Tax Reflection by Tony on | Malaysia | Interest-Free Loan
Interest-Free Loans Under the Transfer Pricing Lens in Malaysia: What Every Business Owner Must Know
(Publication 24/2026)
Introduction
In the corporate world, it is entirely common — almost expected — for holding companies to extend financial assistance to their subsidiaries, affiliates, or related entities. Whether to fund a new project, bridge a cash flow gap, or support expansion, these intercompany loans are a routine feature of group financing. And more often than not, they carry no interest at all.
But here is the question that tax practitioners wrestle with constantly: Can a company simply give an interest-free loan to a related party without any tax consequences in Malaysia?
The short answer is: it can, but it almost certainly should not — not without proper planning and documentation.
Under Malaysia’s transfer pricing (TP) framework, interest-free loans between related parties are among the most scrutinised transactions by Hasil (Inland Revenue Board of Malaysia). Getting this wrong can result in deemed income assessments, substantial penalties, and surcharges. These can far exceed what a market-rate interest charge would have cost in the first place.
This article walks through the legal framework, Hasil’s current position, real-world audit risks, and practical steps that businesses and their advisers should take.
The Legal Framework: Section 140A and the Arm’s Length Principle
Transfer pricing in Malaysia is primarily governed by Section 140A of the Income Tax Act (ITA) 1967. This provision grants the Director General of Inland Revenue (DGIR) broad powers to adjust transactions between associated persons where those transactions do not reflect arm’s length conditions.
Section 140A states, in essence, that where the DGIR is satisfied that the income of an associated person does not correspond to what would have accrued on an arm’s length basis, the DGIR may disregard the transaction or make the necessary adjustments to income.
In practical terms: if an independent lender would have charged interest, Hasil may impute that interest. It is then treated as income earned by the lender, even if no actual payment was made.
Supporting Section 140A, the Income Tax (Transfer Pricing) Rules 2023 (TP Rules 2023, gazetted on 29 May 2023) provide the detailed operational framework, replacing the earlier 2012 rules. Most recently, the Malaysia Transfer Pricing Guidelines 2024 (MTPG 2024) was released on 24 December 2024 and is effective from Year of Assessment (YA) 2023 onwards. It provides the most comprehensive guidance to date on how Hasil expects taxpayers to approach TP compliance.
Who Is an “Associated Person”?
A point that often surprises business owners: the definition of associated person under Section 140A is broader than many assume.
The primary test under Section 139 of the ITA requires direct or indirect shareholding of more than 50% of ordinary share capital or voting power.
However, Hasil’s FAQ on MTPG 2024 Chapter 1, published on 15 June 2026, clarifies that a further test under Subsection 140A(5A) may apply where shareholding is at least 20% but less than 50%. This applies where additional conditions are met — such as where one entity’s business depends on the proprietary rights of the other, where one entity directs the business activities or pricing of the other, or where one or more directors of an entity are appointed by the other.
Even transactions between family members — where each family member holds more than 50% of the shares in their respective companies — are treated as controlled transactions.
Intercompany Financial Assistance: What Does It Cover?
One of the important clarifications introduced by the MTPG 2024 is the broadened definition of “financial assistance.” This term now expressly captures all forms of monetary help or aid. It includes loans and advances between related entities, interest-bearing trade credits, debts owing between associated persons, and the provision of security or guarantees.
Crucially, the MTPG 2024 explicitly states that the particular label or description assigned to a financial transaction does not limit the TP analysis. Each arrangement must be examined on its own merits, regardless of how it is documented internally.
This means that even a seemingly informal “advance” or “payable” sitting on the balance sheet between related parties could be captured within the scope of financial assistance for TP purposes. As noted in Crowe Malaysia’s analysis of the MTPG 2024, Hasil’s definition is deliberately broad. It is a “catch-all” provision designed to accommodate the ever-evolving financing practices of modern multinational enterprises (MNEs).
Hasil’s own published Chapter IX on Intragroup Financing states this plainly. In both situations — whether financial assistance is provided for consideration or without consideration — the taxpayer should charge or pay the associated person interest at a rate consistent with what independent persons dealing at arm’s length would have agreed.
Why Interest-Free Loans Are a Red Flag for Tax Audits
The absence of interest is not, in itself, unlawful. There is no Malaysian law that prohibits a company from giving an interest-free loan. The problem, however, is the tax consequence that flows from it.
Grant Thornton Malaysia’s guidance on TP audit risk specifically identifies financial assistance transactions with related parties — particularly those that are interest-free — as among the transactions most likely to attract Hasil’s attention. The same concern is echoed across the major accounting firms. An interest-free loan is considered commercially unrealistic in the eyes of a tax auditor.
Here is the economic logic. When a company lends money without charging interest, it forgoes the interest income it would ordinarily earn. That forgone income is taxable income under Section 4(c) of the ITA 1967. In a group context, where the lender and borrower are under common control, Hasil takes the view that this arrangement effectively shifts income away from a taxable entity — reducing the tax base without a legitimate commercial reason.
A Real-World Audit: The RM29 Million Wake-Up Call
YYC Advisors, a well-known Malaysian tax and advisory firm established in 1974, published a case study in 2026 that illustrates just how damaging these arrangements can be in practice.
In the case described, a holding company had provided significant advances and loans on an interest-free basis to another company outside its formal corporate group. The connection between the entities was a common director considered to have control or influence over both. Over five years from YA 2020 to YA 2024, the interest-free loans and advances accumulated to approximately RM29 million.
The taxpayer was genuinely unaware that such arrangements had to comply with the arm’s length principle.
Following a tax audit, Hasil treated the arrangement as a related-party transaction. It took the position that the interest-free terms did not reflect arm’s length dealing. Hasil imposed deemed interest income based on the Base Lending Rate (BLR). This resulted in an estimated understatement of interest income of approximately RM7.7 million. Additional tax payable came to approximately RM1.85 million. With penalties under Section 113(2) and the TP surcharge under Section 140A(3C), the total liability rose to RM2,213,523.60.
As YYC Advisors summarised it: “There is no free lunch.” Hasil expects related-party financing to reflect market-based interest rates under Section 140A — and ignorance is not a defence.
The Penalty and Surcharge Regime: Understanding the Full Exposure
The financial consequences of a TP adjustment on an interest-free loan extend well beyond the tax on imputed interest. Practitioners must understand the layered exposure.
Section 113(2) Penalty — imposed on the understatement or omission of income, this penalty applies to the additional tax arising from the deemed interest income adjustment.
Section 140A(3C) Surcharge — this is a dedicated TP surcharge of up to 5% of the total TP adjustment made by Hasil. Critically, as noted by EY Malaysia and Crowe Malaysia in their respective analyses of the MTPG 2024, this surcharge can be imposed regardless of whether there is any tax payable. Even a loss-making company is not immune.
Section 113B Penalties — for failure to submit transfer pricing documentation (TPD) within 14 days of a Hasil written notice, a conviction may result in a fine of RM20,000 to RM100,000 or imprisonment of up to six months or both, for each YA of failure. Where no prosecution is initiated, Hasil may impose an administrative penalty of RM20,000 to RM100,000 per YA.
The combined effect of these provisions means that the total tax cost of an improperly documented interest-free loan can be multiples of what proper arm’s length pricing would have cost.
The MTPG 2024 and the Pending Financial Transactions Guidelines
In the MTPG 2024, Hasil has stated: “Given the complexity and depth of analysis required for determining the arm’s length price or condition for financial transactions, separate guidelines will be issued to address specific transfer pricing requirements in relation to intra-group financial transactions.” This is a forward-looking commitment by Hasil that more detailed guidance specific to financial transactions is on the way.
As at July 2026, those separate guidelines have not yet been released. Practitioners must continue to navigate by applying the general arm’s length principle under Section 140A. This is supported by the MTPG 2024 and the Organisation for Economic Co-operation and Development (OECD) Transfer Pricing Guidelines for MNEs and Tax Administrations (OECD TPGL, January 2022 edition), which Malaysia has formally adopted as a reference. BDO Malaysia has similarly flagged this as a key area to monitor. The forthcoming guidance on intragroup financial transactions is widely anticipated and will likely draw further from OECD Chapter X principles.
Determining the Arm’s Length Interest Rate: The Analytical Framework
When a company provides a loan to a related party — even one that has been historically interest-free — the question becomes: what is the arm’s length interest rate?
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The starting point is the Comparable Uncontrolled Price (CUP) method. This is the method most commonly applied to financial transactions globally and is recognised under the OECD TPGL. The CUP method compares the terms of the intercompany loan with comparable transactions between independent parties under similar circumstances.
For a Malaysian context, the following are relevant reference points.
The BLR or Overnight Policy Rate (OPR) — Hasil has in practice used the BLR as a reference point, as seen in the YYC audit case above. The BLR represents the benchmark lending rate set by Malaysian commercial banks and is readily accessible.
Credit risk and borrower profile — An arm’s length interest rate must reflect the credit risk of the borrower, the tenor of the loan, the currency, and whether collateral or guarantees are in place. A subsidiary with poor credit standing should theoretically pay a higher rate than one with strong financials.
Group credit rating and implicit support — The OECD recognises that a subsidiary may benefit from implicit parent support, sometimes called the “group halo effect.” This can justify a lower interest rate than the subsidiary could obtain on a standalone basis. However, this implicit support must be carefully documented and quantified.
External market benchmarks — Published corporate bond yields, bank lending rates, and commercial loan data from financial databases can serve as external comparables. The CUP method is well-suited to financial transactions because of the depth of available market data.
The arm’s length range (ALR) was first defined in the TP Rules 2023 as a range of figures or a single figure falling between the 37.5th and 62.5th percentile of the comparable dataset. The MTPG 2024 elaborates on its application in practice. Where the DGIR has reason to believe comparables have a lesser degree of comparability or there are unresolved comparability defects that cannot be identified, quantified, or adjusted, the DGIR may adjust to the median or any point above the median within the ALR.
High-Risk Scenarios That Practitioners Must Flag
While any interest-free intercompany loan carries TP risk, certain fact patterns are particularly acute. Practitioners should be especially alert when advising in any of the following situations.
Investment Holding Companies — Section 60F of the ITA governs the tax treatment of investment holding companies (IHCs) not listed on Bursa Malaysia, while Section 60FA applies to listed IHCs. When an IHC provides interest-free loans to related parties, particularly loss-making entities, Hasil may impute arm’s length interest income on the IHC lender under Section 140A. That deemed interest income is then taxable as non-business income under the IHC’s special tax treatment. This creates a double disadvantage: additional tax on imputed income for the lender, with no corresponding deduction benefit for the loss-making borrower.
Cross-border loans — Where an interest-free loan is extended to a related party outside Malaysia, the transaction engages TP rules under Section 140A and one immediate further layer of risk: withholding tax under Section 109 ITA. Interest payments to non-residents are generally subject to a 15% withholding tax. This may be reduced under applicable Double Taxation Agreements (DTAs), such as 10% under the Malaysia-Singapore DTA. When the interest-free arrangement is subsequently corrected and arm’s length interest becomes payable, a third dimension arises. The Earnings Stripping Rules (ESR) under Section 140C ITA restrict the amount of interest the Malaysian borrowing entity may deduct on cross-border related-party financial assistance. The maximum deductible interest is capped at 20% of tax-Earnings Before Interest, Tax, Depreciation and Amortisation (EBITDA), subject to a RM500,000 de minimis threshold. The ESR applies only to cross-border controlled financial assistance — domestic loans between Malaysian entities are not caught — and has been in force since 1 July 2019. In short, the ESR is not a direct consequence of the interest-free loan itself, but it becomes an immediate compliance consideration once arm’s length interest is introduced on a cross-border arrangement.
Loans to non-group entities with common control — As the YYC case illustrates, the connection does not need to be a formal parent-subsidiary structure. As clarified in Hasil’s FAQ on MTPG 2024 Chapter 1 (published 15 June 2026), a common director appointed by one entity to sit on the board of another is sufficient to establish associated person status under Section 140A(5A) — even where shareholding is below 50%.
Long-duration interest-free balances — An amount due between related parties that has been outstanding for several years without formal documentation or repayment terms is particularly vulnerable to recharacterisation as a loan requiring arm’s length interest.
Contemporaneous Transfer Pricing Documentation: Your First Line of Defence
Under the TP Rules 2023, taxpayers are required to prepare Contemporaneous Transfer Pricing Documentation (CTPD) before the due date for filing the tax return for the relevant YA. The documentation must be completed and dated prior to submission and made available to Hasil within 14 days upon request.
The RM50 Million Financial Assistance Threshold — Important Nuances
For financial assistance transactions, the documentation threshold is triggered where a person provides or receives controlled financial assistance amounting to more than RM50 million annually. Hasil’s FAQ on MTPG 2024 Chapter 1, published on 15 June 2026, has provided critical clarifications on how this threshold is calculated.
The RM50 million is based on the total aggregated gross amount of financial assistance advanced during the basis period — not the year-end balance. Interest income or expense, opening balances, and repayments are excluded from the calculation.
Where a company both receives and provides financial assistance in the same YA, the two amounts must be aggregated, not netted. For example, if Company A receives RM30 million from Company B and simultaneously provides RM25 million to Company C, the total is RM55 million — triggering the CTPD requirement.
Importantly, if a RM55 million loan was made in a prior year but no new financial assistance is advanced in the current YA, a full CTPD is not required for the current YA. However, the taxpayer must still retain evidence that interest charges are at arm’s length rates.
For other transactions, the general CTPD threshold applies: gross business income exceeding RM30 million and cross-border controlled transactions totalling RM10 million or more annually. Note that interest income or expense, financial assistance amounts, and dividends are excluded from the calculation of the RM10 million controlled transaction threshold for general purposes.
Even those exempt from preparing full CTPD are still required to comply with the arm’s length principle and must retain all relevant documents supporting their pricing. Failure to comply, regardless of the documentation exemption, can still result in a surcharge under Section 140A(3C). Hasil’s FAQ clarifies that relevant documents include agreements, invoices, minutes of meetings, director’s resolutions, internal analyses, and benchmarking analyses where applicable.
A robust CTPD for an intercompany loan arrangement should typically address the following. The commercial rationale for the loan and why interest-free terms were chosen, if applicable. A functional analysis identifying which party bears credit risk, liquidity risk, and interest rate risk. A comparability analysis including an assessment of the borrower’s credit rating. The pricing method applied (typically CUP) and the selected arm’s length rate or range. And finally, the intercompany loan agreement with clearly defined terms, tenure, and repayment schedule.
Can an Interest-Free Loan Ever Be Defensible?
This is a legitimate question, and the answer is nuanced. There are limited circumstances where an interest-free or below-market rate arrangement between related parties might withstand scrutiny.
Temporary short-term advances — A very short-term, small-value advance for operational reasons, promptly settled, may be viewed differently from a long-term, large balance sitting on the books without movement.
Equity-like characteristics — Under OECD TPGL Chapter X and reflected in the MTPG 2024’s approach to substance over form, a loan that more closely resembles an equity contribution in economic substance may be recharacterised accordingly. This recharacterisation cuts both ways. It may eliminate the interest issue, but it introduces other consequences such as dividend treatment on repayment.
Commercial justification with documentation — A taxpayer who can demonstrate a genuine commercial reason why no interest was charged — supported by contemporaneous evidence recorded at the time — stands in a stronger position than one who offers no explanation at all.
In practice, however, such defences are difficult to sustain for large, long-term balances. The practical advice remains: price the loan at arm’s length, document it properly, and formalise the terms in a written intercompany agreement.
Practical Guidance for Businesses and Advisers
Based on the current Malaysian TP landscape, the following practical steps are recommended.
Review existing intercompany balances — Conduct a portfolio review of all amounts due between related entities. Identify which balances are effectively loans or advances that have not been priced at arm’s length.
Re-examine associated person status — In light of the Section 140A(5A) clarifications in Hasil’s June 2026 FAQ, review whether any entities connected through common directors, proprietary rights dependency, or business direction may be caught as associated persons even without majority shareholding.
Formalise and document intercompany loans — Enter into written loan agreements specifying the principal amount, interest rate, tenor, repayment terms, and security (if any). Backfilling documentation after an audit has commenced is significantly less effective.
Benchmark the interest rate — Perform a CUP analysis using accessible market data, such as BLR, Kuala Lumpur Interbank Offered Rate (KLIBOR) where relevant, or published corporate lending rates. Consider the borrower’s credit profile and the loan’s characteristics.
Prepare or update TP documentation — Ensure CTPD reflects the financial assistance arrangement and is contemporaneous. Apply the aggregation rules for the RM50 million threshold correctly — do not net receipts against payments.
Consider voluntary disclosure — Under the Transfer Pricing Tax Audit Framework 2025 (TPTAF 2025), released by Hasil on 31 July 2025, voluntary disclosures may be made after the deadline for filing the return but before an audit commences. Where historical interest-free balances carry exposure, a voluntary disclosure may offer penalty concessions.
Claim the CTPD cost deduction — Under P.U.(A) 193/2025, gazetted on 23 June 2025, companies resident in Malaysia may claim a tax deduction of up to RM50,000 per YA for the cost of preparing CTPD. This deduction is available from YA 2024 to YA 2027 only. It is a closed window that practitioners should flag to clients immediately.
Seek professional advice on cross-border arrangements — Where loans cross borders, engage a TP specialist to address arm’s length pricing and withholding tax under Section 109 ITA together. Once arm’s length interest is established and becomes payable, also assess whether the ESR under Section 140C ITA applies to cap the borrowing entity’s interest deduction. These three issues are connected and should not be addressed in isolation.
Conclusion: The Cost of “Free”
The appeal of an interest-free intercompany loan is understandable. It simplifies cash management, avoids withholding tax complexities, and reduces paperwork. But under Malaysia’s TP rules, the cost of “free” can be very high indeed.
Hasil has made no secret of its focus on financial assistance transactions. The MTPG 2024, the TP Rules 2023, the June 2026 FAQ clarifications, and the dedicated surcharge regime under Section 140A(3C) all point in one direction. Hasil expects intercompany financing to be priced at arm’s length, documented contemporaneously, and supported by a proper benchmarking analysis.
The lesson from cases like those documented by YYC Advisors is stark. A RM29 million portfolio of interest-free loans resulted in a RM2.2 million tax liability — the bulk of which could have been avoided with proper planning. The “savings” from not charging interest were illusory. The true cost was considerably higher.
For tax practitioners advising Malaysian businesses, the message to clients is clear: an interest-free loan is not a tax-free loan.
If you prefer a more conversational take on this topic — with real-world commentary and a question to reflect on — read the Substack version of this article: [Interest-Free Loans & Transfer Pricing: What Nobody Told Your Finance Team]
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Disclaimer: This write-up provides information on interest-free loans and transfer pricing in Malaysia and is for informational and educational purposes only. It does not constitute tax, legal, or financial advice. Tax regulations are subject to regular amendments and individual circumstances vary. Readers should consult a qualified tax professional or advisor for guidance specific to their circumstances.
