Drafting in the tax law context

At least as long as Estonia is concerned, commercial clients consistently tend to forget that the legal regulation is an overall thing. However, it is, and the regulations from different areas of law apply to every given transaction a company makes. Therefore, forgetting tax implication while drafting a contract may and will result in drastic tax risks the bookkeeping departments will be later unable to fix. This article is concerned about a number of easy steps on how to make any contract more waterproof when the taxation authorities come in.

 

The predominant principle of the Estonian tax law is the investigative principle, which may be conditionally divided into two levels: (1) review of the tax returns and (2) gathering of evidence if the tax returns raise suspicion.

 

Approaching the second level means increase of tax risk, since the burden of proof is then reversed. In June 2007 the National Court of Estonia in its decision no. 3-3-1-34-07 said clearly that if the evidence collected by the tax authorities supports suspicion that the returns had been incorrect and it had been possible to establish the tax amount payable, it had been then the duty of the taxpayer to proof the tax ordered to be paid had been incorrect. This view of the court does not contravene the European Union law, since in its opinion no. C-90/02 the European Court of Justice said that the division of the burden of proof is generally in the competence of member states.

 

The above is interrelated with the substance-over-form principle, which in this situation means an obligation of the taxpayer to prove the substance of the transaction alleged by the taxation authorities is erroneous.

 

For the reasons given all contract documents must be drafted with the aim to clearly and unambiguously show to anyone including the taxation authorities their economic purpose and reality of the transactions. The contract must therefore include all terms and conditions without leaving anything to be agreed orally.

 

The best way to decide whether any contract may raise suspicion is to use the Outliers-Based Detection method.

 

The Outliers-Based Detection method means that in course of tax control the attention is paid to everything, which is uncommon. Most type of the contracts do have standard set of conditions and as well as customs of drafting. For example, in case of acquisition of a business as a going concern it is usual to have an extensive due diligence as well as representations and warranties. If we turn to ship finance, a legal opinion letter from a law firm stating validity of the collateral attached to the contract is a must. In consulting services the provider is expected to undertake to furnish its client a detailed report on the time spent.

 

Keeping to the standard set of conditions will decrease the risk of questions.

 

In addition to the Outliers-Based Detection it is worth to follow the following requirements to the contract documents developed in the Estonian case-law: