Introduction

In the Czech Republic, the means for tax administrators to obtain information from foreign tax administration bodies, as well as the competence of tax administrators to successfully apply the information obtained, continue to increase. Greater emphasis has been placed on this trend in connection with the global financial crisis, which has forced the state to seek new potential sources of income.

Taxpayers in cross-border business relations are, in many respects, limited in their powers in comparison to those given to tax administrators. It is in the best interest of the taxpayer to (where possible) collect and maintain information from abroad in advance, so they are able to react in a timely manner to any objections raised in the course of a Czech tax audit. Otherwise, they could find themselves in a difficult position when facing tax administrators who are challenging their tax duties declared in good faith.

Legal Background

Double Taxation Treaties concluded by the Czech Republic (or the Czechoslovak Socialist Republic, its predecessor, which remain in force and effect in regard to the Czech Republic) usually include standard OECD wording of Article 26 of the OECD Model Double Taxation Convention (applicable at the time of concluding each respective Double Taxation Treaty).

Generally, the contracting states are entitled, and at the same time obliged, to mutually provide each other with relevant information for the due collection of taxes within the scope of the Double Taxation Treaty, provided that such information can be obtained pursuant to local regulations. Czech Double Taxation Treaties based on the 2000 OECD Model Double Taxation Convention and later do not limit the scope of taxes covered and potentially available for the exchange (i.e., the exchanged information could relate to any local taxes).

The procedural framework for the international exchange of information was not introduced in Czech tax law until 2000, when Act No. 253/2000 Coll., on international cooperation in tax administration (the “Act”), entered into legal force.

The Act regulated the exchange of information pursuant to the Double Taxation Treaties, and also made preparations for the application of EU regulations on the exchange of information (the relevant part of the Act entered into legal force as of the Czech Republic’s accession to the EU in 2004) implementing Directive 77/799/EEC, as amended1 (the “Directive”).

EU Directive 77/799/EEC has been repealed and replaced by Directive 2011/16/EU,2 which is aimed at broadening the exchange of information by introducing real-time cooperation between the tax administrations of the EU member states. EU Directive 2011/16/EU should be implemented into local law by January 1, 2013; the bill of the new act implementing the new directive into Czech law is currently being prepared.

Czech law allows tax administrators to make use of all three traditional methods of the exchange of information described by the EU Directive, including automatic exchange of information, exchange on request and voluntary (spontaneous) provision of information (if the reciprocity is ensured as regards the other state concerned).

On request, an exchange of information allowed by the applicable Double Taxation Treaty or Directive (as implemented into the Act) occurs pursuant to the procedural rules and limitations stipulated by the Act. According to the Act, the Czech Authorities should generally provide information automatically to another state if it can be reasonably assumed that there could be a tax loss in that other state (caused by an event disclosed in the Czech Republic). On the other hand, the information should not be provided if (i) it cannot be obtained by means available pursuant to Czech law, (ii) the foreign tax administrator does not ensure the confidentiality of the information provided to a level equal to that required by Czech regulations, or (iii) the provision of such information is in conflict with public order or public policy (ordre public).

To clarify and strengthen the framework for the automatic exchange of information, the Czech Ministry of Finance (the supreme tax administration body in charge of the international exchange of information) negotiates and concludes memoranda of understanding, which define the scope of information to be provided in this manner and the methods of exchange.

As of now, the Czech Republic has concluded such memoranda with 13 countries. The memoranda have been (or are to be) concluded with some of the most important business partner countries of the Czech Republic, including Germany, Slovakia and the United States. Of the holding company jurisdictions commonly used to invest in the Czech Republic, such memorandum has thus far only been concluded with the Netherlands.

The memoranda also vary significantly in defining the types of information subject to automatic exchange. The extent varies from relatively broad, as is the case with the memorandum concluded with Germany (covering business profit derived by permanent establishments, dividends distributed, interest credited to bank accounts, royalties paid, as well as capital gains realized), to much narrower, as is the case with the Dutch memorandum (limited with respect to legal entities to royalties paid).

Moreover, the Czech Republic recently concluded or is about to conclude Tax Information Exchange Agreements (based on the OECD model Tax Information Exchange Agreement) with several off‑shore jurisdictions, including the Isle of Man, Jersey, Guernsey and the British Virgin Islands. These agreements, however, have not yet entered into legal force (it is expected that the agreement with the British Virgin Islands will become effective in the coming months).

The Extent of the International Exchange of Information

According to the most recently available statistics provided by the Czech Ministry of Finance, the number of tax proceedings opened as regards the international exchange of information was close to 1,200 as of the end of 20103.

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Over the last decade, the number of cases has been relatively consistent. Statistics issued by the Czech Ministry of Finance also state that the number of new cases is about 400 to 500 per year. It could indicate that, on average, closing a case of international exchange of information takes more than two years and, as a result, the system of exchange as a whole could be viewed as rather inflexible.

International Exchange of Information in Practice of Tax Administrators

Opening a Tax Audit on the Basis of Information Provided by Foreign Tax Administrator

The German tax authorities carried out a tax audit of a German company having a Czech subsidiary. In the course of the tax audit, the German tax administrator found that certain employees and officials of the German company spent a significant portion of their working time in the Czech Republic.

The German tax administrator spontaneously informed the Czech tax administrator of this fact, claiming that a permanent establishment of the German company may have been created in the Czech Republic. Based on the information received, the Czech tax authority initiated a tax audit of the Czech subsidiary to establish the merits of the information provided.

The above could serve as an example of how a tax audit in one country, which included an international element, could translate into a tax audit in the Czech Republic. Such implication should, therefore, be communicated upfront to any potentially affected Czech company in order to enable the company to prepare for potential proceedings before the Czech tax authorities.

Procedural Aspects of International Exchange of Information

In the course of a tax audit, the Czech tax authority challenged the deductibility of certain expenses of a Czech company relating to services purchased from a company based in the Republic of South Africa (the RSA). The tax audit was closed without any tax assessment. After several months, the Czech tax authority re-opened the tax audit. The basis for re-opening the tax audit was additional information obtained from the RSA tax administrator. Additional tax was assessed on the Czech company in the course of such re-opened tax audit.

The court upheld the approach of the tax authority and dismissed the objections of the Czech company, which argued that its tax duty was already conclusively examined during the original tax audit (res iudicata).

Generally speaking, the information obtained within the international exchange of information could form the basis for opening a tax audit in the Czech Republic, or (in an open case) would be treated as evidence available to the tax authority in determining the tax duties of a Czech taxpayer. The initiation of the exchange of information by making a request to the tax authority of another state also suspends the regular three-year time within which tax can generally be assessed in the Czech Republic.

Therefore, the dynamics of the international exchange of information should be taken into account in the local tax proceedings and while considering the lapse of time period opened for potential tax assessment. As follows from the decision of the court, even the information received by the Czech tax authority after a tax audit has been officially closed may be sufficient to re-examine the tax position of a taxpayer and potentially assess additional tax.

Failures in International Exchange of Information

Official stamps were stolen from a foreign tax administrator. These stamps were subsequently used to confirm due deliveries of goods (subject to excise tax) transported in the tax suspension arrangement regime from a bonded depot in another EU member state. The Czech tax administrator confirmed that the goods were actually delivered to the Czech Republic instead, and after several failed attempts to obtain cooperation from foreign tax authorities, assessed excise tax in the Czech Republic on the operator of the bonded depot.

The operator argued that such transport of goods was marred by clear fraud (of currently unknown persons), and that such fraud, including damages connected thereto, could have been prevented if the tax authorities involved had duly performed their obligations to inform the tax administrators and taxpayers in potentially affected countries about the loss of the stamps. The operator challenged the conclusions of the Czech tax administrator, and the case will be decided by the courts.

Considering the above case, it could be concluded that the taxpayers should not rely on the international exchange of information. The lack of cooperation and exchange of information did not prevent the Czech tax authority from issuing the tax assessment. However, as noted, the case is now to be considered by the courts.