A Complete Guide to Refund Notes in Malaysia for Businesses

A Complete Guide to Refund Notes in Malaysia for Businesses

In compliance with business taxation and accounting, reversing a transaction is a daily need. While a Credit Note is openly understood as the instrument of value adjustment of an invoice, its counterpart—the Refund Note—is not so well known. In Malaysia, a Refund Note serves a precise and necessary purpose: it is the document/proof of evidence that a monetary refund has indeed been effected to a customer. This is particularly crucial under the Sales and Service Tax (SST) regime and for maintaining appropriate audit trails for the Inland Revenue Board (LHDN). A credit note is used to clear accounts in your ledgers, while a refund note indicates that the adjustment has been resolved in cash or by bank transfer. Understanding when and how to issue a refund note is especially important so as to ensure good funds management and proper tax compliance as a defense should there be an audit of your books.

Recent Amendments

The Malaysian tax landscape is continually evolving, with implications for documentation like refund notes:

1. E-Invoicing Initiative: The ongoing phased implementation of mandatory e-invoicing by LHDN is the most substantial transition, at this stage, from the earlier GST structure.  E-invoicing, and the road to digital compliance, is focused on invoices and credit notes in its first year of implementation, but will eventually require that all supporting documents, such as refunds, be reported in a standardized digital format in the near future.  This will result in a fully traceable digital path from invoice to credit note to refund note.  
2. SST Regulations Updates: The Royal Malaysian Customs Department (JKDM) issues periodic updates and guidelines on the SST regime. The principles surrounding the handling of refunds with the SST principles remain fairly consistent; however, companies must ensure they are following any changes in procedure for claiming bad debt relief or processing refunds for taxable services.

It is important to be updated with the official LHDN and JKDM portals to maintain compliance.  

What is a Refund Note?

A Refund Note is a supporting commercial document issued by a supplier to a customer. It serves as formal proof that a monetary refund has been made, closing the loop on a transaction that was previously adjusted via a Credit Note.

In essence:

• A Credit Note says, “We agree you owe us less.”  
• A Refund Note says, "We have now paid you back the amount we agreed you owed us, less."

It is not a mandatory document, such as a tax invoice, but it is a significant best practice for internal controls and external audits. It provides unquestionable evidence that a liability was not merely identified but paid.

Purpose and Legal Implications

The primary purpose of a refund note is to create an auditable trail. Key Purposes:  

1. Audit Trail for LHDN/JKDM: During an audit, officers may question an expense reduction claimed via a credit note. A refund note provides conclusive evidence that the adjustment was real and that the money was actually returned, preventing any allegation of fictitious adjustments for tax avoidance.  
2. Financial Control from Accounting: It assists the finance department in comparing with bank statements and ledger accounts. The refund will link the credit entry in the accounts payable ledger with the debit in the bank/cash account.   
3. Customer Relations: It serves to provide the customer with formal proof of refund. They may need this document for their own record-keeping and tax purposes.  
4. Legal Consequences: In the absence of a refund note, a business does not lose its proof of a genuine refund, but upon inquiry from LHDN or JKDM, if the business does not have the refund memo, it will have a difficult time proving there actually was a refund. This could lead to the disallowance of the expense adjustment with the possibility of additional assessment, penalty, and interest consequences.

When Must a Refund Note Be Issued?

A refund note should be issued whenever a monetary refund is made to a customer, which typically occurs after a credit note has been issued.  

Common scenarios include:  

• Goods Returned After Payment: A customer has already paid an invoice, returns the goods, and you refund their payment.  
• Service Cancellation After Payment: A prepaid service is cancelled, and a pro-rata or full refund is granted.  
• Overpayment by Customer: The customer accidentally overpaid an invoice, and the excess is refunded.  
• Price Adjustment Rebate: A retrospective price reduction or rebate is paid out in cash.

 

Important Note: If the credit note amount is simply offset against a future invoice (i.e., used as a credit on account), a refund note is not necessary, as no money is being returned.

Key Contents of a Valid Refund Note

There is no statutory form, but a comprehensive refund note should include the following information to be effective:  

• The title “REFUND NOTE” is displayed clearly.  
• A unique serial number.  
• Date of issue.  
• Supplier’s name, address, and Tax Identification Number (TIN).  
• Customer’s name and address.  
• Reference to the original tax invoice number and date.  
• Reference to relevant credit note number and date (this is important).   
• A clear description of the refund reason (for example: “Refund for returned goods/ service to Credit Note CN-001”).   
• The total amount refunded.   
• Details of the refund method (for example: “Return as Bank transfer to Account Number XXXX”, “Cheque No. 12345”, “Cash”, etc.  
• Authorized signature and company stamp.

The Compliance Process: Credit Note vs. Refund Note

Understanding the sequence is key to proper compliance.  

Step 1: Identify the Need for Adjustment

The customer returns goods or requests a cancellation after payment has been made.  

Step 2: Issue a Credit Note

Prepare and issue a credit note to the customer. This document legally reduces the value of the original supply. In your accounting records, you will:  

• Debit (reduce) your Output Tax account.  
• Credit (increase) your Customer Refunds Liability account.

This credit note is the document you use to adjust your output tax in your tax return (for SST or Income Tax purposes).  

Step 3: Process the Monetary Refund

Execute the payment to the customer via bank transfer, cheque, or cash.  

Step 4: Issue the Refund Note

Prepare and issue the refund note to the customer as proof of payment. In your accounting records, you will now:  

• Debit (reduce) your Customer Refunds Liability account.  
• Credit (reduce) your Bank or Cash account.

The refund note itself does not trigger a separate tax adjustment. The tax adjustment was already completed with the credit note. The refund note simply evidences the settlement of the liability created by the credit note.

Difference Between a Credit Note and a Refund Note

This is the most critical distinction for businesses to grasp.

Feature	Credit Note	Refund Note
Purpose	To adjust the value of an invoice for accounting and tax purposes.	To provide proof that a monetary refund has been made.
Triggers Tax Adjustment	Yes. It directly reduces the seller's output tax and the buyer's input tax.	No. It is a supporting document for the cash transaction.
Accounting Impact	Affects liability accounts (Accounts Payable/Receivable) and tax accounts.	Affects asset accounts (Bank/Cash) and liability accounts.
Mandatory	Effectively, yes, for tax compliance.	No, but highly recommended for audit defense.
Sequence	Issued first to acknowledge the adjustment.	Issued after the refund is paid.

Penalties for Non-Compliance

There is no direct penalty for failing to issue a "refund note" by name. The penalties arise from the underlying non-compliance that poor documentation causes.  

1. Disallowance of Expense/Tax Adjustment: If LHDN or JKDM audits a transaction and finds a credit note but no evidence that the refund was actually paid (e.g., no refund note, no bank statement proof), they may disallow the tax adjustment. This means your business would be charged the tax that was previously reduced, plus…  
2. Penalties under Section 113(2) of the ITA 1967: If the disallowed adjustment leads to an underpayment of tax, penalties of 100% to 300% of the undercharged tax can be imposed.  
3. Poor Audit Outcome: A lack of clear documentation can prolong an audit, create distrust with the auditors, and lead to a more extensive and invasive examination of your accounts.

FAQs

1. Is a refund note legally required in Malaysia?

No, there is no specific law that states "you must issue a refund note." However, general tax law requires you to keep sufficient records to support all transactions. A refund note is the clearest way to meet this requirement for refund transactions. It is a best practice that is effectively mandatory for robust compliance.  

2. Can I use a credit note alone if I issue a refund?

Technically, yes. However, it is poor practice. The credit note shows the agreement to adjust; the refund note shows the action of refunding. For a clear and defensible audit trail, both documents should be present and cross-referenced.  

3. What if I refund a customer without issuing a credit note first?

This is an accounting error. The credit note is necessary to correctly adjust the revenue and tax accounts. Refunding money without the credit note creates a discrepancy in your books. The correct sequence is always: (1) Issue Credit Note, (2) Process Refund, (3) Issue Refund Note.  

4. Does a refund note apply to Income Tax and SST equally?

The principle is the same, but it is more frequently associated with SST because of the direct link between output tax and invoices. For income tax, it supports the reduction of revenue, which is equally important. The concept is universal for accurate financial reporting.  

5. What should a customer do upon receiving a refund note?

The customer should file it with the corresponding credit note and original invoice. For their accounting, they will use it to support the bank transaction, showing the money received, ensuring their cash book and ledgers are accurate.  

Conclusion

While the Refund Note is not necessarily required by the law, it is an important part of our sound financial control system in Malaysia. The purpose it serves is absolute in establishing a clear audit trail, such that any adjustments to a prior sum invoice can be established back to a cash outlay in the inevitable tax examination of that transaction. The main advantage of making it a corporate discipline is that it shows a high level of transparency and compliance to both LHDN and JKDM, and crosses your internal processes with theirs. In an environment moving towards full digital transparency with e-invoicing, mastering these procedural details is no longer just about good practice—it is a strategic imperative for sustainable and defensible financial management. Treating the refund note with the same seriousness as a tax invoice is a hallmark of a compliant and well-managed business.  

You can explore Flick's other global tax and compliance resources here.