There are potential licensing and tax risk issues in the event that a representative office is treated as a permanent establishment by its activities in Vietnam, as discussed by Nghiem Xuan Hong An and Nguyen Hung Du, of Grant Thornton.
Under commercial law, the representative office (RO) of a foreign entity in Vietnam is defined as a dependent unit of the foreign entity which is established for market research purposes and to conduct trade promotion activities permitted by Vietnamese laws.
The current regulations mention that the operation of the RO is solely confined to the conduct of liaison activities, market research, preparatory or auxiliary activities, and trade and investment promotion of its parent company within the period stated in the establishment license. In addition, for operational purposes in Vietnam, the RO is permitted to perform the following activities:
- rent offices, rent and purchase equipment and facilities necessary for their operations;
- recruit Vietnamese and expatriate employees to work for the RO;
- open bank accounts in foreign currencies or Vietnamese dong at licensed banks in Vietnam and use those accounts for the RO’s operations only;
- sign off contracts for the above-mentioned activities to serve its operation (i.e. labor contracts, office lease contracts, etc.); and
- have the RO’s name stamped.
Commercial law also clarifies that the RO is not allowed to carry out the following activities:
- directly conduct profit-generating activities in Vietnam;
- conduct trade promotion activities out of the permitted scope under commercial law;
- enter into any commercial contracts, amend or supplement the commercial contracts entered into by its parent company, except the permitted cases where the chief representatives are authorized by its parent company to take these actions with a letter of authorization.
Definition of Permanent Establishment
The creation of a permanent establishment (PE) in Vietnam is determined by application of the domestic laws and the tax treaties signed between Vietnam and other countries, i.e. avoidance of double taxation agreements (DTAs).
The current Vietnamese regulations stipulate the following conditions to identify whether the foreign entity’s business activities constitute a PE in Vietnam:
- a business establishment is maintained (e.g. branches, executive offices, plants and a location in Vietnam where natural resources are exploited, or construction sites, installation or assembly works, establishments providing services, agents, and representatives, buildings, vehicle, machinery or equipment or merely a specific place without an identifiable management system, etc.);
- the business establishment must be fixed. This means that it must be established at a specified place in Vietnam and/or maintained on a permanent basis. However, the definition of “fixed” does not necessarily mean that the establishment must be located in a specific place for a specific time;
- business activities in Vietnam are partly or wholly conducted by a foreign company through this establishment.
Meanwhile, the PE definition, in most DTAs, is generally a fixed place of business through which the foreign entity carries out partly or wholly its business activities.
In this regard, it is important to note that in the event of different provisions in the PE definition provided under a DTA and the domestic laws, the provisions in the DTA take precedence over domestic regulations.
RO of Foreign Entity Regarded as PE in Vietnam
In the event that the RO carries out activities of the permitted functions of a RO according to the prevailing Vietnamese regulations, it might trigger a high licensing risk.
As a result, after a period of operating in Vietnam, if the overseas parent company of the RO would like to convert the RO into another business form, for example, an enterprise, to perform income-generating activities, the overseas parent company might encounter difficulties in obtaining the licenses to set up the new company in Vietnam from the licensing authority as its RO has history of having violated the licensing regulations in the past.
Additionally, from a tax perspective, there is a potential high PE risk in Vietnam for the foreign entity created by the RO through the activities performed out of the allowed scope in the establishment license. Consequently, the income attributed to the RO would be subject to tax in Vietnam. This results in more financial burden (i.e. tax burden) for the foreign entity carrying out business activities in Vietnam.
To provide a clearer understanding of the above issues we will discuss the following cases which we notice in practice and are confirmed by tax authorities as creating a PE through the RO’s activities:
• Official Letter 855/TCT-HTQT, dated February 28, 2019, issued by the General Department of Taxation (GDT) mentions that if the RO participates in activities related to trading business of the overseas parent company, the RO’s activities (which are assessed based on the nature of the activities) are not regarded as the preparatory and ancillary services, but partly generating income for the overseas parent company such as negotiating and signing off commercial contracts, carrying out marketing, advertising, sales promotion activities, providing after-sales services, etc. Therefore, the RO is considered a PE in Vietnam through which the overseas parent company carries out partly or wholly its business activities in Vietnam.
• Another case of the RO being defined as a PE is where the RO is involved in delivering goods from the bonded warehouse rented by its parent company in Denmark to the business partners in Vietnam, according to Official Letter No. 2652/TCT-HTQT dated June 30, 2015, also issued by the GDT. To be specific, in this case, after the Denmark company rented a bonded warehouse in Vietnam, it let its representative in Vietnam, which is the RO, be responsible for storing goods and distributing goods in the warehouse, monitoring and controlling the process of receiving and delivering goods in the warehouse per the technical requirement of the Denmark company, signing off the acknowledgment/notes on goods delivery to allow the goods to be delivered out of the warehouse and to the business partners in Vietnam.
• Zarnestservice Ltd, a company incorporated in Russia, was granted a license to establish its RO in Vietnam. This RO, on behalf of its parent company in Russia, conducts trade promotion activities such as marketing, meeting with customers, participating in the process of negotiating and concluding contracts, participates in the implementation of the signed contracts (i.e. monitoring, pushing the implementation of the contracts in Vietnam). Accordingly, it is interpreted by the GDT in official letter 2826/TCT-DNL dated June 23, 2016 that Zarnestservice Ltd carries out its business in Vietnam partly or wholly through its RO in Vietnam.
In order to avoid the potential licensing and tax risk in the event that a RO is treated as a PE by its activities in Vietnam, the foreign entity is not recommended to get its RO involved in the trading transactions or any phase of the trading cycle which is out of the RO’s licensed function, or any other activities generating revenues for the foreign entity in Vietnam as mentioned above.
In this regard, the personnel in charge of foreign entities and Vietnamese entities are encouraged to equip themselves with the necessary technical knowledge of domestic laws in the jurisdiction where the foreign entity carries out its business activities as well as the tax treaty, so that they can identify the cases where a PE can be created, relevant tax implications and also the possibility of applying the tax treaty for tax exemption or reduction purposes.
Nghiem Xuan Hong An is a Tax Senior Manager and Nguyen Hung Du is a Tax Partner at Grant Thornton Vietnam.