Witholding Tax

Understanding Withholding Tax in Indonesia: Mechanism, Types, and Application

Abstract
Tax is the backbone of state development. To ensure effective tax revenue collection, the government implements various collection mechanisms, one of which is withholding tax. This concept shifts the obligation to deduct or collect tax to the income payer, rather than the recipient. This article aims to provide a comprehensive understanding of withholding tax, its types in Indonesia, and the inherent tax obligations in accordance with prevailing laws, particularly Law Number 7 of 2021 concerning Harmonization of Tax Regulations (UU HPP).

1. Introduction
Every transaction that generates income in Indonesia is potentially subject to income tax. In practice, tax collection is not always carried out directly by the government. The withholding tax mechanism, known locally as pajak potong/pungut (deducted/collected tax), is a system where the party paying the income has the obligation to deduct or collect a certain amount of tax from the income being paid, and then remit it to the state treasury. This system simplifies tax administration, accelerates state revenue, and reduces the risk of tax evasion.

2. Theoretical Overview and Legal Basis
2.1. Definition and Concept of Withholding Tax
Withholding tax is tax that is deducted or collected at its source, which is when the income is paid to the recipient. In this scheme, the Taxpayer (income recipient) does not have to remit the tax to the state themselves; instead, that obligation is transferred to the income payer, who is referred to as the Tax Deductor/Collector (Pemotong/Pemungut Pajak).
This mechanism creates a "collection agent" for the government. The payer is responsible for deducting a portion of the income to be paid, remitting it to the state treasury, and providing the recipient with a tax deduction slip (bukti potong). This deduction slip serves as a tax credit (kredit pajak) for the Taxpayer when filing their Annual Tax Return (SPT). The goal of this concept is to enhance the effectiveness of tax revenue, reduce the administrative burden on Taxpayers, and minimize the risk of tax avoidance.

2.2. Legal Basis for Taxation in Indonesia
The withholding tax system in Indonesia is strictly governed by a hierarchy of tax regulations. The main legal basis is Law Number 7 of 1983 concerning Income Tax (UU PPh), which has undergone several amendments, the latest and most significant being Law Number 7 of 2021 concerning Harmonization of Tax Regulations (UU HPP).
In addition to the Income Tax Law, there are more technical implementing regulations, such as:
 

• Government Regulations (PP): Elaborate in more detail the provisions in the Income Tax Law.
• Minister of Finance Regulations (PMK): Regulate the procedures for tax deduction, remittance, and reporting. For example, PMK sets the rates and types of services subject to Article 23 Income Tax (PPh Pasal 23).
• Director General of Tax Regulations (PER DJP) and Circular Letters (SE DJP): Provide more specific technical guidance and clarifications to tax officers and Taxpayers in carrying out their tax obligations.

3. Types of Withholding Tax in Indonesia
Withholding tax in Indonesia is divided into several types, categorized based on the type of income and the recipient's tax subject.

3.1. Income Tax Article 21 (PPh Pasal 21)
PPh Pasal 21 is levied on income related to employment, services, or activities received by Domestic Individual Taxpayers (Wajib Pajak Orang Pribadi dalam negeri).
 

• Objects of Income: Includes salaries, wages, honorariums, bonuses, allowances, and other compensation received by employees, non-employees, participants in activities, or pension recipients.
• Tax Deductors: Parties with the obligation to deduct PPh Pasal 21 include employers, government treasurers, pension funds, and event organizers.
• Rate and Mechanism: The progressive rates of Article 17 of the Income Tax Law are used: 5%, 15%, 25%, 30%, and 35%. The tax calculation is performed after gross income is reduced by certain costs and the Non-Taxable Income (PTKP), which varies depending on marital status and the number of dependents. Technical regulation of PPh 21 is currently governed by PMK Number 168 of 2023.

3.2. Income Tax Article 23 (PPh Pasal 23)
PPh Pasal 23 is levied on income derived from capital, services rendered, or activities organized, paid to Domestic Taxpayers (corporate or individual) other than income that has been deducted under PPh Pasal 21.
 

• Objects of Income: Dividends, interest, royalties, prizes/awards, rentals (other than land/building rentals), and compensation for management services, technical services, construction services, consulting services, and other services.
• Tax Deductors: Generally, government bodies, domestic corporate tax subjects, and Permanent Establishments (BUT) (Bentuk Usaha Tetap) are required to deduct PPh Pasal 23 when making payments.
• Rates:
  • 15% of the gross amount for dividends, interest (except deposit interest subject to Final PPh), royalties, and prizes/awards.
  • 2% of the gross amount for rentals and other income related to the use of assets, as well as compensation for services.

It is important to note that if the income recipient does not have a Taxpayer Identification Number (NPWP), the rate imposed is 20% higher than the normal rate.

3.3. Income Tax Article 4 Paragraph (2) (Final) (PPh Pasal 4 ayat (2))
PPh Pasal 4 paragraph (2) is imposed on certain income that is final in nature. This means the deducted tax cannot be credited against the Annual Income Tax calculation and is considered fully settled.
 

• Objects of Income: Examples include interest on deposits and savings, lottery prizes, income from land and/or building rentals, income from the transfer of rights over land and/or buildings, and income from construction services business.
• Tax Deductors: Generally, the party paying the income has the obligation to deduct this tax. Example: Banks deduct Final PPh on deposit interest paid.
• Rates: The rates vary depending on the type of income. For instance, 10% of the gross value for land and/or building rentals, and the Final PPh rates for construction services governed by PP Number 94 of 2010.

3.4. Income Tax Article 26 (PPh Pasal 26)
PPh Pasal 26 is levied on income received by Foreign Taxpayers (WPLN) (Wajib Pajak Luar Negeri) other than a Permanent Establishment (BUT) in Indonesia.
 

• Objects of Income: Dividends, interest, royalties, prizes and awards, compensation related to services, employment, or activities, as well as the after-tax profit of a BUT.
• Tax Deductors: Any corporation or individual in Indonesia that pays income to a Foreign Taxpayer.
• Rate and Mechanism: The standard PPh Pasal 26 rate is 20% of the gross income. However, this rate can be lower or even 0% if a Double Taxation Avoidance Agreement (P3B) or Tax Treaty exists between Indonesia and the WPLN's country of domicile. To utilize the P3B rate, the WPLN must submit a valid Certificate of Domicile (Surat Keterangan Domisili).

4. Obligation for Deduction, Remittance, and Reporting
For parties designated as tax deductors or collectors, there is a series of obligations that must be continuously fulfilled. Compliance is not limited to merely deducting the tax, but also involves remitting and reporting it to the Directorate General of Taxes (DGT/DJP).

4.1. Deduction/Collection Obligation
This obligation arises at the time of income payment or when the income becomes due, whichever occurs first. After deducting the tax from the income, the dedictor must create and issue a tax deduction slip (bukti potong) to the Taxpayer whose income was deducted. This slip is crucial as it serves as a valid proof of tax payment and will be used by the Taxpayer as a tax credit when filing their Annual Tax Return (SPT). In other words, this prepaid tax will reduce the amount of tax payable at the end of the tax year.

4.2. Remittance Obligation
The tax that has been deducted or collected must be remitted (disetorkan) to the state treasury. This remittance is done using a Tax Payment Slip (SSP) (Surat Setoran Pajak), or what is now more commonly known as a billing code, which can be paid through designated banks (bank persepsi) or post offices.
The due date for remittance (batas waktu penyetoran) has specific provisions, depending on the type of tax. Generally, the due date is on the 10th of the following month after the tax period ends. For example, tax deducted in July must be remitted no later than August 10th.

4.3. Reporting Obligation
Once remitted, the tax must be reported to the DGT. This reporting obligation is fulfilled through a Periodic Tax Return (SPT Masa). The report includes a recapitulation of all taxes deducted, remitted, and deduction slips created within one tax period (month).
The due date for reporting (Batasan waktu untuk pelaporan) the SPT Masa is generally the 20th of the following month after the tax period ends. With technological advancements, reporting must now be done electronically through platforms provided by the DGT, such as e-Filing for SPT reporting and e-Faktur for Value Added Tax (PPN), which is often related.

5. Penalties and Legal Consequences
Negligence or non-compliance in fulfilling withholding tax obligations can lead to serious legal consequences, including both administrative penalties and criminal sanctions.

5.1. Administrative Penalties
Administrative penalties are governed by Law Number 28 of 2007 concerning General Provisions and Tax Procedures (UU KUP). These penalties are imposed if the Taxpayer fails to properly execute their obligations, such as:
 

• Fines/Penalties (Denda): Imposed for late or non-filing of the Periodic Tax Return (SPT Masa).
• Interest (Bunga): Imposed for late remittance of the tax that has already been deducted. The current interest amount is calculated based on the central bank's benchmark rate plus an uplift factor determined by the Minister of Finance.
• Increase Penalty (Kenaikan): Imposed if the Taxpayer fails to deduct or collect the tax that should have been due. This penalty can be a certain percentage of the under-deducted or uncollected tax.

5.2. Criminal Sanctions
If there is an element of deliberate intent (unsur kesengajaan) resulting in losses to state revenue, the Taxpayer may be subject to criminal tax sanctions. These penalties are regulated in the Tax Procedures Law (UU KUP) and can include imprisonment or substantially larger fines. Examples include intentionally failing to remit deducted tax, or creating false deduction slips to evade tax obligations. While criminal sanctions are a last resort, their existence demonstrates the government's seriousness in enforcing tax compliance.

6. Conclusion
6.1. Summary
Withholding tax is a vital pillar of the Indonesian tax system, functioning as a mechanism for tax deduction or collection at the source of income. This scheme shifts the tax remittance responsibility from the income recipient to the income payer, who acts as a collection agent for theTax is the backbone of state development. To ensure effective tax revenue collection, the government implements various collection mechanisms, one of which is withholding tax. This concept... government. This article has outlined the four main typesTax is the backbone of state development. To ensure effective tax revenue collection, the government implements various collection mechanisms, one of which is withholding tax. This concept... of withholding tax in Indonesia: PPh Pasal 21 for employment-related income, PPh Pasal 23 for income from capital and services, PPh Pasal 4 paragraph (2) which is final, and PPh Pasal 26 for income received by Foreign Taxpayers. Each of these taxes has different objects, rates, and legal bases, but all demand the same obligations: timely deduction, remittance, and reporting.

6.2. Implication
Taxpayer understanding and compliance with withholding tax regulations are crucial. For the deducting party, negligence can lead to administrative penalties like fines or interest, or even criminal sanctions if deliberate intent is proven. For the income recipient, a valid deduction slip is the key to utilizing the tax credit, which will ultimately reduce the tax payable at the end of the year. Macro-economically, this compliance ensures the sustainability of state revenue, which is vital for financing national development and public services. Thus, withholding tax is not just a legal obligation, but also a strategic instrument in maintaining the country's fiscal stability.