Tax Views Article – New developments in Argentina, Brazil and Mexico

New developments in Argentina, Brazil and Mexico

As global organizations face challenges to protect against, prepare for and resolve disputes with tax authorities, a 5-part webcast series from KPMG’s Global Tax Dispute Resolution and Controversy Services’ (GTDR&C) visits key jurisdictions across the globe to provide you with what you need to know to stay current. In the second of our series, Sharon Katz-Pearlman led a discussion with tax disputes leaders in Argentina, Brazil and Mexico. Their discussion is summarized below.

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Around the world with KPMG’s Global Tax Dispute and Controversy network – New developments in Argentina, Brazil and Mexico

A panel discussion moderated by Sharon Katz-Pearlman, Head of KPMG’s Global Tax Dispute Resolution and Controversy (GTDR&C) Services

As global organizations face mounting challenges to protect against, prepare for and resolve disputes with tax authorities, a 5-part webcast series from KPMG’s GTDR&C Services visits key jurisdictions across the globe to provide you with what you need to know to stay current.

In the second of our series, Sharon Katz-Pearlman led a panel discussion with several GTDR&C leaders from KPMG International’s network of firms in Argentina, Brazil and Mexico, highlighting what tax executives need to know to navigate current challenges in these jurisdictions. Their discussion is summarized below.

Find details about other webcasts in this series.

Argentina – Valeria Cardinale, Director, Tax & Legal, KPMG in Argentina

For companies doing business in Argentina, the tax and business environment is changing for the better. The country’s new government, elected in December 2015, is already taking steps to shift the direction of the tax authorities away from politically motivated collections and toward more technically oriented compliance activities.

In efforts to raise desperately needed tax revenues, Argentina’s previous government passed a number of amendments designed to extract more taxes from international transactions. Most cross-border transactions were treated as suspect, and more onerous penalties were adopted for non-compliance with tax laws governing international activity.

Within the tax authority, technical tax resources were replaced with non-technical appointees and the tax system was used as a tool to intervene in the private economy. Sanctions for non-payment of tax on cross-border transactions included cancellation of taxpayer identification numbers and the rejection of import/export permits and tax certificates needed to bid for state contracts. Such serious consequences encouraged businesses to keep a low profile where taxes were concerned.

Since the new government took office in December, work is being done to restore tax expertise in the tax administration and improve its image. As a result, disputes are now being settled on technical grounds and companies doing business in Argentina are gaining more certainty over the tax treatment of their cross-border transactions.

System discourages tax appeals

Argentina’s tax system is based on self-assessment. Taxpayers determine their taxes owing and file tax returns, which the tax authorities review for accuracy and completeness. If the tax authorities make an adjustment and the taxpayer disagrees, administrative and judicial levels of appeal are in place to resolve the issue.

Between the audit and administrative appeal stages, however, there is no possibility for mediation between the taxpayer and the tax authority. If a taxpayer disagrees with an adjustment, the tax authority either confirms or abandons it. If confirmed, the administrative appeal is initiated. At this point, fines may be applied for omissions or failure to report income. Criminal charges can be laid if the tax authority believes fraud is involved and the adjustment exceeds ARS$400,000 (about USD$27,000 US dollars). It can take from 8 to 10 years to settle the case through the administrative and judicial appeal levels.

Tax authority relationships are key

Lack of formal mediation, possible criminal charges and protracted timelines for resolution can discourage companies from pursuing appeals. However, there are informal ways that taxpayers can avoid criminal charges or adjustments entirely. At the outset of a tax audit, companies are advised to file complete documentation in writing, setting out their positions and providing evidence in support. In particular, this initial documentation should demonstrate a lack of criminal activity.

Companies should also strive to develop a good working relationship with their auditors. This opens the possibility that potential disputes can be settled informally before the audit is closed. Even if an adjustment is proposed, previously submitted evidence and cooperative relationships can preempt the imposition of severe criminal charges at the administrative appeal stage and reduce the costs and time needed to settle the matter.

The Tax Authority have considerable room for discretionally decisions within the Law. For these reasons it is important to maintain a good relationship and keep communication channels open. Based on the experience of KPMG in Argentina, this informal approach is often effective and its degree of success depends on the strength of the relationships of the parties involved.

Provincial taxes add more costs and complexity

On top of their national tax obligations, taxpayers in Argentina must also manage their provincial tax burden in each of the 24 provinces they do business in. The provincial governments face their own fiscal challenges, and they are becoming much more aggressive in their audit and assessing practices. This is compounding the existing tax complexity and creating serious concerns for businesses.

One widespread problem arises from provincial advance tax payment requirements. Many corporations have had difficulty obtaining credits in respect of their advance tax payments, especially where the excess payments greatly exceed the taxes due. Pursuing these refund claims can be time-consuming and costly, especially when dealing with tax authorities in multiple jurisdictions.

Amnesty regime on hold

Since December 2014, Argentina’s national tax authority has been cracking down on undeclared investments held in offshore accounts, making income and wealth tax adjustments and filing criminal reports. To complement this initiative, the tax authority had considered introducing a tax amnesty regime.

Taxpayers who receive an adjustment for undeclared offshore accounts are advised to file a rejection of the adjustment with the tax court. That way, these taxpayers could potentially benefit if Argentina puts in place a tax amnesty regime in the future.

Court decisions open tax reduction opportunities

As a result of recent Supreme Court decisions and the economic crisis, many financially struggling companies in Argentina are taking action to reduce their tax bills. Companies are attempting to save tax by taking filing positions based on two decisions in particular:

  • The Supreme Court has ruled that Argentina’s minimum presumptive income tax should not apply to companies in periods in which no income is generated. As a result, companies are taking the position that the minimum tax does not apply on the basis of their accounting and tax losses.
  • The Supreme Court has ruled that the different rates of tax imposed by the provinces are unconstitutional because taxpayers are required to pay more or less tax solely based on where the work is done. For companies with industrial activities, turnover tax rates can range from 1 to 5 percent, depending on the location, so the tax savings resulting from this ruling can be substantial. For that reason these days there are many case before the Supreme Court in relation to turnover tax.

While Argentina’s new government is actively working to improve the country’s tax administration, the tax environment remains difficult.  Foreign companies doing business there should be sure to have a sound, well-documented business purpose for their structures and transactions. Establishing favorable relations with the tax authorities can also go a long way toward reducing the potential for tax disputes or easing their consequences.

Brazil – Marcos Matsunaga, Latin America Leader, Tax Dispute Resolution and Controversy, KPMG in Brazil

With the Brazilian government in a state of disarray following its president’s impeachment proceeding in April 2016 and with the country in urgent need of more revenue, only one thing is certain: tax burdens in the country will continue to rise and the aggressiveness of its tax authorities will continue to increase. Against this backdrop, a number of recent developments are presenting additional tax challenges for companies with operations and investments in Brazil.

Revamped CARF opens following corruption scandal

The Administrative Council of Tax Appeals (CARF), Brazil’s second-level federal administrative court, resumed its trials in December 2015. Its trials were suspended in March 2015 because of federal police investigations into corruption within the council for favoring companies.

To reduce the possibility that one or a group of judges could manipulate outcomes, the re-opened CARF has been modified in several ways: the number of judges and panels are reduced, the number of judges on each panel is increased, and groups of similar cases can be decided at the same trial session. Panels still are required to have an equal number of judges representing the tax authorities and taxpayers. Taxpayer representative judges can no longer practice law, however. This has caused a turnover of more than 80 percent of judges representing taxpayers and raised concerns over the CARF’s jurisprudential consistency in new cases.

Indeed, several high-profile cases affecting large numbers of taxpayers have been heard since the CARF resumed, and the majority of the decisions have gone against the taxpayers. Tax issues involved in these cases include:

  • amortization of goodwill
  • retroactive payments of interest on net profits
  • capital gains on the exchange of assets
  • the 30 percent limitation on compensation for tax loss carryforwards on corporate mergers and wind-ups.

Given these early experiences with the revamped CARF, companies are advised to re-evaluate their tax dispute resolution strategies. Previously the CARF offered a good alternative for achieving a favorable outcome. Now companies may be better off going straight to a judicial review.

Tax Review Board – list of top audit targets

Brazil’s federal tax authorities (RFB) annual audit plan for 2016  specifies eight issues as targets for tax audits:

  1. tax planning focusing on the creation of amortizable assets
  2. tax planning involving private equity funds
  3. taxation of profits generated abroad
  4. cigarette, beverage and fuel sectors
  5. social contribution on payroll – individual companies (Pejotização)
  6. omission of income based on electronic invoices (NF-e)
  7. omission of income based on suspicious inconsistent financial flows
  8. Social security offset informed in GFIP (social contribution declaration form

Of course, Brazilian tax auditors will not restrict their investigations to these issues only, especially given their imperative to raise collections. All taxpayers, especially large companies, should thoroughly review their tax risks and take steps to mitigate them accordingly.

Focus on ‘suspicious inconsistent financial flows’

A recent Supreme Court decision struck down a constitutional challenge and established tax authorities’ right to access the banking and credit card data of taxpayers without judicial authorization. Combined with the accounting and fiscal records that taxpayers in Brazil must electronically submit, the banking and credit card data will provide the tax authorities with extensive information about taxpayers’ financial activities. It is expected this information will be digitally analyzed to identify the ‘suspicious inconsistent financial flows’ that are targeted in the TRB’s 2016 audit plan.

Provisory decisions

A second Supreme Court decision allows the courts to impose criminal sentences on a provisory basis after an appeal court decision has been made but before the legal appeal process has been exhausted. Whether this ruling will be applied to tax disputes remains to be seen. Together with changes to the Code of Civil Procedure introduced in March 2016, the ruling could help taxpayers execute their decisions faster, but, on the other hand,  allow tax authorities to enforce tax foreclosures more quickly. The current 3 to 7 year timeframe for resolving tax disputes could be significantly shortened as a result.

Mexico – Manuel Llaca, Partner in Charge, Legal Practice, Dispute Resolution & Tax Litigation, KPMG in Mexico

As in Brazil and Argentina, Mexico’s tax authorities are under pressure to raise collections and they are adopting more aggressive tax audit procedures. Similar to Brazil, Mexico is using data analytic processes to identify audit targets by flagging inconsistencies in taxpayers’ reported profits and tax accounts from year to year. The Mexican Tax Authority (MTA) has set up audit programs that focus on six specific issues:

  1. Deductions for payments made abroad on a pro-rata basis.
  2. Deductions for marketing and advertising expenses.
  3. Back-to-back loans.
  4. Royalties paid to foreign residents regarding intangible assets generated in Mexico.
  5. Value added tax refunds.
  6. Aggressive tax planning in relation to the Organisation for Economic Co-operation and Development’s (OECD) Action Plan on Base Erosion and Profit Shifting.

Focus on foreign marketing and advertising expenses

Item 2 on the tax authority’s list is a significant source of controversy. The MTA frequently decides that marketing and advertising expenses paid to foreign related parties are not deductible for the following reasons:

  • Duplicative payments are made both locally and abroad to related parties.
  • There is no evidence (e.g. documentation) of any deliverables connected to payments to foreign related parties and how those deliverables help generate income in Mexico.
  • There is no economic analysis, guidelines or other evidence to establish an economic benefit to Mexico that justifies deductibility of these expenses.
  • The amounts paid to foreign related parties are not in line with the arm’s length principle.

In short, the MTA often denies marketing and advertising expenses paid to foreign related parties because they do not relate to any income earned in Mexico. Once the decision is made, it is up to the taxpayer to produce documentation to prove otherwise – and usually within a tight timeframe.

Taking a preventive approach

KPMG in Mexico advises taking a preventive approach to protect deductions for foreign-paid marketing and advertising expenses. By maintaining an up-to-date defense file, you will be able to quickly and effectively respond to any questions from the MTA as they arise. The file should include documentation that supports the business reasons for the expenses. It should also address the MTA’s possible arguments regarding related-party deliverables, economic connection and benefits to Mexico, and arm’s length transfer prices. By involving a multidisciplinary team of tax, transfer pricing and dispute resolution specialists, the objective is to ensure a defense file that covers all the bases.

Managing audit queries in this area on a reactive basis is more difficult. The same documentation would be needed to support your marketing and advertising expense deductions, but it would need to be assembled and delivered within legal deadlines. In these cases, opening a communication channel with the tax authority is recommended so you can present your defense and provide answers to the MTA’s questions about these expenses, for example, in a roundtable meeting format. Again, it is advisable to involve tax, transfer pricing and dispute resolution professionals to help manage these discussions and avoid adverse MTA determinations.

Mediation with Mexico’s Taxpayer Ombudsman

As part of the audit defense, Mexico’s Taxpayer Ombudsman (PRODECON) can be brought in to independently mediate a disputed matter before an assessment is issued. During this mediation, taxpayers and tax authorities can arrive at a binding conclusive agreement to resolve the issue and avoid litigation.

Since this service was introduced in 2011, outcomes have proven to be better than expected. Taxpayers are able to bring new facts and arguments to the table, ensuring the MTA has fully considered all the issues. Once a conclusive agreement is reached, no assessment will be issued and you may also gain relief from any related tax penalties.

Launching an administrative appeal

Once an assessment is issued, you may opt to launch an administrative appeal. Again, you will have a chance to bring new facts and arguments for consideration, lines of communication with the MTA can be kept open, and a settlement can be agreed without litigation. Furthermore, you will not be required to offer a warranty for any disputed taxes while the appeal is pending. The Taxpayer Ombudsman will not be involved to mediate discussions though, so a conclusive agreement should be sought before an administrative appeal where possible.

Litigation brings good prospects at higher costs

If a dispute over marketing and advertising expenses does end up in litigation, precedents on their deductibility as an indispensable business expenditure may work to your advantage. At this stage, expert witnesses should be brought in to validate your analysis of the tax, transfer pricing and economic issues. Provided that your analysis is sound and your documentation is strong, you have a reasonably good chance of a favorable outcome. However, the extra time and costs involved at the litigation stage can be considerable.

While the discussion above has focused on disputes involving marketing and advertising expenses, many of the dispute resolution approaches and programs apply equally to other disputes with the MTA. Whatever the potential area of tax risk is, your best bet is to keep a defense file on hand, take a preventive approach, and involve multidisciplinary team of professional advisors to help avert disputes before they arise.

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