Tax Matters – Inland Revenue Board’s watchlist of red flags

MANAGING and planning your taxes is the absolute right of the taxpayer. However, many taxpayers cross the line from legally permissible planning and avoidance to evasion through manipulating documents or falsifying accounting entries.

This is a serious matter where the taxpayers are intentionally setting out to understate their income and, in such situations, if the taxpayers are caught, the consequences are very serious and can lead to penalties and imprisonment.

The common tricks

Buying fictitious invoices from third parties or creating fictitious invoices for expenses can be picked up by the Inland Revenue Board (IRB) because these are not usual expenses incurred by any business or the amounts could be unusually large, and it does not always fit into the normal pattern of expenditure. These fictitious invoices can usually be found in project costs and costs of sales. The IRB has the tools to compare companies within the industry and the unusual activity of this nature can be picked up. A simple analysis during any tax audits will reveal such fictitious invoices.

The director’s account is also used as a conduit to pay bribes. The common way to do this is to use the director’s account to withdraw cash to pay bribes and it will become a loan outstanding by the director to the company. From time to time, the loan outstanding from the director will be waived by the company on the assumption that the waiver will not attract tax since it is a loan transaction.

It is not uncommon for business owners or family-owned companies to find the owners of the businesses to claim deductions for their personal expenses which are not tax deductible under the law. It is usually found under entertainment expenditure, staff claims or travelling expenses. In such organisations, there is also a tendency for the owners to withdraw the company’s stock-in-trade or fixed assets for their own use without paying for them.

Another common area is the non-declaration of benefits-in-kind and perquisites. Examples are motor vehicles owned by the companies and other payments made on behalf of the directors and owners of the companies which are not declared as their employment income. Other examples would be handphones, drivers, security guards, petrol and toll payments.

Making additional claims that qualify for extra allowances such as reinvestment allowance or double deductions without the necessary justification. An example of excessive reinvestment allowance will be to claim ancillary expenditure which cannot be linked closely to the qualifying project for the reinvestment allowance claim. Examples would include travel costs incurred in connection with the purchase of the machinery.

Many groups tend to use transfer pricing as a means to shift profits without the justification or to utilise losses within the group. The profit shifting here could involve management fees or the sale of goods or services within the group without meeting the arm’s length test or having the necessary documentation to support the transfer prices.

Smaller businesses and companies tend to manipulate their year-end profits through the valuation of the year-end stocks. Reducing the closing stock values will fictitiously decrease the profits.

Some individual taxpayers who own multiple controlled companies with different year ends may attempt to round trip profits between the companies to keep deferring the payment of taxes.

The advice is to come clean – errant taxpayers will be caught at some point in the future. With the introduction of e-invoicing, capital statements, sharing of information with Royal Malaysian Customs Department, exchange of information with other countries’ tax authorities, the use of tax identification numbers for transactions and the improved intelligence capabilities of the IRB will tighten the noose on errant taxpayers.

This article is contributed by Thannees Tax Consulting Services Sdn Bhd managing director SM Thanneermalai (www.thannees.com).