Key takeaways:
- Instruction 33000 was issued and came into effect from 18 September 2024.
- A lease agreement may contain a period of time where lease payments are not paid due to construction, design, repair or improvement.
- Lease free periods are limited to ten percent (10%) of the total lease period stipulated in the lease agreement.
- In the event that the lessor wishes to include a lease free or lease reduction period the lessor must submit the lease agreement to the General Department of Taxation within thirty (30) days after the signing of the lease agreement.
The Detail:
Leases in Cambodia historically have been associated with a number of tax audit re-assessments. The key tax audit issues concerning leases have focused on four key areas as follows:
- Are the lease payments considered arm’s length,
- How are refundable deposits taxed,
- Is the lease payment subject to withholding tax,
- Are rent free periods subject to tax.
With respect to the last point outlined above there is now certainty as to the thresholds and requirements for rent free periods contained in a lease agreement. When negotiating a lease agreement, a lessee may argue that there should be a lease free period to accommodate such scenarios where construction or repair and improvement might prevent the lessee from the ability to enjoy the premises that they have leased.
Instruction 33000 issued by the General Department of Taxation on the 18 of September 2024 provides that the rent-free period contained in a lease agreement may not exceed more than ten percent (10%) of the total lease term as stipulated in the lease agreement.
For example, for a lease agreement that is signed for fifteen (15) years the total lease free period associated with that lease agreement should not exceed more than one year and a half (1.5 years). In addition, any lease agreement that stipulates a lease free period needs to be notified to the General Department of Taxation within thirty (30) days after the signing date.
It is assumed that the lease free period can be split into different periods throughout the lease term provided that the sum total of the lease free periods does not exceed ten percent (10%) of the lease term. During the lease free period there will be no value added tax charged by the lessor and provided that the lessore has met the requirements of Instruction 33000 there should be no re-assessed VAT in a tax audit scenario.
As for the other common lease issues our advice to our clients would be to ensure that annual transfer pricing documentation is maintained to support an arm’s length lease agreement where the lessor and lessee are considered related parties. We also suggest that the preferable transfer pricing methodology for a related party lease would be a comparable uncontrolled price (CUP) typically using an independent licensed real estate report as the source. Under Cambodia’s transfer pricing regulations, a whole of entity return on asset approach may be used i.e. transactional net margin method, however in our experience this may be questioned by tax auditors in a subsequent tax audit.
The rate of withholding tax on rental payments invoiced by a Cambodian tax resident lessor to a Cambodian lessee that is registered for tax is ten percent (10%). Be mindful of the terms of the lease agreement as the payment clause will dictate which party bears the cost of the withholding tax i.e. is the lease payment gross (inclusive) or net (exclusive) of withholding tax. If the lease payment is stated as net of withholding tax then the tax registered lessee, as a withholding tax agent, will be responsible to declare and pay the withholding tax to the General Department of Taxation in addition to paying the Lessor the full amount of rent as stipulated in the lease agreement.
The Prakas on Tax on Income provides that withholding tax on lease payments from immovable property may be exempted provided that the lessor issues a valid VAT invoice to the lessee. The key point here for the lessee is to ensure that they receive a valid VAT invoice from the lessor noting that there are a number of criteria that need to be in place for a VAT invoice to be considered valid.
Finally, a refundable deposit made with respect to a lease agreement should not be subject to tax at the time that it is made provided that the lease agreement clearly sets out the refundable nature of the deposit. The lessor should ensure that the refundable deposit is clearly accounted for, and that evidence can be provided to a tax auditors that the amount of refundable deposit was paid and set aside for a future contingent event. If the refundable deposit is used to offset outstanding lease payments, then it would be subject to the applicable taxes such as value added tax, and pre-payment of tax on income at the time it is applied against the lease payments.
