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Friday, 02 July 2021

Asia is stepping up its tax game: faceless tax audits, major tax reforms and much more

The Asia-Pacific Tour of the Tiberghien World Tour brought to light a number of interesting developments in the innovative and changing tax landscape in Asia. Not only are Asian countries adapting to global changes such as digital tax measures, but they are also shaping up to be key tax innovators with regards to digitalisation, tax reforms, tax audits and efficient administrations. Belgian MNE’s doing business in Asia should be aware of the changing tax way of life in the region as Asian countries are stepping up their game and shatter old bureaucratic stereotypes in doing so. Tax administrations throughout the region are utilizing highly efficient and digitalized tax controversy tools as international corporate structures and transfer pricing issues become key points of focus. In this tax update we highlight some key take-aways from this leg of our Tiberghien World Tour.

General overview

Asia is expected to be the most dynamic and fast-growing region of the world in the foreseeable future. While the COVID-19 pandemic has been a big theme, there are also other driving factors changing the business landscape in Asia.

First of all, the fragmentation of the supply chain as a result of the COVID-19 pandemic is of course an important factor. Second, the US-China trade war cannot be ignored. Third, the EU is increasing its free trade agreements (FTA) network within the ASPAC region. Recently, FTA’s have been concluded with Vietnam and Singapore and more are being negotiated. Lastly, BEPS 2.0 will result in changes impacting tax rules and administrations throughout Asia. Among others the Philippines, India and Australia have already introduced unilateral tax measures.

As is the case everywhere, businesses should closely monitor the continuing developments in the ASPAC region. The evolutions at the level of the OECD and G20 will likely be primal catalysts. Furthermore, reforms, digitalization processes, incentive packages and administrative developments in the tax area are taking place in many Asian countries.

China: taxpayer protection remains relevant as major reforms take place

Multiple reforms have been enacted in China following the COVID-19 pandemic. In the first quarter of this year, China has witnessed an impressive economic recovery as the import and export numbers have jumped to high levels and a substantial trading surplus has been established. Other key factors are also changing the business and tax landscape in China. These include a policy promoting domestic consumption with a boost for the services economy and a focus on international trade. China is also planning to upgrade its free trade zones across the country. A last challenge for China is the facilitation of the flow of goods across borders and the upgrade of technical facilities by the Chinese administration.

With regards to transfer pricing, the digital data monitoring system of the Chinese tax authorities has improved significantly with larger amounts of data being analysed. Tax authorities are closely monitoring companies and transactions through digital scrutinization technology. Based on certain, specific factors, which would indicate potential tax avoidance or transfer pricing issues, companies and/or transactions are red flagged by the system. For example, tax authorities will pay special attention to companies incurring losses for a long period of time and challenge whether they have a reasonable explanation for such (tax) losses.

With regards to tax reforms, China has enacted some major reforms in the last years to attract foreign investments and boost its economy. These include amongst others:

  • In direct tax:
    • Reducing the corporate income tax rate for small and medium-sized companies and reduced rates to certain industries or specific locations (e.g. tech firms or activities within the Hinan free trade port);
    • Offering extra R&D expense deductions to firms with R&D capability in general.
  • In indirect tax:
    • A reduction of the VAT rate from 13% to 11% for the sale of goods is expected;
    • The full refund of unutilized input VAT credits in all sectors is allowed.

With regards to taxpayer protection against audits by the administration, interesting developments are also taking place in China. The practice of the advanced ruling has not become a general practice in China yet. A major concern for business is that it might expose a taxpayer to a burdensome tax audit. Furthermore, the ruling process is still (very) lengthy. However, to promote advanced rulings, the Chinese tax authorities have recently launched a simplified advance ruling process, committing to a three-month deadline for the issuance of the advanced ruling.

Another method of seeking a higher level of certainty for taxpayers is the conclusion of a “tax compliance agreement” with the tax authorities. These agreements can offer a three-year protection against a tax audit. To achieve this, the taxpayer must establish a sound tax risk management system for at least three years and show a clean tax record in tax compliance.

The most common and affordable approach in seeking certainty has been by way of preparing transfer pricing documentation on a yearly basis for any major related party transactions. This practice, though in itself a defensive approach, is commonly comprehensive and accepted by the local tax authorities. It may happen that the tax authorities challenge the documentation prepared by a taxpayer, but at the very least the documentation will form a reasonable starting basis for discussions with the tax authorities.

Faceless, modern and digital …  India is ready for the 21st century

A key development in India is the focus on digitalization both within the tax framework as well as in a broader context. The use of cash in India is diminishing very quickly and ‘cashless’ is becoming an important trend, also in the relation with the tax administration. For example, for GST purposes, companies exceeding certain turnover thresholds must use e-invoicing. Furthermore, India has introduced unilateral digital tax measures and an equalization levy taxing certain digital transactions. The taxation of non-resident companies through the significant economic presence concept remains relevant as well but should not affect companies established in a country which has a double tax treaty with India, such as Belgium.

With regards to the impact of the COVID-19 pandemic, India has seen certain interesting developments. The service sector has not been impacted severely by the pandemic. As for supply chain management, businesses are looking at reducing risks in their supply chain by engaging with multiple manufacturers. India has also provided some production linked incentives to manufacturers in India with its “made in India” campaign.

The most interesting development from a tax perspective is however the so-called national ‘faceless assessment scheme’, which has been in place for a year now. The faceless assessment scheme is a fully anonymous and online assessment process for taxpayers. The scheme was first introduced for individual and corporate income tax purposes but will now also be used for GST purposes.

Under this scheme, all corporate income tax returns are uploaded online and assigned to tax auditors across the country. Questions and notices from the tax administration are sent online to the taxpayer. Any further phase in the tax audit process remains “faceless” as the Indian government wants consistency in the positions taken by the administration and avoid any possible corruption. Hence, taxpayers can no longer explain positions taken to the tax auditor in person. A diligent and well drafted response is therefore key.

Moreover, on the transfer pricing front, the Indian tax authorities are also innovating. The digital scrutinization system of the Indian tax authorities allows for the analysis of large amounts of data based on certain parameters. For example, transactions exceeding a certain value, with a certain jurisdiction or where changes in the previous year’s transfer pricing method were applicable, are picked up by the system. The exchange of information between different departments of the Indian tax authorities runs smoothly, which allows for efficient audits.

The Philippines aims to promote foreign investments through tax reforms

A key development in the Philippines relates to the ambitious comprehensive program aiming to achieve reforms in the field of individual income tax, consumption taxes, corporate income taxes, real estate and capital gains taxes. The highlight of the tax reform program is the CREATE law (Corporate Recovery and Tax Incentives for Enterprises Act). The CREATE law reduces the corporate income tax rate from 30% to 25% on the net taxable income of domestic corporations and resident foreign corporations (e.g. branch offices) and introduces a reduced tax rate of 20% for domestic small corporations. Similarly, the regular corporate income tax rate on the gross taxable income of non-resident foreign corporations (paid as a final withholding tax) has been reduced from 30% to 25%. Furthermore, the tax on the non-declaration of dividends by corporations which retain an excess surplus of profits, has been repealed. Lastly, a capital gains tax of 15% has been introduced for both resident and non-resident corporations on the sale or disposal of non-listed shares.

Another important development in the tax landscape relates to the application of double tax treaties. In the Philippines, taxpayers cannot automatically apply reduced withholding tax rates under double tax treaties but need to obtain upfront clearance from the tax authorities, resulting in a rather burdensome compliance process. Treaty benefits are denied in case of non-compliance with the administrative guidelines. The Supreme Court, however, recently decided that the tax authorities cannot impose additional formal nor administrative conditions in treaty situations. Accordingly, the rules are starting to change and it is expected that the compliance process to apply for double tax treaty benefits will be eased.

Also interesting to note is that the Philippine government is planning, partly steered by the COVID-19 pandemic, to ease restrictions on foreign ownership of businesses in the Philippines. Currently, the ownership in certain industries is wholly or partially limited to Philippine nationals. These restrictions on foreign ownership are expected to be eased in the near future, in order to encourage foreign investments.

Singapore’s position in the Asian tax controversy spider web

The Singaporean tax authorities are known to be taxpayer friendly and Singapore offers a business friendly environment. As Singapore generally plays a significant role in international corporate tax structures, taxpayers will generally be scrutinized and investigated in the market countries outside Singapore.

While tax authorities outside Singapore used to challenge international corporate structures with a Singaporean angle through transfer pricing, tax authorities are also starting to use the permanent establishment route to tackle such structures. Mutual agreement procedures may however provide protection for taxpayers. Businesses should coordinate their approach across countries as tax controversy becomes more and more cross-border.

Tayfun Anil – Associate (tayfun.anil@tiberghien.com)

Tiberghien’s international tax team will continue to monitor these and other tax developments relevant for Belgium / Luxembourg based multinational enterprises. Our editorial board consists of:

In case you have further questions on this publication or want to discuss a tax query, please do not hesitate to contact the author(s) or one of the members of the editorial board.

This newsflash is for information purposes only and cannot be relied upon as legal advice.

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