# Permanent Establishment in Malaysia — Treaty Test and Domestic Test

> How Malaysia's domestic place-of-business test in s.12(3) and (4) differs from the treaty definition of a permanent establishment, and what happens when a foreign employer has staff working from Malaysia.

- Category: taxation
- Language: en
- Status: published
- Updated: 2026-07-20
- Canonical: https://negaraku.md/en/taxation/permanent-establishment

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Malaysia writes its permanent establishment rule twice, and the two versions do
not match. The domestic version in s.12(4) of the Income Tax Act 1967 is a
list — a place of management, a branch, an office, a factory, a workshop, a
warehouse, a building site, a farm, a mine — with no minimum duration and no
carve-out for warehousing, purchasing or information gathering. The treaty
version in Article 5 of most agreements is the same list plus a six-month
threshold for construction and a preparatory-or-auxiliary exclusion.

If there is no treaty, you get the domestic version, and it is harsher than the
one every international tax textbook describes.

## The domestic test

Section 12(1)(a) is the starting point: so much of the gross income from a
business as is **not attributable to operations of the business carried on
outside Malaysia** is deemed derived from Malaysia. That is an
operations-attribution rule, and it predates any place-of-business concept.

Section 12(3) then adds, notwithstanding subsections (1) and (2), that income of
a person from a business **attributable to a place of business in Malaysia** is
deemed to be gross income derived from Malaysia.

Section 12(4) defines the term. A place of business **includes**:

| | |
| --- | --- |
| (a) | a place of management |
| (b) | a branch |
| (c) | an office |
| (d) | a factory |
| (e) | a workshop |
| (f) | a warehouse |
| (g) | a building site, or a construction, an installation or an assembly project |
| (h) | a farm or plantation |
| (i) | a mine, an oil or gas well, a quarry or any other place of extraction of natural resources |

“Includes” is not exhaustive. And without prejudice to that generality, a person
is **deemed** to have a place of business in Malaysia if that person:

- **(i)** carries on **supervisory activities** in connection with a building or
  work site, or a construction, installation or assembly project; or
- **(ii)** has another person acting on his behalf who —
  - **(A)** habitually concludes contracts, or habitually plays the principal
    role leading to the conclusion of contracts that are routinely concluded
    without material modification;
  - **(B)** habitually maintains a stock of goods or merchandise in that place of
    business from which such person delivers goods or merchandise; or
  - **(C)** regularly fills orders on his behalf.

Three differences from the standard treaty article are worth stating plainly,
because most published Malaysian commentary glosses over them:

**No duration threshold.** A two-week installation job is a place of business
under paragraph (g) on the face of the statute.

**No preparatory-or-auxiliary exclusion.** A warehouse used solely to store
goods is listed at (f) without qualification. The treaty version usually excludes
it.

**The wide agency wording is already domestic law.** Limb (A) uses the
post-BEPS formulation — “habitually plays the principal role leading to the
conclusion of contracts that are routinely concluded without material
modification” — not the older “authority to conclude contracts” test. Malaysia
put the MLI Article 12 language into its own statute.

## Where the treaty takes over

Section 132 gives a double taxation agreement effect notwithstanding anything in
the Act. So for a resident of a treaty partner, Malaysia may tax business profits
only if there is a permanent establishment under that treaty's Article 5, and
only to the extent the profits are attributable to it.

The Malaysia–Japan agreement is representative. Article 5(1) uses the classic
fixed-place-of-business formula. Article 5(2) lists a place of management,
branch, office, factory, workshop, and mine or place of extraction. Article 5(3)
makes a building site, construction or installation project, or supervisory
activities in connection with one, a permanent establishment **only if it lasts
more than six months**.

Since 1 June 2021 the Multilateral Instrument overlays most of Malaysia's
network. Where both parties adopted them:

- **MLI Article 13** replaces the specific-activity exemptions so that storage,
  display, stock maintenance, purchasing and information collection are excluded
  only where the activity is genuinely of a preparatory or auxiliary character,
  and adds an **anti-fragmentation rule** that aggregates activities of closely
  related enterprises at the same or different places in the same state.
- **MLI Article 12** extends the agency permanent establishment to a person who
  habitually plays the principal role leading to contract conclusion, and
  narrows the independent-agent exclusion so it does not cover a person acting
  exclusively or almost exclusively for closely related enterprises.

Both apply to the Malaysia–Japan treaty. They do not apply universally — LHDN
lists treaties not modified by the MLI, including Bangladesh, Brunei, Cambodia,
Norway, the Philippines, Sri Lanka, Sudan and Switzerland. Read the synthesised
text for the specific treaty before advising on it.

## The remote-employee scenario

This is the question that now arrives weekly, and it has two separate answers
that get conflated.

**The employee is taxed in Malaysia regardless.** Under s.13(2)(a) employment
income is derived from Malaysia for any period the employment is exercised in
Malaysia. Someone sitting in Petaling Jaya writing code for a foreign employer
is exercising the employment here. That liability exists whether or not the
employer has a permanent establishment. Residence status then determines the
rate and reliefs.

**The employer's exposure is a separate question, and it is fact-driven.**
Section 12(4) offers two routes:

- **Fixed place.** A home office is not automatically a place of business, but a
  place of management is listed at (a) and an office at (c). Where the employer
  pays for the space, requires it to be used, or where the person working there
  is the enterprise's decision-maker for the region, the fixed-place limb becomes
  seriously arguable.
- **Agency.** Limb (ii)(A) does not require formal signing authority. A sales
  lead who negotiates the commercial terms that head office then rubber-stamps
  is playing the principal role leading to contracts routinely concluded without
  material modification.

Rank the risk by function, not by headcount. A single country manager or sales
head is a higher risk than ten back-office engineers. A support role that never
faces a customer and takes no strategic decisions is the safest position, though
the domestic rule's lack of a preparatory-or-auxiliary exclusion means even that
is not the clean answer it would be under a treaty.

Where the employer is resident in a treaty country, the treaty analysis governs
and the preparatory-or-auxiliary exclusion and independent-agent test come back
into play. Where it is not — a Hong Kong entity dealing with a jurisdiction
outside the network, or an entity in a country with no Malaysian agreement — you
are left with s.12(3) and (4) alone.

## What a permanent establishment then has to do

Once it exists, a permanent establishment is a taxpayer. It registers with LHDN
and files, attributing profits to the Malaysian activity. Under the Malaysia
Transfer Pricing Guidelines 2024, a permanent establishment with a controlled
transaction must prepare **full** contemporaneous transfer pricing documentation
regardless of the RM30 million and RM10 million thresholds that apply to
everyone else — the dealings between the head office and the Malaysian
establishment are exactly what the file has to price.

## Common mistakes

**Applying the treaty six-month rule with no treaty in place.** Section 12(4)(g)
has no duration test. A short project for a non-treaty enterprise can be caught.

**Assuming a warehouse is safe.** It is listed in s.12(4)(f). The exclusion is a
treaty feature, and after MLI Article 13 it is conditional even there.

**Treating signing authority as the agency test.** The domestic wording captures
the person who leads the negotiation, not only the person who signs.

**Confusing the employee's tax with the employer's.** They are independent. The
employee can be fully taxable in Malaysia with no permanent establishment, and a
permanent establishment can exist without any local payroll.

**Reading the original treaty text without the synthesised text.** For most of
Malaysia's network the printed Article 5 is no longer the operative rule.

## What's next

Map every point of contact your enterprise has with Malaysia — people, premises,
stock, projects, agents — and test each one against s.12(4) first, then against
the treaty article and its synthesised text. Where a permanent establishment is
likely, deal with registration and profit attribution together rather than
sequentially, because the attribution position drives the transfer pricing file
you will be asked for on 14 days notice.

`dta-network` tells you whether a treaty exists and whether it has been modified
by the MLI. `transfer-pricing-documentation` covers the file a permanent
establishment has to hold.

## Sources

- Income Tax Act 1967 (Act 53), reprint as at 21 May 2024 — s.12 and s.13(2) — https://www.hasil.gov.my/wp-content/uploads/20240521-akta-cukai-pendapatan-1967-akta-53.pdf (LHDN)
- Instrumen Multilateral (MLI) — https://www.hasil.gov.my/antarabangsa/instrumen-multilateral-mli/ (LHDN)
- Synthesised text of the Malaysia-Japan double taxation agreement and the MLI — https://www.hasil.gov.my/wp-content/uploads/st-japan.pdf (LHDN)
- Malaysia Transfer Pricing Guidelines 2024 — documentation for a permanent establishment — https://www.hasil.gov.my/wp-content/uploads/malaysia-transfer-pricing-guidelines-2024.pdf (LHDN)

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