Tax Audit Trends and Developments: How taxpayers can achieve optimum results Panel Speakers Eugene Lim, Partner, Baker & McKenzie (Singapore) Chun Ying Ng, Associate, Baker & McKenzie (Singapore) Jason Liang, Associate, Baker & McKenzie (Kuala Lumpur) Amit Bhalla, Vice President, Tax & Customs APAC, Schneider Electric (Singapore) Michael Palumbo, Director of Tax, Baker Hughes (Singapore)
Overview of the Audit Environment in Developing Countries
Key Trends Increased aggressiveness in tax audits Audit focus areas: transfer pricing anti-avoidance generally, cross-border tax disputes Driven by search for revenue Expect increased transparency BEPs country-by-country reporting requirement; OECD Automatic Exchange of Information
Aggressive? Recent Areas of Audit Focus China Yes Entities engaged in export tax refund, gold transactions and capital transactions Real estate and construction industry High-income individuals Commercial educational training institutions Statistics Collections from tax audit was RMB 172b for 2014, with a growth rate of 21.45% New Approaches/ Trends Extending the tax audit to fapiao related activities and antiavoidance India Yes Withholding tax provisions and their applicability to crossborder deals Transfer pricing Collections for direct taxes for FY14/15 up by 19% compared to the previous fiscal year Bill providing for separate taxation in respect of undisclosed foreign income and assets. Non-compliance will attract stiff penalties including imprisonment and fines.
Aggressive? Areas of audit focus Malaysia Yes Anti-avoidance Transfer pricing Tax incentives Statistics Collections for corporate income tax increased by 56% between 2011 and 2015 New Approaches/ Trends Determination of Arm s Length Price Removal of time bar Indonesia Expected to be increasingly aggressive increase in audit activity Abuse of tax treaties Foreign related party transactions Mining, oil and gas taxpayers Wholesale trading taxpayers Professionals, middle and high income individual taxpayers Collections for 2015 increased by 19% from previous year Tax audit revenue target for 2015 increased by 206% compared to the target for 2014 The Government issued regulation number 60/PMK.03/2014 regarding exchange of information. This regulation stipulates the procedure on the exchange of information between Indonesia and its partner countries, which can be done by request, spontaneously or automatically. Vietnam Yes Transfer pricing VAT credit Expense deductibility Frauds in small local companies Tax revenue budget for 2015 increased by 16.4% Transfer pricing Royalties VAT credit
Thailand Philippines Aggressive? Areas of audit focus Statistics New Approaches/ Trends Medium but tends to be more aggressive due to country s lack of revenue Yes. Even business closures which used to be easy, are now audited closely. Tax authority obtains company information from SEC, and audit notices are sent to directors and officers. Uses media to embarrass noncompliant taxpayers. Income fluctuation e.g. significantly decreased or underfiling Overclaiming expenses, especially intercompany charge Complex tax planning transactions Operation in tax haven countries Transfer pricing Export of goods and services entitled to VAT at 0% or VATexempt business Withholding tax, VAT and income tax. Use of information obtained from third parties, e.g., suppliers, customers, and other gov t. agencies such as the bureau of customs. Target for 2015 is 75.1 billion bht higher than actual tax collected in 2014 Tax collection target for 2015 increased by 21% from 2014 target Increasing and more intense, including Transfer Pricing audits Fiscal Intelligence Unit (FIU) of Dept. of Finance, now tasked to conduct post-entry audits. Findings are sent to Bureau of Customs and Bureau of Internal Revenue for proper action.
New Era of Increased Transparency
BEPS Country-by-Country Reporting Requirement Multinational corporations will be required to report information to tax authorities on a country-by-country basis: EBIT Revenues (related/ unrelated) Cash income tax paid Current year income tax accrued Required Information Tangible assets Stated capital Accumulated earnings Number of employees
Target on hot data points - high profit, zero tax and low substance jurisdictions - ring-fencing of preferential tax regimes - no-where income Impact on the Management of Audit / Controversies How to ensure consistency in the information provided in each jurisdiction How will data be used by authorities? For transfer pricing risk assessment or for making adjustments? Endless audit queries?
Adopting a Strategic Approach in Managing Audits and Controversies
Holistic Approach Planning Audit Controversy
Planning Stage Risk assessment in light of BEPS consider restructuring of structures considered aggressive Importance of documentation and alignment of facts analyse ability to collect and process data (sources of data points, responsibilities, systems requirements) Awareness of local trends and developments have eyes and ears on the grounds Consider privilege issues at an early stage Consider obtaining certainty: APA? Rulings?
Audit Stage At the Beginning Assign appropriate staff to handle the audit queries and seek professional advice Identify areas of risk and escalate issues appropriately Preparation Conduct rigorous due diligence Develop consistent case theory and consider advocacy position Consider evidentiary issues (privilege, burden of proof, documentation) Communications with the Authorities Identify and manage risks in the provision of information and documents to authorities Ensure consistency in communications Adopt the right cooperative attitude and focus on effectiveness and efficiency in engaging the authorities
Controversy Stage Engage suitable external advisers Consider the appropriate dispute resolution forum: administrative litigation / judicial review MAP Plan negotiation strategies with advisers best case scenario vs bottom line deal with issue in isolation or with other issues Understand the procedural rules timelines processes evidentiary rules
Practical difficulties? Risk management vs time and cost efficiency a balancing act? Tax v Legal when should Legal be involved? Best case scenario? Appropriate flagging of audit areas at risk from extensive audit queries Rigorous and coordinated efforts with internal teams and external advisors to strategise and prepare audit response Reality? Demands on time and cost limited resources Organisational challenges
Summary of Lessons Learnt
Malaysia Audit Time consuming, granular, detailed for TP Expect focus on SSF in particular Requirement, remoteness, duplication of service Cost base, allocation key, mark up Evidence of benefit Leasing, purchases / sales Non TP tax issues in focus, withholding tax Dispute Resolution Strategies Document agreed issues Control the documents, copies, sign for records Use of 3 year vs. 1 year results Propose a settlement, especially if auditor leaving Errors, use as basis to settle in lieu of issues Bring in advisors to help negotiate Meeting at higher level
Indonesia Audit TP handled by local office, no expertise No consistency in issues Expect focus on SSF in particular Time sheets Evidence Leasing Withholding tax and VAT in focus Interest Expense No guidelines on debt/equity limit Dispute Resolution Strategies Resolve as many issues before closing conference Document disagreements as basis for appeal 99% of appeals rejected, ticket to Tax Court Timeliness of decisions Leasing, use comps to reflect IRR DGT comps may form basis of settlement
China Audit Quick request for documentation Focus on market intangibles for TP Focus on SSF, even in country Cost base, allocation key match service, mark up 6 point test, reasonableness, separate agreements SAFE Interplay with PE, secondment, Circular 19 Focus on VAT Pilot vs. Business Tax Circular 146, Royalties paid in last 10 years Dispute Resolution Strategies Effective / efficient communication, officer and bureau Negotiate dollar threshold, percentage turnover Resolve disagreements early, document Educate them on your business Educate Management about Bureaus different opinions of same issue
Vietnam Audit Quick request for documentation 5 years of books in 2 weeks Presumption that taxpayers do not keep VAS VAS will be relevant in audit in many ways, way to deny deductions Inconsistency in rulings and applications, province Liberal usage of term tax evader All taxes in focus, emphasis more on TP Dispute Resolution Strategies Minutes of meeting taken by Tax Dept. Ensure proper items documented and agreed before signing. Resolve as many issues in audit, document differences in Minutes as basis for appeal. Appeal to Tax Dept in Province, Internal Audit Division. Treaty matters to MOF in Hanoi.
Mutual Agreement Procedures in Asia
MAPs in Asia: nascent but growing Country New cases / inventory (2013) Canada 127 / 235 France 216 / 618 Germany 267 / 858 UK 79 / 160 USA 403 / 732 vs. Country New cases / inventory (2013) Australia 8 / 23 Japan 36 / 65 Korea 23 / 80 China 23 / 43 New Zealand 14 / 13 Insights: Average time to resolve MAP cases: 23.57 months (2013) vs. 25.46 (2012) Disputes themselves are more frequent, particularly in transfer pricing area Recognition of need for additional resources to deal with volume: trend to invest in programs Recognition of need to make processes more effective: BEPS take-up in APAC as a whole? Before going to MAP, recognise the difficulties and consider all dispute resolution options
MAPs in Asia: an example case best practices Best practices Know the process, facts and the issues involved, and ensure sufficient analysis and documentation in place Organise resources and carefully assemble your support team Application to the case Careful analysis and prepare contemporaneous documentation in advance to review and justify the possible positions to take Robust functional and factual analysis key Senior client team and advisory team appropriate to the issues at hand Be realistic with facts on hand and know the strengths and weaknesses of your position Clearly understand the contradicting views of the competent authorities Don t expect to win on all points Up-front analysis is key Invest time and energy to ensure position is fully understood Seek advice as early as possible Strategic advisor can help through the process to fully analyse the key technical issues and determine possible approaches early
MAPs in Asia: an example case HQ services Global HQ Raw materials Manufacturer Suppliers Products Singapore Master Distributor FMCG company Basis of disagreement Master distributor in Singapore established as part of a restructuring program, as part of function as a Regional Principal Master distributor remunerated as Regional Principal, earning residual profits Japan distributor remunerated as an LRD on an operating margin using local comparables Key issues Japan distributor Customers Did marketing intangibles exist in the Japan distributor? Transferred as part of the restructuring? If transferred, how to be remunerated? If not, how would this affect the go-forward transfer pricing model? Japan appeal route had been entered without agreement, options are court or MAP JP court process possible but lengthy, no guarantee of relief in MAP or court
MAPs in Asia: an example case (possible resolution) HQ services Global HQ Raw materials Manufacturer Suppliers Products Singapore Master Distributor Japan distributor Customers MAP chosen Agreement or no agreement between authorities that valuable marketing intangibles were transferred as a part of the restructuring If yes, agreement that this should be valued as a transfer and subject to exit taxation Agreement on the basis of valuation a return of relevant total marketing costs plus a return on investment Agreement or no agreement on the go-forward model on the basis of a Principal/LRD structure without further TP adjustment To consider: Conclusions Domestic resolution through appeal/court is no longer possible after MAP route entered Double taxation exposure remains if no resolution through MAP and resolution is not mandatory No mandatory binding arbitration
MAPs in Asia: is resolution likely? Clear trend to invest further in programs, both in terms of resources and capabilities some limited impact in reducing times to resolve but, even with greater investment, disputes are becoming harder to resolve technical disagreements are particularly common few countries in Asia are fully OECD-aligned and/or share a common interpretation of the arm s length standard Improved dispute resolution mechanisms are important, but without mandatory binding arbitration double tax risks remain As a consequence, there is an increase in litigation in the region, where possible BEPS?
Thank You Q&A