Perhaps you haven’t heard of a capital statement. Recently, LHDN requested many individuals (many of them were directors and chief executives like yourself) to complete and submit immediately two forms, CP102 (Statement of Personal and Private Expenses) and CP103 (Capital Statement).
You’re wondering what are these forms, and why only some are asked to complete them. A capital statement is a way for LHDN to verify whether the income figure that you declared to them is reasonable and correct.
Components: Assets, Liabilities, Incomes, and Expenses
A capital statement consists of four components. Those are assets, liabilities, income and expenses.
Assets cover everything with economic value that you own, which includes property, motor vehicles, investment in quoted shares, unquoted shares, unit trusts, balance in bank accounts, and loans provided to company.
Liabilities covers everything with economic value that you owe, which includes property loan amount, hire purchase loan amount, loan from company, outstanding amount of credit cards etc.
Expenses includes personal and family living expenses, household expenses, food, clothes, travels, and insurance premiums.
Income consists of taxable income, tax exempt income, capital gain, gifts, and inheritance.
Assets + Expenses = Liabilities + Incomes
Incomes and liabilities (i.e. you borrow money and so receive it) represent cash inflows, while assets (i.e. you spend money on buying assets) and expenses represent cash outflows.
The amounts spent on acquiring assets and paying expenses must be funded from income generated and liabilities incurred by borrowing from others.
Thus, assets-expenses and liabilities-incomes amounts should tally. If your assets-expenses amount actually outweighs your liabilities-incomes amounts, the discrepancy could represent undeclared income.
Perfect Tallies Are Rare
However, in practice, perfect tallies rarely happens as it is often difficult to prepare the statement with complete accuracy. The difficulties that you’d face mainly stems from the lack of accurate documents. It could be due to inadequate record retention practices.
Common issues that you’d face include the following:
1. incomplete supporting documents and details on past transactions
It’s rare to find individuals, not organisations, retaining every receipt, invoice, and other records for periods longer than a few days, a few weeks, or a few months at the most. Hence, without those documents, your capital statement will likely be missing some or many transactions that lack supporting documents, leading to your spending being more than the money that you had.
2. undocumented cash-paid expenses
Apart from receipts, many daily personal transactions, such as purchasing food from a street hawker, would normally be done without the issuance of receipts or invoices. This means that you’d have guess how much was spent. If payments were by cashless means (e.g., credit cards and e-wallets), you could use figures from their statements to help you estimate your spending better, provided that they are for the same items.
3. multipurpose bank account
Although it’s usual practice to have separate bank accounts for companies and individuals, some individuals who own and run their own companies would use their own private bank accounts to do business for their companies. The problem with this practice is that separating which transactions are personal and which are company-related can be impossible. Thus, relying on those figures without separating yours from your company’s could distort your capital statement calculation.
4. calculating gains/loss on sale of investments
Capital gains or losses are not taxable under income tax. In order to prove that a gain is in fact capital gain, you’d need to furnish solid supporting documents proving just that. However, in practice, investment statements may not always provide sufficient details to derive the correct gain amount. This would prove to be a problem if it were used to fund assets-expenses spending as it would be difficult for you to prove that those were funded by capital gain, and not income.
5. calculating gains/loss from overseas investments
Estimating income derived from overseas investments because the amounts depends on foreign exchange rates, and those fluctuate hourly. Thus, if you have not kept the documents recording the actual amount of income received, you’d risk calculating the wrong amount on your own. Like capital gains, if the figure that you calculate fall short of the actual income/gain you’ve received, you’d have a discrepancy that you’d have to explain to LHDN.
Capital Statement = Tax Health Check
First-timers will always struggle to prepare their capital statements correctly. It’s true that with time, you’ll experience more, learn more, and, thus, be able to do it more correctly. However, LHDN never sees this as a learning exercise.
Regardless of whether you’ve prepared it correctly, as long as a discrepancy is detected, you’d be asked to explain and substantiate it. Failing to do so tantamount to saying that you’ve failed to declare income to LHDN, a serious offence that could lead to fines and imprisonment.
You don’t even have wait for LHDN to ask you first. Since it could reveal a discrepancy, it could actually reveal your tax risk. Knowing any risk is the first step towards mitigating it.
Applying this to tax risks, knowing before hand whether you have a discrepancy means that you could prepare for future LHDN requests by tracking down the root causes of gap, and obtaining all needed supporting documents, while you have the time.
Once you have settled those, you could improve your record retention practices in order to avoid the difficulties mentioned in getting a perfect tally. Therefore, a capital statement isn’t merely a LHDN tool for catching you off guard. It’s also a great way for you to perform health check on your tax compliance.
A capital statement is only one way to do your tax health check. Another way is what is known as a mean test or a net worth analysis. By now, you’re probably wondering how to get started.
It isn’t wrong for you to seek professional help in doing your tax health check. After all, you’re busy making a living for yourself and your loved ones. Why trouble yourself with complex calculations when there are professionals who could do that for you?
Please feel free to reach us for help on doing your tax health check.