To accelerate forest plantation development in Malaysia, incentives were introduced under the Promotion of Investment Act (PIA) 1986
and the Income Tax Act 1975 (Khaziah 1992). Under the PIA 1986, the two incentives
offered were pioneer status (PS) and an investment tax allowance. Those who
planted timber, rattan and bamboo, which were designated promoted activities
under the PIA 1986, were granted PS. The Income Tax Act 1975 provided an allowance
to investors in forest plantations.
Pioneer status (PS)
Before 11 January 1991, PS provided full exemption from income and
development taxes for a period of five
years. Since 1 November 1991, tax relief has been in the form of a 70 percent
exemption from a company’s statutory income. This means that a company granted
PS would have to pay income tax of 35 percent and development tax of two percent on 30 percent of its statutory income. Hence the company
is taxed at a rate of 11 percent on its overall income. A company granted
PS would be eligible for the 70 percent exemption for a period of
five years from the date of its first sale.
Investment Tax Allowance (ITA)
The ITA is an allowance of 60 percent of the qualifying capital expenditure
incurred within five years from the date of approval of a project. In the case of agriculture,
the term qualifying capital expenditure has been expanded to include the following:
According to Khaziah (1992), the ITA is provided as a deduction against
statutory income. In any given year, the amount deducted is limited to 70
percent of statutory income for that year. It appears that the incentives
have not encouraged the private sector to invest in forest plantations in
Peninsular Malaysia (Khaziah 1992). An additional option that was proposed
to attract investors was “group relief” under the ITA (Khaziah 1992). Group
relief in this context refers to offsetting losses with income from other
profitable ventures of a company’s subsidiaries.
A revised version of the incentives has extended the PS for another
five years for companies processing agricultural products, provided
they fulfill certain criteria determined by the Ministry of Trade and Industry
(Ministry of Trade and Industry 1988). The maximum rate was raised from 60
to 100 percent for the ITA. However, the 100 percent ITA can be granted only
to companies that produce promoted products or are engaged in promoted activities
(listed in Appendix 3 of the incentive package).
There are three major risks related to investments in commercial tree planting
(CTP ):
Physical risk
Major physical risks involved in CTP are the selection of the right species of
tree to plant in certain soil types, the growth rates of the trees, the physical
properties of the timber, the species’ susceptibility to pests and diseases,
fire, expected recovery rates and the type of silvicultural regimes required.
In general, tree plantations are exposed
to a higher risk of pest infestations and diseases than trees in the natural
forest, because of the homogeneity of plantations. Poor seedling quality also
increases susceptibilities. As large-scale planting requires a high number
of seedlings to be available within a period (i.e. two to three months), it is sometimes
difficult to obtain quality seedlings. The planting season usually starts prior to the onset of the wet season to ensure higher survival rates.
At least one million seedlings would be required to plant an area of 1
000 ha. Under these circumstances, it is not surprising that many CTP activities used
poor-quality seedlings.
Fire is another major physical risk. Bushfires are especially common during the dry season (the El Niño
effect causing exceptionally long dry spells).
Market risk
Unlike agricultural products, which can be produced for sale within
a short period of time (from a few months to one to two years), most forest
trees can only be harvested after 15 years. Rotations depend on the management
objective and future markets are inherently uncertain. For example, there
is currently a high demand for rubberwood sawntimber. However, in another
15 years preference may shift to dark-coloured
timber. It is difficult if not impossible for investors to change species
in the middle of the rotation.
Financial risk
Financial risk is probably the most important factor explaining investor interest
in forest plantations. The high financial risk associated with CTP is due
to the long gestation period and the payback period. The long gestation period
means that investors have to set aside sufficient capital for all plantation
management activities until the final harvest. Many investors in CTP are currently
facing cash flow problems.
The physical and market risks can be overcome through proper planning and implementation.
However, the financial risks and the uncertainty about future revenues have
discouraged new investments in CTP. The existing incentives available for
CTP have not addressed the cash flow problem adequately.
Incentives for forest plantation development have been discussed for many years
and there is a broad agreement that the existing incentives are unattractive
as they do not address the cash flow problems adequately.
According to Mohd Shahwahid and Saroni (1992) four
factors explain the lack of interest in forest plantations. First, there is
a shortage of suitable and sufficiently large areas in strategic locations.
Also, land is a state prerogative and it is difficult to obtain information
on its availability. Second, if land is rented from the state, trees need
to be planted and infrastructure developed within two years of signing a contract.
This is sometimes difficult because of unforeseen problems. Third, interest
rates for loans for tree planting ventures are not subsidized. Finally, the
existing incentives have been designed for crops with shorter rotations and
do not address adequately the long-term investments.
Norini (1994) stressed the importance of establishing forest plantations not
only for timber production but also for recreational uses or wildlife habitats.
Such multiple uses may not only help investors in forest plantations to have
a positive cash flow but may also make the project more financially viable.
In other words, when issuing land use permits, governments should consider
the multiple uses that can be derived from plantations.
As mentioned above, tax incentives for CTP are provided for in the PIA 1986,
the ITA 1967, Customs Act 1967, Sales Tax Act 1972 and Excise Act 1976. The
PIA and the Income Tax Act are of particular relevance to CTP.
The qualifying capital expenditure is designed for approved agricultural
projects (Schedule 4A). Further, the qualifying status is subject to the following
conditions (Income Tax [Approved Agricultural Projects] Order 2001):
The forest plantation project is at least 50 ha;
The period/rotation is six to 50 years depending on
the type of species specified in the Second Schedule (73 species of tree,
rotan (Calamus) and poring bamboo (Gigantochloa levis).
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Box 1. Definition of production day “Production day” for single and multiple crop plantations with the
same maturity would be from the date of the first harvest or subsequent
harvests of the first establishment block. For plantations cultivated with more than one species of timber with different
maturities, the companies can determine the “main/dominant crop” and
“production day” will commence from the date of first harvest or subsequent
harvests of the wood from the first establishment block. Production
of latex does not qualify for any tax exemption. For plantations cultivated with cash crops, separate production days for the trees and the cash crops are considered, provided the cash crops cultivated are “promoted activities” under the Promotion of Investments Act, 1986. The pioneer status for the cash crops would be the 70 or 85 percent exemption from the statutory income as the case may be. Source: Woon and Lee (2001) |
The current incentives are not effective for CTP and
do not benefit investors, as they do not address cash flow problems associated
with the long gestation period.
Weaknesses of the PS
The PS provides a 100 percent tax relief for an initial period of five years
starting from “production day” and an additional five years after expiry of
the first period. In the CTP, the production day may be 15 years or more from
the planting. This means that a company has to wait for 15 years or more before
it benefits from the tax relief, which is used to offset the profits earned
from tree harvesting (illustrated in Figure 4). In many instances, the rotation
may be even 25 years or more. Under such circumstances, an investor would
rather invest in agricultural projects, which provide a return to investments
much faster.
The existing ITA allows qualifying expenditure to be given for the
first five years only, whereas maintenance of planted areas goes beyond year
5 until the final harvest. Although the ITA allowance can be used to offset
against statutory income and any unused portion can be carried forward indefinitely
until all such balance is used up, it would take more than 15 years if the
investor does not have any other sources of income in the interim. In this
case, the ITA provides only benefits once profits are made. The same applies
to pioneer status. Hence, the ITA is also not useful to investors during the
management of the plantations.
The recent Income Tax (Approved Agricultural Projects) Order 2002 has included
forest plantation as an approved agricultural project, thus qualifying for
tax relief effective from the year of assessment 1999. However, this incentive
is not available if a company has been granted PS or ITA (to be offset against
statutory income). In this case, PS, ITA and Schedule 4A are mutually exclusive.
If the company chooses Schedule 4A then it is not entitled to PS or ITA.
Unused qualifying capital expenditure can be carried forward to the next assessment
year and until all of it has been fully written off. This is especially useful
if the company is involved in other activities that are generating income.
The major drawback of Schedule 4A, is that to qualify, the CTP needs to be at
least 50 ha. This condition effectively excludes thousands of small-scale
investors who may be interested in planting trees on areas far less than 50
ha.
The costs of preparing a Forest Management Plan and Annual Operating Plans, cost
of environmental impact assessment and all costs and fees related to the procurement
of timber certification are currently not classified as qualifying capital
expenditures.
The latest development regarding incentives is that the Ministry of Finance is
willing to consider additional incentives on a case-by-case basis, according
to the special incentives listed in the Budget 2000. This was stated
in a letter forwarded to the Secretary of the Ministry of Primary Industries
from the Secretary, Department of Treasury.
The need to develop more effective incentives for forest plantation development
is obvious. The need to accelerate forest plantation development is highly
evident considering the declining trend in timber production from the natural
forest. Timber production in Peninsular Malaysia has declined drastically
from more than 12 million m3 in the early 1990s to only five million
m3 since 1998. A similar trend can also be observed in Sarawak
and Sabah, where timber production dropped from 18 million m3 and
eight million m3 in the early 1990s to 14 million m3
and three million m3 2000, respectively (Anonymous 2001). It is
well known that the forest-based industries provide more than 300 000 jobs,
especially in the rural areas (Anonymous 2001). A decline in timber production
will affect the social well-being of many people. Therefore, it is imperative
that more attention is paid to forest plantation development.
