Taxpayer Wins Against Indonesian Tax Authority: Rp. 4.6 Billion Secondary Adjustment on Constructive Dividend Totally Failed in Tax Court

The compliance of Indonesian Resident Corporate Taxpayers (WPDN) with the Arm's Length Principle (ALP) in related-party transactions has once again become the central issue in a PPh dispute. The case of PT WST, facing a PPh Article 26 correction of Rp. 4,671,277,888.00 highlights the complexity of implementing the Secondary Adjustment within the Transfer Pricing regime. This PPh Article 26 correction arose solely as a sequential consequence of the primary profit adjustment made by the Directorate General of Taxes (DJP), where the difference was deemed a Constructive Dividend transferred to an affiliated entity abroad. The decision by the Panel of Judges to grant PT WST’s entire appeal explicitly restricts the authority of the tax office in imposing a Secondary Adjustment without a proven and valid basis for the Primary Adjustment.

The core conflict in this trial stemmed from the DJP's consistent reliance on Article 18 paragraph (3) of the PPh Law. This provision mandates the DJP to redetermine the Taxable Income, including treating the diverted profit difference as a Constructive Dividend, which is subsequently subject to PPh Article 26. However, PT WST vigorously challenged the foundation of this correction. The company presented Transfer Pricing Documentation showing that its operating profit margin was within the Arm's Length Range, thereby proving that no unjustified profit shifting had occurred. PT WST's defense was two-fold, extending beyond factual evidence to legal arguments based on the Indonesia-Singapore Double Taxation Avoidance Agreement (DTA). PT WST asserted that the fiscal correction did not meet the definition of "dividend" as stipulated in Article 10 paragraph (3) of the DTA.

In its legal review, the Panel of Judges adopted a fundamental approach by focusing the burden of proof on the validity of the Primary Adjustment (the core profit correction). The Panel meticulously examined the comparable evidence presented by PT WST, including the functional analysis and the selection of comparable companies. Based on the Judges’ conviction, the Panel concluded that PT WST had successfully demonstrated that its related-party transactions complied with the Arm's Length Principle. Consequently, there was no legitimate Primary Adjustment. This judicial resolution has direct legal implications for the Secondary Adjustment. If the principal correction (profit adjustment) fails, the derivative correction (PPh Article 26 on constructive dividend) cannot be sustained logically or legally.

The analysis and impact of this decision carry significant implications for Transfer Pricing practice in Indonesia. This ruling sets an important precedent for taxpayers facing a Secondary Adjustment, confirming that the best line of defense is the substantiation of the ALP for the primary correction. If a taxpayer can convince the Panel that its profit margin was arm's length, any derivative corrections based on the profit adjustment, including PPh Article 26 on Constructive Dividend, must be cancelled. This decision reinforces legal protection for taxpayers and serves as a reminder to the tax authority that the imposition of a Secondary Adjustment must be supported by the substantially tested validity of the Primary Adjustment.

This case offers a valuable lesson for multinational corporations to proactively ensure comprehensive Transfer Pricing compliance. The DJP's role in providing clear guidance on the harmonization between domestic provisions (including the Repatriation mechanism in PMK 172/2023) and DTAs is also crucial to minimize future disputes and prevent the risk of international double taxation.

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