We find ourselves in a highly globalised world, where the tax authorities clearly look to maximise collections in order to comply with the corresponding obligations. In light of this, there are two approaches the tax authority can take with taxpayers.
On the one hand, there is the aggressive approach, that overburdens the taxpayer with documentation that needs to be filed; where all the information provided might not necessarily be reviewed by the tax authority and can sometimes simply derive from a contentious process that can be very lengthy, costly for the tax administration and the taxpayer alike, and which will not necessarily end in collections in the short, medium, or even long term.
On the other hand, there is the approach where the tax authority asks for the specific information necessary to assess whether there is a TP issue, holding discussions with the taxpayer to understand its business and trying to end the process in a quick and appropriate manner.
The Chilean tax authority (Servicios de Impuestos Internos) takes the latter approach. Although the taxpayer sends large amounts of information to prove that transactions are carried out at arm's length, that information is actually reviewed and discussed with the taxpayer and the taxpayer's advisors to avoid a lengthy process, which ultimately might not necessarily translate into greater collections.
This approach will not only probably lead to more collections by the tax authority, but it also conveys the message to multinational groups that if things are done right in Chile, taxpayers will be given the opportunity to explain their TP policies and discuss their supporting documentation.
Unlike other tax authorities, whose only focus is to collect more money from taxpayers and who are not open to discussing the decisions they have made or the approach taken to arrive at a TP adjustment, the Chilean tax authority's TP team is characterised as a group of individuals with a rational and open approach to auditing taxpayers.
Even though TP has only been in force since 2012 in Chile – relatively new in comparison with other Latin American countries – the TP team has highly technical skills and a deep knowledge of TP. They have attended numerous training sessions and workshops, both locally and overseas, providing them with the ability to review TP issues and identify the right type of taxpayers to audit.
The Chilean tax authority's TP team comprises approximately 15 individuals, with diverse backgrounds, such as accounting, business administration and law.
For the past four years, the Chilean tax authority has been driving the tax compliance management model (TCMM), characterised by its strong preventative focus, leaving behind a purely corrective view, and considering treatment actions commensurate with the level of tax compliance. In fact, one of the achievements of this model was the publication on the tax authority's website of the foreign investor portal. The objective of this portal is to provide general orientation regarding the prevailing Chilean tax system and to serve as a guide to foreigners who want to invest in Chile.
According to the TCMM, the Chilean tax authority is looking to establish a better and more constructive relationship with taxpayers, facilitating their tax compliance.
In a globalised world, actions that discourage foreign investment are not well regarded, and the Chilean tax authority is well aware of this. In fact, its objective is to guarantee the resources the country needs for its development, and foreign investment is a key component of those resources. Audit processes are not carried out by the tax authority to scare away investment, but to look after the interests of the country, so that it remains attractive for foreign and local investors alike, applying principles of equality and fairness to all.
In audit processes, the tax authority does not see the taxpayer as the enemy, but as an entity that makes rational business decisions and thus, the authority is very open to discussing different points of view with the taxpayer, and is always welcoming of tax advisors in those meetings. Discussions are not only about compliance, but also about deep business issues and analysis of complex transactions. The tax authority is also consistent in its approach to auditing, meaning the criteria applied in a particular audit are consistent with those applied in other audit processes, and are not merely moulded to the tax authority's convenience.
Furthermore, local tax issues and strategies of the tax authority are framed by what is going on globally. This applies in particular as regards the OECD's BEPS project, which has defined 15 actions (including four regarding TP) that aim to provide countries with tools and legislation to deal with the challenge of ensuring taxes are paid where economic activity is carried out and where value has been created. This further supports the Chilean tax authority's objective.
Within the TCMM, TP audits are a key component of the plan. In fact, in terms of detection and correction of TP compliance, audits carried out during 2017 allowed for the associated collection of approximately CLP 42.2 billion ($65 million).
Since beginning TP audits, the tax authority has capitalised on past experiences, and studied and built upon the various issues discussed on a global scale, in order to make its information requirements more specific and tailored to particular taxpayers and industries.
The Chilean tax authority has not focused on a single or group of industries to perform TP audits, but has had a broad reach so far in terms of industries, including mining, telecommunications, energy and pharmaceuticals, to name a few. The tax authority has, however, had seven focus areas for TP audits, as described below:
- Companies with operating losses. These are set out in Section C of the annual TP sworn statement, Form 1907. The tax authority seeks out these types of companies since their poor results could derive from TP issues;
- Companies with financial transactions. The tax authority focuses on high interest rates in loans received and loans that have been granted by the taxpayer without an interest rate. It also, looks carefully at the credit risk of the borrower to determine if the rate applied is reasonable;
- Companies that trade in commodities. The Chilean tax authority checks whether the comparable uncontrolled price method (CUP) has been applied, and if so, checks that it has been applied properly;
- Companies with service transactions. In these types of transactions, the tax authority focuses on analysing the organisational structure of the provider and the receiver in order to determine overlaps and potential duplication of functions. It also performs a benefits test for the receiver and provider; checks for documentation that may prove that the services were actually rendered (such as phone records, presentations, meeting minutes, reports, travel documents, and so on); and assesses whether the compensation for services was set using arm's-length values;
- Companies with mercantile current accounts. The tax authority checks for bilateral characteristics in the account, meaning that it is not only one party continually providing funds. It also checks whether this type of account is being abused by the taxpayer and its counterparties to provide loans. Furthermore, it asks for documentation to prove effective use of this instrument to determine whether there is a risk for withholding tax and stamp tax; and
- Companies with errors or inconsistencies in their sworn statements. Considering all sworn statements and returns are filed electronically, it is simple for the tax authority to cross-reference filings from the taxpayer and determine potential differences between the documents. In addition, by reviewing the sworn statement, the tax authority can determine whether there are duplicate entries or amounts reported in excess.
Looking ahead, based on the TCMM, the economic sectors on which the tax authority will focus its resources are mining, banking and financial brokerage, industry, fishing, forestry, construction, and tobacco and cigarettes.
In light of this, there is great opportunity for TP advisors to assist clients before, during and after TP audits.
- Before a TP audit:
- Ensuring the compliance of formal TP duties is the first step towards avoiding potential TP audits and loss of penalty protection. Advisors can help clients in preparing TP documentation that is robust and shows the taxpayer in the best light possible; and
- Compliance is also the first step towards identifying TP policies and potential risks for the company derived from either its economic situation or the TP policies themselves. Advisors that identify these risks and potential contingencies are in a good position to help taxpayers mitigate those risks, either through planning, proposing changes in policy or preparing defence files to enable taxpayers to be better prepared to face the tax authority once it comes knocking on the door.
- During a TP audit:
- Transfer pricing advisors can help clients identify all the information needed during the audit process so that the taxpayer can put its best foot forward before the tax authority to get the best possible outcome; and
- Transfer pricing advisors are adept at negotiating with the tax authority on behalf of the client when a TP adjustment is imminent, and can help with achieving a reduced adjustment for the taxpayer, and assist with the commutation of penalties and interest.
- After a TP audit:
- In cases of adverse outcomes for the taxpayer, the advisor can help devise strategies for an appeals process; and
- The TP advisor can help clients rebuild after the TP audit, so that policies going forward are in line with the arm's-length principle.
As mentioned earlier, the Chilean tax authority's TP team consists of 15 individuals, who collected approximately $65 million in 2017. Clearly, the efficiency and productivity of this team is very high. We believe the Chilean tax authority's strategy is working well, that staffing for the authority's TP team will only increase, and that their practices could be adopted by other tax authorities. This is an example of how a tax authority can achieve greater collections, not by aggressive means, but by doing the right things.