Financial and Tax Compliance in Indonesia
Indonesia is Southeast Asia’s largest economy and the 7th largest economy in the world. According to a 2017 report by PwC, it is predicted that Indonesia will jump to 4th place by 2050.
Despite these promising forecasts, financial and tax compliance in Indonesia still remains an issue to be addressed. Data shows that the country collects approx. 12% of GDP in tax revenue and more than 40 million people are estimated to be failing to meet their tax obligations. In order to address this challenge and boost tax compliance, a variety of nudge interventions proposed by behavioural economics studies (having shown positive outcomes in other countries) are being trialled. Compared to other nations, the tax structure for both corporate companies and individuals in Indonesia is relatively low. However, financial and tax compliance in Indonesia still has to meet the government’s expectations.
It would be impossible to talk about tax evasion without mentioning the endemic corruption affecting the country as a whole. Voluntary compliance across the different levels of the Indonesian economy sector is rare and – in order for its tax compliance system to be aligned with other large global economies – Indonesia needs to face corruption and eradicate tax evasion.
Corporate Income Tax, Value Added Tax (VAT) and the Luxury-Goods Sales Tax (LGST) in Indonesia
In order to have a clearer picture of the Indonesian tax system, it is important to provide a detailed description of its Corporate Income Tax, Value Added Tax (VAT) and Luxury-Goods Sales Tax (LGST).
The Corporate Income Tax is a government tax which every company based in Indonesia – regardless of its being local or foreign – is legally bound to pay. Any foreign-owned company that does not have a permanent establishment in Indonesia but generates income through business activities in the country, will have to settle its tax liabilities through what is known as withholding tax by the Indonesian party providing for the income.
The standard income tax rate in Indonesia is 25%. However, there are a few exceptions as follows:
- Companies listed on the Indonesia Stock Exchange (IDX) offering at least 40% percent of their total share capital to the public are eligible for a 5% reduction in their tax rate.
- Small and medium-enterprises (SMEs) with an annual turnover below Indonesian Rupiah (IDR) 50 billion (about USD $4 million) get a 50% tax discount.
The Finance Ministry regulation has established that individuals and institutional taxpayers with an annual gross turnover below IDR 4.8 billion (about USD $360,000) are to pay a 1% income tax rate provided that the following criteria are met:
- The individual must reside in Indonesia
- He/she needs to reside in the country for more than 183 days within a 12-month period
- He/she needs to be present in Indonesia for the duration of the tax year and be committed to reside in the country
Non-residents are subject to a 20 % withholding tax on Indonesia-sourced income. Almost all income earned by individuals in Indonesia is subject to income tax.
Indonesia Income Tax Explained
For individuals, the tax rates payable for annual income are:
- 5% for income up to IDR 50 million
- 15% for income between IDR 50 million and IDR 250 million
- 25% for income between IDR 250 million and IDR 500 million
- a flat rate of 30% for earnings exceeding IDR 500 million
How do employees pay income tax in Indonesia?
In Indonesia, employees usually pay income taxes through their employer, which deducts it from their salary on a monthly basis. For tax payers resident in Indonesia, the above-mentioned tax rates apply. For non-resident taxpayers, the withholding tax is 20% percent of the gross amount (unless there is a tax treaty in place, in which case the amount may vary).
Value Added Tax (VAT) in Indonesia Explained
The Value Added Tax (VAT) involves the transfer of taxable goods or the provision of taxable services in Indonesia. Events/services bound to pay VAT are:
- Delivery of taxable goods by an enterprise
- Import of taxable goods
- Delivery of taxable services by an enterprise
- Use or consumption of taxable intangible goods/services originating from abroad
- Export of taxable goods (tangible and intangible) or services by a taxable enterprise.
The VAT rate in Indonesia is 10%. However, the exact amount may be increased or decreased (with figures ranging between 5% and 15%) according to government regulations. VAT on the export of taxable tangible and intangible goods, as well as the export of services, is fixed at 0% with certain limitations.
Luxury-Goods Sales Tax (LGST) Explained
In addition to the previously mentioned Income Tax and VAT, the Indonesian fiscal system includes a so-called Luxury-Goods Sales Tax (LGST).
Introduced in the Suharto era with the aim to create a more just society, the LGST tax establishes that the delivery or import of certain manufactured taxable goods – luxury cars, apartments and houses to name a few – is liable to pay an additional tax. Currently, LGST rates are set between 10% and 125% (where the law allows for a maximum LGST rate of 200%).
It is worth mentioning that – although the Indonesian law allows import duties to range between 0 and 150% of the imported item value at customs- the highest rate is currently set at 40%. This is mainly a result of Indonesia signing a number of free-trade agreements, effectively scrapping or significantly lowering import duty rates. However, a protectionist mindset remains in the government, so one should not rule out that specific goods may still be charged a high tax rate.
The effort that the Indonesian government is making at eradicating corruption, its young population spread across an archipelago of 17,000 islands, a growing middle-class and the promising estimates regarding Indonesia’s future economy make the country an attractive location to establish a business, especially for foreign investors.
Regional governments are now providing remarkable incentives to attract greater capital and with it the possibility of jobs for the local workforce. In fact, the less developed the area, the more perks investors can enjoy in bringing business to that particular location. As discussed, a protectionist approach to fight unemployment is still in place in Indonesia, where companies are to consider the local workforce before hiring a foreigner, specifically in the fields of human resources, legal, Health & Safety, environmental affairs, supply chain management and inspection/quality control. This is clearly expressed by the Daftar Negativ Investasi (Negative Investment Decree), which lists the sectors off-limits to foreigners. On the other hand, a few of these regulations have now been reconsidered and the once closed sectors are currently seeing an increase in foreign participation, provided that the foreign employee is in possess of a valid work visa.