The separation of the IT function within the Group in 2022 has become one of the most effective tools for improving the efficiency of tax management. This assessment is due to the fact that IT companies are entitled to claim unprecedented tax benefits: 

• for profits tax: the possibility of applying a zero rate;
  
• for VAT: exemption from VAT on some business transactions
• for insurance premiums: possibility of lower rate of insurance premiums at the rate of 7.6%;
• in the field of tax control: exemption of IT companies from field tax inspections until March 3, 2025.

In addition, in order to provide legal certainty, the Federal Tax Service of Russia has issued a number of letters regarding the issue of the possibility of qualifying the allocation of an IT function as an instrument for "splitting" a business:

• Letter dated March 17, 2022 N SD-4-2/3289@. In that document, the Federal Tax Service indicated that the reorganization of a legal entity resulting in the creation of an IT company which applies tax incentives cannot itself be qualified as a business "split" scheme;
  
• Letter No. SD-19-2/163 of July 12, 2022. In that document, the Federal Tax Service confirmed that the above approach applies to newly created IT companies, repurposed IT companies, cases where there is a transfer of the respective employees to a newly created or repurposed IT company.

The above-mentioned letters were intended to alleviate the concerns of businesses that were wary of singling out IT companies to avoid the risks of being accused of using business "splitting" tools. 

At the same time, despite the above-mentioned efforts of the government to create favorable conditions for the IT sphere, business remains wary of changes in the approach to assessing the validity of tax exemptions and administration of IT companies. This position may be due to a number of reasons: (1) the lack of stability of tax legislation and practice of its application; (2) the possibility for tax authorities to carry out control measures in relation to operations of IT companies (for example, within the framework of analysis of activities of other Group companies); (3) the risk of different interpretation of provisions of tax legislation by territorial tax authorities. Therefore, if an IT company is part of the Group, it is important to pay attention to the following risk areas:

"Splitting" of a business

In order to qualify the structure of the organization of a business as a "split" scheme, the tax authority has to determine whether the group meets the two main criteria:

• the nature of the organization of activities within the group is conditioned by tax motives, for instance - the main objective of creating a business entity is aimed at obtaining tax savings;
  
• business entities within a group do not perform real entrepreneurial activities on their own. 

In the framework of control measures the tax authorities will try to identify a list of circumstances[1] which, in their view, would confirm the compliance of the group with the above criteria, for example: (1) lack of assets necessary for running a business; (2) conducting business operations by group members on terms different from the market terms; (3) management of the activities of group members by the same persons, etc.

With regard to the activities of IT-companies, we believe that under the conservative approach the tax authorities may qualify the nature of group activities involving an IT-company as a "split" business, if the above criteria are met, in particular the criterion of lack of independence of the IT-company in making business decisions and the assets necessary for the actual conduct of business activities. 

What should businesses do? We believe that in order to reduce the above risk, the business should: (1) assess whether the IT company has autonomy within the Group; (2) if in doubt as to whether the above criterion is not met, consider endowing the IT company with characteristics typical for independent business entities (assets, staff, etc.). 

Reality of business transactions and quality of document flow 

Business relations between Group companies are generally characterized by poor quality document management. For example, (1) when it is impossible to determine the substance of business transactions from reporting documents; (2) or documents intended to be drawn up as part of a contract are not drawn up at all. In the case of questions from the tax authorities, this complicates the process of confirming the reality of operations. This fact causes the necessity of close monitoring of such operations by controlling bodies. 

What should businesses do? We believe that businesses should assess internal contracts and supporting documents executed within the framework of such relations for their completeness and sufficiency to confirm the reality of business transactions. 

Conduct of IT Activities

In general, IT companies may provide services to other group members that (1) are not directly contracted for; (2) are not IT activities for tax purposes. The most common is acting as a help desk or assisting in troubleshooting hardware problems. The tax authorities closely monitor such operations. A striking example is the case A76-14381/2022, in which the tax authority disputed the taxpayer's attempt to apply benefits in respect of software customization activities. Such an approach by businesses is fraught with tax risks, as the tax authorities may conclude that the provision of the relevant services is not an IT activity for the purposes of applying tax benefits. 

What should businesses do? We believe that in order to mitigate potential risks, businesses should consider conducting an inventory of IT functions to determine (1) what services are actually performed by IT professionals and (2) what services are fixed in the IT company's contract. Following the analysis, it seems advisable to assess whether the practice of providing services that are not IT activities can be excluded for the purposes of applying tax benefits. 

IT company personnel

The introduction of additional tax incentives for IT companies is driven by specific goals explicitly stated by the legislator: (1) to support the IT industry; (2) to support domestic IT professionals and increase the attractiveness of Russian companies as employers. 

How does this affect tax risks? In practice, a large number of IT companies, in order to apply reduced rates of insurance contributions, consider the possibility of employing employees who are not IT specialists in such companies. This approach is fraught with tax risks. The tax authority may conclude that the only purpose of employing such a specialist in an IT company is to save on taxes. As a result, the tax authority may attempt to challenge the validity of applying lower insurance contribution rates to such employees. 

What should businesses do? We believe that before hiring an employee whose job duties are not directly related to IT activities, a business should assess whether such a specialist is needed directly by the IT company to carry out entrepreneurial activities aimed at making a profit. 

Financial performance of an IT company

If certain conditions are met, IT companies can be exempt from the need to pay income tax. This circumstance leads some Groups to view IT companies as profit accumulation centers exempt from taxation. If such a situation is based exclusively on tax incentives (for example, Group companies purchase services from an IT company at prices which differ greatly from market prices in order to transfer revenue to such an IT company), we believe that this may pose the risk of a dispute with the tax authority. 

What is a business to do? If the IT function acts as a profit accumulation center within the Group, the business should assess (1) whether such a situation is due to reasonable economic reasons and (2) if such a situation is based on economic motives, the business may consider preparing "defensive" files justifying the high profitability of the IT function.

Given the above, the IT function within the Group can indeed act as an effective tax management tool. At the same time, the above risk areas should not discourage businesses from applying tax benefits. On the contrary, their careful analysis helps create a transparent structure that operates on market terms. In addition, such analysis helps to achieve another important goal - to conduct business activities in full compliance with the requirements of tax legislation. 

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[1] The list of these circumstances is presented in the Letter of the Federal Tax Service of Russia dated August 11, 2017. N SA-4-7/15895@