Shipping industry – sink or float?

American social reformer George Curtis was once quoted as saying that “it is not the ship so much as the skilful sailing that assures the prosperous voyage.” Being a traditional seafaring nation dating back to the spice trade, Malaysia remains a leading maritime nation.
We’re ranked 22nd based on the Review of Maritime Transport 2010 published by United Nations Conference for Trade and Development. However, to facilitate a “prosperous voyage” and for our shipping industry to flourish further, the right policies and incentives must be in place.
In Budget 2012, it was proposed that the current 100% exemption of shipping income be scaled down to 70%.
Although ostensibly Malaysian shipping companies would now be subject to an effective tax rate of 7.5%, a more detailed review of the proposal reveals possibly a more draconian reduction of the incentive. Indication that the Government was reviewing the incentive became apparent when the findings of the Strategic Reform Initiatives Lab were made public during the Economic Transformation Programme update in July this year.
Growing our industry
Admittedly, the tax exemption policy for shipping income hasn’t been reviewed in the last 27 years, so it is timely to do so now. However, at a stakeholders’ discussion organised by the Maritime Institute of Malaysia in September, many industry observers couldn’t help but feel that scaling down the exemption rate would be similar to taking two steps forward and three steps backward. The industry was caught by surprise that the scaling down was under consideration.
The development of the shipping sector in Malaysia has been closely linked to the national maritime policy, which was for the nation to achieve greater self sufficiency in shipping services and reduce the heavy outflow of freight payments.
Despite the growth of Malaysia’s shipping tonnage over the years, there seems to be a continuous mismatch between the growing demand for shipping services and the ability of our shipping industry to meet those demands.
As of today, about 75%-80% of total Malaysian trades are still carried by foreign shippers.
Has the existing tax incentive met its objective in growing the national tonnage? Although the increase in Malaysian tonnage over the said period can be attributed to a variety of reasons, there is no doubt the Section 54A exemption managed to create a nurturing environment for growth. Over the last decade, the Malaysian tonnage has nearly doubled – from 6.4 million deadweight tonnes (dwt) in 2000 to 12.4 million dwt in 2010.
Based on the statistics made available, even though about 176 companies have accessed the current incentive, only six shipping companies enjoy the bulk of the tax benefits due to the 80:20 rule. On the one hand, it appears that scaling down the incentive will not impact the industry too dramatically. The Government will also be able to collect additional revenue in excess of RM100mil annually.
However, the question at hand is whether our shipping industry will be able to compete effectively against our neighbours. The shipping industry is a highly promoted sector in most maritime nations – most shipping companies pay no tax or minimal tax.
Newer maritime nations like Singapore, Taiwan and, up till now, Malaysia, provided full tax exemption on shipping profits in order to catch up with the more established shipping nations.
A study of the tax incentives offered in various countries shows that successful shipping nations have adopted the tonnage tax system to incentivise this industry. The main principle of tonnage tax is that the tax liability is based on vessel tonnage, instead of actual profits made from the vessels. The profit calculation is based on the registered tonnage of the vessel, multiplied by a fixed amount of deemed profit per tonne.
This system has been introduced widely in the European Union (EU), Japan, the United States, India and South Korea. As the tax is calculated based on the tonnage of the vessel, when the shipping business is doing well, the adoption of tonnage tax would give a very low effective tax rate, averaging less than 1%.
Even if the company is not profiting, it will still need to pay taxes because tax is now payable based on the tonnage it owns.
A holistic view
The proposal to tax 30% of the profits will make us less competitive compared with our international counterparts. Under this proposal also, shipping companies will be required to treat each Malaysian ship as a separate and distinct business source.
While preparing separate tax computations for each Malaysian ship is the norm, with the new proposal, if a particular ship is making losses, any unutilised capital allowance and tax losses of that ship will be ring-fenced. It cannot be used to offset against other profitable ships. Additionally, the tax losses cannot be utilised against future taxable profits of this ship or any other ships either. This would result in shipping companies having an effective tax rate much higher than 7.5%.
The Malaysian maritime industry is at a crossroads. Granted, a review of the current fiscal incentives is timely. However, instead of scaling down the incentive, a broader spectrum of policies and incentives across the entire supply chain is needed to spur the industry to its next level. These factors need to be considered when assessing the effectiveness of the current incentive offerings:
•The contributions of the shipping industry in growing national tonnage;
•Increase in trade values and port throughputs;
•The growth of shipping-related services throughout the entire supply chain; and
•The emergence of Malaysian shipping companies with international presence.
It may be unrealistic to target growth in all these shipping sub-sectors at once, so we need to focus on the priority sectors, for example, the offshore support vessels, ship financing and ship management.
Malaysian shipping companies are facing turbulent waters – stagnating and competitive freight rates juxtaposed against the increasing costs of new builds. The additional tax burden may jeopardise the already thin margins, particularly in the liner trade. It may just be the straw that breaks the camel’s back, causing these ships to relocate to a more tax friendly nation.
Most importantly, the focus should not just be on creating an efficient shipping industry – it should be aimed at addressing issues in the entire system. The shipping industry plays a pivotal role in the development of Malaysia’s economy. We need to take a holistic approach in reviewing the shipping incentives for the smooth sailing of the nation.

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