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| The Writing on the Wall |
| Compliance issues...Tax obligations |
Peter Burnham, Partner |
| KPMG AG, Zurich
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pburnham@kpmg.com
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(KPMG AG in Switzerland is a KPMG International member firm)
According to the book of Daniel (5:1-31), during a drunken feast, King Belshazzar of Babylon took sacred golden and silver vessels, which had been removed from Jerusalem by his predecessor Nebuchadnezzar, and started to praise the gods of gold, silver, bronze, iron, wood, and stone. Suddenly, the disembodied fingers of a human hand appeared and wrote strange words on the wall of the royal palace.
Despite inducements, none of the royal magicians or advisors could interpret the omen, so the King sent for Daniel, currently in exile and a former advisor to the previous king, to interpret the words. Rejecting offers of rewards, Daniel warned the King of the folly of his arrogant blasphemy and interpreted the text as follows:
"God has numbered the days of your kingdom and brought it to an end; you have been weighed on the scales and found wanting and your kingdom is divided and given to the Medes."
That very night, according to the story, King Belshazzar was slain and Darius the Mede became King.
From the Mouth of Prophets to the Company Boardroom
Fast forward a few thousand years to the 21st century and into the boardroom of a fictitious, successful, multinational company. Congratulating each other on another year of record profits, the directors have just approved another incentive compensation plan for the company's employees. Riding high on the wave of globalization, the board is keen to both reward and retain its top performers and its globally mobile workforce by introducing another, more innovative, performance-based remuneration scheme. Confident with the knowledge that it has met its SOX 404 requirements and is compliant, the company is now keen to look further afield to new emerging markets. So, with this in mind, it sends its top performers (rich with lucrative equity-based incentive plans) on new assignments to open up new opportunities for the company.
Some years later, the multinational company we described above is further along its globalization path. Let's consider that the company is a U.S.-based multinational and now has affiliates in many countries. Each affiliate has its own employees, and there are U.S. employees on assignment to many of the affiliates. In addition, the employees of certain foreign affiliates may be on assignment to the U.S. parent company. The parent company, as already established, has several compensation plans for its employees, among which is a stock option compensation plan, which awards options to employees regardless of their location. The parent company in the United States has been taking a corporate deduction for compensation related to option exercises — regardless of the location of the employee, or which entity is the former employer. The U.S. parent company may not be taking deductions it is not entitled to. In addition, its approach may mean that it is not properly reporting the related compensation in foreign jurisdictions, and is not properly withholding and remitting payroll taxes either.
Despite the counsel of its advisers, the company has never been overly concerned with non-corporate compliance issues and tends to leave any tax obligations attached to employee remuneration to its employees. In fact, ever since equity arrangements were introduced into the company's remuneration policies, they have never been queried by the tax authorities or had the issue raised during a tax audit in any country where they operate, creating a potentially false sense of assurance and reinforcing its own (possibly misguided) faith in its compliance.
For this company — and others like it — the writing is on the wall.
Unfortunately for the complacent, the careless, and the blissfully unenlightened, tax authorities around the world are beginning to combine forces and target cross-border tax compliance issues, including the tax obligations of both the employer and employee.
Compliance Weighed and Found Wanting: OECD Takes Action
While neither in Babylon nor in a palace, September 2006 heralded the third gathering of the OECD Forum on Tax Administration in Seoul, South Korea. For two days the heads and deputy heads of revenue bodies from 35 countries met to share concerns, experiences and ideas on how to deal with two of the key issues facing tax authorities in the 21st century, namely:
* More effective tax administration, and
* Non-compliance in the international context.
It is the second initiative that should be of greater concern to multinational companies and their advisers and the one that needs to be carefully studied.
The OECD forum recognized that enforcement of the respective countries' tax laws has become more difficult. Business globalization, labor mobility, trade and capital liberalization, and technological advances have made time zones and borders increasingly irrelevant, thereby opening the global marketplace to a broader array of taxpayers and arrangements.
The Seoul Declaration, the communiqué issued from the gathering, stated:
"It is our duty as heads of our respective countries' revenue bodies to ensure compliance with our national laws by all taxpayers, including activities beyond borders, through effective enforcement and by taking preventative measures to deter non-compliance."1
Not surprisingly, there was general agreement that international non-compliance is a significant and growing problem and that it can take many forms. Having shared their experiences and concerns, there was an overwhelming consensus that addressing the problem would require both national and international responses, including:
• The employment of effective risk management techniques
• Strengthening the enforcement process – taking appropriate civil and criminal actions for non-compliance and putting more resources into international cooperation
• Exploring the creation of dedicated 'units' to deal with offshore non-compliance
• Addressing the role of tax intermediaries (lawyers, accountants, financial and other professional advisers)
• Encouraging top management and audit committees of large organizations to take greater interest in, and responsibility for, tax strategies.
It was recognized that to be more effective, national actions need to be augmented, supported, and reinforced by international actions. Therefore, there is to be a renewed focus on the promotion of better international cooperation amongst revenue authorities, including:
• Sharing, through appropriate legal means, information and the identification of tax schemes and or mitigating strategies being used by different countries
• Reinforcing and improving the practical implementation of the exchange of information provisions found in bilateral tax treaties and, where appropriate, developing tax information exchange agreements with offshore financial centers
• Keeping the OECD transfer pricing guidelines up-to-date
• Improving practical cooperation between revenue authorities and other law enforcement agencies to counter non-compliance.
The overall message was clear and, as embodied in the Seoul Declaration, the group reiterated its commitment to national, regional, and multilateral efforts aimed at initiatives to achieve better tax compliance with the laws, working within the existing framework of bilateral agreements, but also being prepared to explore the use of new ways to assist with the detection of international tax non-compliance including, for example, the secondment of tax officials from one administration to the other.
It Can Never Happen to Us?
The wit and sage Ivern Ball once commented, "Most of us can read the writing on the wall; we just assume it's addressed to someone else." But those who adopt a cynical attitude about the resolve, or ability, of tax authorities to put "teeth" into the commitments made at the OECD and other forums may do so at their peril. We are already observing a growing number of tax authority audits and an increasing sophistication in investigations and case prosecutions that focus on international issues, in Asia, Europe, and the Americas. Indeed, the authorities in some countries may even be looking for "high-profile" foreign companies whose local non-compliance, once highlighted, might serve as an example to their peers. Stories of international executives being taken into custody for corporate financial violations on a Friday evening, so that they cannot be freed until after the weekend, may be apocryphal, but underscore the mood in the international tax arena.
Unlike King Belshazzar, you don't need a Daniel to reveal the Seoul Declaration. The days of hiding behind the complexities of cross-border transactions, resource-challenged tax authorities, the lack of cross-border information sharing, and/or the reliance on the fact that no news is good news are numbered. Clearly, international tax compliance is firmly on the revenue authorities' agenda!
While no one will be slain like King Belshazzar, companies can expect the full force of the laws to be applied to any cross-border non-compliance.
The revenue authorities love high-profile examples, so be warned – the writing is on the wall! In order to mitigate potential penalties and damage to an organization's brand and reputation, companies should consider consulting with their professional services advisers about undertaking an examination of their systems and processes to determine where and if there are any areas of non-compliance.
Footnotes:
1 For the Seoul Declaration, visit the OECD Web site at: http://www.oecd.org/dataoecd/0/14/37463807.pdf
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