Australia: Transfer pricing and ATO report on “reportable tax position” schedule

The Australian Taxation Office (ATO) on 12 November 2021 released a report of its findings regarding taxpayers’ Category C disclosures in the reportable tax position (RTP) schedule.

Read the ATO report

The RTP schedule is an attachment to the income tax return that must be completed by taxpayers that are part of a group with Australian revenues of $250* million or more. Over the last few years, the RTP schedule’s breadth has steadily increased, and the ATO has reported that the number of RTP schedules filed over the three-year period to 2020 has increased by over 150%.

The findings report summarises aggregated data on Category C disclosures in the 2018, 2019, and 2020 income tax years along with ATO commentary. One notable trend concerns a number of questions, despite a decline in the proportion of high-risk disclosures up to the 2019-2020 year; higher-risk disclosures still account for a significant proportion of disclosures being made for the key Category C questions. For example, the majority of disclosures pertaining to intercompany financing and inbound distribution arrangements were “high risk” or “medium risk”.

This can be observed in the diagrams below extracted from the findings report.

Source: ATO findings report

Source: ATO findings report

On one hand, the decline in higher risk disclosures over time may align to the ATO’s objective of influencing taxpayer compliance decisions by providing transparency on when they may dedicate resources to an arrangement. On the other hand, the fact that there continues to still be a significant proportion of higher risk disclosures would seem to mean that certain practice compliance guidelines (PCGs) may need refinement given the ATO acknowledges in its findings report that “most large businesses do the right thing and are paying the right amount of tax.”

There are a number of factors that may unnecessarily inflate the number of higher risk disclosures reported. For instance:

The PCGs in respect of transfer pricing, that must be applied to self-assess risk in a number of Category C questions, typically contain scorecards or profitability tests which act as risk indicators for the ATO. This approach is arguably because of the difficulty in evaluating the arm’s length nature of specific international related-party dealings without a detailed analysis of their underlying facts.

There are generally no materiality thresholds for most Category C questions, meaning that intercompany arrangements with low dollar values could still be “high risk” or “medium risk.” Taxpayers that have not self-applied the relevant PCGs may also need to disclose a “high risk” rating. One implication of the ATO’s approach is that at least some number of higher risk disclosures are being made for positions that may not require further ATO enquiry. In this regard, the ATO stated in its findings report that

…we may not apply compliance resources to review in detail every high-risk arrangement disclosed. Instead, we will concentrate our efforts on arrangements that have a material impact on the taxpayer’s tax outcomes.

Given the above, what refinements could be considered to PCGs to better identify high risk taxpayers or arrangements? Several preliminary options are considered below:

• Materiality thresholds—Introducing materiality thresholds to more PCGs would mean that less material arrangements could disclose a lower risk rating. For instance, PCG 2017/1 includes a profitability and tax materiality threshold to determine a taxpayer’s risk.
• Market data updates—A number of PCGs have risk indicators that are influenced by relevant market data. This includes PCG 2019/1 for inbound distributors (when the ATO’s risk categories were determined based on historically benchmarked data) and Schedule 1 of PCG 2017/4 for related-party debt funding (when metrics such as interest coverage ratios were determined with reference to historical market observations). Refreshing these and any other relevant PCGs for updated market data, particularly given the impact of COVID-19, may be a worthwhile exercise.

In the meanwhile, the year-on-year broadening of the scope and applicability of the RTP schedule is expected to continue, including the likely inclusion of additional PCGs (currently in draft form and expected to be finalised soon)—e.g., draft PCG 2021/D3 concerning hybrid mismatches and draft PCG 2021/D4 concerning related-party intangible arrangements.

Taxpayers need to continue to dedicate resources to tax compliance and consider the applicability of the questions contained in the RTP schedule, and determine that there is appropriate contemporaneous support for positions adopted for the purposes of the RTP schedule and if required, for broader tax compliance purposes.

For more information, contact a KPMG tax professional in Australia:

Tim Keeling | tkeeling1@kpmg.com.au

Onur Tekin | otekin@kpmg.com.au