DUE DILIGENCE - ITI group site


In order to minimize the risk of tax liability, a taxpayer must exercise due diligence and care both in selecting a counterparty and in existing contracts. It is the lack of initiative to request a set of documents from the counterparty is one of the main facts of additional tax assessments by the tax authorities during desk or field audits. The revealed fact of cooperation with an unfair counterparty threatens the taxpayer with suspicion of receiving an unjustified tax benefit.

What is due diligence and unjustified tax benefit?

The legislation does not contain the concept of “due diligence”. But by general definition due diligence is a set of measures on the part of a legal entity to choose a counterparty. The company determines the area of responsibility, the risks to be assessed when selecting a new counterparty. The entire set of measures and the list of documents requested from the counterparty must be developed by the organization itself.

Unjustified tax benefit – it is receiving a tax benefit, the illegality of which is proved by the tax authority, on the basis of documents submitted by the taxpayer that contain incomplete, unreliable and (or) contradictory information.

In paragraph 10 of the Resolution of the Plenum of the Supreme Arbitration Court of the Russian Federation of October 12, 2006 № 53 “On arbitration courts assessing the validity of the taxpayer received a tax benefit” the concepts of due diligence and unjustified tax benefit are interrelated: “Violation by a taxpayer’s counterparty of its tax obligations cannot serve as the sole basis for denying a taxpayer the application of tax deductions for VAT. However, the tax benefit may be recognized as unjustified if the tax authority will prove that the counterparty taxpayer does not fulfill its tax obligations, and the taxpayer in interaction with him acted without due care and diligence.

The same Resolution of the Plenum of the Supreme Arbitration Court of the Russian Federation #53 of October 12, 2006, in order to ensure consistency of court practice in the assessment by arbitration courts of evidence of the validity of a taxpayer’s tax benefit, gives explanations in which cases the tax benefit can be found unjustified, which arguments of the tax authority prove unjustified tax benefit, the totality and interrelation of which circumstances serve as grounds for courts to recognize the tax benefit as unjustified.

How to show due diligence

In order to show due diligence in his work the taxpayer must comply with the following conditions.

First, prior to entering into transactions, you should request in writing from potential counterparties duly certified copies of the following documents:

  • certificate of state registration as a legal entity;
  • A certificate of registration with a tax authority;
  • Extract from the Unified State Register of Legal Entities on the date of signing the contract;
  • documents confirming that the supplier is located at the address specified in the constituent documents (e.g., a rental agreement, certificate of ownership of the premises);
  • documents confirming the authority of persons to sign contracts, acts, invoices, etc. (the founder’s decision or minutes of the general meeting appointing the director, power of attorney);
  • a card with specimen signatures and seal of the organization;
  • balance sheet for the last reporting period with a note about its submission to the tax authorities;
  • certificate of the tax authority about the status of settlements on taxes, fees, penalties and fines;
  • License, if the counterparty’s activity is subject to licensing.
  • Secondly, the information contained in the documents submitted by the counterparty should be cross-checked with publicly available federal information resources.

In order to streamline this work it is recommended to develop the Regulation on the selection of counterparties and questionnaire to verify the counterparty, specifying the documents that must be provided to consider the possibility of entering into an agreement. Judicial practice shows that the management of some companies goes further and creates commissions to verify the legal capacity of counterparties.

If a potential counterparty fails to provide the requested documents or submits documents containing unreliable information, transactions with such an organization, even if there is a relationship of trust with its management (owners), should not be concluded.

In August 2017, a new article – 54.1 – was introduced to the Tax Code of the Russian Federation (Federal Law No. 163-FZ of 18.07.2017). The new article is directed against those taxpayers who continue to use transfers in favor of one-day counterparties to obtain a tax benefit for the purpose of increasing the expenditure part and reducing the tax base for income tax, as well as for obtaining illegal VAT deductions to reduce the amount of VAT payable to the budget. It establishes a new approach to the problem of abuse of rights by the taxpayer, taking into account the main aspects of the formed judicial practice. The article lists specific actions of the taxpayer which are recognized as abuse and defines the conditions that must be met to be able to account for expenses and claim deductions. The article changes the emphasis from due diligence and reality of business transactions to establishing the fact of delivery of goods, work or services by the person who is a party to the contract.

Article 54.1 of the RF Tax Code does not abolish the obligation to exercise due diligence and care. Although at the end of 2017, the Federal Tax Service of the Russian Federation prepared a letter informing that during tax audits, employees of the FTS should not use the concepts formulated in the Resolution of the Plenum of the SAC of 12.10.2006 № 53 and judicial practice established before 19.08.2017. Such concepts, in particular, include “due diligence” (letter of the Federal Tax Service from 28.12.2017 № ED-4-2/26807). But it is worth noting that the letters of the Federal Tax Service are of an explanatory nature, and litigants in disputes on tax audits before August 17, 2017, actively use this Resolution of the Plenum of the Supreme Arbitration Court.

Despite the fact that the concept of due diligence is not enshrined in the new article, tax officials are in no hurry to abandon the tried and tested practice when inspecting companies. And to the existing set of due diligence measures it is worth adding a new element – proof of the reality of the transaction exactly with the counterparty with whom the contract was concluded.

Due diligence is a systematic work that requires a lot of time and manpower. It is much more convenient and reliable to entrust this work to specialized companies that have extensive experience in organizing the system of work with counterparties and have all the necessary resources. The ITI group is always ready to assist its clients in meeting the requirements of the tax authorities. We have developed detailed recommendations for the selection of counterparties, and the ITI Group specialists are ready to handle communication with the tax authorities and protect the client. We are also ready to offer our clients systematic monitoring of counterparties for changes in current legal status and registration data.

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