Tax Views Article – New developments in Australia, China and Malaysia

New developments in Australia, China and Malaysia

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 third of our series, Sharon Katz-Pearlman led a discussion with tax disputes leaders in Australia, China and Malaysia. Their discussion is summarized below.

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Around the world with KPMG’s Global Tax Dispute and Controversy network – New developments in Australia, China and Malaysia.

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

You can find details about other webcasts in this series here.

Australia – Angela Wood, Asia Pacific Leader, GTDR&C network, KPMG in Australia

When it comes to the global project to stem tax base erosion and profit shifting (BEPS) led by the Organisation for Economic Co-operation and Development (OECD), Australia has been a trail-blazer, moving ahead of other countries by adopting a variety of BEPS-related proposals. International tax issues have become a hot topic for Australian media, and the heads of tax of a number of global companies have been called to testify on corporate tax avoidance before a Senate inquiry.

‘Doing more with more’

When Australia’s current Commissioner of Taxation took office 3 years ago, his marching orders to the Australian Taxation Office (ATO) were to ‘do more with less’ by seeking new relationships with large companies based on engagement, trust and a cooperative approach to settling tax issues.

Recent statements from the Commissioner signal a shift in attitude, indicating intentions to take a harder line on perceived tax evasion backed by investment that will empower the ATO to ‘do more with more’. Australia’s most recent budget earmarked almost 680 million Australian dollars (AUD) for the ATO. The funds are being used to set up a tax avoidance task force and to recruit 1,000 additional international tax auditors, with the goal of raising AUD3.7 billion more in tax revenue. With other tax authorities equally committed to increasing their share of global tax revenue, levels of tax uncertainty and disputes are rising ever higher for international companies with business and investments in Australia.

Australia’s Multinational Anti-Avoidance Law

The Australian government has adopted a series of tax legislative measures targeting international companies and BEPS. One of the most significant is the country’s two-limbed implementation of measures similar to the diverted profits tax recently put in place by the UK.

The first limb is the ‘multinational anti-avoidance law’ (MAAL), which took effect on 1 January 2016. The MAAL takes aim at multinational enterprises with AUD1 billion or more of global revenue that supply goods or services to Australian customers but have no or limited taxable presence there.

More specifically, the MAAL targets arrangements that shift Australian profits into low-tax jurisdictions and/or avoid the creation of an Australian permanent establishment where reducing Australian or foreign taxes was a ‘principal purpose’ of entering the arrangement – which may be one of several purposes. By contrast, application of Australia’s general anti-avoidance rule requires a single ‘dominant purpose’ of achieving a tax benefit, so the MAAL threshold is lower and the ‘principal purpose’ test could be applied to a broader range of circumstances.

The ATO took an innovative approach to the MAAL’s implementation by introducing guidelines for a ‘client experience roadmap.’ The guidelines encourage taxpayers potentially affected by the MAAL to come forward and discuss with the ATO whether the MAAL might apply in their circumstances. Potential penalties of 100% may be applied by the ATO when raising MAAL assessments against taxpayers, however those that engaged with the ATO prior to 31 March 2016 to explore potential MAAL exposure may receive penalty reductions.

Taxpayers that did not take up the ATO’s offer now face aggressive audits, and any advisors that have recommended and implemented restructures for taxpayers to avoid MAAL exposure may face promoter penalties.

Consultations toward a diverted profits tax

On 3 May 2016, the Australian government released a consultation paper on a new diverted profits tax (DPT), which forms the second limb of its approach modelled on the UK example. Australia’s DPT is aimed at companies that enter into arrangements that divert profits from Australia to a country where the income/profits is subject to a tax rate that is less than 80 percent of the Australian relevant tax rate (e.g. less than 24 percent) and there is insufficient economic substance. The 40 percent tax would apply to income years starting on or after 1 July 2017, regardless of whether the transaction was entered into before that date.

The ATO’s assessment process for the DTP could prove onerous for taxpayers. Under this process, the ATO could raise a provisional assessment within 7 years of the related tax return’s filing date. Taxpayers would have a mere 60 days to respond with further factual information, before the ATO issues its ATO’s final assessment. Taxpayers would then have 21 days to pay the additional assessed tax, regardless of whether the amount of tax assessed is ultimately reduced during the ATO’s subsequent final review or the taxpayer decides to appeal the assessment before the courts.

Current areas of tax audit focus

In current audits of multinational companies, ATO officers are devoting special attention to:

  • transfer pricing
  • stapled structures, especially structures involving infrastructure projects
  • hybrid arrangements and cross-currency interest rate swaps
  • tax avoidance arrangements
  • marketing and procurement hubs
  • tax residency of corporations
  • characterizations of revenue versus capital

With the extra funds allocated in Australia’s 2016 budget, the ATO is expected to ramp up its examinations of these and other international tax issues. In addition to building capacity, the ATO is forming multidisciplinary teams involving specialists in tax, law, economics and valuation and is working to engage these teams earlier in the audit process. ATO officers have become more strategic in determining which tax issues warrant their attention and which issues are most worth pursuing through the courts. Fewer tax cases are being brought before the courts and the ATO’s success rate for those cases that are litigated is improving as a result.

In its approach to tax audits and reviews, the ATO is making more use of sophisticated data matching tools to identify taxpayers whose tax positions vary from industry trends (e.g. fluctuations in royalty payments to offshore parent) and analyzing those variances to determine audit targets.

For taxpayers, these developments are combining to create a much more difficult tax audit environment in Australia. With taxpayer’s being put to proof much earlier in the tax audit and dispute process, businesses are advised to provide complete documentation of their facts and tax positions as early in the process as possible, and ideally at the time transactions are undertaken and tax positions contemplated or adopted.

China – David Ling, Partner, Tax, KPMG in China

Businesses in China face an equally difficult tax audit environment. China’s tax system has undergone complex changes in the past 5 years. Considerable tax uncertainty has resulted, but no advance tax rulings are available to gain assurance over how complex transactions would be treated. With interest on unpaid taxes payable at 18 percent per year and penalties ranging from 50 to 500 percent of unpaid amounts, businesses need to manage their relations with tax authorities carefully to improve their negotiating positions and help avoid or mitigate adverse findings during tax audits and investigations.

Businesses in China may need to deal with up to three categories of a tax audit:

  1. The Audit Department of the State Administration of Tax (SAT) undertakes special audits on selected types of transactions and selected large group companies.
  2. The SAT’s Large Enterprise Bureau (LEB) focuses on inspecting the tax risk management practices and controls of selected large companies as part of the ‘Qianhu Plan’ discussed further below.
  3. Local tax authorities conduct their own tax inspections, often targeting cases of non-compliance reported by members of the public or reviewing specific industries or transactions identified in the SAT’s guidance.

China’s Qianhu Plan for strengthening its tax and financial systems

China’s Qianhu Plan, introduced in 2015, aims to strengthen the country’s tax and financial systems in order to stimulate economic development. As part of this plan, a tax risk diagnostic platform is being built and tested on some of China’s largest companies – referred to as ‘important minorities’. The goal is to facilitate enhanced controls for companies that generate the main sources of tax revenue while lightening the tax burden on small and midsized entities. By analyzing Big Data from companies’ finances, profit indices and the tax status of key large enterprises, the SAT aims to build and validate a comprehensive model for the analysis of large enterprises’ tax risks.

Enterprises selected for the pilot program include industry leaders, companies in emerging industries with significant growth prospects, and companies that pay the largest proportion of China’s total tax revenue. Through the pilot project, guidelines on tax risk analysis are being developed for companies in the construction, electricity, insurance, automotive, security and banking industries. Internet-based companies were considered for inclusion, but it was determined that the issues involved were too complex to be tackled at this point through the program.

The pilot also entails creating risk analysis guidelines for four subject areas, namely, cross-border investment, equity transfers, financial subsidies and related-party transactions.

As the SAT shifts its emphasis toward a more risk-oriented, data-driven approach, businesses will see the tax audit environment change significantly. Some businesses have opted to set up parallel systems to run tax diagnostics similar to those of the SAT. While this approach opens opportunities for businesses to identify and correct possible compliance lapses, this information could work against the business if the SAT seeks access to the business’ data and underlying systems.

Given the data-driven nature of the SAT’s process, it will be important for taxpayers to engage with the SAT early in the risk analysis process to influence the nature and extent of the SAT’s analysis. Once the inspection is complete and the audit enters the verification and review stage, it may become more difficult to negotiate disagreements over facts or tax law interpretations and the resultant audit outcome.

Once the first pilot program is complete, the SAT will roll out the program across China and commence a second group of pilot work. The end game is to modernize large enterprises’ tax management and have a modern fiscal and tax system in place by 2020.

Key tax audit changes for 2016

In addition to the changes for large companies under the Qianhu Plan, the SAT introduced several changes to its general tax audit procedures for 2016:

  • Tax audit categories: The SAT no longer chooses special audit targets by industry. Targets are now selected based on specific types of transactions and transactions undertaken by large group companies.
  • New audit method: Based on an idea tested in 2015 and expected to be adopted broadly this year, the SAT is both selecting cases for audit and forming audit teams on a random basis. With randomly selected teams, cross-provincial audits are expected to become more common as a result.
  • New tax audit protocol: The SAT’s new protocol to reinforce tax authorities’ internal control of tax audits clearly defines the duties and abilities of tax officials, enforcement procedures, timelines and the types of documentation to be issued to taxpayers. While the new protocol will likely make the audit process more transparent and efficient procedurally, taxpayers will be afforded less opportunity to negotiate with their tax auditors.
  • Transition from business tax to value added tax (VAT): As part of this transition, banks that previously paid business tax to a local tax bureau now pay VAT to the state tax bureau. As a result, the bureau can access data on a business’s fund flows by cross-checking against its tax reporting or requesting that information from the bank directly. KPMG in China has noted a trend toward state tax bureaus requesting such information in some tax audits.
  • Focus for 2016 tax audits: Top priorities for the SAT’s tax audits in 2016 include:
    • tax treatment of business tax and VAT during the final stage of China’s national VAT rollout, which started on 1 May 2016
    • personal income tax issues involving high-income expatriates, zero-filing expatriates and foreign artists and athletes
    • cross-border equity transfers, direct and indirect equity transfers and deductibility of outbound related-party payments (e.g. royalties, service fees)
    • fraudulent claims for export tax refunds
    • special tax invoices for gold trading
    • fraudulent invoices for agricultural products, including credit vouchers and VAT special invoices.

Planning your approach to tax audits

Once Chinese tax authorities have raised an assessment, the prospects of having it overturned administratively or on appeal are slim. Taking a strategic approach to tax audits and investigations can help you reduce your chances of receiving a negative assessment or negotiate a less unfavorable result.

While the investigation and negotiation are in progress, it’s important to show a proactive attitude and establish good relations, relying on good communication skills and efficient channels to negotiate and reach agreement with tax authorities about any contentious matters. Be vigilant about providing relevant, consistent information and documentation to the tax authorities by their deadlines, and take care not to give rise to additional issues.

Finally, once the inspection results are determined, you and your team should assess the potential benefits of undertaking an appeal after paying the relevant tax, interest and penalties. In addition to completing any necessary accounting and tax adjustments, you should monitor the implications of these adjustments on other taxes currently and on your company’s tax planning arrangements going forward.

At each stage in the audit process, assistance from tax professionals who have developed experience and relationships through dealings with China’s tax authorities can be invaluable.

Malaysia – Lian Seng Soh, Partner in Charge, Tax Risk Management, KPMG in Malaysia

Declining petroleum prices have drastically reduced Malaysia’s resource tax revenues over the past 5 years, but revenues are beginning to rebound following the implementation of a goods and services tax (GST) in 2015. Corporate income and withholding taxes still comprise the majority of tax revenues, and the Malaysia’s tax authorities are aggressively seeking to increase amounts collected through all of these income streams.

Separate bodies enforce income and indirect taxes

Currently, enforcement of income taxes and indirect taxes (i.e. customs, GST) are divided between the Inland Revenue Board of Malaysia (IRB) and the Royal Malaysian Customs respectively. These bodies operate independently and recently, the two authorities have expressed the need to look into the possibility of merging their activities, but they will remain separate in the near term until the government forces the issue.

Presently, as companies work to comply with their new Malaysian GST obligations, the Customs department generally is taking a friendly approach to GST audits. However, companies with sizable GST refund claims can expect to undergo a full-scale GST audit.

Audit programs for income taxes

For income taxes, the IRB has different audit programs that cover corporate taxes, transfer pricing, withholding taxes, payroll and tax incentives.

The IRB recently restructured its corporate tax audit program to separate its audits of large businesses (with turnover of 13 million US dollars (USD)) and small and midsized enterprises. The large business unit also focuses specific industries, including property development, financial institutions, manufacturing and transportation, and on high net worth individuals with USD1 million or more of annual income. Areas of audit focus include deductibility of expenses, particularly issues involving incurred expenses versus provisions, related-party transactions and performance bonuses.

The IRB also established a special branch for conducting transfer pricing audits. Under Malaysia’s tax rules, taxpayers with cross-border related-party transactions are required to check a box on their tax returns to say whether they have prepared transfer pricing documentation. A ‘no’ answer will raise a red flag and prompt the tax authority to expedite a transfer audit for that taxpayer.

In withholding tax audits, the IRB has recently shifted its focus away from full-scale audits of Malaysian permanent establishments making withholding tax refund claims. The IRB has narrowed its interpretation of Malaysian withholding tax rules on payments for services provided offshore and subjecting them to much more scrutiny. Based on examinations of underlying contracts, the IRB takes the position if there are portions of the payments that include IT services, the IRB has narrowed its interpretation that such payments could have payments for royalties (e.g. for the right to use software) and that withholding tax therefore applies.

In tax incentive audits, the IRB has been targeting claims for reinvestment allowances, investment tax allowances, and ‘pioneer status’ incentives.

Expediting audits to accelerate collections

Recognizing that faster audits can quicken collections and help shore up Malaysia’s finances, the IRB sets and strictly enforces tight timelines for its audit processes. Generally, taxpayers are only given 21 days to reply to audit queries or produce requested documentation. Once an assessment has been raised, taxpayers have only 30 days to pay the additional taxes, and taxes are still payable even if the taxpayer launches an appeal.

Dispute Resolution Department introduced

A new process introduced 2 years ago introduced an intermediate step between the audit and appeal process. Before the case is heard at the Special Commissioner of Income Tax, the IRB would normally refer the case to Dispute Resolution Department (DRD), which is staffed with senior tax technical officers and officers with legal expertise. The department is only empowered to review the case again and based on some recent cases, the DRD would try to persuade taxpayers to resolve their case at this stage rather than pursuing a judicial appeal.

As another means for raising more tax collections, the IRB introduced a tax amnesty program in 2016. Taxpayers who come forward and volunteer to regularize their taxes can have any related penalties and interest waived. Taxpayers undergoing an audit or investigation can opt to pay outstanding amounts immediately and have their penalties reduced from 45 percent to 25 percent of the extra amount.

Given the fast pace of Malaysia’s audit processes, companies doing business there are advised to ensure they have complete documentation in place to support their tax positions. That way, they can move to respond to audit activity quickly and effectively within the IRB’s relatively short timeframes.

Some or all of the services described herein may not be permissible for KPMG audit clients and their affiliates.

The information contained herein is of a general nature and is not intended to address the circumstances of any particular individual or entity. Although we endeavor to provide accurate and timely information, there can be no guarantee that such information is accurate as of the date it is received or that it will continue to be accurate in the future. No one should act upon such information without appropriate professional advice after a thorough examination of the particular situation.

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