New ATO scrutiny for corporates
An Australian Taxation Office (ATO) submission to a Senate inquiry signals a focus on surging thin-cap manipulation and details other measures to reduce the corporate tax gap.
- Disputes over tax can be avoided through engagement with the ATO.
- Thin capitalisation asset revaluations that produce favourable tax outcomes have surged since 2016 and the ATO is reviewing cases worth $78 billion, says Australian Taxation Office Deputy Commissioner Jeremy Hirschhorn.
- The ATO has reported to a Senate inquiry significant progress in cutting Australia’s big company tax gap to 6% but wants to reduce it to 2%.
By Ben Power.
Corporate tax avoidance, particularly by multinational giants, has become a high-profile public issue. The Australian Taxation Office (ATO) in its latest submission to the Senate Inquiry into Corporate Tax Avoidance has reported good progress in its quest to ensure big companies pay their fair share of tax. Jeremy Hirschhorn, Deputy Commissioner, Public Groups and International, however, told Acuity the ATO isn't resting on its laurels.
Speaking a few days after appearing before the Senate inquiry, Hirschhorn says there has been a "significant improvement" in the difference between what the ATO collects from large corporations and what it would have collected if every taxpayer was fully compliant since 2014–15 when the gap was 6%, or $2.5 billion.
The ATO wants to make this gap just 2% (after compliance activities) on a sustainable basis. "That's our aspirational goal," Hirschhorn says.
To achieve this, the ATO is focused on new initiatives but, importantly, is also determined to protect the gains of recent years.
Hirschhorn says if the Government is to maintain community confidence in the tax system, corporations must pull their weight. He wants to ensure the public doesn't believe they are "suckers in a loaded game", particularly at a time of budget deficits and talk of tightening Government benefits.
Australia has been building on existing measures and aggressively introducing new laws and reforms to be at the forefront of implementing the OECD-led base erosion and profit shifting (BEPS) program designed to combat multinational tax avoidance.
The ATO has already made permanent improvements to the tax base. A key move has been the introduction of the multinational anti-avoidance law (MAAL), which particularly prompted big multinational e-commerce players – a major target of anti-tax-avoidance measures – to increase profits declared in Australia. This is expected to reinstate $7 billion in additional income to the tax base.
The ATO has also reported improvements in other areas. It's building on the landmark Chevron case, Australia's largest ever tax dispute, which endorsed the ATO's principles on applying transfer pricing rules to related party financing. That has helped it raise about $1.5 billion in amended assessments in 2016–17.
Preventing subversion of changes
But Hirschhorn says there is more to be done. The ATO is focusing on a number of key areas, including the next phase of BEPS, new anti-hybrid rules. It also looking at compliance in the oil and gas sector (particularly issues around marketing hubs and related party debt) and pharmaceutical industries, the transfer of intellectual property offshore, and the justified trust program. Under this program, the ATO will perform due diligence on the top 1100 companies over the next two and a half years.
Importantly, Hirschhorn says, the ATO also wants to ensure that past successes are not undermined. “We are very focused on ensuring the government policy platform is delivered,” he says. “A lot of effort has gone into the BEPS program and we want to ensure that program, and the intent of that program, is delivered.”
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Some advisers and taxpayers have already been working on structures to subvert BEPS changes, including MAAL, Hirschhorn notes.
In its Senate inquiry submission, the ATO says it is “taking steps to deal with advisers who undermine the integrity of the tax system”. That includes advisers who “cloak the promotion of unacceptable tax planning via inappropriate claims for legal professional privilege”.
“What we have discovered is that our understanding of legal professional privilege is fundamentally different to that taken by some advisers and taxpayers,” Hirschhorn says. “We will be looking to test that pretty shortly.”
Thin capitalisation manipulation
One area of focus has been the manipulation of ‘thin capitalisation’ calculations. The rules limit the amount of debt used to fund Australian operations of foreign entities investing into Australia, and Australian entities investing overseas.
For income years from 1 July 2014, the safe harbour debt test threshold was cut from 75% to 60%. The ATO expected the amount of debt deductions disallowed to increase because of the changes. But taxpayers have adapted with total ‘thin capitalisation only’ revaluations surging from $56 billion in 2015, to $122 billion in 2016.
Hirschhorn says Australia has a relatively high corporate tax rate and is an open economy, so it is inherently exposed to transfer mispricing. “One of the biggest, if not biggest, cross-border flow is money-related party debt,” he says. “So that has to be a key focus of ours. What we have seen is manipulation of thin-cap rules, which we are robustly addressing.”
What we have seen is manipulation of thin-cap rules, which we are robustly addressing
Companies trying to get more deductible debt into Australia are not only being overly optimistic in identifying and valuing assets, particularly intangibles. But Hirschhorn notes the ATO has also seen manipulation on the liability side, or ‘thin capitalisation ratio arbitrage’.
The ATO is now reviewing the thin capitalisation arrangements of 27 taxpayers and a “looking to provide assurance” on about two-thirds of total revaluations for 2015–16, or about $78 billion.
The challenge of public confidence
Hirschhorn says the ATO has made significant strides over the past three years apart from closing the tax gap, including boosting transparency. “There is a lot more information out there about system health,” he says.
The ATO’s Tax Avoidance Taskforce, which has received $679 million in funding, has also helped it boost capability significantly and attract talent. Hirschhorn says the ATO’s mindset has shifted to improving system health on a sustainable basis “rather than how many things we catch today”.
But Hirschhorn says he has two jobs. The first is to ensure large companies pay the right amount of tax and the second is to promote community confidence that that is happening.
“I think there is a better understanding of how well this part of the tax system is performing,” he says. “But I have no illusions as to how hard it will be for the broader community to have great confidence in this. That’s a big challenge.”
Related: Tax agents still least happy with ATO service
The ATO scores high on integrity but lower on service and technology in its latest survey, which shows little improvement in community perceptions.
Ben Power is a finance and economics writer.
Photography by Tim Hunter, News Corp.