WHO SHOULD READ THIS
- Tax agents, accountants and anyone involved in large transactions with significant tax consequences.
THINGS YOU NEED TO KNOW
- The ATO is proactively targeting and engaging taxpayers involved in major transactions often before the taxpayer even lodges its tax return.
WHAT YOU NEED TO DO
- Review your records and respond to the ATO in a way to ensure that you can address the ATO’s concerns in an appropriate manner.
Tailored and proactive engagement is a recurring theme in the Australian Taxation Office’s (ATO) program blueprint for ‘reinventing’ itself. A tangible outcome of this new approach is the ‘Early Engagement Review’ letter (Review Letter). Some taxpayers or their tax agents have already received these Review Letters, and we expect the number of these letters to increase.
What are Review Letters?
Somewhat paradoxically, Review Letters are best explained by describing what they claim not to be.
Review Letters are not the commencement of a formal audit by the ATO. They are also not an exercise of the Commissioner of Taxation’s powers to access documents and interview witnesses. Accordingly, if you or your advisers have received a Review Letter, you can approach your dealings with the ATO with a certain level of informality.
A Review Letter is an attempt by the ATO to understand a particular transaction before the transaction is reported in that year’s tax return. That transaction may be a sale, restructure, or both. It is being reported that some taxpayers may receive Review Letters before the transaction in question has even settled1.
A Review Letter does mean that you or your client has gained the attention of the ATO. If the ATO is not completely satisfied with your response, it may proceed with a formal risk review or, after you or your advisers lodge the relevant tax return or business activity statement, commence a formal audit.
Increasingly, we are seeing the ATO issuing ‘offers to settle’ before a formal audit has commenced. The ATO may take this approach following a Review Letter if it considers your view of the transaction to be contrary to its preferred approach.
The taxpayer’s response to the Review Letter is very likely to impact the taxpayer’s ongoing relationship with the ATO, and may set the tone for a later audit or dispute. It is important therefore to manage any resulting dealings with the ATO appropriately.
What will the ATO ask for?
In our experience, the ATO will ask for the following:
- an outline of the event, commercial context and drivers
- details of the relevant entities (potentially including structure diagrams)
- details of any intermediaries and advisory services
- an outline of relevant tax issues you have considered, and
- any other issues or concerns.
While the ATO may phrase its request as an attempt to assist the taxpayer in completing their tax return correctly, it is difficult to see a Review Letter as anything other than an information gathering exercise by the ATO.
It is clear from these questions that the ATO is seeking to determine who was involved in the transaction, whether the parties sought advice and whether the transaction may have been predominately or unduly driven by tax concerns2.
Why have I received a Review Letter?
In short, you have likely been a party to a major transaction that has caught the attention of the ATO. This could be for a number of reasons. If a party to the transaction is a publicly listed company, it may have been publicly announced. Alternatively, if the transaction has not completed yet and the parties are ‘private’ entities, details of the transaction may have been published by the media. The ATO, like the rest of us, reads the paper – and has demonstrated it will inquire about transactions that pique its interest.
It is widely understood that the ATO categorises taxpayers based on a number risk factors (including choice of adviser) and you may be considered to be in a higher risk category. Privately held groups are a particular focus of the ATO at the moment3.
Privately held groups are often involved in transactions that enter the public realm. This may be because the principals behind the group are well known to the public, or because the group’s business is being acquired by a publicly listed entity. ‘Private transactions’ between non-public entities should not be considered immune to receiving early attention from the ATO.
How should I respond?
Your first step should be a careful review of your or your adviser’s records relating to the transaction. You should expect that documents not protected by legal privilege may be disclosed to the ATO and base your response to the Review Letter accordingly. While the accountant’s concession is available to protect some documents, it is simply not as robust as legal privilege.
The ATO will likely organise a meeting (or teleconference) with you or your tax agent. This is a good opportunity to address the ATO’s concerns and you should attend this meeting in good faith. This will include providing certain documents to the ATO that may assist in explaining the nature of the transaction. Ensure that the documents you provide reflect the genuine commercial circumstances and do not inappropriately lead the ATO to conclude that there was an improper tax purpose behind the transaction.
If the transaction has not yet been completed, it may be appropriate to request the meeting takes place after the transaction has settled. You may also wish to take the opportunity to address any concerns that may have arisen from the media’s reporting of the transaction, such as an inflated purchase price or a miscommunication by the media as to the nature of the transaction4. If the transaction has been reported on, you should review the media coverage and ensure that the details are accurate. This can be raised with the ATO in the meeting to ensure that all parties have the same initial understanding of the transaction.
Should I instruct solicitors?
It is ultimately up to you whether you wish to instruct solicitors to represent you in discussions with the ATO, and there are both advantages and disadvantages to involving solicitors at this stage. Involving solicitors at this early stage is often perceived as likely to raise the level of concern by the ATO auditors and cause the matter to be escalated – but there is no valid reason why this should be the case. Instructing solicitors early (especially if they advised on the subject transaction) may help identify and manage risks in both the transaction and in subsequent dealings with the ATO.
An appropriate compromise may be to instruct the solicitors to act in the background – to review or advise on documents that you intend to provide to the ATO, or on the correct position to take in the meeting. In this case, the solicitors instructed will be best placed to advise further if the ATO escalates their early engagement review to a formal audit or risk review.