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Increasing evidence requirements: ATO's new guidance on tax governance ratings

ATO's new guidance on tax governance ratings

Philip Beswick discusses the ATO's new guidance and approach to reviewing tax governance ratings.

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Director, Tax Governance & Transformation

KPMG Australia

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The Australian Taxation Office (ATO) published on 19 June 2018 and 25 June 2018 additional guidance on their approach to reviewing and providing ratings on tax governance. Aimed at large public and multinational businesses, the guidance will be applied as part of Pre-Compliance Review (Top 100) or Streamlined Assurance Review (Top 1000) programs and complements expectations set out in the Tax Risk Management and Governance review guide (Guide).

This new guidance continues the evolution of expectations from the ATO surrounding tax governance. The emphasis of the guidance is on the level and nature of objective evidence required to demonstrate that tax controls have been designed well and operate effectively. In short there is an increasing level of evidence required to satisfy the ATO now and in the future that a well-developed tax governance framework is in place. 

Slides and presentations do not equate to evidence

Readers will be familiar with the Stage 1 to 3 and red flag rating system the ATO applies in assessing the maturity and level of evidence of a tax control environment under the Justified Trust framework.

The ATO is indicating in the guidance that in order to achieve a Stage 1 rating for tax governance there needs to be evidence of a board endorsed document setting out the tax governance framework, documented procedures for key processes surrounding the income tax return and Business Activity Statement (BAS) obligations and a testing program to validate the operating effectiveness of tax controls. They add ”we are unable to rely on slide presentations, draft policies or narrative descriptions of the tax control framework, as they do not represent source documentation”. 

Achieving a Stage 2 rating requires in addition to the above a ‘recommendation’ that a self-assessed gap analysis of that environment against the Guide has taken place. The gap analysis should identify compensating controls and documentation of why elements of the Guide are not appropriate to the circumstances where relevant.

Evidence of formal controls testing required for Stage 3 rating

To achieve the highest rating, level 3, taxpayers will need to show for instance there is a periodic testing program and the results of that testing program. Such a testing program is expected to address the six key controls described in the ATO’s Director's summary on tax governance, including Management Control 6 – documented control frameworks and Board Control 4 – periodic control testing.

The ATO make the point explicitly that to achieve a rating 3 the evidence must reflect an independent assessment and testing of the control environment, that is an assessment by teams outside of the risk owners (typically the tax function), such as internal audit or external reviewers. It’s interesting to note that in the new guidance, the ATO take the opportunity to “encourage all public companies and multinational businesses” to achieve a Stage 3 rating.

At the other end of the spectrum, the red flag rating, this will be applied where evidence is not provided of a tax control environment existing. The example provided is where significant errors are not being identified through the processes and controls in place.

Raising the bar

The new guidance reflects a significant development as the ATO raises the bar in the evolution of the tax governance framework. The new guidance is welcomed in that it provides greater clarity on the ATO’s expectations on this important new area of focus. Based on this new guidance companies are encouraged to look critically at how they will provide objective evidence that tax controls are in place and have been independently tested in order to achieve a higher rating.

 

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