, Decree 24 could still apply to currently operating projects.

Ultimately, to replace Export Incentives, there are three types of CIT legislation from which an FIE can choose alternative CIT incentives:

CIT legislation in effect at the time the project was licensed (in which there were both export related incentives and non-export related incentives) [Package A];

Decree 24 (and its guiding regulations) [Package B]; or

Current CIT legislation [Package C].

An example:

Assume an FIE was formed in an industrial zone in 2003 to manufacture furniture and the FIE committed to export 80% of its output. It was licensed with corporate income tax rates based on export ratios (Export Incentives) as follows:

A. Absent availability of the Export Incentives, this FIE would have been granted (in 2003) the next most favorable package of CIT preferences (Package A) as follows:

B. The FIE has another alternative. It is Decree 24, which was effective from January 1, 2007, to December 31, 2008. Under Decree 24, a new FIE which manufactured in an industrial zone (whether or not it exported) was entitled to a CIT preference package (Package B) as follows:

C. Under the current CIT legislation, this FIE would receive no CIT incentives. The general corporate income tax rate of 25% would apply (Package C).

Under OL 2348, the export incentives will end on December 31, 2011. According to OL 2348, from 2012, this FIE may choose Package A or B or C. We remove Package C from consideration, as it does not provide any special incentives. Of the two remaining alternatives, Package B seems the better choice. Under Package B, as from 2012, instead of losing all incentives and paying CIT at the general rate (currently 25%), it will continue to enjoy CIT incentives as follows:

Suppose that this FIE started to enjoy export incentives in 2005. If so, from 2012, Package B would allow it to pay CIT at a reduced rate of 7.5% up to the end of 2014 and 15% up to the end of 2016.

Access to alternative incentives:

Under the current tax legislation, a taxpayer can independently determine incentives for which it is eligible and declare and pay taxes accordingly. Based on this, OL 2348 offers two options for investors:

When the current incentives expire in 2012, an investor can examine the law, choose Package A or Package B instead of the export incentives recorded on its license, and then calculate and apply those incentives itself; or

An investor can choose either Package A or Package B and, rather than applying the incentives independently, apply to have the Package it selects recorded on its license.

Neither alternative is perfect, but both seem possible. If a company chooses independently to assess and apply a new set of incentives, choosing Package B poses some risk because Decree 24, the legislation that provides the incentives under Package B, has already been repealed. The only legislation supporting the Package B incentives is OL 2348. Thus, independent assessment may be risky. However, as Tax Departments are administered by the MOF, one can expect OL 2348, which was issued by the MOF, to carry some weight with the local tax authorities.

Unless OL 2348 develops into law, having the new incentives recorded on the investment license (or in a written document issued by the tax authority or the licensing department) would be best, but this may be difficult. Again, recording the incentives would require the licensing authority to make this change based on OL 2348, and thus with reference to expired legislation. This may not be easy. It is the licensing authority (not the tax authority) which is authorized to record tax incentives on the license. Without recorded tax incentives, it is not always possible unequivocally to know which incentive package applies. Often some judgment is required by the tax and licensing authorities. Currently, in practice, even when tax incentives are recorded, they are not set out in detail but are generally stated, so it is difficult to know the specific incentives each FIE receives by looking at its investment license. The best solution should be for the licensing authority to include detailed incentives on the license to avoid confusion. Without the licensing authority’s confirmation of tax incentives, FIEs will not have a binding commitment from a state authority to exercise the incentives even if they qualify.

When we asked one mainstream licensing authority whether it would record alternative incentives on the license or issue a written confirmation of tax incentives, it responded informally that it would not. Nevertheless, the General Tax Department has issued guidance giving FIEs a solution for this obstacle. FIEs are able to independently assess their tax incentives, and then issue a notification to the tax authority of its choice. For instance, in Official Letter 1214/TCT-CS (April 8, 2011) guiding OL 2348, the General Tax Department suggested an FIE independently determine its alternative incentives, and then send a notification of its decision to the tax authority. This solution seems ideal, but official letters have limitations. They are not binding law, nor can they design and set out complete guidelines for the process. For example, the OL does not describe whether an FIE assumes responsibilities for the tax due if it has chosen an inappropriate incentive, nor does it empower the tax authority to confirm the incentive. Nevertheless, there are options available for companies to secure incentives after December 31, 2011.

To get an alternative package licensed/confirmed now?

As Vietnam has developed, tax incentives (including export incentives) have been gradually reduced. We are not sure whether the rule in OL 2348 will persist after the beginning of 2012, the point at which export incentives will be removed completely. We understand that there is a plan to develop a regulatory document to address this issue. Each investor should study and select its best alternative incentives now and before OL 2348 is perhaps replaced.

Each exporter must review the incentives as originally received, then examine the options outlined in OL 2348. It should choose the most advantageous option, and then should ask the licensing authority to record the new incentives either on its license or on a separate document, such as an official letter or correspondence. The best solution would be to create a legal framework for FIEs to receive alternative incentives which is more binding than an official letter. Absent a perfect legal framework, however, there are steps that exporters can take even now.-