Income

S RI L ANKA 1695 and outstanding as of 24 June 2020 in the Inland Revenue Department records will be written off. No amended or additional assessments will be issued on SMEs if the CGIR is satisfied that there is no fraud or willful neglect. The CGIR may grant a grace period to SMEs to settle taxes in default or in arrears as of 24 June 2020. Dividends. The definition of a “dividend” is broadened. It now includes the following: • A payment derived by a member from a company, whether received as a division of profits, in the course of a liquidation or reconstruction, in a reduction of capital, in a share buyback, or in other circumstances • Capitalization of profits (bonus shares) The definition of “dividends” excludes a payment to the extent that any of the following circumstances exists: • It is matched by a payment made by a member to the company. • It is debited to capital, share premium or similar account. • It is otherwise included in calculating the income of the member. Dividends received by a resident company from another resident company is subject to income tax at a rate of 14%. Dividends paid to nonresident members are exempt from income tax. A dividend paid by a nonresident company or a gain on the realization of shares of a nonresident company is exempt from income tax if it is derived by any person with a “substantial participation” in the nonresident company. A dividend paid by a resident company is exempt from tax (subject to certain conditions) if the company is engaged in any of the following: • Entrepôt trade involving import, minor processing and reexport • Providing front-end services to clients abroad • Offshore business in which goods are procured from or manufactured in one country and shipped to another country without bringing the goods to Sri Lanka • Headquarters operations of leading buyers for management of financial supply chain and billing operations or logistic services, such as bonded warehouses or multi-country consolidations in Sri Lanka Interest. The following types of interest are exempt from income tax: • Interest, discount or realization of any gain on sovereign bonds denominated either in local or foreign currency with respect to any nonresident person (other than a Sri Lankan permanent establishment) is exempt from income tax, effective from 1 April 2018. • Interest or discount paid or allowed on any sovereign bond denominated in foreign currency, including Sri Lanka

Development Bonds, with respect to any person, is exempt from income tax, effective from 1 April 2018.

• Interest paid to any person outside Sri Lanka on a loan granted to any person in Sri Lanka or to the government of Sri Lanka is exempt from income tax, effective from 1 April 2018. • Interest income earned in foreign currency by any person on monies of the person in any foreign-currency account opened by the person in a commercial bank or specialized bank with the approval of the Central Bank of Sri Lanka is exempt from income tax. • Any sum received by a public corporation out of funds voted by parliament from the Consolidated Fund or from any loan arranged through the government is exempt from income tax, effective from 1 April 2018. • Interest income accrued or derived after 1 April 2021 by a welfare society formed by the Sri Lanka Army, Navy, Air Force or

Police is exempt from income tax. • Interest accrued or derived after 1 April 2021 by a multinational company on a deposit opened by utilizing foreign sources in foreign currency and used to cover its import expenditure for that year of assessment is exempt from income tax. • Interest or discount accruing or derived after 1 April 2021 by a

Samurdhi community-based bank from security or treasury bills or treasury bonds is exempt from income tax. Foreign tax relief. Foreign tax relief is available under various double tax treaties. In general, Sri Lankan tax payable (other than dividend tax) is allowed as a credit against any foreign tax computed by reference to the same income. Similar relief is available for foreign tax paid in the other treaty country. However, the benefit is not available to a body that is a resident of the other state if 50% or more of the underlying ownership is held by an individual or individuals who are not residents of the other state. This restriction does not apply if the resident of the other state is a company listed on a stock exchange in that other state. Foreign tax credits must be calculated for each source (employment, business, investment or other source) and for each gain from the realization of investment assets. For each calculation, the credit cannot exceed the amount calculated by applying the average rate of Sri Lankan income tax to the person’s assessable foreign income. Conditions apply for the claiming of such credit.

C. Determination of trading income

General. The assessment is based on financial statements prepared in accordance with generally accepted accounting principles. All expenses incurred during the year in the production of income are allowable unless specifically prohibited. In addition, certain expenses that are specifically authorized are permitted as deductions. Nondeductible expenses include, but are not limited to, the following: • Capital expenditures • Personal and domestic expenses • Expenditure incurred in deriving exempt amounts • Final withholding tax payments • Outlays or expenses for entertainment

S RI L ANKA 1697 • Payments subject to withholding tax if withholding tax has not been paid to the Inland Revenue Department The following expenses, among others, are deductible: • Interest expenses if money was borrowed under a debt obligation and used during the year to acquire an asset that is used in the production of income (see next paragraph) • Repairs and improvements, whether or not capital, limited to 5% of the written-down value of buildings and 20% of the written-down value of other assets • Research and development expenses (including capital expenditure incurred through an institution in Sri Lanka) • Agricultural startup expenses such as opening up land for cultivation or animal husbandry, purchase of livestock and cultivation of land Interest expenses incurred (other than by financial institutions) on the excess of the total debt obligations under financial instruments over the statutory limit (three or four times the amount of share capital and reserves) is not deductible in the year of assessment in which they are incurred. Any unclaimed amount can be carried forward to be claimed in the next six years of assessment. Qualifying payments. Companies may claim a deduction for qualifying payments, which are donations to the government and approved charities. Donations to the government in cash are deductible in full. Qualifying payment deductions for donations to approved charities established for the provision of institutional care for the sick and needy are limited to LKR500,000 or one-fifth of taxable income, whichever is less. Amounts that cannot be deducted in a year of assessment as qualifying payments cannot be carried forward. Effective from 1 April 2021, the cost of a merger or acquisition incurred by a financial institution, confirmed by the Central Bank of Sri Lanka, is deductible as an expense over three equal installments in three years of assessment. Inventories. Inventories are normally valued at the lower of historical cost or net realizable value. For agricultural produce, in ventories are valued at subsequent sale prices. Cost is usually determined on a first-in, first-out (FIFO) formula or a weighted average cost formula. Provisions. In general, no deductions are allowed for reserves or provisions. However, provisions may be deducted if the expenses provided for are paid within three years after the year of assessment. For banks, the deductibility of a specific provision for bad debts is subject to the approval of the Commissioner General, based on the reasonableness of the provision. Depreciation. Depreciation allowances are granted to the owner of the asset from the fiscal year in which the asset is first used. The allowance is computed using the straight-line method at the following rates, which are effective from 1 April 2018.

Asset

Buildings Plant and machinery or equipment Motor vehicles Furniture Computer hardware Intangible assets (excluding goodwill)

Rate (%)

5 (a) 20 20 20 20 5/20 (b)

(a) This rate applies to buildings, structures and similar works of a permanent nature. (b) If the intangible asset has an indefinite useful life, the rate is 20%.

Depreciation allowances are generally subject to recapture on the sale of an asset to the extent that the sales proceeds exceed the tax value after depreciation. Any amounts recaptured are subject to tax at the regular corporate tax rate. Losses on the sale of a depreciable asset may be claimed as business losses. Relief for losses. Business losses can be deducted in full in determining the taxable income of a company. Any balance may be carried forward for six years of assessment. Losses can be offset against business income or investment income, subject to restrictions. Losses relating to reduced rates can be deducted from income taxable at the same rate or a lower rate and income from exempt activities. Losses from exempt activities can be set off only against exempt income.

D. Other significant taxes

The following table summarizes other significant taxes.

Nature of tax

Value-added tax (VAT); imposed on all goods and services supplied in, or imported into, Sri Lanka and on retail and wholesale trade, excluding essentials, other than certain exempt items including the supply and import of motor vehicles, cigarettes and liquor (effective from 25 October 2014, these items are liable to the Excise [Special Provisions] Duty, which replaces VAT at the point of import); effective from 1 December 2019, sales of condominium units are exempt from VAT, effective from 1 January 2020, the liability threshold for VAT is LKR300 million per year or LKR75 million per quarter Standard rate Specified goods and services, including exports and international transportation VAT on financial services (VATFS); imposed on the supply of financial services by specified institutions carrying on the business of financial services, including the provision of financial leasing facilities; unit trusts and mutual funds are exempt

Rate

8%

0%

15%

Betting and gaming levy; annual amounts of the levy

LKR25,000 to LKR400 million

Tax imposed on gross monthly collections from bookmaking and gaming; imposed instead of all indirect taxes other than the betting and gaming levy mentioned above 10% Telecommunication levy Standard rate 25% Services provided through internet and broadband 10% Levy for Crop Insurance Scheme; on banking, finance and insurance institutions; imposed on annual profits 1% Debt Repayment Levy; imposed on all transactions of a commercial bank LKR2 per each LKR10,000 of a transaction

Excise duty; on specified imports and locally manufactured products Import duty Cess on specified imported items Stamp duty On transfers of immovable property On specified instruments On receipts exceeding LKR25,000 (imposed on all transactions other than transfers of immovable property and transactions involving specified instruments) On local credit card usage On foreign purchases Port and Airport Development Levy; imposed on declared cost, insurance and freight (CIF) value of all cargo; exports, the film industry, imports of goods for specified projects with foreign funds donations received by the government, imports of artificial limbs, crutches and similar items, and yarns and fabrics are exempt Standard rate 5% to 115% 0% to 30% Various

3%/4% Various

LKR25 0% 2.5%

7.5%

Other specified rates 2.5%/5%

Casino Industry Levy

LKR1 billion Bars and Taverns Levy LKR250,000 Direct-to-Home Satellite Services Levy LKR1 billion Satellite Location Levy LKR1 billion Dedicated Sports Channel Levy LKR1 billion Special Commodity Levy Various Cellular Tower Levy LKR200,000 per month

Short Message Service (SMS) Advertising Levy LKR0.25 per SMS

Carbon Tax; based on engine capacity Luxury Tax on motor vehicles Super luxury vehicles Luxury vehicles Various

LKR2,000,000 LKR1,000,000

Nature of tax

Rate

Semi-luxury vehicles LKR500,000 Semi-luxury vehicles (dual purpose) LKR250,000 Reservations in Sri Lanka by online travel agents; imposed on commission 1% Social security contributions, on employees’ gross earnings Employees’ Provident Fund (EPF); paid by Employer 12% Employee 8% Employers’ Trust Fund; paid by employer 3%

E. Miscellaneous matters

Foreign-exchange controls. Foreign-exchange regulations are governed by the Exchange Control Act No. 12 of 2017, effective from 20 November 2017, and other directives issued by the Central Bank of Sri Lanka. The regulations include those discussed below. Any licensed commercial bank as an authorized dealer can open the following types of accounts in Sri Lanka: • Inward Investment Accounts (IIAs) • Outward Investment Accounts (OIAs) • Capital Transaction Rupee Accounts (CTRAs) Persons outside Sri Lanka may engage in specified capital transactions in Sri Lanka that require remittance of foreign exchange into Sri Lanka, such as the following: • Investing • Acquiring all classes of shares in companies not incorporated in Sri Lanka and listed on the Colombo Stock Exchange • Granting loans through debt securities issued in foreign currency or Sri Lankan rupees by licensed, commercial banks, finance companies and specialized banks Exclusions include the acquisition of shares of a company proposing to carry on businesses of pawn broking, coastal fishing or retail trade if the capital contributed by persons resident outside Sri Lanka is less than USD5 million. In such cases, investments are limited to 40% of the stated capital or if special approval is granted by the Board of Investment of Sri Lanka for a higher percentage. Overseas companies registered under the Companies Act of Sri Lanka may carry on the following business in Sri Lanka: • Any commercial trading or industrial activity provided that permission has been obtained from the government of Sri

Lanka • Any non-commercial, non-trading or nonindustrial activity, such as activities carried on by a liaison office, representative office or similar office Overseas companies cannot carry on undertakings for money lending, pawn broking or retail trade if the capital contributed by a person resident outside Sri Lanka is less than USD5 million, coastal fishing or other prohibited activities as specified in the regulations. Permissible activities are also set out in the regulations.