Your tax director had a meeting last week with Mr Yuen, a financial controller with Quick Sdn Bhd (QSB). QSB is owned by the Chan family who are all tax residents in Malaysia. QSB has been operating a transport business in Perak since 2010 and was only profitable in the financial year ended 30 September 2020.

Following the meeting, your tax director emailed you with the following notes.

investing in additional shares in QSB as compared to putting their money in fixed deposits.

Alternatively, if QSB decides not to go ahead with the rights issue, Mr Yuen commented that the company will obtain additional bank loans to finance the acquisition of the equipment.

Required: Draft the report to Mr Yuen, the financial controller of Quick Sdn Bhd, as requested by your tax director, incorporating the following:

(iv) Comparative computations of the profit after tax and after dividend distribution for YA 2021 under the two financing options. (16 marks) (v) From the comparative computations in item

(iv), comment on the tax and retained earnings implications, and thereafter advise on the preferred option based on these implications. (8 marks)

Extracts from the notes of the client meeting (on 12 October 2020) QSB needs to raise an additional RM800,000 to purchase new equipment and is considering various finance options. Presently QSB is considered an SME for tax purposes. The financial statements of QSB for the year ended 30 September 2020 indicate the following: Paid up share capital of RM1.2 million; Gross business income of RM12 million Bank loans of RM4.2 million at 10% interest per annum; Retained earnings of RM450,000; and Interest expenses of RM420,000. The bank loans are used for the company's transport business operations. However, the interest expense has prevented QSB from paying out dividends to the Chan family. To eliminate the interest expense, SB is considering increasing its authorised share capital by offering a rights issue to its shareholders to raise an additional RM5 million in the year ended 30 September 2021. The funds raised from the rights issue will be used to repay the bank loans and acquire 800 units of equipment which costs RM1,000 per unit. The total equipment cost of RM800,000 will be incurred in two groups. The first group of 500 units will be incurred by 30 September 2021 while the balance of 300 units to be incurred in 2022. Penalties and fees will be charged by the banks for early repayment of bank loans. Based on the forecasts, the company is expecting a net profit (before interest expense and tax) of RM1.6 million for the year ended 30 September 2021. It proposes to distribute an annual dividend of 5% for 2021 to 2023. Mr Yuen is seeking advice on the tax implication of the expenditure incurred for the increased share capital (arising from the rights issue), the early repayment of the bank loans and the impact on QSB's SME status for tax purposes. Mr Yuen also requested explanations for OSB's current shareholders on the advantages of Extracts from your tax director's email (dated 16 October 2020) Please prepare a report by 26 October 2020 to Mr Yuen on the implications of the two financing options: Option 1: Equity financing Increase the paid up share capital to RM6.2 million by way of a rights issue and renay all the bank loans (ii) Option 2: Debt financing Obtain additional bank loans of RM800,000 at the same interest rate and maintain the company's paid up share capital at the original RM1.2 million. The report is to address the following issues: (i) The type and amount of outgoings (eg dividends, interest payments) under each option. The income tax treatment of the incidental costs of raising the equity / debt finance; the cost of early repayment of the bank loans; and the interest expense or the dividends to be distributed. (iii) For the year of assessment (YA) 2021 and YA 2022, whether QSB will retain its SME status under each option. Provide reasons and the respective tax treatment. (iv) For YA 2021, provide a comparison by preparing a computation for each of the options showing QSB's retained earnings after taking into account the interest expense, tax payable and dividend distribution. Note: For the comparison computations under the two options, assume the following: Adjusted income for the business is RM1.85 million before deducting the interest expense; and Capital allowances (CA) are only available for equipment acquired in the current year. The annual allowance for the equipment (RM1,000 per unit) is 10%. The equipment is considered a Small Value Asset for capital allowance purposes. (v) From the comparison in item (iv), analyse and comment on the tax and retained earnings implications. Thereafter advise on the preferred option based on these implications (vi) Discuss whether under Option 1, QSB would have sufficient retained earnings to distribute the proposed 5% dividend for YA 2021, YA2022 and Y A2023. (vii) The benefits to the shareholder of QSB of investing of say, RM100,000 in: A fixed deposit in a commercial bank in Malaysia with an interest rate of 3% per annum; or Acquiring additional shares in QSB under the proposed rights issue; and Your advice on the preferred option. . Extracts from the notes of the client meeting (on 12 October 2020) QSB needs to raise an additional RM800,000 to purchase new equipment and is considering various finance options. Presently QSB is considered an SME for tax purposes. The financial statements of QSB for the year ended 30 September 2020 indicate the following: Paid up share capital of RM1.2 million; Gross business income of RM12 million Bank loans of RM4.2 million at 10% interest per annum; Retained earnings of RM450,000; and Interest expenses of RM420,000. The bank loans are used for the company's transport business operations. However, the interest expense has prevented QSB from paying out dividends to the Chan family. To eliminate the interest expense, SB is considering increasing its authorised share capital by offering a rights issue to its shareholders to raise an additional RM5 million in the year ended 30 September 2021. The funds raised from the rights issue will be used to repay the bank loans and acquire 800 units of equipment which costs RM1,000 per unit. The total equipment cost of RM800,000 will be incurred in two groups. The first group of 500 units will be incurred by 30 September 2021 while the balance of 300 units to be incurred in 2022. Penalties and fees will be charged by the banks for early repayment of bank loans. Based on the forecasts, the company is expecting a net profit (before interest expense and tax) of RM1.6 million for the year ended 30 September 2021. It proposes to distribute an annual dividend of 5% for 2021 to 2023. Mr Yuen is seeking advice on the tax implication of the expenditure incurred for the increased share capital (arising from the rights issue), the early repayment of the bank loans and the impact on QSB's SME status for tax purposes. Mr Yuen also requested explanations for OSB's current shareholders on the advantages of Extracts from your tax director's email (dated 16 October 2020) Please prepare a report by 26 October 2020 to Mr Yuen on the implications of the two financing options: Option 1: Equity financing Increase the paid up share capital to RM6.2 million by way of a rights issue and renay all the bank loans (ii) Option 2: Debt financing Obtain additional bank loans of RM800,000 at the same interest rate and maintain the company's paid up share capital at the original RM1.2 million. The report is to address the following issues: (i) The type and amount of outgoings (eg dividends, interest payments) under each option. The income tax treatment of the incidental costs of raising the equity / debt finance; the cost of early repayment of the bank loans; and the interest expense or the dividends to be distributed. (iii) For the year of assessment (YA) 2021 and YA 2022, whether QSB will retain its SME status under each option. Provide reasons and the respective tax treatment. (iv) For YA 2021, provide a comparison by preparing a computation for each of the options showing QSB's retained earnings after taking into account the interest expense, tax payable and dividend distribution. Note: For the comparison computations under the two options, assume the following: Adjusted income for the business is RM1.85 million before deducting the interest expense; and Capital allowances (CA) are only available for equipment acquired in the current year. The annual allowance for the equipment (RM1,000 per unit) is 10%. The equipment is considered a Small Value Asset for capital allowance purposes. (v) From the comparison in item (iv), analyse and comment on the tax and retained earnings implications. Thereafter advise on the preferred option based on these implications (vi) Discuss whether under Option 1, QSB would have sufficient retained earnings to distribute the proposed 5% dividend for YA 2021, YA2022 and Y A2023. (vii) The benefits to the shareholder of QSB of investing of say, RM100,000 in: A fixed deposit in a commercial bank in Malaysia with an interest rate of 3% per annum; or Acquiring additional shares in QSB under the proposed rights issue; and Your advice on the preferred option