Based on the e-Tax Guide published on 9 Sep 2024, IRAS adopts the Three-Step Approach.
Step 1: Consider whether an arrangement prima facie (i.e, first impression) falls within any of the three threshold limbs of section 33(1) namely:
• To alter the incidence of any tax which is payable by or which would otherwise have been payable by any person;
• To relieve any person from any liability to pay tax or to make a return under this Act; or
• To reduce or avoid any liability imposed or which would otherwise have been imposed on any person by this Act.
Step 2: If such a tax advantage had been derived, consider whether the arrangement have been carried out for bona fide commercial reasons (‘bona fide commercial condition’) and if one of its main purposes the avoidance or reduction of tax. (‘main purpose condition’)
In evaluating this, IRAS will seek to understand the following from the company through fact-finding:
(i) Why was the company incorporated;
(ii) What functions are performed by the company and by whom. Examples of functions performed by the company could include providing manpower to the business, providing a place of operation, managing contracts for the business;
(iii) Whether the company is well-capitalized and owns/utilizes substantial assets necessary for the operations;
(iv) Whether any risks are undertaken by the company e.g. contractual risks, risks associated with the workplace or with employment matters; and
(v) Whether arm’s length remuneration was received by director/doctor for the services that he/she has provided.
IRAS will evaluate the bona fide commercial reasons on how the use of the company structure may help in the furtherance of the business based on all objective evidence available, such as the testimony of the parties involved or drawing requisite inferences from the surrounding facts, to substantiate that the taxpayer has pursued or attempted to pursue the said course of business.
Any tax reduction must be an incidental outcome and not one of the main purposes of the arrangement. If the amount of tax reduced is substantial versus the commercial advantages or reasons for using the arrangement, then tax reduction may be considered as one of the main purposes for the arrangement.
Both conditions must be satisfied to avail oneself of the section 33(7) exception. And if either one of the conditions not satisfied, proceed to Step 3.
Step 3: Ascertain whether the taxpayer has satisfied the court that the tax advantage obtained arose from the use of a specific provision in the ITA that was within the intended scope and Parliament’s contemplation and purpose, both as a matter of legal form and economic reality within the context of the entire arrangement. E.g., the Start-Up tax exemption is meant to encourage entrepreneurship, so IRAS would assess if the Medical professional has exhibited this entrepreneurship through the incorporation of the company.
