Legal Risks of Doing Business in Indonesia: What Foreign Investors and U.S. Companies Must Know

Table of Contents

The Main Legal Question

What are the main legal risks foreign businesses face when operating in Indonesia, and how can those risks be managed?

The main legal risks of doing business in Indonesia arise from regulatory non-compliance, improper company structures, licensing violations, employment issues, and weak contract enforcement. These risks can be managed—but only if foreign investors understand Indonesia’s legal framework and comply with it from the outset.

In practical terms, Indonesia is not a “high-risk” jurisdiction if the law is followed, but it can become legally unforgiving when shortcuts, nominee arrangements, or informal practices are used.

Legal Explanation

Indonesia offers significant opportunities for foreign businesses, but its legal system is formal, rule-based, and documentation-driven. Many legal problems arise not from bad faith, but from misunderstanding how Indonesian law treats foreign entities.

Why Foreign Businesses Face Higher Legal Exposure

Foreign-owned businesses are subject to:

• Additional licensing layers
• Sector-specific ownership limits
• Investment reporting obligations
• Immigration and manpower scrutiny

Unlike some jurisdictions, Indonesia does not tolerate informal compliance or “temporary” legal fixes. If a business is foreign-controlled in substance, it must comply with foreign investment laws—regardless of how it is labeled.

Key Risk Categories

The legal risks of doing business in Indonesia generally fall into the following categories:

• Corporate structure and ownership risks
• Licensing and regulatory risks
• Contract enforcement risks
• Employment and immigration risks
• Tax and reporting risks
• Dispute resolution and litigation risks

Each of these risks is explained below with clear statutory references and real-world implications.

Legal Basis

1. Law No. 25 of 2007 on Investment

Official name: Law of the Republic of Indonesia Number 25 of 2007 concerning Investment

• Article 5(2): Foreign investment must be conducted through a limited liability company established under Indonesian law.
• Article 33: Prohibits agreements that conceal the real ownership of shares.

Practical meaning:
Foreign businesses must use a lawful foreign investment vehicle (PT PMA). Nominee structures that hide foreign ownership are illegal and unenforceable.

2. Law No. 40 of 2007 on Limited Liability Companies

Official name: Law of the Republic of Indonesia Number 40 of 2007 concerning Limited Liability Companies

• Article 3: Limits shareholder liability to their paid-up capital.
• Article 97: Imposes personal liability on directors who act negligently or unlawfully.

Practical meaning:
Corporate protection exists, but directors can still be personally liable for legal violations.

3. Law No. 11 of 2020 on Job Creation

Official name: Law of the Republic of Indonesia Number 11 of 2020 concerning Job Creation

• Simplifies licensing through the OSS system
• Strengthens post-licensing supervision

Practical meaning:
Licenses are easier to obtain but easier to revoke if compliance is breached.

4. Presidential Regulation No. 10 of 2021 as amended by Presidential Regulation No. 49 of 2021

Official name: Presidential Regulation of the Republic of Indonesia Number 10 of 2021 concerning Investment Business Sectors, as amended

• Determines which sectors are open or restricted to foreign investment

Practical meaning:
Operating in a restricted sector exposes foreign businesses to license cancellation and forced divestment.

5. Law No. 13 of 2003 on Manpower (as amended)

Official name: Law of the Republic of Indonesia Number 13 of 2003 concerning Manpower

• Regulates employment contracts, termination, and worker protections

Practical meaning:
Improper termination or misclassification of workers can result in substantial compensation claims.

Risks and Legal Consequences

1. Corporate Structure Risks

Using an incorrect structure—such as a PT Lokal with foreign control—can lead to:

• Shareholder disputes
• Loss of ownership rights
• Inability to enforce contracts

2. Licensing and Regulatory Risks

Operating without proper licenses violates OSS regulations.
Consequences include:

• Administrative fines
• License suspension or revocation
• Business closure

3. Contractual Risks

Indonesian courts enforce contracts strictly based on written terms.
Risks include:

• Unenforceable foreign-law clauses
• Poorly drafted bilingual contracts

4. Employment and Immigration Risks

Hiring foreigners without proper work permits violates immigration law.
Consequences include:

• Fines
• Deportation
• Blacklisting

5. Tax and Reporting Risks

Failure to report investment activity or taxes may result in:

• Audits
• Penalties
• Criminal exposure in severe cases

Case Examples

Case 1: Nominee Shareholder Dispute

A U.S. investor used Indonesian nominees to hold shares. When profits increased, nominees claimed ownership.
Outcome: Courts refused to enforce side agreements.

Case 2: License Revocation Due to KBLI Error

A foreign-owned company operated outside its approved business classification.
Outcome: OSS revoked its operational license.

Case 3: Improper Employee Termination

A foreign company terminated staff without statutory severance.
Outcome: Labor court ordered substantial compensation.

What Can Be Done

Step 1: Use the Correct Legal Structure

Establish a PT PMA if foreign ownership exists.

Step 2: Verify Business Sector Eligibility

Confirm sector openness under Presidential Regulation No. 10 of 2021.

Step 3: Maintain Licensing and Reporting

File LKPM reports and update OSS licenses.

Step 4: Draft Enforceable Contracts

Use bilingual contracts compliant with Indonesian law.

Step 5: Obtain Professional Legal Advice

Foreign investors should consult an advocate through the contact details available in this website’s navigation.

Conclusion

Indonesia is a legally structured and increasingly transparent business environment. The risks of doing business in Indonesia are manageable—but only for investors who respect the legal framework.

Most legal problems arise from shortcuts, nominee arrangements, and misunderstanding local requirements. With proper structuring, compliance, and professional advice, Indonesia can be a stable and rewarding market for foreign businesses.

Frequently Asked Questions (FAQ)

Is Indonesia risky for foreign investors?
Not if the law is followed. Most risks stem from non-compliance.

Can foreigners operate without a PT PMA?
No. Active business operations require a PT PMA.

Are contracts enforceable in Indonesia?
Yes, if properly drafted and compliant with Indonesian law.

What is the biggest legal mistake foreign businesses make?
Using nominee shareholders to hide foreign ownership.

Do foreign directors face personal liability?
Yes, if they act unlawfully or negligently under company law.