When the Fair Rental Value is Not Paid: The Tax Court Annuls Final Income Tax Article 4(2) Based on a Transfer Pricing Correction (PUT-005313.25/2024/PP/M.XIA Year 2025)

The tax dispute case of PT SMS, culminating in Tax Court Decision Number PUT-005313.25/2024/PP/M.XIA Year 2025, serves as a crucial affirmation regarding the validity of the Final Income Tax (PPh Final) Article 4(2) Tax Base (DPP) derived from a transfer pricing correction.

The application of Article 18 paragraph (3) of the Income Tax Law (UU PPh) by the tax authority to redetermine the arm's length value of an affiliated rental transaction, subsequently affecting the Final PPh DPP, proved unsustainable at the litigation level. This case highlights the critical discrepancy between the authority to perform transfer pricing corrections and the fundamental principle of PPh Final as a withholding tax triggered upon payment.

The Directorate General of Taxes (DJP) performed a correction to the Final PPh Article 4(2) DPP amounting to Rp42,781,612,452.00 (post-correction) on the grounds that the property rental transaction between PT SMS and its affiliated parties failed to meet the Arm's Length Principle (ALP).

The DJP invoked the authority under Article 18 paragraph (3) of the Income Tax Law to redetermine the rental price based on an internal assessment conducted by the Tax Appraisal Functional Team. The difference between the arm's length value (DJP's assessment) and the value actually paid by PT SMS (which was lower) was considered the object of Final PPh that should have been withheld.

PT SMS offered a two-pronged rebuttal.

Legally, PT SMS asserted that Final PPh Article 4(2) is a withholding tax mechanism requiring payment or debt accrual for the tax object to be due. Since the corrected difference (arm's length value less paid value) was never realized as a payment or accrual, no Final PPh was due. Substantively, PT SMS presented a transfer pricing analysis using the Transactional Net Margin Method (TNMM), demonstrating that the company's Operating Margin (OM) for the 2021 Tax Year was within the arm's length range. Furthermore, PT SMS justified the rent discount received as a reasonable incentive policy extended to all tenants—affiliated and independent—due to the COVID-19 pandemic's impact. Crucially, PT SMS challenged the DJP's procedural failure to provide the Appraisal Report as mandated by Article 29 paragraph (2) of the General Provisions and Tax Procedures Law (UU KUP).

The Tax Court Panel, in its Decision, unequivocally granted the Taxpayer's appeal in full.

The Panel's legal consideration was based on causality, linking the Final PPh Article 4(2) dispute to the relevant PT SMS Corporate Income Tax (PPh Badan) dispute for the 2021 Tax Year. The Panel stressed that the Final PPh Article 4(2) DPP correction was a consequential correction stemming from the negative correction of Rental Expense made by the DJP in the Corporate Income Tax calculation. Since the root correction (the Rental Expense in PPh Badan) had been entirely annulled by the Panel in a previous Decision (Dispute Number 005312.15/2024/PP), the consequential Final PPh correction was logically deemed to lack sufficient legal basis to be sustained. This decision nullified the disputed Final PPh Article 4(2) DPP.

This Decision carries significant implications.

First, it provides substantial protection to Taxpayers regarding the application of withholding tax rules. While the DJP holds the transfer pricing authority to test the fairness of pricing, the Court reaffirmed that for Final PPh on rent, the time the tax is due and the realization of payment are critical elements. Final PPh corrections based on a fictional value (the unrealized difference of the arm's length price) will be challenging to defend in court. Second, this case serves as a warning that Taxpayers who can justify the arm's length nature of their operating profit (via TNMM) and provide strong economic justification (e.g., COVID-19 incentive policy comparable to independent parties) hold a very strong position. Third, the DJP's failure to provide supporting evidence (the Appraisal Report) was once again a fatal procedural flaw that the tax authority must address in future assessments.

This Tax Court Decision reinforces the principle that transfer pricing corrections must be consistent with the nature of the tax being imposed.

In the context of Final PPh Article 4(2) on rent, a Taxpayer who can demonstrate the absence of payment for the corrected difference, and who possesses robust Transfer Pricing Documentation (TP Doc), stands a high chance of winning the dispute. Proactive compliance by preparing the TP Doc in accordance with PMK 172 of 2023, including detailed functional analysis for rental transactions and reliable comparables, remains the key strategy for mitigating similar dispute risks.