February 2019 Articles - Suits the C-Suite | SGV & Co. | EY

26 February 2019

Josef Pilger and Christian Lauron

Revitalizing retirement, pensions and social security Part 1

(First of two parts) If we evolve our thinking about social security, pension, retirement and voluntary savings, could we deliver better socio-economic outcomes for the Philippines and better financial well-being for millions of Filipinos? SUSTAINABLE ECONOMIC PROSPERITY REQUIRES A MATURE CAPITAL MARKET FUELED BY SAVINGS The Philippines has been experiencing a long period of unprecedented growth and prosperity. At the same time, its young population offers a temporary demographic dividend. However, the capital needed for infrastructure to further spur the country’s economic growth is lacking and has exposed an area demanding additional evolution: the depth and breadth of the country’s capital market constrained by limited sources of long-term savings to enable sustainable domestic funding. More evolved social security, pension and retirement systems, and long-term savings are the most effective and sustainable answer. We should note that there are many relevant regional and global success stories. Both Singapore and Malaysia used substantial savings generated by mandatory social security, pension and retirement systems to support their creation of deep and broad capital markets, which in turn enabled economic prosperity and infrastructure evolution. Even in the United States, a significant share of the fuel for the country’s capital market originates from public and private pension, retirement and voluntary savings. This article focuses on government-driven solutions. Future articles will cover private retirement and savings. EVOLVING EXISTING SOCIAL SECURITY AND PUBLIC PENSION The Philippines has three well-established mechanisms, two of which already rank among the country’s largest institutional asset owners. But various challenges currently limit maximizing savings, which in turn limit positive capital market and funding effects. 1. Social Security System (SSS): Mandatory contributions from participating Filipinos provide pension, retirement and related benefits to more than 36 million Filipinos globally. Long-term sustainability and funding gaps are exacerbated by significant challenges to nudge more Filipinos, mostly from the informal sector, to participate and contribute. Benefit adequacy and administrative efficiency challenges are also heavily impacted by common manual processing limits, available savings and increased cost to service. Additionally, regulatory investment restrictions result in lower than expected average investment returns. Improvements could both increase savings and returns while reducing cost to service. However, change requires all stakeholders (including members and employers) to collaborate. (Note: Republic Act No. 11199 or the Social Security Act of 2018 was signed by the President on Feb. 7). 2. Government Service Insurance System (GSIS): Mandatory contributions from most public sector and government employees provide benefits to more than 1.5 million members, but benefits adequacy remains insufficient. Long-term funding gaps and administrative efficiency challenges impacted by common manual processing and lack of standardization across various government agencies offer improvement opportunities. Similar to the SSS, regulatory investment restrictions result in less than expected average investment returns. Progressive changes could significantly expand available savings and member outcomes. But that change requires the collaboration of all stakeholders including members and government agencies as sponsoring employers. 3. Military retirement and separation benefits: Annual budget appropriations fund this mechanism. However, the rising longevity of military personnel drives benefits costs, which makes this pay-as-you-go solution a growing burden for Government’s annual budget. Benefits are accumulated over 40 years without any dedicated system assets. Therefore, enabling long-term financial sustainability will require a systemic solution. These three existing saving mechanisms provide a sound starting point to evolve into a necessary comprehensive and modern social security, pension, retirement and voluntary savings solution that aligns with the Philippines’ current and future socio-economic strengths. Such a solution acts as a savings engine that will fuel the capital market, attract more foreign investors and increase employment and prosperity. A GLOBAL FRAMEWORK FOR SOCIAL SECURITY, PENSION, RETIREMENT AND VOLUNTARY SAVINGS While economies vary in terms of population and stages of economic development, EY has developed a global framework for social security, pension, retirement and voluntary savings. There are nine key dimensions supported by various sub-dimensions that serve to guide a holistic assessment, design and evolution of such systems in emerging, evolving and mature countries and systems. The framework focuses on the relevant ecosystem with key direct and indirect drivers across relevant stakeholders. Country and policy context — This entails gaining deeper insights into various areas such as socio-economic context and outlook; the social contract, vision and social culture of the stakeholders; the pension program’s long-term strategy and objectives; existing regulations and incentives to save; measurable outcomes; and the depth and breadth of the capital market. Customer and member context — This sub-dimension looks at the needs of customers and members; a balance between the savings culture of the country and the risk appetite of members; consumer protection and advice programs; customer relevance and choices; empowerment for informed decision-making; and alignment to financial well-being. Benefits, products, and services context — This considers the existence of subsistence welfare programs; basic retirement; sound retirement; death, disability and other protections; healthcare and related essentials; and additional retirement and voluntary savings practices. Delivery context — Effective programs will require a sound operating model and appropriate delivery agility; relevant focus on best interest fiduciary duties, effective governance and oversight on possible conflicts of interest; effective risk management; and programs to strengthen public confidence. Solution context — The system should have adequate benefits, financially sustainable operations and investment rules; and efficient management that addresses customer relevance and empowerment. Reform context — This sub-dimension considers elements such as political, stakeholder and reform governance; flexibility in implementing reforms; and continuous evolution for the system. Solution culture, leadership and accountability — Building the right system necessitates establishing the right culture and expected conduct, with the right incentives, all supported by accountable and outcome-driven leadership, including appropriate supervision and relevant penalties. Stakeholder behavior — Members and stakeholders need to be willing to collaborate to come up with new ideas and innovations, work under a culture of transparency and disclosure, share a long-term perspective, all while taking responsibility and accountability for their behavior. Delivery principles — At the last step, a good system should be customer-centric, providing relevant choices while maintaining simplicity, which can be supported by automation, digital platforms and straight-through-processing protocols that leverage exchange-to-exchange value chains. There is hope that this framework adds value to an informed debate in the Philippines to evolve the existing government-driven long-term savings system. Such evolution is perceived to deliver better retirement and financial well-being outcomes for all Filipinos, and, in turn, deepen the capital market and assist in delivering further economic prosperity. In the second part of this article, we will discuss how greater collaboration between the public and private sectors can deliver improved results. This article is for general information only and is not a substitute for professional advice where the facts and circumstances warrant. The views and opinion expressed above are those of the authors and do not necessarily represent the views of SGV & Co. Josef Pilger is EY’s Global Pension and Retirement Leader. Christian Lauron is an Advisory of Partner from SGV’s Financial Services and Government and Public Sectors.

18 February 2019

Arlyn A. Sarmiento-Sy

Data is power: Using analytics for a Customs audit

Our last four Suits the C-Suite articles have emphasized the need for importers to be audit-ready in the event that the Bureau of Customs (BoC) conducts a Post Clearance Audit (PCA). The BoC has already issued 32 Audit Notification Letters (ANLs) to importers; anyone could be next on the list. Audit readiness can be achieved by conducting a Customs Health Check or a Customs Compliance Review (CCR) to identify areas of risk and potential exposures prior to a PCA, to ensure that importation records are complete, and to enable the importer to determine the issues and amounts for a possible availment of the BoC’s Prior Disclosure Program (PDP), which is an option available to importers to voluntarily disclose errors in good declarations and pay deficiency duties, taxes, and other charges that may arise in lieu of a full audit. Given the limited time for importers to be ready for a customs audit — which can occur at any moment — or to consider to do a prior disclosure, how can this be done? Data analytics offers an alternative and possibly, a more efficient approach to audit readiness. DEFINING ‘DATA ANALYTICS’ Data analytics is the application of tests on information that is electronically available, either from the company’s Enterprise Resource Planning (ERP) systems or through brokers’ database and other digital sources. The aim is to identify key focus areas which uncover risks and opportunities, while also providing basis to make strategic decisions over core processes and compliance activities. In doing so, data analytics can help allocate resources to areas of highest saving potential, or for risk mitigation. Data analytics can be used to perform the following: – Identify errors in order to take appropriate actions to minimize exposure; – Discover potential tax and cash flow savings, and tax recovery opportunities; – Detect process inefficiencies or risks, as well as consider opportunities to remove inherent risks, and; – Provide management insight to help address the company’s key trade and value-added tax (VAT) concerns and priorities. THE ROLE OF DATA ANALYTICS IN A PCA The insights gleaned from an importer’s electronic data could be used to identify customs and trade-related risks, issues with noncompliance, and financial exposures. The use of these data will facilitate an accurate and timely disclosure to the BoC, and even to the Bureau of Internal Revenue (BIR). By using available digital data, importers may also avoid resource constraints such as lack of manpower, or the tedious task of manual vouching importation documents. This will also minimize risks of error and oversight that come with purely manual processes. There is also ample possibility of testing 100% of all import transactions, which is preferable to just a sampling. The process involved with data analytics will provide instantaneous multilevel perspectives, allowing an importer to make informed decisions supported by evidence. Some examples of core tests involving trade analytics include: – Import overview — This allows for a quick, “get a sense” of the business, as it illustrates total customs value, duties, or VAT paid, per year, month, or day. It could diagnose unusual dips or increases from the expected or average amounts, allowing the company to investigate the underlying import transactions which may have caused them. – Duty analysis — This creates a pictorial identification of the duty rates paid by the importer, which could show potential variations in duty rates used for similar products. Duty analysis may be able to show product groups with more than one distinct Tariff Classification, which could indicate if one or more products are being incorrectly classified. – Incoterms — The Incoterms (or the International Commercial Terms) are a series of pre-defined commercial terms published by the International Chamber of Commerce (ICC) relating to international commercial law. Trade analytics can identify suppliers using multiple Incoterms which may be contrary to those agreed or desired. Additionally, analytics may point out risks on the use of Ex-Works, that could give rise to findings of underpayment of duties and taxes since customs values should be based on Free on Board (FOB) or Free Carrier At (FCA) value. Ex-Works is an international term by which a seller makes the product available at a designated location, and the buyer incurs transport costs. – Free Trade Agreement (FTA) usage and opportunities — This would identify where FTAs have been utilized and thus, would point out a need to provide documentation to support the lower duty rate used on specific imports. It will also help identify where FTAs are available (but not currently utilized) to help save costs. – Related party transactions — Analytics may also identify anomalies in related party transactions against unrelated parties. – Physical supply chain — This will identify unusual or inefficient routes, and the value or weight and method of transportation used. Importers also have the option to perform customized tests to compute total landed cost for importations per month, quarter, and year. This will address the question on whether the landed cost per VAT returns tallies with landed cost per the BoC’s summary of importations. Tests can also be devised to compute for the correct customs duties and taxes per import entry, to determine any possible underpayment that may be considered for a voluntary disclosure. Since a PCA covers three years of importation (potentially involving thousands of importations), but only provides a limited time of 15 days to respond to findings of noncompliance and/or assessment of underpaid duties and taxes, it is vital that importers take every available measure to be audit-ready. If applicable, they should also consider the benefit of the PDP. A PCA may result in heavy consequences for importers, since penalties during a PCA range from 125% to 600% of the revenue loss to the Government, depending on the degree of culpability. Upfront disclosure may bring significant material savings to affected importers. With the recent issuance of Customs Administrative Order (CAO) No. 01-2019, it is expected that the BoC will intensify PCAs and issue numerous ANLs. Thus, unprepared importers may face steep penalties, interests and surcharge on noncompliance. This is why the BoC is encouraging importers to seriously consider the PDP. In this age of Information Technology, it will be most prudent to consider harnessing the power of data analytics to sift through and utilize all information that may just be sitting dormant in the company’s database and systems. This article is for general information only and is not a substitute for professional advice where the facts and circumstances warrant. The views and opinion expressed above are those of the authors and do not necessarily represent the views of SGV & Co. Arlyn A. Sarmiento-Sy is a Senior Director for Indirect Tax Services – Global Trade & Customs at SGV & Co.

11 February 2019

Victor C. De Dios and Josephine Grace R. Sandoval

Dealing with common issues in a BoC Audit

When shipments are “cleared” at the border after payment of duties and taxes, importers often assume that the Bureau of Customs (BoC) will simply move on without double-checking the shipment. This assumption is inaccurate. The BoC can actually conduct an audit of past transactions, similar to the function of the Bureau of Internal Revenue (BIR). This exercise is the Post-Clearance Audit (PCA). It usually covers the last three years of importations and the PCA is undertaken to check the correctness of importers’ goods declarations, and the accuracy of their tax payments. The BoC recently issued Customs Administrative Order (CAO) No. 1-2019, which sets new rules in the conduct of PCAs effective Feb. 15. The CAO and its related topics have been written about in the three previous Suits the C-Suites columns. We will now focus on the following: What exactly will the BoC look for? What are the common issues that importers should anticipate? How should importers deal with the common issues in a PCA? RECORD KEEPING After an Audit Notification Letter is issued, the first order of business is for the importer to submit various importation documents identified in a checklist. The most common documents required are those that pertain to shipping, importation, and transport. These are the Single Administrative Documents (SAD) or the actual goods declarations, commercial invoices from foreign suppliers, supply agreements, import licenses and permits (for regulated imports), bills of lading or airway bills, packing lists, freight and insurance documentation, and Certificates of Origin (if lower duty rates under Free Trade Agreements or FTA were used). The BoC can also require other documents such as Audited Financial Statements, filed tax returns, and schedules of importations for the period covered by the audit. The auditors also have the authority to visit the company for verification purposes. In this documentation exercise, the BoC will assess if the importer complies with the obligation to keep importation records. Lack of or incomplete documentation could lead to penalties, including a surcharge of 20% of the value of the goods for which no records are kept or maintained. To overcome this issue, importers should gather importation documents and ensure that they are complete before the PCA begins. The significance of proper record keeping bears repeating, because the BoC will identify the core common issues in an import transaction on the basis of the documents you present to them. VALUATION When an importer declares the value of imported goods at the border, it does so based on its own assessment. Hence, it becomes necessary during a PCA for the BoC to evaluate if the importer’s assessment is correct and compliant with existing valuation methods. Valuation involves a wide range of sub-issues. Here are some of the most common ones: Proper declaration of value, in general — For transactions between a related foreign supplier and importer, the BOC will inquire if the price of the goods is arms-length; meaning, it was not influenced by the relationship between the parties. Similarly, for transactions between unrelated parties, the BoC can question the value declared by the importer based on existing reference values available in the BoC database, or elsewhere. Accurate declaration of the cost-insurance-freight (CIF) — The BOC counterchecks if the CIF per invoice, insurance, and freight documentations tally with the CIF declared in the SADs, applying the specific rules on the proper declaration of such items. Existence of additional payments to suppliers — Additional payments made after importation can form part of the dutiable value of the imported goods. These include items such as transfer price adjustments, dutiable royalty payments or license fees, and proceeds of subsequent resale of imported goods. Proper declaration of all other components of the dutiable value of imported goods — The BoC can likewise check if the importer properly included all adjustments to the price of imported goods, such as dutiable commissions, packing costs and charges, assists, interests, and transport costs, among others. CLASSIFICATION OF GOODS In all importations, the importer should be able to properly ‘classify’ goods under the applicable 8-digit tariff code, or Harmonized System (HS) code. Each unique code has a corresponding duty rate that applies to goods classified under such code. In a PCA, the BOC will check if the importer captured the correct classification and used the applicable rate when it paid the duties. In case of doubt in the applicable classification, the BoC may ask the importer to establish proof of proper classification, such as details of the imported goods and tariff classification rulings obtained in the past. For importers who make use of lower duty rates available under existing FTAs, the BoC can perform a more detailed assessment. This involves a validation of compliance with the origin rules under the FTAs, as well as the availability of the supporting document called the Certificate of Origin (CO). If they fail to refute questions on origin or present COs, the importers may end up losing the privilege of using the lower duty rates. WHERE THE IMPORTER ENJOYS DUTY AND TAX INCENTIVES There is a common misconception that importers who enjoy exemption from paying duties and taxes (such as economic or freeport zone locators, or even importers through a bonded warehouse) are relieved from customs audits. In fact, the BoC remains strict in its audits of special importers, to verify if there are any duty and tax leakages in their activities. Some of the common issues specific to importers with incentives are: Actual entitlement to incentives — The BoC checks if importers have proof of entitlement to the incentives such as their Certificates of Registration and Registration Agreements. Normally, there is a determination if the importations are within the limits of the registered activity. Domestic sales — Goods imported into an ecozone, freeport zone, or bonded warehouse are normally destined for export. In the case of domestic sales, the BoC would like to see if duties and taxes were paid on such sales. Proper liquidation of raw materials — The BoC asks importers to completely account for the raw materials imported free from duties and taxes. Failure to do so can trigger a deficiency assessment. Availability of records — In relation to the record keeping requirements, the BoC checks if there is proper entry documentation, particularly import permits for ecozone locators. OTHER RELEVANT ISSUES The BoC also typically raises other issues, such as the proper computation of duties (components of dutiable value and forex conversion) and VAT (components of landed cost), payment of excise tax for certain articles, among others. Upon looking at values declared per SAD, AFS, VAT returns, and other relevant schedules, the BoC also identifies discrepancies for possible reconciliation. The importer is then required to reconcile discrepancies which could be a lengthy exercise. For failure to fully reconcile, issues may be raised such as incompleteness of records, underpayment of taxes, and in extreme circumstances, allegation of smuggling. Needless to say, there are many other issues that the BoC may raise, depending on the circumstances of each audit. Now that PCAs are well on their way, the most prudent action for importers is to perform a self-assessment for an early detection of potential issues. When importers are “audit ready,” they will be able to better remedy or mitigate any consequences before a PCA commences. This article is for general information only and is not a substitute for professional advice where the facts and circumstances warrant. The views and opinion expressed above are those of the authors and do not necessarily represent the views of SGV & Co. Victor C. De Dios and Josephine Grace R. Sandoval are Tax Principal for Indirect Tax (Customs and Global Trade) and Tax Manager, respectively, at SGV & Co.

04 February 2019

Stephanie G. Vicente-Nava

To have and to hold: Customs import documents

Many struggle to remember certain details, such as the phone numbers even of those close to them. This is due to the intrinsic limitation of human memory, or perhaps some see the brain simply as an organ to process information but not to store data. In any case, we acknowledge the importance of keeping records appropriately — not just mentally — but in some retrievable form. With the current strides in digital disruption and innovation, we now have more tools and devices to assist in storing and accessing whatever information we need. Record-keeping is particularly crucial for importers. They are obliged to do so not just to remember details of their import transactions, but because the law expressly requires them to keep and maintain comprehensive records about their importations. The proper retention of complete import documents is often overlooked by importers, but it has proven to be essential during a Post Clearance Audit (PCA). CUSTOMS RECORD-KEEPING REQUIREMENTS The Customs Modernization and Tariff Act (CMTA) requires all importers to keep all records of their importations, books of accounts, business and computer systems and all customs commercial data including payment records. These are to be kept at their principal place of business for a period of three years from the date of final payment of duties and taxes or customs clearance. In relation to the Bureau of Internal Revenue’s (BIR) requirement to keep books of accounts and accounting records for 10 years, the Customs Administrative Order (CAO) No. 01-2019 only provided for general periods (in the absence of fraud, 3 years to audit and 3 years to keep records.) No period was prescribed for fraud, unlike the BIR regulations which expressly provides for 10 years. Therefore, it appears that in the case of fraud, importers may have to keep documents longer. Customs brokers and parties involved in the process of clearing imported goods are covered by this requirement with respect to the transactions that they handle. Locators, or those authorized to bring imported goods to special economic zones and free ports according to the CAO, are also required to keep records of importation even if they are enjoying tax and duty-free incentives on qualified importations. DOCUMENTS THAT SHOULD BE KEPT CAO No. 01-2019 provides for the specific documents that all importers must keep for PCA purposes. The list is quite exhaustive, effectively covering all records related to the imported goods and the entity’s import activities. Apart from the typical import documents, such as product descriptions or specifications and shipping documents (goods declarations, commercial invoices, import licenses or permits, bills of lading, shipping instructions, certificates of origin, etc.), the CAO also requires importers to keep documents on the entity organization and structure, orders and purchases, manufacturing, stock and resale records, financial documents, charts and codes of accounts, and any information or records that have been electronically stored. In addition, locators are required to maintain documents proving their entitlement to tax incentives on importation, as well as records of all transactions and activities relating to the admission and withdrawal of goods from free zones into the customs territory. The rationale for keeping records of importation is primarily to ascertain that the goods declaration filed by the importer is correct, and that the taxes and duties paid on said importation are accurate. STEEP PENALTIES The CAO emphasizes the importance of keeping records of importations, and prescribes the penalties for non-compliance. At the outset, importers who fail to keep the prescribed records will be subject to a 20% surcharge on the dutiable value of the goods for which no records were kept and maintained. Thus, even if there are no findings for deficiency duties and taxes, importers may still be required to pay this 20% surcharge if record-keeping violations are discovered during a PCA. This is quite relevant for some locators, particularly those enjoying tax incentives on importations, since they are similarly required to keep complete records of importations and may be subjected to a PCA. That said, compliance with the customs record-keeping requirements is the most common issue encountered by PEZA-registered entities during a PCA. Despite being exempted from duties and taxes, the Bureau of Customs (BOC) may still generate significant revenue from such entities simply by imposing the 20% surcharge for violating the record-keeping rules. Moreover, the BOC may suspend or cancel the accreditation of an importer for failure to keep the prescribed documents and hold the delivery and release of subsequent imported goods. Under both instances, the importer may suffer massive operational disruption which can adversely impact business relationships and lead to significant losses. To further stress the importance of record-keeping, the CMTA introduced a new penalty for importers who fail to comply with this requirement. Section 1003 provides that the failure to keep documents constitutes a waiver of the right to contest the results of the audit based on records kept by the BOC. Accordingly, even though the assessed duties and taxes on a particular importation is patently erroneous, the importer loses the right to dispute the same if it cannot produce complete records pertaining to the importation being assessed. Consequently, the importer may be required to pay the basic duties and taxes as assessed plus the administrative penalties which range from 125% to 600% of the revenue loss and 20% legal interest per annum — all this on top of the 20% surcharge for failure to keep records. Finally, importers should be aware that they can be subject to criminal prosecution for violating the customs record-keeping requirements. The punishment is imprisonment of not less than 3 years and 1 day but not more than 6 years, and/or a fine of Php One Million. The importance of keeping and maintaining complete records of importations cannot be overstated because non-compliance can have a serious impact on the business. Importers are encouraged to constantly check and ensure that their records of importation are complete and compliant with the prescribed rules for them to avoid exorbitant fines and penalties. In view of the recent issuance of CAO No. 1-2019 on the conduct of the PCA (discussed in a previous column last 20 January 2019), the BOC is expected to intensify the audit of all importers, including locators. Ensuring compliance with the record-keeping requirements can result in a significant and positive difference to the eventual outcome of a PCA. This article is for general information only and is not a substitute for professional advice where the facts and circumstances warrant. The views and opinion expressed above are those of the authors and do not necessarily represent the views of SGV & Co. Stephanie G. Vicente-Nava is a Tax Principal for Indirect Tax Services — Global Trade & Customs at SGV & Co.

February 2019

Revitalizing retirement, pensions and social security Part 1

Data is power: Using analytics for a Customs audit

Dealing with common issues in a BoC Audit

To have and to hold: Customs import documents

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