A foreign enterprise is taxable in Malaysia on income attributable to a place of business here under s.12(3) of the Income Tax Act 1967. Section 12(4) lists what counts, including a place of management, branch, office, building site and a dependent agent who habitually concludes contracts. Where a treaty applies it overrides, and the treaty definition is usually narrower because it carries a time threshold for construction sites and an exclusion for preparatory or auxiliary activity.
- Section 12(3) taxes income attributable to a place of business, and s.12(4) defines it with no preparatory-or-auxiliary exclusion
- The domestic list has no time threshold for a building site — a treaty typically imposes six months or more
- A dependent agent creates a place of business by habitually concluding contracts, playing the principal role leading to them, holding stock for delivery, or regularly filling orders
- Supervisory activities on a construction or installation project are enough on their own under s.12(4)(i)
- The Multilateral Instrument has widened the agency and specific-activity rules in most Malaysian treaties since 1 June 2021
- A remote employee working from Malaysia is a real risk under s.12(4), and the employee's own salary is Malaysian-sourced regardless
Who this applies to: Foreign companies operating in Malaysia without a subsidiary, Malaysian groups with cross-border secondments, and any employer with staff working remotely from Malaysia.
On this page
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.
Does a foreign company need a permanent establishment to be taxed in Malaysia?
Not under domestic law alone. Section 12(1)(a) already deems gross income from a business to be derived from Malaysia so far as it is not attributable to operations carried on outside Malaysia. Section 12(3) then adds that income attributable to a place of business in Malaysia is deemed derived from Malaysia. Where a double taxation agreement applies, the treaty permanent establishment article limits Malaysia's right to tax business profits.
Does a remote employee create a permanent establishment in Malaysia?
It can. Section 12(4) includes a place of management and an office, and deems a place of business to exist where a person acting on the enterprise's behalf habitually concludes contracts or habitually plays the principal role leading to their conclusion. A single engineer writing code is a weaker case than a country manager closing sales, but the analysis is factual, not automatic in either direction.
How long can a construction project run before it becomes a permanent establishment?
Under domestic law, there is no minimum. Section 12(4)(g) lists a building site or a construction, installation or assembly project without any duration test, and s.12(4)(i) catches supervisory activities in connection with such a project. Treaties impose a threshold — the Malaysia-Japan agreement uses more than six months. Check the specific treaty and its synthesised text.
Is a Malaysian subsidiary a permanent establishment of its foreign parent?
Not by itself. A subsidiary is a separate person and its own taxpayer. It becomes a permanent establishment risk for the parent only if it acts on the parent's behalf in a way that satisfies the agency limb of s.12(4) or the treaty agency article, or if the parent has its own fixed place of business at the subsidiary's premises.
What happens if a permanent establishment exists but was never registered?
The income attributable to it has been chargeable all along. LHDN can raise assessments for prior years, and the payer that failed to withhold on contract payments may face the s.107A increase and disallowance under s.39(1)(i). Registration and voluntary disclosure are the practical route; the exposure does not disappear because no file number was opened.
The following are deliberately unstated or described only qualitatively until confirmed by a subject-matter expert:
- LHDN has not issued a Public Ruling dedicated to permanent establishment; the domestic analysis here is taken from the Act itself. Positions on attribution of profits to a Malaysian permanent establishment rest on practice and the OECD commentary rather than a published Malaysian ruling
- Malaysia's full list of MLI reservations and notifications on Articles 12 and 13 was not retrieved from a Malaysian government source. The Malaysia-Japan synthesised text confirms both articles apply to that treaty pair; do not generalise to another treaty without reading its own synthesised text
Sources
- Income Tax Act 1967 (Act 53), reprint as at 21 May 2024 — s.12 and s.13(2) — LHDN
- Instrumen Multilateral (MLI) — LHDN
- Synthesised text of the Malaysia-Japan double taxation agreement and the MLI — LHDN
- Malaysia Transfer Pricing Guidelines 2024 — documentation for a permanent establishment — LHDN
Change history
| Version | Date | Change | By |
|---|---|---|---|
| 01.00 | 20 Jul 2026 | Approved and published. | — |