WHT Article 26 Case Loss: Tax Authority's Strategy Using New Regulations (PMK-22/2020) Overturned by Judges for 2018 Correction

The application of a secondary adjustment as a consequence of a transfer pricing correction is once again a crucial issue in tax disputes, particularly concerning the obligation to withhold Income Tax Article 26 (WHT Article 26) on claims of constructive dividends. The case of (PT DS) highlights a dispute over the corrected Tax Base (DPP) of WHT Article 26 for the December 2018 Tax Period, where the Director General of Taxes (DGT) assumed the profit difference from the transfer pricing correction had been transferred to a foreign affiliate. The Tax Court Decision in this case explicitly granted the taxpayer's appeal in full, affirming that the burden of proof of substance and the principle of non-retroactivity must be respected by the tax authority.

Core Conflict: Dividend Assumption and Legal Principles

The conflict originated from the DGT's transfer pricing correction (primary adjustment) to the profit of PT DS. The DGT, as the Respondent, argued that the surplus profit of Rp16.86 billion, which was deemed non-arm's length, automatically and substantially functioned as a constructive dividend to the foreign affiliate, thereby making it subject to WHT Article 26. The legal basis referenced by the Respondent included Article 22 paragraph (8) of the Minister of Finance Regulation (PMK) Number 22/PMK.03/2020, which explicitly categorizes the transfer pricing differential as a dividend, along with the OECD TP Guidelines 2017.

PT DS, as the Petitioner, presented a fundamental rebuttal. Firstly, the use of PMK-22/2020 for the 2018 Tax Period violated the non-retroactive principle, a cornerstone of legal certainty guaranteed by the 1945 Constitution of Indonesia (UUD 1945). Secondly, PT DS emphasized that the Respondent failed to prove the substance of fund flow or a real transaction that meets the definition of a "dividend" as stipulated in Article 4 paragraph (1) of the Income Tax Law applicable in the disputed year. The corporate income tax correction, according to the Taxpayer, does not automatically create a WHT Article 26 object without further proof.

Resolution: The Tax Court Judges' Legal Opinion

The Judges conducted a thorough examination of the facts and evidence. The focus was on the key question: Has the Respondent proven the existence of a constructive dividend subject to WHT Article 26? The Court concluded that the Respondent failed to provide competent and convincing evidence that the corrected transfer pricing differential (secondary adjustment) had been substantially transferred and received by the foreign affiliate as a dividend. The lack of adequate proof regarding the existence of income meeting the dividend criteria, coupled with the observation that the Respondent did not correct related party interest payments (implying arm's length status in that transaction), undermined the Respondent's assumption. Based on this failure of proof, the Judges determined that the WHT Article 26 tax base correction could not be sustained.

Analysis and Impact: Implications of the Decision

This decision generates significant implications for transfer pricing litigation practice in Indonesia. It affirms that Corporate Income Tax correction (primary adjustment) does not serve as a sole and automatic legal basis for WHT Article 26 imposition (secondary adjustment). The DGT must prove the existence of a real underlying transaction or, at minimum, strong evidence of the economic substance being transferred as a dividend. Another implication is the reinforcement of the principle of non-retroactivity in tax disputes. Taxpayers can use this decision as a precedent to reject the retroactive application of newer regulations or interpretations that are detrimental to prior tax years, especially concerning the definition of the tax object. The PT DS case serves as a critical reminder to multinational enterprises of the necessity for comprehensive documentation, not only to support the arm's length nature of transfer prices but also to explicitly counter the assumption of constructive dividends.

Conclusion

The WHT Article 26 dispute involving PT DS was resolved with a verdict of Granted in Full for the Petitioner. This decision is fundamentally based on the Respondent's failure to prove the substance of the constructive dividend and the Court's rejection of the retroactive application of tax regulations. This judgment strengthens the taxpayer's position in maintaining the principle of legal certainty when dealing with complex transfer pricing disputes.

A Comprehensive Analysis and the Tax Court Decision on This Dispute Are Available Here