Foreign Direct Investment represents one of the main drivers for growth in Vietnam, and contributes to making the country the fastest growing in Southeast Asia. Foreign Investors, as they expand into Vietnam, need to be aware of the hidden risks and “small” issues that can become key distractions for businesses in losing their momentum and ultimately becoming unsuccessful.
In this article, we seek to highlight some of these issues, and turn attention towards the key factors investors should be aware of when establishing operations in Vietnam and in the first year of activity.
1. Make sure you create the appropriate corporate structure
Establishing a company in Vietnam, opening a Representative Office, or starting a Project Office on behalf of a foreign investor can be an intimidating or confusing exercise for foreign investors.
One of the mistakes investors often make in the initial steps of structuring companies is to use a local nominee. This involves establishing a company using a local individual as the register owner, based on the misconception that the process would be easier and cheaper. This concept can actually be far from the truth, given the potential liabilities and risks involved with using nominees and that there is no recognition in law of nominees in Vietnam, this structural choice can dramatically trap assets and capital in Vietnam, limit profit distributions and restrict funds transfers outside Vietnam.
The Limited Liability Company (“LLC”) is the structure most commonly used by investors when entering Vietnam, as it offers relative simplicity and flexibility, yet allows 100% foreign ownership for a wide range of business lines in accordance with Vietnam’s commitments when entering the World Trade Organisation.
2. Creating the correct Bank Accounts for your Vietnamese Corporate Entity
As a foreign investor, when setting up a foreign owned company in Vietnam the two important bank accounts are: Direct Investment Capital Account (“DICA”) and the Current Accounts. A foreign invested entity can have multiple Current Accounts with various currencies and at various banks, however it can only have one DICA, which is to be used for transferring loans, capital and dividends into and out of Vietnam.
3. Charter Capital injection deadline
The company’s Investment Capital is comprised of its Charter Capital and Loan Capital. The Charter Capital is the amount of funds that Members or Shareholders contribute or commit to contribute to the company and must be fully contributed within 90 days from the date on which the company is established.
Failure to complete the transfer of the Charter Capital into the Direct Investment Capital Account by foreign investors within this timeframe will likely lead to having the account suspended for any further transactions, with limited options for accessing the capital or funding the business from that point forward.
4. Transferring funds in and out of the Structure
In Vietnam, most business sectors allow for foreign ownership. If the company is established by, or transferred to, a foreign owner correctly, the foreign party will be entitled to bring their investment capital into the country through a Capital bank account. Where investment capital is brought in through the Capital bank account, upon sale or wind-up of the company the funds can be sent back out of the country (provided correct taxes are paid on any profits).
Loans from abroad should also be brought into the company through a Capital bank account (or through a dedicated Overseas Loan Account established at a local bank in certain circumstances). Documented correctly, loans can be repatriated abroad back through these bank accounts to where the funds came from, and interest can also be paid and repatriated on the loans.
Funds can also be sent abroad for payment of foreign services, provided that Withholding Taxes are paid on the services (usually a 10% withholding payment, with the actual amount varying depending on the specifics of the services provided). Where taxes are paid, and where the services have appropriate supporting documents to evidence the service provided, the company can remit the payment abroad. The payment will also be tax deductible in Vietnam to the Vietnamese company if the correct steps are followed.
For investors that made structural errors when initially establishing their company (for example, loans into Vietnam that didn’t go through the correct bank accounts), there are corrective actions that can often be applied to fix certain elements of the trapped cash. However, the common result is that there will usually still be trapped cash in Vietnam in these scenarios. Where businesses are very successful in a short period, there is often significant trapped funds in Vietnam, and which can be truly a frustrating exercise for a foreign investor in Vietnam.
5. Do not overlook the Compliance factor
Where investors don’t follow their compliance obligations correctly in Vietnam, the corrective actions are protracted, costly, and distracting. Penalties alone can be costly, however keep in mind that there are provisions in Vietnamese law that can limit certain rights for timing or lodgement concessions (ie, deferrals on import taxes), or exclude you from entire systems (like creditable VAT), and being on a “blacklist” can cost your business more than you bargained for.
Vietnam’s compliance environment is complex and constantly changing. The possibility of an organisation having one single person knowing everything and getting everything right is a fallacy in Vietnam – but a fallacy that we see perpetuated time and time again. The successful approach is to never rely on one-person, and never rely on the premise of “self-review”; always have multiple people in an enterprise checking and reviewing, to ensure you are not going to be caught out later. This can be as simple as having an external party review the work of your internal staff from time to time, or can be sophisticated as an internal audit team reviewing compliance across your entire organisation.
6. The first Audit and Year End Tax Finalisations are critical
All foreign invested companies in Vietnam must undertake an annual audit, and the audit report must be lodged with the tax authorities along with their annual tax finalisation within 90 days after tax year end, (in most cases, 31 March). This is a relatively tight timeframe, especially with Tet arising during this period, therefore it is important that investors included this in any global audit programs for their other companies and negotiate with your audit firm to meet these deadlines.
The audit timeline is one of the most important compliance dates for Vietnamese enterprises in order to submit their annual finalisation reports, including financial statements, with various government authorities.
Companies should also plan for preparing the finalisation of the personal income tax for their staff (including foreign staff) – with the appropriate authorisation letters in place – within 90 days from the 31 December year end (31 March). Also consider whether any additional tax may be payable, and whether the employee or employer will be liable for the payment. For some staff, tax finalisation will be voluntary, but it needs to be planned for appropriately.
Enterprises are required to have submitted the following annual taxation reports by their respective deadlines:
- Corporate Income Tax Finalisation;
- Personal Income Tax Finalisation declaration; and
- Annual Transfer Pricing and Related Party declarations and submissions (if required);
In Vietnam, the term “Financial Statements” refers to the set of financial documents comprising:
- Balance Sheet;
- Profit & Loss Statement;
- Cash Flow Statement; and
- Notes to the Financial Statements;
7. Tax Deductions, Benefits and Income
Tax incentives in Vietnam can take several forms, based around encouraged sectors, locations and project scales, and are granted to new investment projects. Additionally there are also certain tax benefits for staff in Vietnam that can make attractive salary packages.
However, Investors must be aware of the non-deductible expenses on a corporate level, which can create long-term cash-flow and compliance issues if not dealt with appropriately.
From a corporate perspective, Non-Deductible Expenses Include:
- Depreciation expenses for fixed assets not following regulations, i.e.
- not for business purposes;
- not supported by appropriate documentation; and
- exceeding the regulated depreciation rates;
- Labor expenses recorded but not actually paid or amounts not stipulated under labor contracts, collective labor agreements or the company’s financial policies;
- Staff welfare expenses exceeding one-month’s average salary;
- Costs of raw materials, supplies, fuel, power and goods exceeding reasonable consumption levels detailed by the Government;
- Interest on loans from non-banks exceeding 1.5 times of the interest rate announced by the State Bank of Vietnam;
- Interest expenses exceeding 20% EBITDA for enterprises with related party transactions;
- Interest on loans corresponding to the portion of charter capital not yet contributed;
- Periodical accrued expenses not fully paid at the end of the period;
- Provisions for financial investment losses, inventory devaluation, bad debts, product warranties or construction work, not in accordance with the prevailing regulations;
- Unrealised foreign exchange losses due to the year-end revaluation of foreign currency items other than accounts payable;
- Overhead costs allocated to a Permanent Establishment by foreign companies exceeding the amount determined based on the revenue-based allocation ratio;
- Contributions to voluntary pension funds and purchase of voluntary pension insurance or life insurance for employees exceeding VND3 million per person/month;
- Administrative Penalties, fines and late payment interest;
- Donations other than certain donation contributions for education, health care, natural disaster or building charitable homes;
Non-Taxable Benefits & Income on a Personal Level
Although the definition of taxable income for individuals is broad, there are certain defined benefits that are excluded from taxation. These benefits include:
- Once per year round-trip airfares for expatriate employees returning home, or Vietnamese working abroad returning.
- School fees (excluding tertiary) for children of expatriate employees or for Vietnamese working abroad.
- Mid-shift meals (subject to a cap in provided in cash).
- One-off relocation costs for expatriates coming to Vietnam for employment, and for Vietnamese working abroad.
- Uniforms (subject to a cap if provided in cash).
- Benefits provided in kind on a collective basis (eg, memberships) where an individual is not identified as beneficiary.
- Housing benefits provided to foreign employees being exempt, other than for the first 15%.
- Allowances or benefits for weddings or funerals.
Additional Income that is not taxable for Individuals includes:
- Interest earned on deposits with banks and credit institutions.
- Payments from life and non-life insurance policies.
- Retirement pensions paid from the Social Insurance Fund.
- Transfers of property between direct family members.
- Inheritances and gifts from direct family members.
- Monthly retirement pensions from voluntary insurance schemes
- Income from winnings at Casinos.
8. Have a clear business goal and an exit strategy
When establishing a business presence in Vietnam, the parent company or founder should have a clear strategy in mind from the business perspective of investments, ownership and potential exit options – even if the strategy is not one based around an exit. Therefore, using these factors, the first key decision relates to the initial structuring options of the company: offshore/onshore holding entities, locally based entities covering only the regional market or a global focus, joint venture or partnership with another entity, Representative Office or Project Office.
All of the above are critical decisions for a market entry strategy and depending on how these initial processes are undertaken, they can have a major impact on the business growth, profitability or future sale.