«A report to the Assistant Treasurer Inspector-General of Taxation October 2013 Review into aspects of the Australian Taxation Office’s use of ...»
Glenn Williams and Emily Marsden, ‘Tax risk and corporate governance: The ATO’s growing interest in taxpayer self risk management’ (Paper presented at the Corporate Tax Masterclass (Tax Institute of Australia), Sydney, 30 October 2012).
3.13 Part of the RDF strategy was not only categorising taxpayers according to perceived risk, but also informing taxpayers about their categorisation through notification letters. These letters, for income tax, were sent to key taxpayers and lower risk taxpayers in mid-2010 through to mid-2011. From November 2011 to March 2012 a new ATO campaign saw notification letters issued with a separate risk categorisation for income tax and indirect taxes.
3.14 The most recent ATO letters were sent to taxpayers in November 2012.
3.15 Relevantly, the IGT’s LB&I Review was publicly released in 2011. That review covered some aspects of the RDF as it was being deployed within LB&I during the course of that review. The IGT made certain recommendations limited to the communication of the RDF risk categorisation132 and the differentiation of compliance approaches according to risk.133 The IGT also foreshadowed the need to conduct a more comprehensive review of the LB&I risk identification process.134
3.16 The IGT’s Self Assessment Review, publicly released in February 2013, also made some observations and recommendations with respect to the RDF, particularly with respect to the inputs and criteria used by the ATO.135 That review also foreshadowed a more fulsome review of the RDF.136
THE RISK DIFFERENTIATION FRAMEWORK (RDF)
3.18 The main ATO publication outlining the use of the RDF in the large business market segment is the LBTC booklet. The most recent edition was published in December 2012. The ATO also published a fact sheet in 2011, The Risk Differentiation Framework. During the conduct of the review, the ATO published a new version of the LB&I compliance manual, the Large business active compliance manual — income tax (LBAC manual), some of which contains guidance to staff about the application of the RDF. The LBAC manual and its publication also addresses a range of recommendations from the IGT’s LB&I Review.137
… The RDF provides a strategic approach for directing our resources more efficiently and effectively. It provides for greater differentiation of our risk management approaches based on our considered view of taxpayers’ compliance history and status.138
* estimated likelihood of you having a tax position that we disagree with or having through error or omission misreported your tax obligations (as evidenced by your behaviour, approach to business activities, governance, and compliance with tax laws)
Source: ATO, Large business and tax compliance 2012, page 25.
3.22 As a result of considering the taxpayer’s perceived likelihood of non-compliance and the consequence of such non-compliance, the taxpayer is categorised by the ATO into one of four categories or ‘quadrants’. These are listed below(refer also to Appendix 8 — RDF chart from Large business and Tax Compliance
3.23 The RDF is also a relative risk rating system. The ATO uses the tool to assist in understanding a taxpayer’s perceived risk relative to others in the population. A taxpayer is unlikely to have the same knowledge as the ATO about other taxpayers’
perceived risk. Therefore:
… you may have a different perception of your tax risk. It is likely that there will always be some large businesses that we perceive have a relatively higher risk compared to other large businesses, and understandably these will face more intense scrutiny by us.141 Consequence factors in the LBTC booklet
3.24 The ATO’s perception of taxpayer ‘consequence’ of non-compliance under the RDF is generally determined by the taxpayer’s turnover. It is not the only factor
considered. The ATO also examines other aspects such as the taxpayer’s:
• amounts reported on activity statements; and
• amounts reported for excise obligations including wine equalisation tax and fuel tax credits.142
3.25 As a result, a taxpayer is broad banded into a higher consequence or a lower consequence classification. A higher consequence taxpayer can either be a key taxpayer (Q2) or a higher risk taxpayer (Q1), depending on their likelihood of non-compliance.
A lower consequence taxpayer can either be a lower risk taxpayer (Q4) or a medium risk taxpayer (Q3), depending on their likelihood of non-compliance. These broad banded consequence categories can be extrapolated from Figure 9 above.
Mark Konza, ‘Our compliance approach in the large market’, (Speech delivered at the Tax Institute’s 28th Annual Convention, Perth, 13 March 2013).
ATO, above n 63, p 25.
3.26 The taxpayer’s position on the RDF in relation to consequence does not influence the ATO perception of taxpayer compliance behaviours, with key taxpayers and lower risk taxpayers being equally regarded by the ATO as being ‘relatively more likely to fulfil their responsibilities and likely to have a positive attitude to compliance’.143 Likelihood factors in the LBTC booklet
3.27 The ATO relies on certain evidence to help determine the ‘likelihood of non-compliance’. These are reproduced below from the LBTC booklet:144
• your compliance history, including:
• the level of transparency demonstrated by you in keeping us informed about proposed significant transactions or potentially contentious issues;
• whether or not you may have adopted a potentially contentious tax position;
• an organisational structure that facilitates transactions through secrecy and low-tax jurisdictions, with no commercial basis other than to reduce tax paid in Australia;
• the quality of your tax risk management and governance processes;
• the capability of your staff, systems and processes that produce your tax records;
• information collected from industry associations, domestic and foreign regulatory bodies, and our own internal intelligence areas;
• your business performance over time compared to your tax outcomes and that of your industry peers; and
• the output of various risk filters, generally for risks identified in the compliance program.
3.28 Some of the above indicators, such as effective tax rates, are factual in nature whilst a number of the others seem to require the ATO to form an opinion on the taxpayer’s level of transparency, disclosure and engagement.
3.29 The ATO makes references to ‘engagement’145 and ‘transparency’146 in several public speeches. The ATO describes taxpayer ‘engagement’ as the extent to which the taxpayer is willing to disclose information about their tax risks. This disclosure may be initiated by the taxpayer or in response to an ATO information request. Transparency is linked directly to notification of ‘significant transactions’ or ‘potentially contentious issues’. The Deputy Commissioner of the LB&I business line made the following
observation in relation to transparency:
The RDF rating is primarily [sic] indicates transparency — how open is the company in revealing its tax risks to the Commissioner for review?147
3.30 The ATO’s perception of a taxpayer’s likelihood of non-compliance is described as one of ‘informed professional judgment’ based on assessing all of the above factors. The ATO also undertakes a moderation process ‘to ensure the RDF categorisation process is consistent and supported by the evidence’.148 Likelihood factors in the risk categorisation template 3.31 The main input into the risk categorisation process for higher consequence taxpayers is the ‘higher consequence taxpayer risk categorisation template’ (‘the template’). The template is completed by ATO compliance teams and sent to a moderation panel for consideration. The template considers both likelihood and consequence factors. Stakeholders’ concerns were largely focused on the likelihood factors and not the consequence factors. This is not surprising as the consequence factors (set out in paragraph 3.24 above) are objectively verifiable with one exception.
As a result this report does not focus on the consequence factors.
3.32 Whilst not mentioned in the LBTC booklet, this moderation process applies only to higher consequence taxpayers. Lower consequence taxpayers are subject to a different process and not the moderation panel, both of which are considered later in the report.
3.33 With respect to the likelihood factors, the template has several sections. These
factors at a high level relate to:
• tax performance, comprising effective tax rate and comparisons with industry;
• organisational structure;
• tax risk management and governance, comprising strategic and operational aspects as well as the taxpayer’s adherence to its processes;
• compliance history, comprising voluntary compliance and willing participation; and Michael D’Ascenzo, ‘Colours to the mast’, (Speech delivered at the Corporate Tax Association Convention, Sydney, 15 June 2010).
Mark Konza, ‘A world without audits’, (Speech delivered at the Thompson Reuters Annual User Conference Sheraton on the Park, Sydney, 17 October 2011).
Konza, above n 108.
• real-time compliance, comprising voluntary compliance and willing participation.
3.34 For each of these areas, LB&I compliance teams are asked to comment on the perceived risks and to refer to evidence (such as reports or minutes) to support it. They are also asked to analyse what contribution that particular risk area makes to the overall risk assessment.
3.35 The final section of the template is for the compliance team to recommend that the taxpayer be rated as either a higher risk taxpayer, key taxpayer or medium risk taxpayer. The recommendation is made to the moderation panel, which may accept or vary the risk categorisation.
3.36 The template is accompanied by guidance material, which includes example text to assist compliance teams in completing each section. The guidance material asks the compliance team to consider a series of questions pertinent to the risk.
3.37 The following section of the report considers each of the ‘likelihood’ factors as listed above and considered in the template in turn.
Tax performance and effective tax rate
3.38 The template asks the compliance team to consider a variety of financial ratios relating to the effective tax rate of the taxpayer. An examination of a sample of
completed templates indicates that compliance teams consider:
• whether the ATO understands the reason for the difference between the ATO measured effective tax rate and the statutory rate where the former is less than the latter;
• whether a reconciliation item warrants investigation or verification where the difference is due to items in reconciliation (such as receiving non-assessable non-exempt income); and
• whether the industry allows for a meaningful comparison as amongst competitors within that industry, as they may have a very different mix of business models, activities and assets.
3.39 This section of the template considers other financial ratios beyond that of tax payable to operating profit. For example, the section also considers tax payable to gross income ratios.
3.40 In the organisational structure section of the template, compliance teams are
Comment on the size and complexity of business structures and operations. As these are inherent risks usually associated with higher consequence taxpayers, these risks may be
3.41 Compliance teams are also asked to consider whether they believe any complexity or interposition of entities can be justified.
3.43 For each tax risk area, compliance teams are provided with potential risk hypotheses about possible non-compliance that may lead to incorrect reporting in the income tax return. Additional guidance comes in the form of questions for the team to consider, which point to possible facts indicating the presence of a risk of non-compliance.
Taxpayers may obtain inappropriate deductions and/or CGT outcomes where they have used incorrect amounts in the Consolidation entry and exit calculations. The application of the complex consolidation cost-setting rules upon entry and exit can result in incorrect or unintended uplifts in the tax cost of assets. This may occur due to taxpayer error or contrivance.150 Australian Taxation Office, Higher Consequence Taxpayer Risk Categorisation Template instructions,
3.45 It should be noted, however, that not all tax risks are accompanied by both risk hypothesis statements and information gathering questions.151
3.46 The template requires compliance teams to consider the taxpayer’s tax risk management and governance in a separate section. This includes the ability and propensity to manage tax risks at both the strategic level (such as the company board) and operational level (such as staff and the in-house tax functions). Compliance teams must consider whether the organisational structure supports the board being made aware of tax risks, including ATO compliance activities. At the operational level, compliance teams are to consider the level of resourcing of the tax function, how staff are remunerated, and the adequacy of record keeping and control systems.