The company has proven that the management services costs were justified
K. I. RUSAKOMSKY IN JANUARY ISSUE OF «PRACTICAL TAX PLANNING» MAGAZINE
The company has proven that the management services costs were justified
Expert: Kliment Rusakomsky
Managing partner of Legal Group Paradigma
Tax authority reduced Company's expenses under the management services Agreement. Services were provided by the foreign Contractor – the founder of the taxpayer. During the audit the tax authority presented several arguments proving that the accounting of costs for the management services in the amount of the tax expenses were unlawful. In particular, tax authority asserted about unjustified tax benefit, duplication of functions and economic inexpedient of incurred costs.
The company did not agree with auditor’s researches and prepared objections under the auditor’s report. The matter went to trial.
The Statement of Claim was based on the same arguments as the objections on the auditor’s report. The court recognized the decision of the tax authority as invalid (the decision of Federal Arbitrazh Court of Moscow District dated 24 July 2013A40-133610/12-140-927).
The management services duplicated staff functions. Under the agreement general management and IT services have been provided to the Company. As well as marketing and financial services. Tax authority referred to the overlapping of responsibilities which were established for internal marketing department and the services which were provided by the founder under the agreement. The auditors made the similar findings regarding the duplication of responsibilities of financial officers, IT-services and management of the company.
The tax inspection made the erroneous conclusion that the workforce of the Company involved management team and marketing department. Also it mentioned the duplication of functions. The availability of such departments in the workforce doesn’t mean its actual presence in the organization. General management services did not replace or duplicate the functions of the sole executive body of the company. The financial services did not duplicate the functions of financial department because the foreign contractor was obliged to provide services beyond the duties of the employees of financial department.
Text of objections. The business where the company operates, implies a high level of market competition, difficulties in clients research and application of comprehensive efforts to expand its customer base. In order to sort out all these problems it was necessary to carry out a competent marketing policy and to conduct ongoing analysis and market monitoring. As well as to participate in promotions, exhibitions and other events for supporting interest in the company's products. Due to the absence of marketing department these problems were solved by involving outsourced specialists. The employment contract with the Marketing director was terminated in May 2009, and by the end of the audited period this position was not occupied. The marketing director was hired only in 2011.
Due to the lack of highly skilled marketers in Russia who specialized on the examination of the market of food additives and promotion of products in pastry business all these functions were carried out by the foreign founder.
The economic justification of conducting market researches was undeniable. It was also confirmed by the extensive amount of judicial practice (Decision of Supreme Arbitrazh Court dated 08.02.10 №BAC-680/10, Decision of Federal Arbitrazh Court of the Moscow region dated 15.01.10 №KA-A40/14857-09, Decision of Federal Arbitrazh Court of Volga-Vyatkiy region dated 07.10.10 №A43-40137/2009).
Management services included the development of business strategies and business policy, taking into account the specific region peculiarities. As well as an adjustment of business plans based on the acquired management reporting, forecasting and planning development taking into account the political and economic situation in Russia. All existing business models have been developed on the base of European schemes, taking into account Russian specifics. These services helped to formulate the strategic plans.
These allowed to provide to the company management enough time to carry out representative functions, to contact with customers, operation governance. What eventually increased the operational efficiency of Company.
IT-support and financial services included assistance in the preparation of management reporting (consulting, step by step instructions). As well as assistance in the implementation of the budget planning and implementation of IT-specialists of the Parent Company to maintain remote systems and access to software performance equipment. With the assistance of foreign colleagues the employees of financial services provided the Parent Company with the management reporting on a monthly basis. On which basis the taxpayer was provided with the management services.
Quality of the management reporting directly affected the accuracy of the decisions taken on its basis. And finally on the company's financial results. And finally affected the financial results of the Company. These confirmed the economic justification of incurred costs to all the management services. The fact of providing the services was confirmed by the protocol of the examination of the witnesses (art. 90 of the Tax Code), which was made due the tax audit.
Of on-site tax audit of OOO “Kompaniya”
<…> 1. The officers of the Russian Federal Tax Service № _____Moscow ...(Hereinafter - the Inspection) held an on-site tax audit "Company" for 2009-2010 (hereinafter - the Company) on the matters of correctness of calculation and timeliness of payment of taxes.
2.1. The Company entered into an agreement for the provision of management services with a foreign counterparty, which was the founder of the Company. The audit revealed that the management services rendered to the Company under the agreement duplicated the functions of its staff. Duplication of functions was identified in relation to the duties of marketing employees, financial and IT-services and responsibilities of the managers of the Company as well.
2.2. The Company was not the manufacturer of realized products. On this basis, officials of the Inspection concluded that the administrative services were provided to third persons. At the same time management services to promote products They are actually advertising expenses incurred in favor of a foreign parent company. Costs for services in finance and IT are also carried out for the benefit of foreign tion of the counterparty.
2.3. During the audit the inspection came to the conclusion that costs for management services did not not conform the criteria of economic feasibility. As a result of violation of the provisions of paragraph 1 of Article 252 of the Tax Code the costs under the Agreement were wrongly accounted to the expenses on the calculation of income taxes. Services in the area of the development of Russian market of products and recipes, advisory on branding policy, preparation management reporting and other services were incurred for the benefit of foreign company.
2.4. Officials of the inspection found that the Company had no business purposes for attracting foreign counterparty management. As well as the intention to carry out a real economic activity, using foreign company services.
The company was spending money in favor of third parties. The Company did not produced goods which it sold. Tax auditors actually qualified management services as commercial expenses which were made in favor of the foreign Parent company. However, it did not corresponded to actually performed business transactions and contradicted to the acts of rendered services.
In addition, fiscals unreasonably and in the absence of any evidences concluded that the financial and IT costs were carried out in favor of the foreign counterparty. This conclusion contradicted not only to the actual circumstances and the primary documents but also to the testimonies of witnesses which were recorded in the protocol.
The fact that the IT-services were actually provided to the Company was confirmed by functioning of website in Russian. On this website there was information about ongoing products and companies contacts.
Generally the economic feasibility of incurred costs was confirmed by the efficiency of management. Which was reflected in the tax and accounting actual database.
Text of objections. The argument of the tax authority that the services for the development of products and recipes on the Russian market, advisory work on the brand policy, preparation of management reporting and that other services were provided in the favor of the third parties was unlawful. And contradicted to the cl. 2 art. 252 of the Tax Code. According to which expenses shall be subdivided according to their nature, the conditions under which they are incurred and the areas of activity of the taxpayer into expenses associated with production and sales and non-sale expenses.
Auditors improperly applied rules of the Federal Law dated 13.03.06 number 38-FZ "On Advertising" in the part of misleading advertising. False advertising is recognized as advertising which comprises information which does not correspond to real information. In particular, an exclusive rights to intellectual property rights and means of identification of legal entities. As well as a means individualization of the goods (sub-clause. 7 para. 3, Art. 5 aw № 38-FZ). However, the taxpayer did not advertised trademark which did not belong to him. All actions containing attributes of advertising (Art. 3 of the Law № 38-FZ), aimed to promote the goods which were sold but not to advertise the trademark. That corresponds to the requirements of subparagraph 28 of paragraph 1 of Article 264 of the Tax Code.
As the part of the management services there were services for drafting of catalogues of goods which were carried on the territory of the Russian Federation. These catalogues were in Russian and included contact information of the taxpayer. The services which were rendered to the Company connected with the arrangement of the exhibits, workshops, presentations and lectures. This services aimed to increase the sales and support the interest of the clients to products. Revenue from the sale of goods was the main income of the company. Its increase had a direct impact on the financial results. Consequently, the purported services aimed to make a profit and were justified. The events which were organized by the foreign company had a positive effect. That is confirmed by the conservation of business relationships with a several buyers, as well as the positive sales dynamics.
The costs did not meet the criteria of economic feasibility. As a result of violation of the provisions of Article 252 paragraph 1 of the Tax Code the costs under the Agreement were wrongly accounted to the expenses.
During the audit the company introduced the agreement on the provision of management services with the foreign company registered in the Netherlands. As well as the acts of performed works, rendered services, purchase books, trial balances, accounting registers on the account 44.1.1 "Management Services", registers of the tax accounting "Company’s expenses". The fact of the provision of the management services was documented.
All the incurred costs were economically justified aimed the obtaining of economic benefit. The purpoted services were connected with the general activity of the companies - the sales of food additives, as well as other food components and materials for the production of foodstuffs.
Text of objections. The company presented the complete package of duly executed documents confirming the right to recognize costs for management services as the part of the tax expenses. The tax authority did not demand from the foreign company or other persons documents (information) relating to the provision of management services (Art. 93.1 of the Tax Code). As a result came to the unconfirmed findings about economic feasibility of expenses for management services.
In connection with the extraordinary events in the activities of the company in 2009 the volume of the rendered management services exceeded the planned indicators. Namely, due to the long absence of the accountant in the workforce and the execution of duties of CEO by the person who had no management experience. Also because of the conflict and subsequent court proceedings with the previous CEO. Therefore, for the operation of the company and the preservation of the achieved market position it required the actual presence of the top managers of a foreign company in the Russian Federation.
Substantial part of the negotiations with the buyers were conducted with the assistance of the employees of the foreign founder. In this connection it has incurred significant costs for translators, auditors, etc. Therefore the calculation of the costs for management services was made on the basis of the parent company costs. All expenses were economically justified. Since they focused on the strategic and operational management of the company and obtaining economic benefits from the sale of goods.
There is no need to attract the foreign company. Tax officials noted that there were no intention to carry out a real economic activity using the services of the foreign founder of the company. But they did not noted that the management services agreement covered the whole group of companies.
According to the agreement the foreign contractor provided management services to its subsidiaries. It was confirmed by the amendments to the management services agreements. Under the agreement the remuneration for the rendered services was fixed and it was on the basis of costs of the parent company.
The remuneration for the rendered services was charged on the equal basis from the all subsidiaries of the holding. This procedure corresponds to the usual business practices of the European countries.
Text of objections. The holding company includes the companies registered in Belgium, France, Germany, Hungary, UK etc. Within the group the services provided by the parent company are shared and distributed among all members of the group to the benefit of each participant. At the same time a foreign counterparty provided the company with the reports included the costs incurred by the parent organization. Payment for the rendered services was made on the basis of this report and the acts of acceptance of performed work and rendered services.