"If the analysis or correspondence clearly states that the transaction was carried out in this way specifically for tax advantage, it can be very significant evidence for taxation," said Madis Laas, head of the Income Tax Department at Tax and Customs Board.
When taxing loan and equity transactions between legal entities, it is important to collect evidence to prove the business considerations and economic substance of the transaction, while avoiding direct emphasis on the tax advantage. The main purpose of the documentation is to prove that the structure used for the transaction is reasonable from perspectives other than tax benefits.
"Important documents are internal decisions, such as the minutes of board decisions. These documents should literally explain the vital circumstances, objectives, and considerations of the transaction," said Kristjan Järve, Partner and Head of Tax at Grant Thornton Baltic.
Good documentation not only helps mitigate risks in the event of an audit by the Tax and Customs Board, but it is also important for financial auditors who assess the compliance of transactions with tax requirements and their significance for the company's financial reporting. "Since the risk can be a six- or seven-figure number if realized, its impact on the company's financial results is very significant," said Järve.
The Tax and Customs Board has added an illustrative list of characteristics and criteria to its website, which are used to evaluate such transactions. "This list helps to understand what circumstances the tax authority looks at and which aspects should be focused on in the documentation," explained Madis Laas.
As a positive example where the transaction structure was justified and documented, Laas mentioned a situation where several investors gathered in an SPV* to buy a company through a debt push-down structure using a syndicated loan. Such a structure was necessary to gather investors and obtain loans from multiple banks, thus the structure was commercially justified.
The Tax and Customs Board explains debt push-down transactions with a diagram on its website.
"The Tax and Customs Board can also assess the situation retrospectively, and correct and thorough documentation that explains the business logic and objectives of the transaction is one of the main measures to mitigate risks," said Järve.
Kristjan Järve and Madis Laas discussed the necessity of the recently published guidelines by the Tax and Customs Board and the process of their preparation in the show "Kasvukursil". They also addressed the impact on transactions, analyzing owner buyouts, acquisition of own shares, and transactions between related parties, highlighting typical risk points and recommendations to avoid tax obligations.
*SPV (Special Purpose Vehicle) is a special-purpose entity created for a specific purpose, often used in acquisitions and investment structures to manage specific risks and separate activities.
