Newsletter
TAX ALLOWANCES FOR GIFTS IN KIND
In 2004 the Ministry of Finance issued an inter-pretation stating that the tax-deductible value of land donated for public use should be determined according to the actual cost of acquisition, or according to official standards. On 8 July 2005 the MOF issued two further interpretations re-garding gifts in kind, which are often used as a vehicle for tax avoidance. The new interpreta-tions set out how to calculate the tax-deductible value of gifts of shares in unlisted companies, and of facilities for the storage of human re-mains.
The Income Tax Act contains no explicit provi-sions as to how the monetary value of gifts in kind is to be determined. Based on general principles of taxation law, it should be based on the fair value of the property concerned. How-ever, one can also refer to the provisions of Ar-ticle 14 Paragraph 2 of the Income Tax Act: "If income in any of the aforementioned categories [note: including gifts, which fall under Category 10, "other income"] is received in kind, in nego-tiable securities, or in foreign currency, the amount of income shall be computed according to the price prescribed by the government, or the exchange rate recognized by the government, at the time of acquisition, or in the absence thereof, according to the current local price." This pro-vision gives priority to using prices determined by the government for valuing non-cash gifts.
The interpretation on unlisted shares states that after an individual makes a gift of unlisted shares to the government, or to a non-profit organiza-tion, the donor should wait until the recipient sells such shares, and then declare the sales proceeds as a tax-deductible item against his/her consolidated income for the year in which the shares were sold.
Unlisted shares do not have a public market or a clear market price, and the donee is generally not interested in "participating in the operation of a company." It can be assumed that the donee normally would convert the donated shares into cash as a source of funds sooner than later. Al-though the value of a gift of shares is difficult to estimate at the time of donation, the shares' value can be objectively determined by their later sale price, and therefore using the sale proceeds to determine both the tax-deductible amount and the year of deduction is an approach that is both clear and convenient.
However, although the MOF's interpretation is logically well founded, it cannot avoid the criti-cism of being inconsistent with the provisions of Article 29 Paragraph 1 of the Estate and Gift Tax Act, which states that in the case of a gift of shares in a non-listed company, the value of the gift, and thus the gift tax payable, should be de-termined on the basis of the company's net worth on the date of the gift. This discrepancy may result in the same gift of shares being assigned different values for the purposes of income tax and gift tax.
Perhaps the MOF's intent in issuing the inter-pretation is merely to effectively deter the use of shares of unlisted companies that have high net worth but low market value as a vehicle for tax avoidance. However, the objective value of shares at the time of their sale by the donee may vary greatly from that at the time the gift was made, and the time of sale is beyond the control of the donor. Yet any change in the shares' value will affect the donor's tax burden. This matter should be significant enough to be addressed by an amendment to the relevant laws rather than conveniently dealt with by way of an adminis-trative interpretation.
The other interpretation regarding gifts of facili-ties for the storage of human ashes or skeletal remains states that if the donor can present reli-able evidence of the cost of acquiring such fa-cilities, then such cost may be tax-deductible after verification by the tax authority. Otherwise, the value should be determined by the tax au-thority based on the information obtained through investigation. Furthermore, if the fa-cilities given do not comply with the require-ments of the Mortuary Service Administration Act, they cannot be eligible for tax deduction
The acquisition cost method is objective, and an MOF interpretation dated 29 August 1991 had already established this as a general principle of valuation by stating that if the donor of a gift in kind purchased the items from a third party, then the items' purchase price should be taken as their value. However, barring storage facilities for ashes and skeletal remains that do not comply with the Mortuary Service Administration Act may be based on other policy considerations. In terms of the criteria for tax deductibility under the Income Tax Act, the interpretation seems open to the accusation of introducing restrictions not authorized by the law.
In summary, the aim behind the MOF's two in-terpretations is to discourage the use of non-cash gifts, and particularly gifts of peculiar nature, as a way to avoid tax. By imposing restrictions through such rulings, the MOF can immediately achieve its administrative aims without inflicting major detrimental effect on normal gift giving. However, it would nonetheless be more appro-priate for the MOF to bear in mind constitution-ality of such measures and take the route of seeking to introduce amendments to the law through the legislature.