The accounting trick that helps multinationals avoid paying tax

Chevron Australia’s aggressive tax strategies have resulted in an additional $322 million tax bill, but this may only be the beginning of the energy giant’s woes with the Australian Taxation Office. And others could face the same headache.

The recent Federal Court decision suggests significant accounting disclosure implications for large subsidiaries of other multinational companies operating in Australia which have employed similar strategies, and there will be other revelations to follow.

The Chevron issue involves an accounting measure that is commonly used by these subsidiaries which contributes to a lack of transparency around tax paid in Australia, as well as the web of companies tied to tax havens used by its parent company.

Central to the court case was a loan between Chevron Australia Holdings Pty Ltd and Chevron Texaco Funding Corporation under which Chevron Australia received $2.5 billion worth of advances through a Credit Facility Agreement.

Importantly, the CFA did not breach the thin capitalisation rules nor any other anti-avoidance provisions of Part IVA of the Income Tax Assessment Act 1936 (ITAA). The critical issue is whether other provisions of the Act were contravened.

But the ATO argued that the CFA was not at arm’s length - where a related party transaction is made between companies and the acquisition price (in this case the interest on the CFA) exceeds a commercial amount. The ATO applied section 136AD(3)(d) of ITAA, allowing it to restate the true nature of the transaction as equal to the arm’s length amount, where a taxpayer has acquired property under an international agreement without arm’s length considerations. A penalty of 25% of the avoided amount is also allowed under the act.

Currently the ATO is also examining a similar, much larger transaction - $35 billion - by Chevron.

Chevron Australia is one of the largest companies in Australia with revenues predicted to reach over $10 billion and employing thousands of people. It has to be held to the highest levels of public accountability.

However, in preparing its financial report Chevron Australia applies the Reduced Disclosure Requirements (RDR) which is allowed under the Australian accounting standards.

The RDR allows large proprietary companies that do not have public accountability to voluntarily apply the disclosure requirements of just a few accounting standards. Applying the RDR relies on the idea that the only companies which have such accountability are those which issue publicly tradeable equity or debt securities.

The consequences of allowing large proprietary companies such as Chevron Australia (and almost every other subsidiary of a multinational operating in Australia) to use RDR are enormous in terms of transparency. The ATO, in the past, has indicated that it relies on the annual reports of companies for related party disclosures in identifying tax avoidance.

Non-disclosure of this information by large proprietary companies makes it difficult for the ATO and anyone else in Australia to identify tax avoidance. Hence, in July, the head of the Senate economics references committee inquiry into corporate tax avoidance, Senator Sam Dastyari, requested Chevron Australia provide five years of additional information around the operations of the US parent company Chevron Corporation’s subsidiaries in tax havens, and related party transactions between those subsidiaries and Chevron Australia.

The rationale behind disclosing related party transactions is that they cannot be presumed to be at arm’s length. For example, while Chevron Australia discloses that it has been charged for interest on a loan, information on who provided the loan and what interest rate was charged on this loan are not disclosed. As a result, users do not know whether the rate charged on the loan was commercial.

Furthermore, Chevron Australia does not disclose the key individuals’ remuneration. Knowing how these individuals are remunerated would help the users of annual reports understand their incentives to be involved in related party transactions. For instance, disclosures on related party transactions deter companies from engaging in “unfair” transactions. Such as related party transactions aimed at minimising taxes.

Chevron presented the requested additional subsidiary and related party transactions disclosures in a submission.

But as presented, these appear not to meet the requirements of the relevant accounting standards. At the same time Chevron Australia’s auditor, whose US affiliate earned more than $60million in fees over the last two years from Chevron, gives its use of the RDR the green light.

Our analysis is that that subsidiaries of multinationals should not be able to apply the RDR to lessen their financial disclosure obligations as required by all Australian accounting standards.

The Australian public deserves to have large proprietary companies to be fully accountable with respect to financial disclosure. As Green’s leader Senator Di Natale commented: “Rather than chase these millions of dollars after they’ve been funnelled offshore, it would be more efficient to force public disclosure of comprehensive financial accounts.”

The authors do not work for, consult, own shares in or receive funding from any company or organization that would benefit from this article, and has disclosed no relevant affiliations beyond the academic appointment above.