Tax administration is becoming more professionalised and more focused on income taxes and transfer pricing

Tax authorities are gradually becoming more professional and are starting to work with data to a much greater extent than previously. The statistics show an increase in corporate tax audits compared to the past, and an emphasis on high-tax transfer pricing audits. However, the shortage of specialists remains a problem, especially in the extremely busy Bratislava tax offices.

Pros: increased income tax controls and analytical work of the financial administration

The Annual Report of the Financial Administration for 2021 states that 61% of all tax audits focused on VAT, while corporate income tax was targeted in 35% of all tax audits carried out.

Silvia Hallová, partner at Grant Thornton, has assessed, "Based on what we saw with clients last year, the ratio has continued to shift in favour of income tax checks. This development is a definite positive, as in the past this area of control was explicitly neglected by the tax authorities."

A major shift in the opening of tax audits compared to the past is the evaluation and analysis of data by the analytical department of the financial administration. It analyses data from tax returns and financial statements as well as data received from the international exchange of information.

"The work with risk indicators, on the basis of which the tax authorities target companies and measures showing irregularities, has improved substantially compared to the past."

It is no surprise in practice when the tax authorities open a tax audit because of reported exempt income, a significant goodwill deduction in corporate reorganisations.

Silvia Hallová has explained, "The subject of scrutiny today are, for example, mergers where significant goodwill is recognised or so-called debt push down structures where, after the merger, interest expense on a loan, to finance the purchase of a business interest, in a company is claimed as an expense and set off against the profits from the ordinary business activities of the acquired company. The business reasons that lead to the merger are the thing under scrutiny."

Small number of controls with high tax compliance

It is interesting, that in the area of transfer pricing, the tax authorities carried out only 48 tax audits in 2021, but the tax loss amounted to a significant 46.8 million euro. The reason for the lower number of transfer pricing audits was undoubtedly due to the pandemic and the possibility for taxpayers to take advantage of the deferral of tax audits in a pandemic year and yet the corporate income tax reversal is substantial. In 2022, this trend has appeared to continue.

Silvia Hallová from Grant Thornton has advised, "We therefore advise companies not to underestimate the area of setting transfer pricing prices within dependents, i.e. a group of companies. It is essential for firms to properly document these transactions in documentation and to support them with benchmark analysis and other evidence depending on the line of business."

Inspectors "are after" loss-making companies

This area is currently significantly focused on by financial administration, the area being loss-making companies within multinational groups operating in Slovakia.

Silvia Hallová has explained this situation as such: "These companies are now being asked to explain the transfer pricing methodology and the reasons for the recognition of the accounting loss and it is not rare for the tax authorities to come to local inquiries where they ask about the functioning of the Slovak companies or the organisational units within the group and the overall organisational structure. After the local enquiry, the tax authorities usually open a tax audit. To be prepared is a necessity."

Tax audits abroad are on the rise

In the area of transfer pricing, Grant Thornton also deals with a number of tax audits in foreign countries where Slovak companies do business.

Silvia Hallová has mentioned a few practical examples, “Firms should seriously consider representation by an experienced tax counselor in this area. Indeed, we have seen cases where a client has been represented by an inexperienced counselor in international taxation and this has led to a crash in another country and an inability to reverse the conclusions of a tax audit at a later stage."

The Financial Administration also uses and analyses data obtained from the international exchange of information when verifying data from the tax returns. Currently, it automatically receives data on, for example, the income from employment, royalties, the income from insurance claims, pensions, ownership and the income from immovable property and royalties. At the same time, the information is exchanged on the transfer pricing relationships of multinational companies with consolidated group revenues in excess of EUR 750 million.

In addition, starting next year, that is 2024, the tax administration will also have information on sellers on digital platforms such as Booking, airbnb, sashe, etc. This will lead to checks on the data in the tax returns of Slovak taxpayers and calls for completion of this data or the opening of tax audits.

Lack of professional personnel

The increase in the number of audits and the focus on transfer pricing is causing a problem, the problem being a shortage of professional and capable people in these areas of taxation and tax structuring. In addition, there is a real risk that the tax administration will not have enough skilled people to analyse the large volume of data it receives in the framework of international exchange of information, from banks and from taxpayers.

A temporary solution for the overloaded tax offices in Bratislava, which deal with administratively demanding, complex tax cases due to the concentration of companies, would be to move some tasks outside of Bratislava and use the capacity of teams from other offices in Slovakia, for these tax audits.

Wilfried Serles, managing director at Grant Thornton Slovakia has stated, "Still, it is rather clear that this is only a temporary solution and the financial administration will need to be strengthened in terms staff numbers and also find a way to continuously increase the training of its staff to an even greater extent than today."

Inspections regarding over-deductions, missing contractors and the questioning of expertise

Verification of the eligibility of excessive deductions remains important when it comes to VAT. When examining VAT transactions, tax authorities now use various local requests from customers or suppliers to provide evidence of transactions. It ist he general experience, that the 'vanishing' suppliers who do not communicate with the tax authorities are very problematic.

Ľubomíra Murgašová, a tax expert from Grant Thornton has elaborated, "A company that has claimed an excess deduction must demonstrate how did it check the credibility and the reliability of its supplier. The problem is that these companies often times do not back up their email communications and the necessary steps when approving a supplier. This becomes a problem with time, since they cannot give proof of their actions."

The tax administration often questions various subcontracting or intermediary relationships, arguing that the companies in question could not have been suppliers as they, for example, did not have the necessary material and personnel. Ľ. Murgašová has advised:

"This is particularly the case with marketing spendings or the often over-hyped IT services sector. In these areas, companies should take great care to document their supplier selection and prove delivery with purchase orders and contracts,"

Believing that the financial administration "will turn a blind eye" probably won‘t pay off

If entrepreneurs rely on a certain "ignorance" coming from the financial administration, they may be unpleasantly surprised. Our experience shows that in many areas the tax administration has not only become much more professionalised, but it also possesses a wealth of data on taxpayers and the tools to process and evaluate it.

Silvia Hallová has advised, "For example, nowadays the Financial Administration works with information from banks on account movements a lot more than in the past and it uses these information as an incentive for audits. It is important for the taxpayers to be aware of these facts and be prepared for possible tax audits."

The financial administration should provide service instead of repression to companies

Naturally, there are still cases of inexperienced auditors who pass themselves off as experts possessing detailed knowledge of the workings of a particular sector, when they clearly do not understand it. This is always frustrating for the companies being audited.

"However, compared to the past, taxpayers are more willing to defend their rights in court. It is this route that may bring a greater balance between the current overarching role of the tax administration and its so-called 'unquestionable truths' and companies standing by their financial statements." Wilfried Serles has added.

The Austrian experts states that it is essential for the tax administration to change from a so-called repressive body, to a service that will facilitate the life of serious companies in fulfilling their tax obligations and will at the same time, put heavy focus on the problematic ones.