Malaysia to close loopholes in eligibility of CKD incentives - some cars may see increase in prices

The government of Malaysia, specifically the Ministry of Finance will be proposing a revision in the legal definition of Completely Knocked Down (CKD) vehicles, with the intention of closing loopholes in ILP (Industrial Linkage Program) and MSP (Multi-Sourcing Program) tax incentive channels for such cars.

Currently, Malaysia’s industrial policy and tax documents lump together simple Semi-Knocked Down (SKD) cars with full-fledged CKD cars. The former are cars assembled using very simple tools, to fit seats, doors, lights, interior fittings, powertrain, and wheels; meanwhile a real CKD project involves metal stamping, welding, and painting.

On top of that, the definition of locally sourced component is also not clear, thus opening a loophole for imported parts to be packaged here and declared as a local part that qualifies tax waiver, without contributing much to growing our local talent pool.

The distinction between SKD and CKD is important because Malaysia imposes very high import tax (up to 30 percent) and excise tax (up to 105%) for imported cars. This high tax barrier is to encourage vehicle manufacturers to setup plants here, grow the local vendor base, and create manufacturing jobs.

In return, locally assembled cars are exempted from import tax. Excise tax still applies but manufacturers can apply for a reduced rate, in proportion with the value of local content purchased.

On the surface, this is a good measure but in today’s world, it’s overly simplistic. The current legal definition makes no distinction between a semi-knocked down (SKD) European model with its parts bolted in a rather Tamiya model kit-style manner, from a completely knocked down (CKD) Honda City, which has its body panels stamped and welded in Pegoh, before dipping the body shell into a giant pool of electrostatic anti-rust treatment liquid and painted by robots. High quality technical talent is also required to setup and maintain such a plant, thus creating spillover effects of knowledge and skills transfer to locals.

The body shop is the most expensive part of any car plant, consuming the most energy too. This is why many manufacturers are reluctant to invest in setting up a body shop in a local assembly plant.

Beyond the body shop, some CKD manufacturers like Honda Malaysia go one step further, investing in a high voltage battery (Honda calls it Intelligent Power Unit, IPU) assembly plant. Others like BMW do engine assembly here.

The legal definition of CKD cars is provided in Schedule A (Regulations 2 and 6) of the Customs  Regulations 1988. It reads as follows:

Body Chassis Panel, Stampings and Pressings:

The cowl, scuttle, bulkhead or fire-wall may be assembled, but shall not be surface-treated in any way except with a coat of primer or other anti-rust preparation or substance.

The windscreen frame may be imported with reinforcements or other attachments but shall be without glass.

Doors may be assembled with all internal fittings, hinges and door checks in position and may include deadeners or anti-drum material but shall devoid of door locks, window winding mechanisms, glass, trim or upholstery material and shall not be surface-treated in any way except with a coat of primer or other anti-rust preparation or substance.

Miscellaneous Materials, Parts and Accessories:

Road wheels including spare wheel, of steel or alloy or other construction complete but not fitted with tubes and tyres.

As you can see from the above, the description is rather basic, treating knocked down (KD) kits as simple Lego sets, with little requirements for any real heavy industry input.

To clarify, the Ministry of Finance is not going to disallow SKD, but CKD cars will be better recognized for their higher value contribution.

A committee member at the Malaysia Automotive Association clarified that the government is not tightening the requirements to qualify for ILP and MSP incentives. He emphasized that for most MAA members, it will be business as usual.

“Some of those conditions are a little bit vague and need to be clarified, otherwise all the CKD assemblers will be heading in different directions. We are talking to MITI as well on the matter and I believe in the coming months, they will be introducing an updated version,” he added.

For most companies, it will be business as usual, if they have been honest in complying with the spirit of the law, which is to allow manufacturers to setup simple SKD operations in the initial stages, with the expectation that manufacturers will raise investments as their local business grow. This is not happening, as some brands have been enjoying the incentives for decades, with little to no progress in parts localization.

“For us, this is not a concern, and I don’t think it will be a concern for most assemblers too, so long as the manufacturing principal is willing to provide the necessary supporting documents proving the compliance of these parts. Of course, we have these all along,” said a representative of an Asian manufacturer.

However, some lower volume manufacturers who have been passing off SKD cars as CKD, may have to accept higher prices, as the goal of the revision is the better differentiate between SKD and CKD.

We also know that at least two manufacturers are facing delays in obtaining price list approvals for their recently previewed locally assembled models, though we can’t say for sure if it is directly related to the MoF’s proposed revision. Normally, confirmed prices are announced within one month of a new model's preview, but launches of these models have been delayed for months.

Technically, manufacturers don’t require government approval for their vehicle’s pricing, contrary to popular opinion. Where approval is required is when a manufacturer wants to apply for ILP / MSP incentives to reduce taxes. Like all tax-related matters, there will be pushbacks, queries, and sometimes even audits, which then gives rise to impression of the government interfering in vehicle pricing to protect domestic brands like Proton and Perodua.

Amending the Customs Regulations 1988 will require Parliament’s approval. The Dewan Rakyat is scheduled to convene on 26-February 2024.