Summary of stakeholder concerns
3.1 Stakeholders raised a number of concerns with aspects of the Australian Taxation Office's (ATO) compliance approaches and processes, including the following:
- compliance costs;
- timeframes for transfer pricing compliance activities;
- taxpayer access to ATO specialists;
- Transfer Pricing Record Reviews (TPR Reviews);
- transfer pricing audits; and
- the International Dealings Schedule (IDS).
3.2 These stakeholder concerns are discussed in more detail below.
3.3 Interwoven with stakeholders concerns regarding the ATO's compliance activities is that compliance with transfer pricing is inherently costly and may be disproportionate to potential revenue risks, particularly for Small and Medium Enterprise (SME) taxpayers. Stakeholders have suggested a number of methods that the ATO should employ to reduce the compliance burden on taxpayers associated with transfer pricing.
3.4 First, stakeholders suggest that SME taxpayers should be carved out from the transfer pricing regime. Stakeholders say that these taxpayers' international related party dealings pose a comparatively lesser revenue risk. The compliance burden for these taxpayers is said, however, to be disproportionally large.
3.5 Secondly, stakeholders suggest that the ATO should increase its use of safe harbours starting with certain low value or common transactions, such as interest payments. These safe harbours could be based on the size of the taxpayer, the quantum of international related party transactions or the type of transaction.
3.6 Thirdly, stakeholders suggest the ATO should implement a de minimis documentation rule that exempts smaller taxpayers with low value transactions from having to comply with the ATO's transfer pricing documentation requirements. Stakeholders consider that only the larger taxpayers, such as taxpayers with over $20 million in international related party dealings, should prepare a full transfer pricing analysis in accordance with Taxation Ruling TR 98/11. Stakeholders have stated that, in addition to the ATO's publications aimed at lowering the compliance burden on SME taxpayers (SME Publications),370 more rigor regarding the actual process and what is required would greatly assist smaller taxpayers in ensuring compliance with the arm's length principle.
3.7 Lastly, stakeholders suggest the ATO publish its transfer pricing industry and comparables data to produce an arm's length range of results. Stakeholders say the ATO's willingness to accept results falling within an arm's length range derived from such a comparable set would greatly simplify compliance particularly for smaller taxpayers.
ATO materials and information
3.8 Although all taxpayers with international related party dealings are required to comply with the transfer pricing provisions, the ATO has advised that the de minimis disclosure exemption (in the tax return and IDS) effectively carves out taxpayers with less than $2 million in relevant transactions.371
3.9 In respect of transfer pricing safe harbours, the ATO has advised that it is currently considering safe harbours for SME taxpayers in relation to penalties where taxpayers have made reasonable efforts to comply. The ATO notes that any potential safe harbour provided will involve multiple jurisdictions. Therefore, there is a need for harmonisation with other treaty partners. This is difficult as different jurisdictions have a different appetite for risk which will influence the safe harbour. The ATO is also concerned that safe harbours might set a precedent that larger taxpayers might argue by analogy that they should also fit within the safe harbour.372
3.10 The ATO's simplified approach to transfer pricing documentation and risk assessment for SME taxpayers applies to businesses with an annual turnover of less than $100 million, unless they are:
- part of a multinational group that is listed on any stock exchange; or
- part of a private group with any international subsidiary or other offshore related party that has the resources to deal with global transfer pricing issues.373
3.11 The ATO view on the extent to which SME taxpayers should prepare documentation is set out in Taxation Ruling TR 98/11 which states:
Small business taxpayers and taxpayers with relatively low levels of international dealings with associated enterprises... need not create documents beyond the minimum necessary to arrive at arm's length outcomes in the context of their business... However, this usually involves the creation of some documentation, in addition to that which would otherwise be created in the ordinary course of business . The circumstances in which a taxpayer does not require at least some level of analysis of external data upon which to base any comparison of its international dealings with associated enterprises may be very limited in the Australian context. Even in cases where reliable internal benchmarks... exist, a less detailed functional analysis combined with an assessment of any external data available about price and/or performance, provides a greater degree of certainty and a reduced risk of adjustment by the ATO.
The various possible situations arising in business do not lend themselves to a code of practice or formal process being spelt out for small business taxpayers. The wide range of situations give rise to different judgments about what to do, or not do, with no consistent line of reasoning emerging. Small business taxpayers need to exercise good commercial judgment in determining the level of documentation they think appropriate for their international dealings with associated enterprises.374
3.12 Three basic questions are also included to 'help' taxpayers judge what documentation they should prepare to be satisfied that the arm's length principle has been applied.375
3.13 In respect of publishing comparable data, the ATO states in Taxation Ruling TR 98/11 that it will not publish such data:
Consideration has been given to the relative merits of the ATO maintaining a database and publishing pricing and profit data as a means of enabling taxpayers to comply with their statutory obligations. However, it is felt that the concerns raised, particularly in relation to the historic nature of data available and secrecy and confidentiality concerns, preclude the ATO from providing such a database, excepting those reports which are currently presented to Parliament and consequently published for public information (TAXSTATS).376
3.14 The ATO current safe harbours or exemptions with respect to transfer pricing are:
- low value adding intra-group services — non-core services: safe harbour arm's length range;377
- small transactions — de minimis services not more than $500,000: safe harbour arm's length range;378
- small transactions — aggregate international related party dealings is not more than $2 million: exemption from disclosure requirement;379
- SMEs — low levels of international related party dealings;380 and
- SMEs — gross income is less than $250 million, or greater than $250 million and international related party dealings involving goods not exceeding $150 million, routine services not exceeding $50 million and intangible property not exceeding $10 million.381
3.15 The difficulties in minimising compliance costs for transfer pricing arise from the nature and volume of information needed to satisfy the ATO of compliance. In contrast to normal tax liability issues, there is no conclusive evidence of compliance, only a range of economic, business management and accounting information from which inferences can be drawn.
3.16 To minimise costs for both taxpayers and administrator, the ATO should strive to provide certainty to taxpayers and ensure the costs imposed are proportionate to the risks. Administrative carve outs, safe harbours, simplified documentation and accepted industry standards are means to achieve these aims. Some of these cost efficient means to minimise double taxation were previously recommended in the context of Advance Pricing Arrangements (APAs) by PricewaterhouseCoopers (PWC) Legal in its 2008 APA Review.382
3.17 The costs of compliance particularly for smaller taxpayers are regressive. Taxpayer experience indicates that, despite the guidance in the SME Publications, currently all taxpayers are effectively required to prepare the same nature and level of documentation. This issue is accentuated now that a 25 per cent penalty for no reasonably arguable position will be applied where documentation is inadequate.383
3.18 The IGT observes that the United Kingdom's (UK) Her Majesty's Revenue and Customs (HMRC), by contrast, provides an exemption from transfer pricing rules for the vast majority of transactions carried out by a business that is a SME. HMRC regards small enterprises as having up to 50 staff and either its annual turnover or balance sheet being less than €10 million. A medium enterprise has up to 250 staff and either its annual turnover is less than €50 million or balance sheet is less than €43 million. There are, however, a few exceptions where HMRC's SME exemption does not apply, such as where the SME has international related party transactions with countries with which the UK does not have a tax treaty.384 Such thresholds may be relative to others in the UK economy. However, such thresholds do provide guidance to the ATO in setting similar relative thresholds, for example $15 million, for simplified documentation requirements.
3.19 The IGT observes that on 16 May 2013, the Organisation for Economic Co-operation and Development (OECD) Council approved the revision of Section E on safe harbours in Chapter IV of the OECD Guidelines. New OECD guidance on safe harbours provides opportunities for countries to relieve some compliance burdens and to provide greater certainty for cases involving smaller taxpayers or less complex transactions. With that, the revised Section E provides a basis for countries to design a transfer pricing compliance environment that makes optimal use of the limited resources available.385
3.20 The IGT also notes that draft Practice Statement PSLA 3187 which was released on 16 December 2009, outlined a 'practical rule of thumb' approach for the transfer pricing of interest payable by a taxpayer on a cross-border related party loan. Specifically, the ATO undertook not to challenge an interest rate paid by a subsidiary on a related party debt where the interest rate applied to the transaction equated to the ultimate parent's weighted average cost of debt (calculated on an annual basis). The draft Practice Statement was subsequently withdrawn because the ATO considered that the 'practical rule of thumb' approach was no longer necessary with the release of Taxation Ruling TR 2010/7.386
3.21 The IGT is of the opinion that the ATO should consider increasing its use of safe harbours starting with low value or common transactions similar to those contained in Taxation Ruling TR 1999/1. One area that is worth exploring for application of such an approach is international related party loans and interest.
3.22 The ATO should perhaps go a step further and investigate a 'margin approach' to transfer pricing similar to that contained in Brazilian regulations (which may effectively be seen as safe harbours).387 Whilst this may be departing too far away from the OECD's arm's length approach, all options should be explored and at least aspects of them with appropriate modification may prove to be useful. Concepts such as arm's length price and market value are based on sound economic principles, however, compliance with them on a practical level is costly, can lead to uncertainty, disputes and litigation the outcome of which can be highly unpredictable.
3.23 It could be argued that some taxpayers may 'push the boundaries' if safe harbours are offered. However, it could be argued that safe harbours may also save government revenue as more taxpayers will achieve a minimum level of compliance with less impact on ATO resources.
3.24 In addition to safe harbours, the ATO should also consider the use of 'simplified' transfer pricing methods in appropriate circumstances. The IGT notes that a number of OECD countries have such measures.
3.25 Whilst providing documentation exemptions for smaller taxpayers may create difficulties for the ATO to verify compliance, there is opportunity for the ATO to reduce costs for smaller taxpayers by providing greater certainty on the nature and level of required documentation. This could be done, for example, by outlining specifically the ATO's documentation requirements in the SME Publications.
3.26 In respect of publishing industry comparable data, the IGT is aware that some countries, such as Chile, publish anonymised APA data for the benefit of other taxpayers. The relevant provision states:
Those taxpayers authorising the Chilean Tax Authority to publish the criteria and the economic, financial and commercial/business reasons, among others, and the methods by which the advance pricing agreements were entered into pursuant to this provision, will be included, if they so agree, in a list of taxpayers socially responsible, which is to be managed by said tax authority. Even when taxpayers have not authorised their inclusion in said list, no sanctions and/or fines based on violations of their tax liabilities ascertained during the period in which the APA is in force shall be levied against them, unless these sanctions are punishable by imprisonment. If this is the case, said taxpayers will be immediately excluded from the list [unofficial translation].388
3.27 The IGT is of the opinion that, without breaching any secrecy and privacy requirements, the ATO should consider providing as much industry data as possible to help taxpayers determine the appropriate arm's length price. This has potential to greatly reduce taxpayers' compliance costs.
3.28 Additionally, the significant number of APAs entered into between the ATO and taxpayers has led to a number of 'accepted practices and principles' which have developed over time that are not immediately apparent upon a reading of the transfer pricing legislation. These accepted practices and principles can also provide public guidance to taxpayers and minimise their costs of compliance.
The IGT recommends the ATO:
- increase its use of safe harbours starting with low value or common transactions such as those with international related party loans and those in the services industry;
- provide simplified transfer pricing documentation requirements for taxpayers with international transactions valued below for example $15 million; and
- without breaching any secrecy or privacy laws, publish as much industry information as possible relating to pricing of related party transactions including the relevant functions, assets and risks.
The ATO agrees with this recommendation and is currently considering the options listed but notes that we cannot act on these initiatives unilaterally, so we are also in dialogue with domestic and international stakeholders.
Timeframes for transfer pricing compliance activities
3.29 This section focuses on timeframes for transfer pricing compliance activities such as risk reviews and audits. Timeframes for APAs and Mutual Agreement Procedures (MAPs) are considered in Chapter 4 along with other matters.
3.30 Stakeholders observed that the ATO's resolution of transfer pricing matters took too long, unnecessarily increasing compliance costs. Stakeholders considered the ATO could reduce timeframes and their costs in a number of areas.
3.31 First, stakeholders commented that protracted timeframes for TPR Reviews and transfer pricing audits were due to a lack of effective project management and inadequate communication of mutual expectations.
3.32 Stakeholders have provided examples such as the ATO changing case plans unilaterally and without communicating with taxpayers. Such changes result in considerable difficulties in marshalling the required resources to respond to the ATO's enquiries while at the same time fulfilling other tax, statutory and commercial obligations. Stakeholders comment that committing to agreed timelines upfront would enable taxpayers to plan their resourcing for responding to information requests in a timely manner.
3.33 Comparisons were made by stakeholders between the ATO's approach to case planning and other revenue authorities, such as the United States (US) Internal Revenue Service (IRS), where taxpayers are provided clearly defined timelines and processes for the resolution of transfer pricing cases. Stakeholders comment that these IRS timelines were clearly communicated and updated throughout the dispute.
3.34 Secondly, stakeholders raised concerns with the disparity between the timeliness of taxpayer and ATO responses. Stakeholders consider that the case teams efficiently manage the time granted to the taxpayer to respond to information requests and position papers but the case teams are not efficient at managing their own timeframes to resolve transfer pricing issues.
3.35 Stakeholders observe that the operational case teams generally:
- take a long time to process taxpayer information and are slow to respond to taxpayer queries;
- do not engage sufficiently or frequently enough with taxpayers to communicate outstanding issues or issues on which ATO officers want to gain a better understanding; and
- require written responses to lengthy position papers within unreasonably short deadlines, such as within 30 days over the December-January holiday period.
3.36 Stakeholders commented that the disparity between the time taken for the ATO to process information and the time allowed for the taxpayer to prepare a response results in significant time pressure being placed on the taxpayer and limits the extent of data and analysis provided to the ATO. Stakeholders mentioned that long ATO timeframes were acceptable if there was ongoing and meaningful exchange of information and communication which is targeted and dynamic. In practice, however, there are long periods where there is no communication.
3.37 Thirdly, stakeholders raised concerns with the lack of remission of interest charges for ATO delays in formulating its technical position. Stakeholders have commented that where a technical issue is subject to ongoing uncertainty from a broader perspective, taxpayers should not be penalised by way of ongoing interest charges whilst the ATO formulates its position. Where such uncertainty exists, stakeholders also suggest that the uncertainty should be acknowledged by the ATO when assessing penalties.
3.38 Lastly, stakeholders raised concerns with the unlimited period of review for transfer pricing matters. Stakeholders said that the unlimited amendment period for transfer pricing acts as a disincentive for the ATO's timely resolution of transfer pricing cases, which can impact tax treaty partners with shorter period of amendment.
3.39 The IGT has previously called for a limit to be placed on the amendment period for transfer pricing matters in his Review into Improving the Self Assessment System.389 Following this recommendation, on 29 June 2013, the Tax Laws Amendment (Countering Tax Avoidance and Multinational Profit Shifting) Act 2013 introduced an amendment period of 7 years for the Commissioner of Taxation to make transfer pricing adjustments.
ATO material and information
3.40 Publicly, the ATO manages the community's expectation on timeframes through its service standards which are published in its annual reports and other publications. The expectation is that large business audits and complex APAs are to be completed within two years.390 The ATO has advised the IGT that it is currently in the process of updating its service standards.391
3.41 There are additional unpublished internal service standards on the expected duration of other compliance products, including TPR Reviews, Client Risk Reviews (CRR) and non-complex APAs. There are also some internal 'expectations' on the timeframes for internal specialist advice units. These expectations do not quantify timeframes but expect the specialist unit 'to work with case teams to meet the ATO's service standards'.
3.42 Although the service standards set general expectations, more accurate timeframes for reviews and audits are outlined in their respective case plans which are developed at the commencement of compliance activities.392
3.43 In developing case plans, the ATO's Large Business and Tax Compliance booklet (LBTC Booklet) outlines that Large Business and International (LB&I) operational case teams are to have ongoing, open and frank discussions and agree on a case plan upfront with taxpayers in both risk reviews and audits. During audits the ATO expects its officers to regularly review and update the audit plan and inform taxpayers of their progress and explore ways with taxpayers on how completion may be expedited.393 The Tax Compliance for Small-to-Medium Enterprises and Wealthy Individuals publication (Tax Compliance Publication) makes similar comments to the LBTC Booklet.394
3.44 The ATO records and internally reports data on the timeframes for completing transfer pricing compliance activities. The timeframes commence from the date of case allocation through to finalisation. Each type of activity may have a different expected service standard.
3.45 Table 6 below sets out the LB&I business line timeframe data compiled from the business-as-usual (BAU) Operations case teams as well as the LB&I Transfer Pricing Strategic Compliance Initiative (TPSCI) project case teams. The ATO has not provided a break-up of data between those two areas.
|Activity||Number of cases||Service standard||Number exceeding service standard||% exceeding service standard||Max. time (days)||Min. time (days)||Avg. time (days)|
|IT audit comp LBA large||1||730||0||0%||36||36||36|
|IT large business comp audit||27||730||16||59%||2244||60||919|
|IT large business spec audit||5||730||0||0%||462||48||196|
|Transfer pricing audit||7||730||1||14%||1038||29||340|
|IT large business specific audit — 365||4||365||1||25%||505||2||282|
|Transfer pricing record review||196||180||55||28%||437||0||128|
|Transfer pricing record review||20||180||13||65%||680||82||220|
|IT large client risk review||210||240||110||52%||1035||17||271|
|IT large project risk review — HV||4||120||4||100%||327||133||255|
|IT large specific review||115||180||34||30%||1267||1||157|
|IT innovations specific review||3||90||1||33%||232||4||105|
|IT specific enquiry||238||30||92||39%||363||2||45|
|IT transfer pricing||1||90||1||100%||266||266||266|
|IT compliance assurance review||32||365||9||28%||986||28||249|
|IT large ACA review||2||730||0||0%||484||218||351|
|IT large simplified SE — HV||13||45||0||0%||44||3||29|
|IT specific enquiry — 180||1||180||1||100%||420||420||420|
|IT large pre-lodgment comp review||6||549||1||17%||599||1||324|
Source: IGT analysis of ATO data.
3.46 The data395 in the table above indicates that, over the last six years, the LB&I business line has exceeded its benchmark service standards in 38 per cent of all compliance activity cases (339 of 885 cases), including;
- 41 per cent of audit cases (18 of 44 cases); and
- 31 per cent of TPR Review cases (68 of 216 cases).
3.47 The table below sets out the timeframes for completing transfer pricing compliance activities in the SME business line.396
|Activity||Number of cases||Service standard||Number exceeding service standard||% exceeding service standard||Max. time (days)||Min. time (days)||Avg. time (days)|
|GST specific audit field HV||1||120||0||0%||45||45||45|
|IT audit spec SME office||6||180||0||0%||45||16||31|
|IT SME office spec audit||2||180||0||0%||115||43||79|
|IT SME office spec audit esc||1||120||0||0%||56||56||56|
|IT SME specific audit||2||540||0||0%||159||72||116|
|IT SME specific audit esc||7||420||3||43%||617||15||313|
|IT SME 1 specific audit||1||540||0||0%||190||190||190|
|IT SME 1 specific audit esc||1||420||0||0%||27||27||27|
|IT SME 2 comprehensive audit||14||540||6||43%||2001||77||681|
|IT SME 2 office spec audit||1||180||0||0%||32||32||32|
|IT SME 2 specific audit||1||540||0||0%||99||99||99|
|IT SME 2 specific audit esc||1||180||1||100%||576||576||576|
|IT SME 3 comprehensive audit||6||540||2||33%||819||307||522|
|IT SME 3 office spec audit||1||180||0||0%||100||100||100|
|IT SME 3 office spec audit esc||1||120||0||0%||30||30||30|
|IT SME 3 specific audit||1||540||0||0%||42||42||42|
|IT SME audit comprehensive||4||540||0||0%||162||14||95|
|IT SME comprehensive audit||30||540||3||10%||762||19||294|
|IT SME 1 comprehensive audit||1||540||1||100%||940||940||940|
|IT SME 1 office spec audit||1||180||1||100%||687||687||687|
|IT HWI Comprehensive risk revw||1||240||1||100%||364||364||364|
|IT Ind tax haven review HV||12||90||1||8%||91||1||36|
|IT internal review||118||10||114||97%||354||1||114|
|IT review comp SME CRR||1||180||0||0%||118||118||118|
|IT review spec internal HV||36||40||1||3%||53||9||31|
|IT review spec SME PRR||41||60||9||22%||112||9||56|
|IT SME comprehensive review||195||120||145||74%||591||24||193|
|IT SME Comprehensive risk revw||88||120||50||57%||531||14||166|
|IT SME field specific review||5||60||3||60%||314||1||118|
|IT SME PRA||6||60||0||0%||60||50||58|
|IT SME preliminary risk review||12||60||8||67%||171||57||87|
|IT SME PRR||264||60||85||32%||340||2||63|
|Transf pricing record review||1||180||0||0%||13||13||13|
|IT internal review — 40||429||40||91||21%||231||1||37|
|IT SME Comprehensive risk revw — 180||67||180||23||34%||503||15||189|
|IT SME comprehensive review — 240||15||240||6||40%||365||142||229|
|All compliance campaign||14||40||0||0%||40||0||13|
Source: IGT analysis of ATO data.
3.48 The data397 in the table above indicates that, over the last 6 years, the SME business line has exceeded its service standards in 40 per cent of all compliance activity cases (560 of 1404 cases), including:
- 20 per cent of audit cases (17 of 83 cases); and
- 41 per cent of transfer pricing record review cases (537 of 1305 cases).
3.49 In relation to the reasons for extended timeframes in some cases, an internal report identified a number of systemic issues including:
Teams generally had in place work plans for delivery. However, although the teams were aware of the urgency around delivery times, the work plans or contingency planning did not necessarily reflect this urgency...
A significant amount of Economist Practice work was outstanding leading to a rearrangement of economist work schedules to bring forward delivery timeframes...
More generally, while some case teams had clearly considered and prioritised the technical issues and approaches on the back of a thorough audit and forensic process, in other cases it was less clear that the same rigor had been applied to the technical analysis, forensic process, or in the development of the ATO position.398
3.50 In one case, it was noted that the specific operational case team had 'lost all control and accountability'.399
3.51 The report identified that the main focus for improvement work included:
Performing tasks in parallel (eg, starting the engagement of TCN in conjunction [with] the drafting of position papers).
Early engagement of key stakeholders well before the scheduled task (eg, setting the path for independent reviews).400
3.52 The LB&I business line's site-based callovers also found timeframes could be improved by better case planning.
3.53 The ATO's procedural guides for TPR Reviews and transfer pricing audits require case teams to prepare case plans at the commencement of transfer pricing matters. These case plans should direct their work and outline timeframes for the completion of the compliance activity. Case team leaders are responsible for approving the case plan. The ATO further advises that it is the responsibility of the operational case teams to actively manage cases, provide explanations for why case timeframes may extend and what they are doing to address the causes of delays.401
3.54 In TPR Reviews and transfer pricing audits, ATO officers are assisted in developing case plans by the Economist Practice and where necessary, the Profit Shifting Practice (PSP). In TPR Reviews, officers may also be assisted by a Transfer Pricing Network (TPN) member in developing case plans. In audits, the Transfer Pricing Review Panel (TPRP) may also endorse the case plan where appropriate.402
3.55 In 2010, the LB&I business line also trialled a 'plan and manage network' of officers experienced in managing complex cases to assist staff with planning and managing their cases. The ATO has advised that training materials for mentors are being designed and are likely to be based on, and linked to, the LB&I end-to-end program.403
3.56 Operational case teams are expected to actively manage their cases and apply the relevant project management principles and techniques.404 This is tested through the ATO's Manager Assurance Program and mandatory LB&I Checklists at mid-year and annual performance appraisal.
3.57 In the LB&I business line, its Site Governance callover process monitors aged cases and seeks to ensure that case plans are followed. Previously, there were separate callover processes run by LB&I Case and Topic Leadership (CTL) Case Leadership and the Profit Shifting Governance Group (PSGG).405
3.58 Where LB&I Operations case teams have exceeded the internal benchmark timeframes, or are likely to exceed those times, in compliance activities, the LB&I CTL Case Leadership unit becomes involved. This unit assists LB&I Operations case teams by providing oversight and strategic direction on key compliance cases and technical leadership on more complex issues. The LB&I CTL Case Leadership unit provides guidance, counsel and leadership in managing the technical issues and/or the case to ensure it is progressing appropriately.406 Similarly, the SME Technical and Case Leaders (TCL) Case Leadership unit assists SME General Compliance case teams with the resolution of complex tax technical issues and includes, conducting callovers of significant and potential aged or blocked cases. Further, the engagement of the SME TCL Case Leadership unit is mandatory where cases exceed or are likely to exceed benchmark timeframes.407
3.59 The ATO currently has a 28 day service standard to respond to taxpayers' general correspondence and other requests. If taxpayers have not provided all the information needed to make a decision, the ATO aims to contact taxpayers within 14 days to ask for the information. If the request raises particularly complex matters that will take more than 28 days to resolve after receiving all the required information, the ATO aims to contact taxpayers within 14 calendar days to negotiate an extended reply date.408
3.60 The LBTC Booklet also states that the ATO will ensure information requests are satisfied in a timely manner and coordinate its requirements to accommodate taxpayers' business cycles and any important demands on key people. The Tax Compliance Publication also states that when the ATO requests information they will give taxpayers adequate time to respond. After taxpayers supply the information the ATO expects its officers to advise taxpayers how long it will take for the ATO to review and respond to taxpayers.
3.61 The LBTC Booklet and Tax Compliance Publication generally outline that taxpayers will be provided an opportunity to respond to the ATO's position paper before a final position paper is issued. The ATO's Streamlined Audit Manual for Transfer Pricing includes steps relating to the drafting of position papers, such as ensuring that taxpayers are given an opportunity to respond.
3.62 Following the IGT's 2004 announcement of his Review into Tax Office Audit Timeframes409 (Audit Timeframes Review), the then Commissioner of Taxation announced in September 2004 that he had appointed Mr Kevin Burges to get a picture of private experiences and concerns about ATO audits. This report was issued in April 2005. One of the initiatives ultimately flowing from this report was remission of the Shortfall Interest Charge (SIC) and General Interest Charge (GIC) for the period that audits went beyond two years. Only in exceptional cases involving blatant obstruction would this remission not apply. Such cases would need to be agreed by the Deputy Commissioner following discussion with executives of the relevant large business taxpayer.
3.63 Practice Statement PSLA 2006/8 sets out the ATO's policy on the remission of SIC and GIC and incorporates the Commissioner's initiative by remitting interest to the base rate for audits exceeding their predetermined cycle time. The practice statement also provides additional grounds for remission, including:
- delay in commencing audit;
- expected audit completion date exceeded;
- unreasonable delay;
- delay in obtaining information from a third party; and
- longer resolution times due to complexity of issues.
3.64 Additionally, the IGT Audit Timeframes Review recommended that the ATO implement appropriate governance processes to ensure that the GIC attributable to significant periods of ATO-caused audit delay is remitted. The ATO agreed with this recommendation.410
3.65 Realistic case planning is based on an understanding of the steps and timeframes involved in identifying and verifying tax risk, as well as the steps needed to quickly arrive at a common understanding of each party's position including their views on the law, facts and evidence.
3.66 The ATO's data in Tables 6 and 7 shows that over the last 6 years, between 38 to 40 per cent of compliance activities have exceeded the ATO's expected timeframes for completion. This may explain why the ATO has been unable to complete the number of compliance activities it plans, as observed in Chapter 2.
3.67 These protracted timeframes for the resolution of transfer pricing compliance activities suggest a need to re-examine expected timeframes for compliance activity completion, the nature of taxpayer engagement and the governance of case timeframes.
3.68 Senior ATO officers have stated that international tax audits are generally complex and the two year audit timeframe is optimistic.411 Accordingly, the ATO should consider whether its timeframes for compliance activities involving international tax issues should be differentiated.412 The ATO has also advised that it will consider the appropriateness of its internal service standards within 18 months of its Review of Service Standards project.413
3.69 Great care should be exercised in merely setting an overall case timeframe as an expectation. The impact of the ATO's two-year audit timeframe was reviewed by the IGT in the Report into the Australian Taxation Office's Large Business Risk Review and Audit Policies, Procedures and Practices414 (LB&I Review). In that review, the IGT considered stakeholder submissions which claimed that the ATO was stipulating amended assessments by the end of the two years even though there had been little time for taxpayers to respond to the position papers. Where taxpayers managed to respond in the short time available to them, there was little or no time to debate the merits of competing positions. Taxpayers felt forced to prepare and lodge objections to protect their position, notwithstanding that the ATO position was still being formulated.
3.70 In the above review, the IGT found that there was a need for clearer milestone events including timeframes and expectations around these milestone events. It is noted, however, that the ATO disagreed with the relevant recommendation.415 The IGT reasserts these recommendations in the context of transfer pricing matters explored in this review.
3.71 In relation to how timeframes can be minimised, it should be noted that whilst operational case teams are responsible for the management of all aspects of reviews and audits, they may be assisted by a number of other specialist units within the ATO. However, these case teams have no authority to require the other areas to provide advice within certain timeframes. General expectations, such as 'endeavour to work with case officers to ensure that overall service standards are met' and 'cases will be prioritised depending on the case's risk and available resources' are not sufficiently definitive. Specialist units providing advice to operational case teams should be required to meet their own benchmark timeframes to ensure they also have accountability for their involvement in transfer pricing issues.
3.72 Although the ATO publishes some timeframes for the completion of transfer pricing compliance activities, there are a number of internal expectations relating to the completion of other transfer pricing products (such as TPR Reviews, CRRs and non-complex APAs) which are not published. The IGT considers that greater transparency and accountability would be promoted by publishing these timeframes and service standards.416
3.73 The IGT also considers that asymmetries in response timeframes as between the ATO and the taxpayer adversely impact the relationship between the two parties and the efficient and effective resolution of issues. The ATO should ensure the expectations it sets are achievable and reasonable with response timeframes falling within the overarching timeframe for the compliance activity. Accordingly, the ATO in consultation with taxpayers, should plan an accurate as possible timeline at the outset of compliance activities and ensure that it is closely followed.
3.74 It would be desirable for case teams to submit their case plans, including any proposed amendments, for review by transfer pricing experts particularly if their assistance is to be sought during the compliance activity. Further, the transparency and efficiency of the management of transfer pricing compliance activities could be improved where the views of taxpayers on the ATO's case planning were considered by these experts.
3.75 In relation to timeframes imposed on taxpayers, although general timing standards, such as 28 days, are an important project management tool, there are a number of factors that should be considered in each case when setting response times. These factors include the complexity of the matters, the amount and type of information sought, key staff availability and seasonal considerations. Accordingly, ATO officers could be made aware more explicitly of considerations that may impact upon taxpayers' ability to respond to the ATO by engaging with the taxpayer during the case planning stage and whenever information is requested.
3.76 Executive monitoring of overall case timeframes and internal cycle times is essential to appropriately manage cases. Over reliance on bottom-up escalation processes in circumstances where generalist case teams rely on specialist advice can result in unnecessary delays. Therefore, top-down intervention should be initiated where internal cycle times are exceeded.
3.77 The issue of remitting interest due to ATO delays was considered in the IGT's abovementioned Audit Timeframes and LB&I Reviews. The IGT considers that Practice Statement PSLA 2006/8 should be clarified to include such delays.417
To establish more accurate timeframes for transfer pricing compliance activities and improve adherence to them, the IGT recommends that the ATO:
- review and update its existing benchmarks for timeframes relating to transfer pricing compliance activities to better reflect ATO and taxpayer resources and complexity of matters being considered;
- establish and publish benchmarks for timeframes required by the ATO's specialist units to provide advice to the case teams;
- develop a mechanism for top-down intervention by the specialist units where it is expected that case timeframes may be exceeded;
- require case teams to consult with specialist units and taxpayers when preparing and/or amending case plans;
- ensure taxpayers are provided with adequate time to consider and respond to information requests and that time be commensurate to the complexity and volume of information sought; and
- remit interest attributable to ATO delays.
Agree in part
The ATO agrees with parts 1 and 3 to 6.
With respect to part 2, the ATO disagrees with separately publishing benchmark timeframes for specialist advice as the time required is dependent on the facts and circumstances of the individual case.
Regarding part 6, in exercising the discretion to remit interest, the criteria outlined in PS LA 2006/8 will be applied.
Taxpayer access to ATO specialists
3.78 Stakeholders believe that the lack of access to ATO specialists and external consultants (such as third party economists engaged by the ATO) causes unnecessary delays, frustrations and extra costs. Their specific concerns are:
- unclear processes for stakeholders to escalate transfer pricing issues, including gaining access to the ATO's transfer pricing specialists. Stakeholders also observe that any requests to speak with the ATO's experts appear to cause angst with the case teams and in some cases have been explicitly denied. Paradoxically, the case teams are believed to be reluctant to engage in meaningful taxpayer discussions without the ATO's transfer pricing specialists; and
- the ATO's transfer pricing specialists and some external consultants not consistently or sufficiently engaging with taxpayers and their advisers to discuss commercial factors underlying their pricing and other transfer pricing issues. Stakeholders comment that this is particularly important where they consider that the ATO case teams have made incorrect assumptions about their businesses and transfer pricing arrangements.
ATO materials and information
3.79 The ATO's LBTC Booklet and Tax Compliance Publication provide that where taxpayers and their advisers have any issues they wish to raise with the ATO, contact should first occur with the delegated case officer. The details of the delegated contact officer are provided to taxpayers and their advisers at the commencement of compliance activities.418 Where taxpayers and their advisers consider the case officer's response unsatisfactory, they are permitted to contact the case officer's team leader. Where the response continues to be unsatisfactory, taxpayers and their advisers may request that the team leader escalate the issue to their immediate manager.419 In this regard, the LBTC Booklet and the Tax Compliance Publication state that access will be granted to the ATO's 'decision makers.' In transfer pricing compliance activities, the decision makers are the operational case teams.420
3.80 The ATO has advised that taxpayers and their advisers are also able to meet with LB&I Technical Leadership Group (TLG) and Economist Practice officers to discuss their concerns.421 Similarly, operational case teams in the SME business line will facilitate access to specialists in transfer pricing compliance activities.422
3.81 In regards to the TPRP, as mentioned in Chapter 2, Practice Statement PSLA 2004/13 outlines that taxpayers do not have a right of access to, or representation at TPRP meetings. Only in exceptional circumstances may taxpayers be given an opportunity to liaise with the TPRP members where the chairperson, in consultation with the case owner, regards this as appropriate. For example, where it is necessary to assist the TPRP's consideration of the case or it is necessary to assist the taxpayer in understanding the outcome of the TPRP's consideration of the case.423
3.82 Taxpayers, however, may be given the opportunity to review and comment upon the factual accuracy of materials prepared for consideration by the TPRP, at the case owner's discretion.424
3.83 The efficient resolution of complex taxation issues requires the timely interaction between ATO specialist units and operational case teams as well as taxpayers and their advisers to quickly define and narrow the issues and understand the basis for each party's position.
3.84 Currently, there is no explicit ATO direction to its officers that taxpayers and their advisers should be granted access to the supporting specialist units or the circumstances where such access should be granted, other than in respect of the TPRP. Directing operational case teams to facilitate access to supporting specialist units and the circumstances in which specialist units should be required to meet taxpayers, will help ensure that issues are quickly identified, narrowed and resolved based on relevant information. This is particularly important while operational case teams are developing long term capability. It can also assist the ATO's specialists to develop their capability in dealing with taxpayers and their advisers on technical issues.
3.85 Similarly, there is no guidance provided to taxpayers and their advisers on how they may access the ATO's specialist units. The LBTC Booklet and the Tax Compliance Publication are limited in that access is to the operational case teams only. Whilst it is important to maintain a single point of entry for discussion with the ATO, it is similarly important that taxpayers should be made aware of the circumstances in which they may access the ATO's specialist units to discuss specialist issues such as economic issues or legal issues. This may include for example, providing relevant escalation methods to taxpayers at the outset of compliance activities.
The IGT recommends that with respect to transfer pricing compliance activities, the ATO ensures:
- specialist units engage with taxpayers and their advisers where requested and appropriate; and
- at the outset, taxpayers and their advisers are made aware that they are able to, and how they may request, access to the various specialist units.
Transfer Pricing Record Reviews
3.86 Stakeholders support the ATO's risk review processes where they are able to exclude compliant cases from unproductive compliance activity. However, stakeholders raised a number of concerns with the TPR Review approach.
3.87 First, stakeholders raised concerns with the ATO's documentation checklist used in TPR Reviews. Stakeholders observe that ATO officers can use the documentation checklist to simply assess the documentation, with a 'failing score' leading to audit. This approach has the potential to be manipulated as it entices taxpayers to 'tick the boxes' without necessarily obtaining information that assists in understanding the related party dealings or why these were carried out.
3.88 Secondly, stakeholders consider that the commercial realism test in TPR Reviews is based on high level benchmarks that have low data integrity and are not fit for the purpose of identifying transfer pricing risks.
3.89 They comment that the reliability of comparables ultimately depends on the similarity in functions, assets and risks. However, the Australian Bureau of Statistics (ABS) and other forms of publicly available data that the ATO uses in TPR Reviews, is anonymised and is not granular enough to accommodate for reasonable commercial factors, such as the life cycle of the business. The benchmarks developed from the LB&I business line's industry knowledge were also raised as a concern by stakeholders as they may not be representative or current.
3.90 Stakeholders further comment that data relied upon for TPR Review benchmarks are not consistently transparent. The benchmarks, therefore, are said to create an uneven playing field and perceptions of the use of 'secret' comparables. Stakeholders consider that if the commercial realism analysis undertaken by ATO case teams was public, it would create a level playing field in the taxpayer community and advisory community, giving an understanding of when a tax audit could be undertaken and improving the benchmarks and its inputs. It was also suggested that the major accounting firms and others already maintain their own databases and benchmarking across the globe. Therefore, making such analysis public was not expected to give rise to undue compliance risk assessment concerns.
3.91 Lastly, stakeholders raised concerns that the commercial realism test in TPR Reviews results in cases being unnecessarily selected for an audit. Although high level benchmarks may be useful to identify taxpayers with profit outcomes departing from a broad average, benchmarks do not assist ATO officers to understand the basis for the taxpayer's reported profit outcomes or appropriately consider the technical integrity or quality of commercial reasons for the taxpayer's position. Accordingly, stakeholders mention that ATO officers' focus on profit outcomes could negate any transactional benchmarking the taxpayer has relied upon in its transfer pricing documentation.
3.92 Stakeholders comment that such an approach encourages ATO officers to 'chase the bottom line' and establish a bias towards confirming the profit outcomes indicated by the high level benchmarks without adequately understanding the commercial drivers or factors underpinning taxpayers' positions. For example, stakeholders have observed that ATO officers appeared to have pre-conceived ideas as to what the financial performance of taxpayers should be prior to gaining any understanding of their business, its functions, assets or risks.
3.93 Stakeholders commented that the ATO's profit outcomes approach in TPR Reviews wasted considerable time, imposed unproductive expenses and that ATO views only became more entrenched. For example, the ATO issued a number of information requests to taxpayers and undertook their own analysis to determine an arm's length outcome without engaging in meaningful discussions with the taxpayer or their professional advisers as to how the ATO and the taxpayer might work together to understand each parties' position.
3.94 Given the cost of undertaking benchmarking analyses and to prepare supporting materials for both parties, stakeholders comment that a more meaningful consideration of taxpayers' positions is required at the TPR Review stage. Detailed analysis of taxpayers' transfer pricing materials was usually left until the audit process was well in motion. Stakeholders comment that the alternative for TPR Reviews is a low cost transfer pricing documentation requirement to 'get passed the scoring process' which adds little information or depth to assist the reader.
3.95 Stakeholders argue that given the time and costs involved in an audit, a more robust initial risk review process is required that better considers the merits of the commercial case and technical position taken by taxpayers. Stakeholders also comment that the current TPR Review process is unfair as taxpayers have provided significant financial data and analysis to the ATO and should be provided with the opportunity to dispute the ATO's TPR Review decision.
ATO materials and information
3.96 As described in Chapter 2, the ATO TPR Review process starts with an initial interview with the taxpayer. The operational case teams are expected to give taxpayers an opportunity to present any helpful information.
3.97 The ATO has also used questionnaires to target information gathering on particular transfer pricing risks, such as business restructures, profitability and financing during the TPSCI project. These questionnaires were issued at the commencement of TPR Reviews to assist with profiling and risk identification. The questionnaires also intended to minimise compliance costs and disclose to taxpayers the areas of interest to the ATO.
3.98 The ATO's Taxation Ruling TR 98/11 guides taxpayers in preparing transfer pricing documentation in terms of the coverage and depth of documents.425 One of the main focuses of the TPR Review is the quality of documentation. The operational case teams are instructed to spend a few days, at most, understanding the taxpayer. This may include understanding taxpayers' group structure, international and Australian operations and international related party dealings. Operational case teams are also directed to review the taxpayer's tax return and IDS.426
3.99 In evaluating the quality of documentation, ATO case teams use a checklist to compare taxpayers' transfer pricing documentation with the responses in their IDS. Operational case teams also use this checklist to assess taxpayers' documentation in line with the four steps in Taxation Ruling TR 98/11 as either low, low to medium, medium, medium to high, and high quality.427 The ATO advises that this checklist essentially asks whether the topics covered by the items disclosed in the IDS have been adequately addressed in the taxpayer's documentation. The checklist does not ask whether ATO officers agree with the analysis presented in the reports provided.428
3.100 The TPR Review also involves evaluation of the taxpayer's financial performance over four years to determine the commercial realism of their transfer pricing. According to ATO procedures, this involves the comparison of the taxpayer's financial ratios, such as income/sales ratios429 or asset based ratios430 against other companies' in specific segments, taking into account the functions performed, assets used and risks undertaken. The financial performance of these comparable companies' is extracted from:
- publicly available data, such as ABS data;
- the LB&I business line's industry knowledge obtained as a result of prior work; or
- other sources identified by the Economist Practice, such as accounting firm surveys or Tax Statistics.431
3.101 The publically available data also includes public accounts of taxpayers and interest rate data where relevant.432
3.102 In relation to the data developed on the basis of LB&I industry knowledge, the ATO advises that although it had used these benchmarks previously, it has not used these for a number of years. However, the ATO is considering reinvigorating this approach.433 The ATO's staff instruction also considers that although 'secret' comparables may be used, they will generally not be used at the TPR Review stage.434
3.103 The ATO instructs operational case teams in its TPR Review Procedural Manual to, in 'consultation' with the Economist Practice, exercise judgment in determining the most appropriate ratios to be used.435
3.104 The Economist Practice unit is then expected to work with the case teams to determine whether the taxpayer's profitability is:
- 'commercially realistic';
- less than 'commercially realistic'; or
- consistently returns losses.436
3.105 The ATO advises that there is no specific instruction material for economists in relation to TPR Reviews and transfer pricing audits as it is expected that they will rely on their professional judgment.437
3.106 The ATO considers that, although this profit outcome and simplified ratios approach may not of itself indicate potential transfer pricing risks, it does provide a sound basis for determining a commercially realistic outcome for risk assessment purposes.438
3.107 All TPR Reviews must have a workshop with operational case teams and relevant 'specialists' to discuss all risks arising from a TPR Review that are likely to lead to an audit. The focus of these workshops is on clarity of the tax risks, technical issues and the consideration of any response from the taxpayer. These workshops must include 'specialists' prior to finalisation where the TPR Review:
- involve the top 30 taxpayers;
- have potential risks over $100 million in potential income or reduction in losses;
- have potentially systemic risks; and
- have complex or ambiguous arrangements or require specialist industry experts.439
3.108 The operational case teams are directed to work 'in conjunction with' the Economist Practice to come to 'agreed' positions on taxpayers' risk ratings and a 'follow-up strategy', such as an audit. The TPR Review is then referred to the TPRP to 'endorse' operational case teams' recommendations prior to taxpayers being notified of the outcome of TPR Reviews.440
3.109 Where the TPR Review is of a top 30 taxpayer, operational case teams must hold a finalisation interview with the taxpayer at the conclusion of the TPR Review to discuss the risk findings and their implications.
3.110 The TPR Review finalisation interview is not mandatory where the taxpayer is not a top 30 taxpayer or where the risks are considered 'low' or 'trivial'.
3.111 Where a finalisation interview is conducted, a 'senior tax officer' will facilitate the interview and relevant technical 'experts' may be involved in particularly complex cases. This interview must include discussion about the tax risks, the reasons why the operational case team believe the risks exist, the implications for the taxpayer from these findings and what the taxpayer can do to mitigate the risks.441
3.112 In the ATO's International Leadership Team (ILT) meeting minutes, it is implied that the ATO intended to review and improve the TPR Review process, including the documentation checklist. During this review, the ATO advised that the process was stopped due to budgetary constraints.442 However, as mentioned in Chapter 1, the ATO advised during the finalisation of this review that it intends to discontinue TPR Reviews and use a single comprehensive risk review product to review all material risks, including transfer pricing, that are identified through the case selection and profiling process.443
3.113 The TPR Review was first introduced by the ATO in 1998.444 At the time, the TPR Review fulfilled a means to exclude lower risk transfer pricing taxpayers on the basis of documentation and overall profit. As business practices have evolved and tax compliance matured in this area, identification of potential non-compliance has increasingly required more refined processes.
3.114 The TPR Review indicates the degree of transfer pricing risk by analysing the 'quality' of documentation and the financial performance of a taxpayer against the industry norms. However, the design of the TPR Review does not encourage operational case teams to establish the purported reasons for the taxpayer's departure from the accepted range of financial ratios or a more refined risk hypothesis or 'typology' which can be tested in subsequent audit. This work appears to only occur during audits, by which time it may be too late to avoid unproductive compliance costs.
3.115 The IGT considers that TPR Reviews provide an opportunity for the ATO to better understand taxpayers' transfer pricing methodologies and the reasons underpinning commercial performance before considering whether to invest both parties' time and resources in an audit. The ATO's TPR Review approach could be complimented by using a less resource intensive process designed to focus on key issues to quickly eliminate comparatively lower risk cases. This process should comprise a risk assessment process that focuses on articulating specific hypotheses to the taxpayer. The hypothesis and the reasoning need to be explained in clear terms.
3.116 Issues or concerns, such as the taxpayer being outside the high level ratios used by the ATO, aspects of related party dealings, business operating model and key factors that impact on a group's profitability should be shared. Such a process would better inform the ATO, allow consideration of the taxpayer's explanation prior to a risk rating being determined and potentially facilitate an early exit from the process avoiding a costly and unnecessary audit. It also affords the taxpayer the opportunity to be heard.
3.117 Indeed, one example of the above approach was provided in stakeholder submissions to this review, where a decision to commence an audit was reversed after the ATO considered the reasons for the taxpayer's level of profitability. It has been observed that such scenarios are often due to the involvement of a more experienced officer.
3.118 The above approach seems to be closely aligned with the ATO's public statements in the design of risk review processes generally:445 a risk review seeks to establish a risk hypothesis, whereas an audit verifies the existence of that risk.446 This approach would enable the ATO to merge the TPR Review process with other risk review products already used by the ATO. Indeed, the ATO has indicated its intent to 'fold in' transfer pricing risks into its ordinary risk review process, the CRR.
3.119 Additionally, allowing the taxpayer an opportunity to address the case team's concerns before the matter is conveyed to the TPRP for consideration, or the International Structuring and Profit Shifting (ISPS) unit as the case may be in future, would again ensure that the information put before TPRP or ISPS is more accurate.
3.120 The ATO has also advised the IGT of its desire to update its industry benchmarks based on data collected by the LB&I business line.447 The IGT also considers that the substantial amounts of information collected by the ATO via the IDS could be used to improve the ATO's internal indictors of commercial realism in TPR Reviews to better target compliance activities. As recommended earlier in this Chapter, publication of these benchmarks would promote transparency and improve compliance where they include the functions, assets and risks on which the benchmarks are based.
3.121 By improving the accuracy of risk reviews involving transfer pricing, audit activity will be targeted towards more appropriate cases. This would have the effect of freeing administrative resources and reducing the unproductive compliance burden on compliant taxpayers.
The IGT recommends that the ATO improve its risk review processes involving transfer pricing by:
- ensuring that operational case teams establish the purported reasons for the taxpayer's departure from the accepted range of financial ratios;
- providing taxpayers an opportunity to address the ATO's concerns prior to the TPR Review being referred to the TPRP or ISPS; and
- developing more refined internal comparables for use in risk reviews.
Agree in part
The ATO agrees with parts 1 and 3
The ATO disagrees with part 2. We are discontinuing the separate TPRP process and the resolution of technical issues in transfer pricing cases will be aligned with the ATO's broader model for compliance work, where compliance officers are accountable for decision making in a case and the role of specialists is to provide expert advice. Consistent with the co-operative approach outlined in the Large business and tax compliance booklet, taxpayers are afforded an opportunity to present their concerns to case teams and, where appropriate, specialists advising on the case will be brought into those discussions.
Transfer pricing audits
3.122 First, stakeholders raised concerns that some case teams gather an excessive amount of unnecessary information on a broad range of matters. This unfocused information gathering by operational case teams occurs primarily during the functional analysis stage of transfer pricing audits. They consider that there does not appear to be a way to shortcut this information gathering process once commenced. Stakeholders' frustrations are exacerbated as operational case teams are said not to communicate the reasons why such information is requested during this stage.
3.123 Stakeholders' observations on the ATO's information gathering during audits include that case teams' information requests:
- often relate to information previously supplied;
- are outside the statutory retention period; and
- expect the same level of documentation for SMEs as they do for large businesses, despite the reduced documentation requirements for SMEs.
3.124 The ATO's approach to information gathering is said by stakeholders, to significantly add to taxpayers' compliance costs, unnecessarily creating a burden both to the ATO and business across their organisations.
3.125 Generally, stakeholders questioned the nature and level of information requested by ATO operational case teams. Stakeholders appreciate that with transfer pricing matters, no one piece of information will address concerns, as it is a process of analysis based on inferences to determine what an independent business owner would have done in the circumstances. However, stakeholders consider experience and skill is required to guide operational case teams to know what is required to inform them to ask targeted questions and help transfer pricing audits move forward.
3.126 Stakeholders consider that if ATO operational case teams communicated their concerns to taxpayers, in a manner that allowed them to engage and address those concerns, the ATO would have better targeted and more relevant information. Stakeholders consider that such an approach would be more efficient for both the ATO in gathering information and for taxpayers as their compliance burden would be minimised.
3.127 Secondly, stakeholders observe that the ATO operational case teams are generally not amenable to reconciling their position to that of the taxpayer but readily and cursorily dismiss a taxpayer's analyses without due consideration of the relevant technical aspects. For example, stakeholders have noted that ATO officers do not demonstrate an understanding of taxpayers' positions. Stakeholders also observe that although the ATO conducts fieldwork to test its view, facts or materials that do not support the ATO position are disregarded or given no weight by the ATO.
3.128 Thirdly, stakeholders raised concerns that operational case teams do not always communicate their concerns until a position paper is issued. Stakeholders have noted positive examples where the ATO had actively engaged with taxpayers to explain how particular information assists the ATO to determine the allocation of the taxpayer's functions, assets and risks. However, stakeholders observe that some case teams were not consistently willing or able to communicate or discuss:
- their risk hypothesis;
- their technical concerns with specific transactions and opinions on the economic or functional analysis issues unless the ATO's transfer pricing specialists were present;
- the relevance between the information requested and the issues being reviewed —accordingly, stakeholders had no touchstone of relevance prior to a position paper being issued; or
- the reasons and analysis supporting the quantum of adjustment.
3.129 Stakeholders have also said that meetings with ATO case teams are generally rare and difficult to arrange. Stakeholders consider the lack of communication to be unacceptable causing taxpayers to devote additional resources, both internal and external, to respond to ATO concerns when there was little evidence of the ATO basing its position on researched and technical arguments. Stakeholders say this unnecessarily prolongs case timeframes and increases their compliance costs.
3.130 There have often been substantial delays and long periods without any feedback from ATO officers. This gave rise to significant uncertainty for taxpayers, particularly where senior management did not understand the reason for the ATO's actions.
3.131 Stakeholders also consider that it is critical for the ATO to ensure that robust OECD-based analyses are conducted, documented and made available to taxpayers on a timely basis in order to assist with prompt and appropriate resolution of transfer pricing audit cases.
3.132 Lastly, stakeholders raised a number of concerns regarding the ATO's use of comparables in transfer pricing audits. They prefer a tailored, OECD-based approach that considers which point in the identified arms' length range of prices is most reflective of the facts and circumstances of the taxpayer, having regard to the available local and international guidance and the large amounts of information, financial analyses and data that had been supplied by taxpayers.
3.133 Stakeholders, however, observe that the ATO does not use appropriate comparables and question whether sufficient analyses are undertaken to ensure benchmarks are sufficiently comparable considering the nature of taxpayers' businesses. Even when the ATO has undertaken a more significant analysis of the taxpayer's business and profitability, taxpayers have identified errors and discrepancies which should not have been made. With earlier engagement of transfer pricing experts, stakeholders considered that many such errors may have been avoided.
3.134 Stakeholders also consider that the ATO places excessive reliance on profit methods, such as the Transaction Net Margin Method (TNMM) despite the relevant comparables being too broad and inaccurate and therefore, less reliable.
3.135 On occasions the ATO has used a high level analysis of broad industry benchmarks, such as ABS data or cost base plus an uplift to determine commercial outcomes and a transfer pricing adjustment based on the median arm's length range. Stakeholders consider that such an approach inappropriately overrides taxpayers' transactional benchmarking and commercial explanations for the pricing. Further, it is suggested that such benchmarks are only meant to be used for risk assessment purposes and not for any adjustments.
3.136 Stakeholders also point out the difficulties in selecting appropriate comparables, such as different revenue authorities taking different perspectives of data and using different data sets. Stakeholders note that taxpayers may use a range of different databases to establish comparables. This increases the difficulties in resolving issues of double taxation.
ATO materials and information
3.137 Aspects of the ATO's processes for transfer pricing audits were previously described in Chapter 2. It is important to recall that when conducting a transfer pricing audit, operational case teams are directed to reconstruct the taxpayer's transfer prices by following the four steps outlined in Taxation Ruling TR 98/11.448 Operational case teams are warned not to work backwards from taxpayers' transfer prices as this may cause potential bias.449
3.138 Further guidance on the transfer pricing audit process is set out in the ATO's Streamlined Audit Manual for Transfer Pricing. This manual was designed for use by officers undertaking the audit of companies whose primary function is to import and distribute products acquired from foreign related parties. However, the ATO considers that the approach outlined in this manual can be used as a template for the transfer pricing audits of other types of businesses with 'suitable modifications'.450
3.139 The ATO's general approach to information gathering has been influenced by previous IGT reviews451 and is outlined in a number of its publications including the:
- LBTC Booklet;
- Large Business Active Compliance Manual — Income Tax (LBACM) publication; and
- Tax Compliance Publication.
3.140 The LBTC Booklet outlines the ATO's approach to understanding taxpayers' businesses and information gathering in the large business market. For example, the use of the 'BISEP Model' which considers business, industry, sociological, economic and psychological factors that influence taxpayer behaviour. The LBTC Booklet states that the ATO will collect substantial amounts of information and evidence when examining complex compliance matters to get 'full facts'.452
3.141 The ATO acknowledges that taxpayers should have a clear understanding of the ATO's requests, why that information was requested and how it relates to the matter under review. However, the ATO has advised that the scope and relevance of its requirements are matters for them to determine.453 Notwithstanding this approach the ATO has advised that it will develop timeframes and protocols concerning provision of information as part of the audit plan agreed with the taxpayer.454
3.142 The LBACM and the Tax Compliance Publication make similar comments as the LBTC Booklet.
3.143 In respect of transfer pricing specifically, the ATO's approach to information gathering is outlined in Taxation Ruling TR 98/11, which states generally:
It can be expected that the ATO would acquire a good knowledge of the business of the enterprise to assist in taking a realistic view of the issues involved. The enquiries may need to cover industry and economic cycles and a number of relevant businesses and years and may include:
- examining the worldwide operations, strategies and structure of the [Multi-National Enterprise] MNE group to which the taxpayer belongs to establish the roles played by the taxpayer and the associated enterprise(s);
- examining the market structure and dynamics, the enterprise's strategic direction, financial position, marketing strategies, pricing documentation, assets employed and risks borne and examining the documentation for specific international transactions, where necessary. This also includes an examination of all arrangements with associated enterprises and the interrelationship of those arrangements. Performance reports may also be examined to isolate any products or services that warrant particular attention;
- examining budgets, business plans and financial projections;
- interviewing a selection of the taxpayer's staff to establish the skills base and to understand the functions performed and the decision making processes adopted. Staff interviewed normally include relevant operational, managerial, finance and accounting staff;
- reviewing the taxpayer's pricing processes; and
- ascertaining in broad terms any comparable uncontrolled dealings, the assets employed and risks borne by any comparable uncontrolled enterprises. This would normally be refined as part of a comparability analysis.
The demand for this information depends on the ATO's progress through the four steps. Requests for information should be framed having regard to the specific information needs of the case.
Every effort should be made to ensure that necessary information is collected only once, subject to the need to verify information or amplify explanations from time to time and subject to cases where it may be more convenient to the taxpayer to provide information that overlaps.455
3.144 Taxation Ruling TR 98/11 further outlines details of particular aspects of the ATO's approach to information gathering:
- chapter 5 — outlines the (contemporaneous) documentation requirements to substantiate the arm's length nature of a taxpayer's transfer prices;
- chapter 6 — discusses documentation for small business taxpayers and taxpayers with low levels of international dealings;
- chapter 7 — discusses documentation relevant to the selection and application of particular transfer pricing methodologies;
- chapter 8 — outlines documentation for certain business strategies;
- chapter 9 — discusses collection, use of, and access to third party data in the context of a transfer pricing review or audit and addresses a number of issues related to the ATO's powers to access information and documentation and taxpayers' right of access to information collected by the ATO; and
- chapter 10 — outlines the use of publically available sources of data.456
3.145 The overview above regarding the ATO's information gathering materials for transfer pricing is directed at gaining an understanding of the taxpayer's business and arrangements of concern, consistent with steps one and two of the four-step process specified in Taxation Ruling TR 98/11.457
3.146 As stated earlier, operational case teams are supported by the Economist Practice to assist in preparation of audit plans and information gathering tasks to ensure that the plan is appropriate, for example, identifying additional information to assist with critiquing taxpayers' functional analyses. Where necessary, an adviser from the Internationals unit may also provide this advice.458
3.147 The ATO's Streamlined Audit Manual for Transfer Pricing informs operational case teams that, '[y]our Internationals advisor and economist will be able to supply much of the information [during transfer pricing audits] and the remainder should be included in your audit [information gathering] plan'.459
3.148 There are other ATO areas that may have input during the information gathering phase for example, in workshopping documents with operational case teams and identifying information gaps. However, the operational case team is responsible for requesting the information from the taxpayer and managing the relationship.460
3.149 In guiding how much information is needed, the ATO expects its officers to exercise judgment in determining the nature and extent of documentation appropriate to taxpayers' circumstances. However, there is also an emphasis on ensuring that the 'full facts' are obtained and that the ATO is 'litigation ready'.461
3.150 The LBACM and the Tax Compliance Publication also address ATO communication with taxpayers— information will be shared with taxpayers. In the LBTC Booklet, it is stated, with reference to the Taxpayers' Charter, the ATO will maintain open and frank dialogue, including agreeing case plans upfront, informing taxpayers regularly of the progress of any compliance activity and aim to make information requests clear and unambiguous. The LBTC Booklet further states that the ATO's risk hypothesis will be shared with taxpayers as it evolves at various stages of reviews and audits.462 Both the LBACM and Tax Compliance Publication also make similar statements.463
3.151 The avenues for taxpayers and their advisers to escalate issues were previously described in this chapter.
3.152 Internally, the ATO has identified the factors outlining best practice on communicating with taxpayers:
- ensure there are two-way communication/feedback channels between taxpayer and teams for dealings with issues and concerns;
- [conduct] early and frequent communication about review or audit enables taxpayer availability to be factored into case plans and information requests;
- [organise] meetings — lock in and schedule in advance regular meetings helps keep everyone focussed and committed;
- [maintain] taxpayer relationships — [by] discussing issues and information needs early; and
- [conduct] communication from a confident and knowledgeable position.464
3.153 The ATO's Streamlined Audit Manual for Transfer Pricing, however, suggests that communication with taxpayers is limited to information gathering during the functional analysis stage of the transfer pricing audit:
The audit meetings and interviews should fall into two completely separate stages. The first stage is data and information gathering and understanding the cross-border transactions the company is involved in. This is not a time for debate, friction, expression of opinions or negotiation. At the data and information gathering stage the audit process is at its most vulnerable. Specific knowledge is limited and it is easy to follow lines of investigation that are fruitless; to make statements that are demonstrably at odds with the facts and to create a level of hostility that curtails the flow of data and information specific to the company under audit. The best approach to the initial meetings is to genuinely seek knowledge and be interested in the functions, assets and risks of the company and the activities of the staff interviewed...
The second stage of taxpayer meetings is a negotiation stage. Whilst no position paper would have issued or formal negotiations commenced, the fact is that by this stage the audit team will be informed about the company and the industry and would have identified some issues. When issues involving potential adjustments are identified and discussed, it is essential to understand that an implicit negotiation is in progress. If the taxpayer believes that the team doesn't understand the issue their attitude to the negation may be adversely affected.465
3.154 Another concern for the ATO is the determination of appropriate comparables along with identifying the most reliable transfer pricing method. The available comparables influence the selection of the most appropriate transfer pricing method.466
3.155 The ATO's Streamlined Audit Manual for Transfer Pricing recognises,
As TR 97/20 (paragraph 2.2) says, the concept of comparability is central to the arm's length principle. The purpose of comparability analysis is to identify an arm's length price or margin by ensuring that uncontrolled transactions used as benchmarks are sufficiently closely comparable to the controlled transaction to be so used, with adjustments made for relevant differences, if any.467
3.156 The ATO's Streamlined Audit Manual for Transfer Pricing also goes on to describe in greater detail the factors relevant to comparability including:
- the nature of the goods or service;
- contractual terms;
- economic and market circumstances;
- business strategies; and
- reliability of data concerning comparability.
3.157 The ATO acknowledges that taxpayer's transfer prices are unique. The objective is to determine an arm's length 'range' of prices. Therefore, the ATO seeks to explain any key divergences based on different methods used.468 Accordingly, a functional analysis is critical.469 The ATO advises that broad industry benchmarks should not be used in audits to make adjustments, rather 'actual' comparables should be used based on the taxpayer's business and operating model.470
3.158 The ATO advises that the Economist Practice uses a range of external subscription databases to determine appropriate comparables for the purpose of transfer pricing audits. These databases provide a range of information including data on MNEs (structures, dividends, earnings, shareholder and accounting data, credit ratings, royalties/licenses), industries, financial markets, countries and market research data, such as merger and acquisition activity.471
3.159 The ATO acknowledges that materially similar comparables are difficult to find especially as some markets have shrunk significantly over time. Other difficulties include where companies have consistent losses or have particular marketing strategies, such as market penetration. The ATO advises that other countries have similar problems.472 Where appropriate comparable uncontrolled prices cannot be found, the Economist Practice will look for comparables as close to the taxpayer's functions, assets, risks and the product/service under audit. In some cases the Economist Practice may need to consider comparables from other industries and countries.473
3.160 The use of arm's length ranges is also discussed in the ATO's Streamlined Audit Manual for Transfer Pricing:
... transfer pricing analysis is not an exact science, so there will be many occasions when the application of the most appropriate method or methods produces a range of outcomes.
It must also be observed that all of the observations in a range of outcomes may not be equally reliable so care is required, particularly where the maximum and minimum values are so disparate that at least one of them is likely to be wrong.
In estimating "the" arm's length price from data which is dispersed in ranges, team members should have regard to the advice set out in "Judgements", above. In particular, a description of the process by which the final estimate was arrived at should be set out in the relevant report, including considerations taken into account, how and why adjustments were made, what matters were considered and why and what matters were disregarded and why.474
3.161 The ATO's current approach to conducting transfer pricing audits is to conduct functional analyses in all cases before issues are identified and discussed with the taxpayer. This approach imposes a significant base line cost on the ATO and the taxpayer.
3.162 Functional analyses are inherently labour intensive and time consuming processes. Similar to undertaking market valuations, a thorough understanding of the various economic factors affecting pricing is needed. In addition to these complexities, transfer pricing also involves consideration of a range of material business factors to determine what an independent business owner would have done in the circumstances in an international context. Ultimately, it is a process of analysis based on inferences and determined through accepted methodologies. As a result, although assertions could easily be made, it is inherently difficult to conclusively prove.
3.163 Implementation of Recommendation 2.4, set out in Chapter 2, should reduce the number of such resource intensive activities to the highest risk cases. Improved risk identification flowing from Recommendations 2.4 and 3.5 (below) will also facilitate a differentiated approach to information gathering in audits to reduce the compliance burden on taxpayers. This may be achieved through a combination of project work conducted on known risks, as well as generating more focused risk hypotheses at the conclusion of risk reviews.
3.164 Furthermore, implementation of Recommendations 2.6 and 3.2 should improve the progress and timeliness of audits as a result of increased supervision and improved project management. In addition to these recommendations, the IGT has previously made recommendation that benchmarks be set for key events during large business audits.475
3.165 As discussed in Chapter 5 of the IGT's LBI review, a key factor in the efficient and effective conduct of audits is the refinement of the risk hypotheses through ongoing transparent communication with the taxpayer. Information requests should be explained, discussed and referenced to these hypotheses in the absence of any fraud or evasion.
3.166 The ATO's current approach to information gathering in transfer pricing audits is to complete its functional analysis before entering into any discussions with the taxpayer — indeed there seems to be little discussion on technical issues until the position paper stage. This may have led to the stakeholder's view that the operational case teams are prone to 'confirmation bias'.
3.167 The IGT appreciates that the ATO should arrive at an independently reasoned position. However, ignoring taxpayer explanations increases the risk of unsustainable outcomes or at the very least causes a deterioration in the relationship between the two parties.
3.168 The IGT also considers that ongoing communication, aimed at refinement of the risk hypothesis, provides opportunity to expedite the audit process by leveraging off the work already undertaken by taxpayers and testing the taxpayer's approach based on a sound understanding of the factors that impact on profitability. In support of such a process, an example has been provided to the IGT which illustrates that a taxpayer was able to resolve ATO concerns, without undergoing a full audit, by engaging in discussions with the ATO specialist.
3.169 To ensure appropriate communication with taxpayers during the transfer pricing audit process, operational case teams should seek to facilitate the understanding of the strengths and weaknesses of each party's arguments at key stages. The ATO should also ensure that 'specialists' assisting operational case teams are available for discussions with taxpayers.
3.170 The IGT considers that such an approach will assist the ATO's relationship with taxpayers by building trust. It will also provide taxpayers with an opportunity to correct any misunderstandings of circumstances prior to finalising decisions. More targeted information gathering and reduced compliance costs will also likely result from such an approach, including more timely and appropriate resolution of transfer pricing audit cases.
3.171 Having established the functions, assets and risk, choice of methodology and comparables comes into focus. Once again communication with the taxpayer is the key. Understanding the taxpayer's choice of methodology and comparables may be a good starting point.
3.172 Furthermore, having conducted many transfer pricing compliance activities in the past, the ATO has at its disposal a large amount of data which may prove to be useful in identifying comparables. A database, containing such data, may be developed with an appropriate search function which may assist operational case teams and specialist units to more rapidly determine comparables.
3.173 Another source for assistance in developing comparables for the ATO is other revenue authorities to harmonise databases used.
3.174 The IGT acknowledges that there are inherent difficulties with finding comparables, however, the above are some helpful means of simplifying the task.
The IGT recommends that the ATO:
- develop benchmark timeframes for key events during transfer pricing audits as a guide to operational case teams to ensure that audits progress as expeditiously as possible;
- require operational case teams to discuss their information requests with the taxpayer providing reasons for such requests and how they would assist in refining the risk hypothesis; and
- improve and expedite the process of adopting and identifying appropriate methodologies and comparables by:
- developing a searchable database of outcomes from previous compliance activities;
- consulting other revenue agencies; and
- seeking to understand the taxpayer's choice of methodologies and comparables.
The ATO agrees to parts 1, 2, 3b and c.
Regarding part 2, we acknowledge that our information gathering approaches are not always consistently applied by all case officers in all cases. We have recently updated guidance for ATO staff and taxpayers in our booklet, Our Approach to Information Gathering, published on 31 October 2013, which includes requirements in line with this recommendation. We will continue to reinforce with our staff the requirement that they adhere to the processes in that publication.
In respect of part 3a, the ATO agrees in principle, noting we would need to consider this in the context of our broader corporate IT strategy and priorities.
The International Dealings Schedule
3.175 Stakeholders raised a number of concerns with the IDS including:
- Increased compliance costs, arising from the increased level and specificity of information required to be provided at lodgment time. Stakeholders have estimated the costs to be $3,000-$10,000 for smaller taxpayers and up to $100,000 or more for larger taxpayers, taking between two to three months for an experienced person to collate the necessary material. In some cases, additional compliance costs have been incurred in upgrading business systems due to the requirement to provide information that is not captured by natural business systems and only produced for compliance purposes— for example, the IDS question on interest requires a quarterly balance rather than a closing balance.
- The effect of compliance costs on SME taxpayers, as they do not have the same economies of scope and scale of resources as large businesses to capture, collate and provide the required type and amount of information.
- The costs being disproportionate to the taxpayer's level of risk. Stakeholders consider much of the 'granularity' of information requested from all taxpayers completing the IDS is more akin to information collected from the 'riskiest' of taxpayers during a compliance activity. There is also uncertainty as to whether some of the information required to be provided in the IDS assists the ATO to identify tax risks— for example, the question on non-deductible expenses and derivatives, which requires taxpayers to provide large amounts of information— or whether the ATO is merely collecting it on behalf of another government department.
- Better and broader consultation on the purpose and reason behind IDS disclosures would have likely minimised overall costs, particularly those disproportionately borne by SME taxpayers476 and those taxpayers of comparatively lower risk. They consider a differentiated information gathering approach based on a taxpayer's risk, size and natural business systems is more appropriate.
- Uncertainty in making IDS disclosures due to unclear or incomplete instructions and terminology applicable on key issues.
ATO materials and information
3.176 The consultation process for the development of the IDS was described in Chapter 1 whilst the role of the IDS in developing risk filters was described in Chapter 2. This section provides further information on the IDS.
3.177 The ATO maintains that the information collected in the IDS is important for the overall integrity of the tax system. The ATO intends to use this information to improve its:
- identification of international tax risks by enhancing the risk filters, which are also expected to decrease taxpayers' compliance costs arising from improved case selection;477
- timeliness and transparency of information gathering, by obtaining this information earlier in the compliance interaction cycle;478 and
- provide a greater focus on key compliance risk areas,479479 through understanding the relevant market and industry wide patterns and trends to identify emerging and hitherto unknown risks—for example, where taxpayers' data significantly diverges from the industry norms480— and thereby facilitate the strategic management of international compliance risks.481
3.178 The ATO acknowledges the concerns raised with the increase in costs on lodgment. However, the ATO considers that the information gathered under previous schedules was not effective in indicating comparative levels of compliance. Previously, the information had to be gathered from relatively few taxpayers during compliance activities. Without the IDS, the ATO considers that there would still be a need for multiple methods of information gathering.482
3.179 The ATO acknowledges that although it may not appear to be the case now, benefits will be realised as taxpayers adjust to the new reporting and lodgment requirements of the IDS.483 As 2012 was the first year for the compulsory lodgment of IDS by all relevant taxpayers, the ATO has sought to minimise some of the costs by accepting IDSs that have been prepared on a taxpayer's 'best efforts':
We understand that for some taxpayers there may not have been enough time to change your accounting systems to collect all the information required to complete this schedule for the first year. If this is the case, complete as much of this schedule as possible using your current systems and make a best effort to estimate figures where you do not have records of the actual data. Include in a covering letter with your International dealings schedule:
- what you needed to estimate and for which questions
- what data you used to make this estimate.484
3.180 Importantly, it should be noted that one of the ATO's objectives of implementing the IDS was to reduce taxpayer compliance costs by aligning the data requirements with normal business systems.485 The ATO advises that it is developing plans to analyse the data collected to ensure any possible improvements to the IDS and its instructions are identified and actioned. At a later stage, the ATO intends to conduct a post-implementation review to determine whether the objectives of the IDS have been achieved.486
3.181 The ATO's website stated that,
You can also provide feedback on any difficulties you have in completing the questions in the schedule. We will use this information for future versions of the schedule. Provide this feedback by... emailing the IDS project team at firstname.lastname@example.org
3.182 At the time of writing, the ATO has advised that most submissions to the mailbox were questions on technical aspects of the IDS.488
3.183 The stakeholder feedback set out above indicates a need for greater consultation, education and understanding regarding the information needs of the ATO.
3.184 The IGT appreciates that the compliance costs should be proportionate to the relevant risks and that SMEs, particularly, should not be exposed to unnecessary compliance cost. In this respect a differentiated approach may be justified to achieve the underlying objective and yet minimise the impact upon smaller taxpayers or those that pose little or no risk. However, such differentiation needs to be balanced by the ATO's need for industry data and more general information to develop and refine its risk filters and better target its compliance activities. In the long run, such refinement of risk filters should minimise compliance costs for these very taxpayers.
3.185 Stakeholders' concerns with the proportionality of costs to the perceived risks and the consultation process to develop the IDS were considered in the IGT's Review into Improving the Self Assessment System489 and a recommendation has already been made:
(a) The ATO should consult with taxpayers, tax practitioners and/or their representative bodies every five years on information it seeks in company returns (as well as associated pre-assessment and expanded lodgement disclosure, such as … the international dealing schedule. ).490
3.186 In response the ATO agreed to:
…develop and implement procedures to periodically consult with relevant consultative forums and the community to review the information required on company and individual income tax returns and associated schedules.491
3.187 The ATO intends to implement this recommendation by developing a plan by November 2013 'for ongoing review and consultation with relevant consultative forums on information required on company returns and associated schedules'.
3.188 The ATO has also indicated that it will conduct a post-implementation review of the IDS and assess, amongst other things, whether its objectives of reduced overall compliance costs, better understanding of the environment and identification of known and unknown risks have been achieved.
3.189 The IGT considers that the post-implementation review of the IDS provides an opportunity for the ATO to not only consider whether the aims of the IDS have been achieved, but to consult relevant taxpayers and their advisers to better understand the overall compliance burden that the IDS has necessitated.
3.190 A large majority of SME cases are said to involve less complex technical issues than larger business cases. However, in these instances there is less public information. The transfer pricing issues of SMEs also tend to involve simpler arrangements, such as marketing and distributing arrangements, rather than the more complex arrangements involving marketing hubs and attribution of intellectual property. Therefore, the ATO's concerns in the SME market segment have tended to focus on understanding the reasons for taxpayers' particular economic performance, rather than identifying emerging risks through patterns and trends. This suggests that there is an opportunity to tailor the information sought in the IDS to SME taxpayers in a manner that minimises compliance costs.
3.191 SME taxpayers comprise the vast majority of IDS lodgments. In this respect, it should be noted that the ATO requires the same data from these taxpayers as it does from large businesses. SME taxpayers, however, tend to have more difficulty with time and cost of transfer pricing documentation requirements, in relative terms, associated with the engagement of specialist advisers in this regard.
3.192 During this review, the ATO has indicated that it could, as part of the IDS post implementation review, consider whether the IDS completion threshold is appropriate for smaller taxpayers and whether it could be increased.492
3.193 The IGT considers, in addition to reconsidering the IDS completion threshold, differentiated forms could be developed for SME taxpayers. The IGT acknowledges that this may impose some additional administrative costs on the ATO to refine its information technology systems. However, consultations with SMEs would help the ATO to better identify information required through the IDS to select risk reviews. The IGT also notes early indications that the ATO may be moving towards a differentiated tax return for businesses in the near future.493
3.194 The IGT also considers that the ATO instructions on the completion of the IDS on a 'best efforts basis' are limited. Due to the recent implementation of the IDS and substantial changes in reporting for taxpayers, the ATO should consider penalty remission for 'incorrect' completion of the IDS unless there is evidence of intentional omission or misinformation provided by taxpayers for the purpose of reducing tax. Such a remission policy is consistent with the implementation of new regimes.
The IGT recommends that the ATO:
- with respect to its post implementation review of the IDS:
- examine the impact of the IDS on both large and SME taxpayers and their advisers through consultation with them;
- determine the extent to which its intended aims of reduced compliance costs through, amongst other things, more industry data and improved risk filters has been achieved;
- publish the findings of the review;
- consider a simplified IDS that reduces compliance costs for SME taxpayers and those that pose a low risk to Government revenue; and
- remit penalties where taxpayers have completed the 2012 IDS on a 'best effort basis'.
Regarding part 1, the ATO agrees but notes it is anticipated the review will be undertaken 3-5 years after the introduction of the IDS to enable an effective review.
Regarding part 2, the ATO agrees to consider a simplified IDS and we will undertake consultation as appropriate to explore this. However, we do note that the current thresholds have been designed to exclude taxpayers with international dealings of less than $2 million and the schedule is structured such that smaller taxpayers are less likely to have to complete the entire schedule.
371 ATO, 'Communication 1 (19 March 2013)', above n 200.
372 ATO, 'Communication (22 March 2013)', above n 166.
373 ATO, 'Simplified Approach to Documentation', above n 369.
374 ATO, Income Tax: Documentation and Practical Issues Associated with Setting and Reviewing Transfer Pricing in International Dealings, TR 98/11, 24 June 1998, paras [6.1]-[6.2].
375 ibid para [6.5].
376 ibid para [10.2].
377 ATO, Income Tax: International Transfer Pricing for Intra-Group Services, TR 1999/1, 20 January 1999.
379 Threshold requirements for completion: ATO, International Dealings Schedule (2012).
380 ATO, 'TR 98/11', above n 373.
381 Simplified APA procedures: ATO, 'PS LA 2011/1', above n 148.
382 PWC Legal, above n 109, p 5.
383 Tax Laws Amendment (Countering Tax Avoidance and Multinational Profit Shifting) Act 2013.
384 HMRC, INTM - International Manual (27 August 2013) INTM412070 - Transfer Pricing: Legislation: Rules: Exemptions: Small and Medium Sized Enterprises.
385 OECD, 'OECD Approves the Revision of the Section on Safe Harbours in the Transfer Pricing Guidelines' (Media Release, 21 May 2013).
386 Thomson Reuters, Income Tax Assessment Act 1997, para [820.1100]; KPMG, Transfer Pricing Update: Analysis of ATO Ruling on the Interaction between the Transfer Pricing and Thin Capitalisation Rules (1 November 2010); ATO, 'NTLG Minutes' (March 2010) Internal ATO Document; ATO, 'NTLG Minutes' (November 2012) Internal ATO Document, p 26; ATO, Income Tax: The Interaction of Division 820 of the Income Tax Assessment Act 1997 and the Transfer Pricing Provisions, TR 2010/7, 27 October 2010, para .
387 Normative Instruction No. 243/2002 (Brazil).
388 Law on Income Tax, Decree Law No. 824 of1974, Article 41-E, Number 7 (Chile).
389 IGT, Review into Improving the Self Assessment System (2012) Recommendation 3.10.
390 For example: ATO, Annual Report 2011-12 (2012) p 18; ATO, Large Business and Tax Compliance (2012) p 30; ATO, 'PS LA 2011/1', above n 148, para .
391 ATO, Communication (30 July 2013).
392 Service standards: ATO, 'Level 4 Report', above n 353; case plans in TPR Reviews and transfer pricing audits: ATO, 'TPRR Procedural Manual', above n 145; ATO, 'Audit Manual', above n 148.
393 ATO, 'LBTC', above n 389.
394 ATO, Tax Compliance for Small-to-Medium Enterprises and Wealthy Individuals (26 October 2012).
395 As identified earlier in the IQF reports, the quality of Siebel data varies.
396 ATO, 'Level 4 Report', above n 353.
397 As identified earlier in the IQF reports, the quality of Siebel data varies.
398 ATO, 'Case Callover Summary', above n 316.
399 ATO, 'Callover Summary: Perth', above n 364; ATO, 'Callover Summary: Parramatta', above n 364; ATO, 'LB&I AC Case Callover Summary Melbourne: 6 and 7 September 2012' (29 October 2012) Internal ATO Document; ATO, 'LB&I AC Case Callover Summary Brisbane 27 and 28 August 2012' (29 October 2012) Internal ATO Document.
400 ATO, 'Case Callover Summary', above n 316.
401 ATO, 'Communication (10 May 2013)', above n 152.
402 ATO, 'TPRR Procedural Manual', above n 145; ATO, 'Audit Manual', above n 148.
403 ATO, Communication: LMAC Response to Request for Information No. 2 (Learning & Development in LBI) (14 November 2012).
404 ATO, Project and Program Management, PS CM 2003/05, 26 July 2012.
405 ATO, 'Communication (10 May 2013)', above n 152; ATO, 'Communication (19 March 2013)', above n 265.
406 ATO, 'Case and Topic Leaders', above n 197.
407 ATO, 'Technical and Case Leadership', above n 205.
409 IGT, Review into Tax Office Audit Timeframes (2005).
410 ATO, Remission of Shortfall Interest Charge and General Interest Charge for Shortfall Periods, PS LA 2006/8, 11 July 2012.
411 ATO, 'Communication (19 March 2013)', above n 265.
413 ATO, 'Communication (30 July 2013)', above n 390.
414 IGT, Report into the Australian Taxation Office's Large Business Risk Review and Audit Policies, Procedures and Practices (2011).
415 ibid Recommendation 8.3.
416 The ATO consulted a range of taxpayers on what service standards they wanted to be reported. This was not one of them: ATO, 'Communication (30 July 2013)', above n 390.
417 '[W]here there is complexity involved in the issues underlying a shortfall, it may take some time to come to a view as to the proper operation of the law. So there may be a hiatus between the commencement of the audit and the amendment of the assessment': ATO, 'PS LA 2006/8', above n 409, para .
418 ATO, 'LBTC', above n 389, p 30.
419 ATO, 'LBTC', above n 389; ATO, 'TCSME' above n 393.
420 ATO, 'LBTC', above n 389, pp 16, 30-31.
421 ATO, 'Communication (10 May 2013)', above n 152; ATO, 'Communication 1 (14 March 2013)', above n 149.
422 ATO, Communication 1 (15 March 2013).
423 ATO, 'PS LA 2004/13', above n 167, para .
425 ATO, 'TR 98/11', above n 373.
426 ATO, 'TPRR Procedural Manual', above n 145.
429 Such as Profit margin, EBIT/total income or EBIT/sales.
430 Such as Return on Assets, Return on Net Worth or EBIT/assets.
431 ATO, 'TPRR Procedural Manual', above n 145.
432 ATO, Communication (9 April 2013).
433 ATO, 'Communication 1 (14 March 2013)', above n 149.
434 ATO, 'TPRR Procedural Manual', above n 145.
437 ATO, 'Communication 1 (14 March 2013)', above n 149.
438 ATO, 'TPRR Procedural Manual', above n 145.
442 ATO, 'Communication (19 March 2013)', above n 265.
443 ATO, 'Communication (6 November 2013)', above n 274.
444 As a result of: ATO, 'TR 98/11', above n 373; ATO, 'TPRR Procedural Manual', above n 145.
445 ATO, 'LBTC', above n 389.
447 ATO, 'Communication (9 April 2013)', above n 431.
448 ATO, 'Audit Manual', above n 148.
450 ibid p 5.
451 IGT, 'Large Business Review', above n 413; IGT, Review into the ATO's Compliance Approaches to Small and Medium Enterprises with Annual Turnovers between $100 million and $250 million and High Wealth Individuals (2011).
452 ATO, 'LBTC', above n 389.
453 ibid; ATO, 'LBI Executive Minutes: Disputes Management Advisory Panel July 2012 - Recommendations for Improved Litigation Outcomes' (7 September 2012) Internal ATO Document.
454 ATO, 'LBTC', above n 389.
455 ATO, 'TR 98/11', above n 373, paras [4.33]-[4.37].
456 ATO, 'TR 98/11', above n 373.
457 ATO, 'Audit Manual', above n 148.
460 ATO, 'Communication 1 (14 March 2013)', above n 149.
461 ATO, 'Audit Manual', above n 148; ATO, 'LBTC', above n 389; ATO, 'LBI Executive: Callover', above n 309.
462 ATO, 'LBTC', above n 389, pp 8, 29, 47.
463 ibid pp 29, 30, 47, 49; ATO, Large Business Active Compliance Manual - Income Tax (undated); ATO, 'TCSME' above n 393.
464 ATO, 'LB&I Better Teams Better Practices Information and Checklist' (December 2012) Internal ATO Document.
465 ATO, 'Audit Manual', above n 148, pp 17-18.
466 ATO, 'Communication (9 April 2013)', above n 431; ATO, 'TR 98/11', above n 373; ATO, 'TR 97/20', above n 53.
467 ATO, 'Audit Manual', above n 148, p 53.
468 ATO, 'Communication (9 April 2013)', above n 431; ATO, 'TR 98/11', above n 373; ATO, 'TR 97/20', above n 53.
469 ATO, 'Communication (9 April 2013)', above n 431.
474 ATO, 'Audit Manual', above n 148, pp 60-62.
475 IGT, 'Large Business Review', above n 413, Recommendation 8.3.
476 ATO, 'NTLG Internationals Minutes (July 2012)', above n 128.
477 ATO, 'Communication 2 (14 March 2013)', above n 289.
478 ATO, 'NTLG Internationals Minutes (July 2012)', above n 128.
480 ATO, 'Communication (25 March 2013)', above n 286.
481 ATO, 'Communication (25 February 2013)', above n 367; ATO, 'NTLG Internationals Minutes (July 2012)', above n 128.
482 ATO, National Tax Liaison Group (NTLG) Internationals Sub-group Minutes (July 2011).
483 ATO, 'NTLG Internationals Minutes (July 2012)', above n 128.
485 ATO, National Tax Liaison Group (NTLG) Minutes (December 2009).
486 ATO, 'NTLG Internationals Minutes (July 2012)', above n 128.
488 ATO, 'Communication (25 March 2013)', above n 286; ATO, 'Communication 1 (19 March 2013)', above n 200.
489 IGT, 'Self Assessment Review', above n 388, paras [3.190]-[3.201].
490 ibid p 66.
491 ibid p 66.
492 ATO, 'Communication (25 February 2013)', above n 367; ATO, 'Communication (25 March 2013)', above n 286; ATO, 'International Leadership Team Minutes' (26 June 2012) Internal ATO Document.
493 Chris Jordan, 'It's About Time' (speech delivered at the National Small Business Summit, Brisbane, 25 July 2013).