Capital Gains Tax

Related post: How Capital Gains Are Taxed in Vietnam?

Of course, I do not discuss a plan to create an offshore special vehicle to invest in Vietnam and then sell that vehicle outside Vietnam to circumvent local tax. This is somewhat tricky and now under strict scrutiny of Vietnam’s tax authority. Please refer to this How Special Purpose Vehicles (SPVs) are Used in Vietnam for Tax Purposes? for more information about this arrangement.

Similarly, I would not advise clients to reduce the transfer price on papers to avoid capital gains tax or simply decide not to report the real transfer price to tax bodies. Again, please note that the tax bodies have the authority to impose a ‘transfer price’ that they think fit. Information of bad precedents could be found here.

Rather, please consider changing the corporate form of the target to legally take advantages of different personal income tax rates for capital gains. To do this, there must be 02 conditions: (i) the target is first a non-shareholding (or not a joint stock) company and (ii) the sellers are individuals. In many cases we are engaged, local targets are family ones and therefore organized in two-member limited liability companies (LLC). They just need few days to convert their company from an LLC to a joint stock company (JSC) and therefore save a huge amount of tax.

Let’s take a look at the below example to see how it works?

Uncle A holds 99.99% capital contribution (analogous with shares in shareholding company) of Company Y while his wife, Aunt B, owns a nominal 0.01% remaining shares. The paid-up equity of Company Y, an LLC, is $1 mil. Because Company Y has a very successful business,  Investor C agrees to buy 99.99% shares of Uncle A at $15 mil.

Assuming Uncle A decides to sell his entire capital contribution in Company Y immediately, then the capital gains tax will be equal to $2.8 mil (i.e. = $14 mil x 20% tax rate). $14 mil is the gains from the transfer price of $15 mil minus the initial paid-up equity of $1 mil.

Feeling that the taxable amount is extremely huge, Uncle A comes to see a tax advisor and is advised by the latter to convert Company Y from an LLC to a JSC before Investor C’s investment. The conversion including logistics works, takes just 3 days. Then, the tax amount that Uncle A has to pay would be reduced to $15,000 (i.e. $15 mil x 0.1% tax rate).

What a difference, isn’t it? This arrangement can be of course apply to the investor’s exit later on. If the investor is a corporate entity, some modifications to the plan are necessary.

Needless to say, there should be no one-side-fit-all solution. For example, if the target has been in the red for years and sold at a distress price, no such conversion would be needed. Care therefore should be well taken when it comes down to specific transaction situations.