In Singapore, it has been publicly observed recently a sharp spike in the number of cases which the Inland Revenue Authority of Singapore (IRAS) has invoked our tax anti-avoidance provision in our domestic tax legislation to counteract tax avoidance arrangements.
In a recent tax avoidance case of GCL v Comptroller of Income Tax [2020] SGITBR 1 (GCL), an arrangement carried out by a dentist who had incorporated a company (i.e., corporatisation) to provide dental services previously done in his individual capacity was regarded to be tax avoidance. In this case, the Income Tax Board of Review (ITBR) had found[1] that the corporatisation did not in itself constitute tax avoidance, but the substantially lower amount of remuneration paid by the company to the dentist did.[2]
As GCL’s case (and indeed several other recent cases) proves that IRAS will not hesitate to penalise all taxpayers for tax avoidance, big or small, it is at this appropriate juncture that we distil certain key issues with respect to tax avoidance in Singapore:
1. What constitutes tax avoidance in Singapore?
In Singapore, based on the relevant domestic tax legislation as well as principles established by case law, the evaluation on whether an arrangement constitutes tax avoidance is to be done in 3 steps:
Step 1: It should be considered whether the purpose or effect of an arrangement on face value is directly or indirectly to:
(i) Alter the incidence of any tax which is payable by or which would otherwise have been payable by any person;
(ii) Relieve any person from any liability to pay tax or to make a return; or
(iii) Reduce or avoid any liability imposed or which would otherwise have been imposed on any person.
Step 1 involves considering whether one can objectively ascertain from the observable acts by which an arrangement is implemented and deduce that the arrangement was implemented in that way to achieve any of (i) to (iii) above.
In GCL’s case, the facts (one of which being the dentist was the sole shareholder and director of the company) objectively lead ITBR to concluding that the dentist’s purpose for corporatisation was to obtain a tax advantage. The corporatisation could not be explained by reference to ordinary business or family dealing.
Step 2: If the arrangement does not fall within any of (i) to (iii) in Step 1 above, then the arrangement does not constitute tax avoidance. If it does, then the next step is to consider whether the taxpayer can avail himself of the statutory exception; that is the arrangement was carried out for bona fide commercial reasons, and that tax reduction or avoidance is not one of its main purposes.
This step involves ascertaining if the taxpayer’s subjective intentions, as inferred from the surrounding facts (including consequences) and circumstances, were to reduce or avoid taxes.
In GCL’s case, it was factually shown that the dentist had substantially reduced the amount of income taxes he would have paid without corporatisation. Further, there was no evidence to show that the company had performed any other functions / activities other than to receive income from dental services previously provided by the dentist in his individual capacity.
Step 3: If the taxpayer cannot avail himself the exception in Step 2, he would have to substantiate that the tax advantage obtained by him arose from the use of a specific provision in the domestic tax legislation that was within the intended scope and Parliament’s contemplation.
In GCL’s case, the features of corporatisation in Singapore (lower tax rate than the highest marginal individual income tax rate, certain income exemptions[3], etc.) were not intended to reduce one’s taxes but for other purposes such as the promotion of entrepreneurship.
2. Why you should be concerned
(a) Wide powers of IRAS
Under the domestic tax legislation, IRAS is given discretion within reasonable grounds with respect to the courses of action it wishes to embark on to counteract tax advantages obtained by taxpayers who engaged in tax avoidance arrangements. In arriving at the courses of action, IRAS may take reference from (non-exhaustive list):
(i) the tax liability that arises from the inclusion of an income sought to be excluded or the disallowance of a deduction sought to be made;
(ii) the hypothetical tax liability on the economic and commercial basis of what would likely have happened if the taxpayer had not entered into the arrangement constituting tax avoidance; and
(iii) the tax liability if the arrangement simply had not taken place.
The above wide powers are a concern for businesses as their arrangements deemed to be tax avoidance are left to the discretion and mercy of IRAS on how any tax advantage obtained should be counteracted. In this regard, any additional tax payable by taxpayers in tax avoidance cases would almost be solely based on what IRAS deems appropriate and taxpayers have limited avenue to object.
(b) Imposition of surcharge
The domestic tax anti-avoidance legislation has been recently revised to impose a surcharge (i.e., fine or penalty) on tax avoidance arrangements relating to tax assessment from Year of Assessment 2023 (i.e., financial year ended 2022) onwards. The surcharge would be 50% of additional tax to be imposed because of the adjustments made by IRAS to counteract the advantage from the arrangement.
The above surcharge represents a huge additional financial cost for taxpayers who are found to engage in (intentionally or otherwise) tax avoidance arrangements.
3. How to mitigate risks associated with tax avoidance
First and foremost, businesses should undergo a tax risk assessment (which includes an evaluation of the steps in part 1 above) when contemplating an arrangement which would result in a significant reduction of taxes to be paid to IRAS. This applies whether the reduction was intended or incidental. With such an assessment, businesses can then understand the risk better and explore different options on how to deal with the arrangement from a tax perspective.
Businesses should also put in place sufficient and meaningful documentation (e.g., internal memorandums, board resolutions) to substantiate the bona fide commercial reasons and purposes for arrangements which could appear to bear some characteristics of tax avoidance. On a related matter, such documentation should be realistic and reasonable with respect to the factual realities of the arrangement. For example, if a taxpayer represents that the purpose for corporatisation is to create a legal entity to properly conduct business activities but eventually is not able to factually support its actual business, the taxpayer’s claim becomes questionable and dubious.
Overall, businesses should always be concerned on the possible tax avoidance risks in mind when planning their transactions. We at Nexia TS, pride ourselves as trusted tax advisors to speak with you and ensure that such concerns are adequately addressed. If you have any questions, please do not hesitate to reach out to our dedicated team and we will be most happy to get back to you.
Footnotes
[1] The decision was eventually upheld in the High Court of Singapore after an appeal made by the taxpayer.
[2] As Singapore’s flat corporate tax rate of 17% is lower than the highest marginal individual income tax rate of 22%, the dentist had reduced his total effective tax liability significantly by allowing most of his profits from the provision of dental services to be taxed in the hands of the company.
[3] A Singapore company may avail schemes (e.g., partial tax exemption scheme) which exempt substantially the first S$ 200,000 of its taxable income.
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