Issue 3, 2012. June-July

   

ADVANCED TAX RULINGS: PROVIDING CLARITY AND CONFIDENCE

AmCham Executive Director George Welton reports on the impact of advanced tax rulings. This article is part of the Chamber's Commercial Law and Tax Committee program.


In 2010, the Government instituted a new Advanced Tax Ruling (ATR) system in Georgia. As a result of this new initiative, it is possible for potential tax-payers to submit information on transactions (either planned or completed) to gain a ruling from the Revenue Service on how they would apply Georgian tax law to that particular situation.

As part of an on-going process of reviewing changes in the Revenue Service, the Commercial Law and Tax Committee analyzed the new system for Investor.ge.

The new Advanced Tax Ruling System is not for everyone. The system is fairly expensive, costing between 5,000 and 30,000 lari depending upon the size of the company and the speed with which they want the ruling. Therefore, it is generally only used in large and complex transactions. However, it does allow firms in these situations to gain certainty regarding the taxes that will be charged.

Once signed, the Advanced Tax Ruling is legally binding, and commits the government to agree to a particular interpretation of a tax ruling and so gives clarity and certainty to potential payers. As Sergi Kobakhidze a tax specialist at PwC explains, "this is a great development. Clients draw a lot of comfort from it."

Others agree, Nelson Petrosyan from Grant Thornton adds, "Our clients said that even if the answer from tax authorities is negative, at least it will clarify the issue for future. The client really appreciated that the official response from the tax authorities would have a power of law."

The system is relatively simple in its operation. A potential tax-payer submits the terms of their transaction to the Revenue Service (as well as the fee) and then, if necessary, meets with the Revenue Service to clarify the details of the transaction. This is followed by a hearing with the advanced tax ruling committee, where the revenue service will offer their opinion on the how the tax code should apply, and where the potential tax-payer can make counter-arguments. Following this discussion, a provisional tax ruling will be provided to the tax-payer who can then respond and argue the details of the ruling. The two groups can meet again if necessary to clarify the final ruling.

Head of the International Relations Department at the Revenue Service Samson Uridia noted that "producing an Advanced Tax Ruling is a complex procedure which requires the processing of detailed transactional information and documentation."

"In this situation the tax authority, in effect, acts as an accounting consultant for the tax-payer, with the added benefit that the final conclusions are legally binding," he explained.

Audit firms have been enthusiastic supporters of the initiative. In particular, they all appreciated the opportunity that the system allows for discussion over the interpretation of the tax code. "One of the great strengths of the system is that it provides several opportunities for the client to engage the Revenue Service in arguments over the interpretation of the tax code," Giorgi Tavartkiladze, a tax expert at Deloitte, said. "As a result, during the process, it is possible to reason with them."

Ivan Khokhlov, who heads of the law practice at Ernst and Young, agrees. "We have experienced a very constructive engagement and it is that engagement that has allowed for favorable resolutions for the clients," he said.

The emphasis on discussion and debate over the interpretation of the code, however, also means that firms will probably have to enlist the help of considerable tax expertise to be able to make the argument. "The tax authorities tend to be fairly conservative in their interpretation of the tax code and so it is important to have a consultant to help argue your case," Khokhlov said.

This is made even more important because there are many elements of the tax code which are open to interpretation. Kobakhidze, for example, points out that, "the Revenue Service's use of the principle of substance over form gives them a lot of flexibility on how to deal with a case."

Kakha Rukhadze, a tax expert at KPMG, puts it in blunter terms. "In complex cases," he said, "you just need to have a tax expert."

The most obvious concern of the system is cost. It will only make sense for firms to pay for an ATR for relatively large transactions. However, the experts generally agreed that this is unavoidable. PwC's Kobakhidze noted that ‘if it cost 100 lari, then everyone would use it and the tax authority would be overwhelmed."

In addition, as Deloitte's Tavartkiladze points out, under Georgian law all citizens have the right to ask the tax authority for answers to specific questions (known as ‘recommendations') and the Revenue Service is legally required to provide answers for free. Unfortunately, the answers, he says, can be vague, and they are not intended to have legal force.

Another potential concern, accepted by the auditors and the Revenue Service alike, is that the large number of changes to the tax code might undermine the certainty of ATR, as changes in the legislation could mean that ATRs (on future transactions) are invalid.

This creates two issues. First, would be the cost of the possible revision to the ATR. According to Dinara Chubinidze from the Revenue Service, this should not be a problem as the taxpayer has the right to request a revision to the ATR elements that are invalidated by changes in the law. This revision should be free of charge. Unfortunately, none of the tax experts interviewed were aware of this right, so it is clear that improved communication is necessary to alleviate this fear.

The second concern is that companies that thought they had clear conclusions for their tax liabilities could see those liabilities expand. However, Khokhlov believes that this should generally not be a problem because "the ATRs usually explain the way in which the principles underpinning the liability should be interpreted."

"If, for example, tax rates changed, the underlying principles would still remain and the ATR would still apply," he said.

In addition, the firms suggest this is more of a hypothetical concern for now. "So far, it has not undermined any tax rulings that we have assisted on, but it could, and it is a concern for clients," Kobakhidze said.

A larger problem, tax experts believe, is the sheer volume of changes to the tax code since it makes forward tax planning extremely difficult - a type of uncertainty ATRs cannot fix.

Another issue is whether a tax-payer, while applying for an ATR, is exposed to the possibility of a full tax audit as a result of initiating the ATR. At the current time, ATRs are sometimes used for historic transactions so that a company can gain confidence about its likely liabilities, in the event of an audit. However, according to Deliotte's Tavartkiladze, this opportunity is partially undermined because some potential tax-payers worry that the Revenue Service could use the request for an ATR to trigger a tax audit.

Uridia, however, shrugged off this concern. "The decision to conduct a tax audit is taken based on a risk management system," he explained, adding that "no tax audit has been started immediately following an Advanced Tax Ruling."

Tax experts feel, however, there may be room for improvement of the regulations on this point to address this concern.

One common concern is that it can be fairly slow and often take longer than the time originally promised. While the Revenue Service generally attribute these delays to poor information provision on the part of the tax-player, Khokhlov noted that delays can stem from the Revenue Service's desire to get things right.

"The Revenue Service is very eager to get it exactly right which means that they often want to triple check their conclusions. This can mean delays," he said, adding, however. that the situation is improving.

"This is a new institution and over time I think it will get quicker and easier."

"This report is made possible by the generous support of the American people through the United States Agency for International Development (USAID), EWMI, and EPF, within the Judicial Independence and Legal Empowerment Project. The contents are the responsibility of AmCham Georgia and do not necessarily reflect views of USAID, the United States Government, EWMI, or EPF."