Foreign-owned companies in Indonesia may earn revenue, incur costs, receive loans, or purchase assets in currencies different from their functional currency. The accounting treatment of these transactions can affect reported profit, taxable income, intercompany balances, and the amount available for dividends.
Which Functional Currency Should an Indonesian Company Use?
An Indonesian company’s functional currency is based on the currencies that mainly influence its revenue, costs, and financing. It is not determined solely by its ownership, invoicing currency, or the currency used by its foreign parent.
It cannot simply choose another currency to reduce foreign-exchange volatility.
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A functional currency can change if the underlying transactions, events, and conditions that determine it change.
The functional currency should also be distinguished from the currency used for Indonesian tax bookkeeping. Indonesian companies generally keep their books in Indonesian and IDR, although certain qualifying taxpayers can use English and USD after completing the applicable Indonesian tax procedure.
How Are Foreign-Currency Transactions Recorded?
A transaction denominated in a currency different from the company’s functional currency is initially recorded using the relevant exchange rate on the transaction date.
This can apply to sales, purchases, management fees, royalties, loans, and other cross-border transactions.
At the end of a reporting period, foreign-currency monetary items such as cash, receivables, payables, and loans are generally translated using the closing exchange rate.
Non-monetary items require different treatment. Items measured at historical cost generally use the exchange rate from the transaction date, while items measured at fair value use the rate applicable when that fair value is measured.
When Do Exchange Differences Affect Profit?
Exchange gains and losses on foreign-currency monetary balances are generally recorded in profit or loss, subject to the accounting treatment of the transaction.
A company with a large USD receivable, payable, or loan while using IDR as its functional currency can record an exchange gain or loss as the rupiah moves against the dollar.
A company may generate similar sales and operating margins from one year to the next while reporting a different net profit because of exchange movements on its foreign-currency balances.
How Do Foreign-Currency Loans Affect Indonesian Companies?
Foreign-currency shareholder and intercompany loans can create significant exchange exposure because the outstanding principal is a monetary balance.
If an Indonesian company uses IDR as its functional currency but owes a USD loan to its foreign parent, changes in the IDR-USD exchange rate can change the rupiah value of that liability and generate exchange gains or losses.
The financing also has separate Indonesian tax implications. Interest on related-party debt must satisfy transfer-pricing and deductibility requirements.
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Indonesia also applies a maximum 4:1 debt-to-equity ratio for certain corporate income tax purposes, subject to specified exclusions. The 4:1 ratio limits the borrowing costs that certain taxpayers can deduct. It does not generally limit how much debt a company can legally borrow.
How Does Foreign Currency Affect Group Reporting?
An Indonesian subsidiary may prepare local financial information using a different functional or presentation currency from its foreign parent.
The parent may need to translate the Indonesian subsidiary’s financial information into the currency used for the group’s consolidated accounts. This group translation is separate from recording foreign-currency transactions in the subsidiary’s own accounts.
Where the subsidiary also undergoes a local statutory audit, adjustments identified in Indonesia may need to be reflected in the group reporting package before the consolidated financial statements are finalized.
What Are the Indonesian Tax Implications?
Foreign-exchange gains and losses generally affect Indonesian corporate income tax based on the accounting method the company consistently applies. Different tax treatment may apply depending on the underlying transaction.
Where an exchange difference arises from a related-party loan or another intercompany balance, the company should be able to support the transaction, its commercial basis, and its accounting and tax treatment. Recording an expense in the financial statements does not automatically make it tax deductible.
Can Foreign-Exchange Losses Reduce Dividend Capacity?
Under Indonesian company law, dividends can only be distributed where the company has a positive profit balance.
The General Meeting of Shareholders determines how the company’s net profit is used. However, the company must continue allocating part of its net profit to the statutory reserve until the required reserve has been reached.
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The statutory reserve must ultimately reach at least 20% of issued and paid-up capital, with allocations required while the company has a positive profit balance and the reserve remains below that level.
A material exchange loss can reduce the profit available for distribution even where the underlying business continues to generate cash. An exchange gain can increase reported profit without creating additional cash to fund a dividend.
Manage Foreign Currency Accounting With MAP Resources Indonesia
MAP Resources Indonesia assists foreign-owned companies with accounting, intercompany financing, financial reporting, tax compliance, audit preparation, and dividend planning in Indonesia. Contact us at info@mapresourcesindonesia.com.
