Malaysia is one of the few countries in the world that offers a tax-free treatment on all income generated from equities, be it through capital gains or dividends. But that is potentially about to change by the coming months.
Recently, Malaysian finance minister, Lim Guan Eng, announced the new budget 2019 to be tabled in the Malaysian parliament on 2nd November 2018. The new budget was even referred by the finance minister as a Sacrificial Budget and Lim Guan Eng is even prepared to be labelled as the most unpopular finance minister for implementing this budget.
But why is this piece of news important to all investors?
Because there is a potential that the government will re-introduce an old tax that was previously abolished – the capital gains tax.
A capital gains tax is basically a tax on profits an investor made while trading stocks. This means that if you purchased a stock at RM 1 and that stock rose to RM 1.20 in less than a year, you would have made a profit of RM 0.20 per share or 20% return on investment in less than a year. But with the introduction of the capital gains tax, it could adversely affect the returns an investor would make by trading stocks. Assuming the capital gains tax is as high as 30%, that means that the investor would need to pay 30% of that RM 0.20 in profits they have made to the government. This will result in them netting a profit of only RM 0.14 or 14% return on investment – and most investors hate this.
Let’s be frank, if everyone could, they would want to make as much money as possible. The idea of giving a portion of that money away will make many feel uncomfortable. Here are some thoughts investors need to ponder upon in case such taxes are implemented throughout the country:
1. Not All Investors Would Be Affected
As mentioned in various articles, the capital gains tax, if passed through, would potentially be targeted at capital gains realised within a short period of time as described in the excerpt below:
“This include Capital Gains Tax, especially those related to gains made on stock trading and investments held for short term (i.e. for less than one year)”
This tax treatment is similar to how property gains are taxed in Malaysia. For properties sold within 5 years, there would be a tax of up to 30%. Thus, discouraging rapid flipping of properties. The same goes with stocks. Applying this tax would mean that short term traders in the stock market will see their returns reduced as compared to before. Therefore, it pays to be a long-term investor.
2. Alternatives Are Available
Malaysia is not the only country in the world that provides a tax-free treatment to equity investing. There are also other countries which an investor can consider investing in.
For example, our neighbour, Singapore is also a destination which provides tax-free treatment to income generated from equities. Singapore is the next country which is closest in terms of culture to Malaysia such as the minimum amount of shares an investor can purchase at any one time, consumer behaviour, and population diversity. But the same goes for its liquidity and market size; pretty small.
If an investor prefers a larger market, they can consider the Hong Kong stock market which also provides tax-free statement of equity investments. However, the culture and the way the market behaves are extremely different compared to Malaysia and Singapore. Firstly, the minimum number of shares allowed to be purchased at any one time are different for different stocks. Some stocks require a minimum purchase of 5000 shares whilst some require a minimum purchase of 20,000 shares. Therefore, it may be quite difficult for some investors to purchase the stock.
Secondly, due to the size of the Hong Kong stock market, there are way more investors compared to Malaysia and Singapore which results in higher volatility. Investors need to prepare themselves for sudden ups and downs in the share price. Hence, it is not for those with poor emotional stability. But it is also in the Hong Kong market that an investor has access to some of the strongest companies in the world such as Tencent and Samsonite.
3. Prepare For A Potential Sell Down
If capital gains tax laws are introduced, investors need to brace themselves for a rapid sell down in stocks before the tax is implemented. We have seen many times how Malaysians overreact to situations like this before finally calming down and thinking rationally.
Recall the introduction of the Goods and Services Tax (GST) on April 2015. A day before the tax is formally implemented, Malaysians flocked to local grocery stores to stock up just to save up on the 6% additional tax they might have to pay. We can therefore expect a similar situation in the stock market. Investors would potentially quickly sell down their stocks as a “final chance” to secure a tax free income.
But what does that mean for value-conscious investors? – Buying opportunity.
Intelligent investors knows to remain invested despite the tax treatment on equities. This is because by staying out of the market, they are guaranteed to lose the value of their money thanks to inflation. Despite a tax on income, they are still able to make more in returns than just putting their money in the bank. Therefore, if the market does sell down, stocks will become cheaper and therefore is a golden opportunity to collect much high quality shares as possible.
4. So What Can We Do As Value Investors?
We can only speculate as of now whether the capital gains tax would be implemented or not. Therefore, what we can control as value investors are as follows:
Be OK with taxation.
As mentioned by our Finance Minister, the budget 2019 is a sacrificial budget which he believes all Malaysians must take. Think about it; you want to enjoy all the amenities, safety and services provided in Malaysia. Therefore, someone needs to pay for it. Instead of thinking of it as expenses, how about thinking about the payments as gratitude to the Malaysian government for providing you a safe and comfortable country to live in?
We know that there will be a potential rapid sell down in stocks if the tax is implemented. We can turn an unfavourable situation into a favourable one by preparing cash to grab as much shares as possible when others are panicking to sell it off for cheap.
Focus on the long term
The new capital gains tax will most likely affect short term trading as mention. Why not aim to become long term shareholders of the stocks you purchased? There are many literatures anyways to prove that being a long-term investor works very well in hedging against inflation. In addition, holding a stock over the long term allows the shareholders to collect yearly dividends to help boost the return on investment of the investor.