On 4 October 2018, Taiwan’s Executive Yuan passed draft amendments (the Draft) to the Act for the Establishment and Management of Free Trade Zones (FTZs) (the Act). The action was taken in an attempt to comply with the requirements made by the European Union (EU) during the peer review, improve international economic cooperation and reduce the tax burden for foreign companies operating in Taiwan. The Draft will be submitted to the Legislative Yuan for further review.

Detailed discussion

The Draft includes the following key measures:

• Changing the taxation threshold to be in line with international tax practices: Under the Act, foreign companies and their Taiwan branches are entitled to a corporate income tax (CIT) exemption on their sales from an FTZ if they only conduct “storage and simple processing” activities in the FTZ. Under the Draft, foreign companies performing “preparatory or auxiliary activities” are also eligible for the CIT exemption. The term “preparatory or auxiliary activities” refers to the Organisation for Economic Co-operation and Development’s guidance provided in Base Erosion and Profit Shifting Action 7, determined on a case-by-case basis. For instance, if a foreign company in the manufacturing sector stores, displays, and delivers its products from the FTZ to customers inside and outside Taiwan, its income deriving from the sales would be exempt. However, simple processing that is classified as tax-exempt activities under current law would be a taxable activity under the Draft. But labeling, packaging, and classification activities are still treated as tax-exempt activities.
• Expansion of the tax-exemption basis: Currently, qualified foreign companies are partially CIT exempt for sales made to local customers and fully exempt from CIT for sales made to foreign customers. The Draft grants a full exemption to qualified foreign companies for both domestic sales and export sales.
• Transition rule: The current Act still applies to CIT- exempt applications submitted by the end of 2018 since the amended Act is effective for CIT-exempt applications submitted on or after 1 January 2019.

The tax treatment for foreign companies engaged in taxable activities (e.g., simple processing) in the FTZ is governed by tax ruling No. 10600664060 issued in April 2018, which uses a formula method to determine the profits attributable to the taxable nexus.

For additional information with respect to this Alert, please contact the following:

Ernst & Young (Taiwan), Taipei

• Yishian Lin | yishian.lin@tw.ey.com
• Sophie Chou | sophie.chou@tw.ey.com
• Anna Tsai | anna.tsai@tw.ey.com
• ChienHua Yang | chienhua.yang@tw.ey.com
• Vivian Wu | vivian.wu@tw.ey.com

Ernst & Young LLP, Asia Pacific Business Group, New York

• Chris Finnerty | chris.finnerty1@ey.com
• Kaz Parsch | kazuyo.parsch@ey.com
• Bee-Khun Yap | bee-khun.yap@ey.com 

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