Recently, an article titled "Starting from High-Risk Points to Prevent Tax Risks Throughout the Entire Process" written by Liu Tianyong, Director of Hwuason Law Firm and Director of the Financial and Tax Law Professional Committee of the All China Lawyers Association, was published in "China Taxation News" as part of a commissioned contribution. This article, based on recent relevant cases handled by Huashui, focuses on analyzing tax risks in the areas of procurement, sales, transportation, processing, and equity transfer within the coal industry. The article provides recommendations for companies to strengthen risk prevention and control throughout their operational processes. The specific content is as follows:

I. Starting from High-Risk Points to Prevent Tax Risks Throughout the Entire Process

According to the information on administrative tax cases related to the coal industry delivered by the State Administration of Taxation and various local tax authorities' official websites, there were a total of 35 tax-related administrative cases in the coal industry in 2022. A detailed examination of these cases reveals that tax risks for coal enterprises are mainly concentrated in the areas of procurement, sales, transportation, and processing. It is essential for relevant enterprises to align with the characteristics of their business processes, establish a solid compliance foundation, and strengthen tax risk control.

II. High-Risk Area One: Procurement and Sales

Operational affiliation is relatively common in the coal industry. Some small-scale coal mines engaged in coal mining operate under the name of large coal mining enterprises, conducting coal procurement and sales transactions on behalf of the latter. In specific operations, the affiliated party issues value-added tax invoices to downstream purchasers based on the actual circumstances of coal procurement and sales transactions. In cases where business processes are not standardized, the issue of "separation of invoices and goods" may arise.

In practice, it has been observed that some affiliated parties and the entities they are affiliated with have weak legal awareness. After reaching an oral affiliation agreement, they neglect to sign a written affiliation contract. Regarding the payment and receipt of funds, there is both payment for goods and various fund transactions, such as advances and loans. In such cases, suspicion of "fund backflow" may easily arise. Consequently, tax authorities and public security agencies may determine that the transactions between the two parties involve trading without actual goods, potentially leading to administrative or even criminal penalties for suspected issuance of fraudulent value-added tax invoices.

III. High-Risk Area Two: Processing Operations

Since the implementation of the coal industry's capacity reduction policy in China, some traditional coal trading companies have begun to transform into integrated procurement, sales, and processing enterprises. They aim to increase the added value of coal products and expand sales by introducing new products through technological innovation. However, some so-called new business models adopted by individual coal enterprises pose serious risks of illegality and non-compliance.

For example, some upstream petrochemical companies change the commodity name of finished oil sold without invoices to "xylene" or other chemical raw materials, issue fake invoices to coal enterprises, and thus evade paying consumption tax on finished oil. Some upstream coal enterprises sell excessively mined coal without invoices and do not account for sales income, nor do they declare and pay value-added tax, resource tax, and corporate income tax. Some downstream coal enterprises purchase privately mined coal without documentary evidence, obtaining fake invoices to offset input tax, and more.

It should be noted that the above behaviors of coal enterprises violate tax regulations. In practice, tax authorities often categorize such cases as tax evasion or issuing fraudulent invoices, recovering underpaid taxes and surcharges, and imposing fines. If they constitute a crime, criminal responsibility may also be pursued in accordance with the law.

IV. High-Risk Area Three: Transportation

Currently, short- and medium-distance coal transportation mainly relies on traditional road transportation. The operating entities of China's road transportation industry exhibit the characteristics of being "numerous, small, scattered, and weak." Except for a few transport entities operated by state-owned transport enterprises with unified operations and centralized management, the majority of transportation tasks are undertaken by individual transport capabilities, with a significant proportion being personal vehicle transportation.

Due to the special nature of coal transportation, coupled with limited transportation capacity in coal-producing areas, coal enterprises sometimes commission individual vehicles to provide transportation services. However, as these individuals may not or are unwilling to issue value-added tax invoices to service recipients, coal enterprises cannot obtain compliant certificates to offset input tax or deduct corresponding costs before corporate income tax. To address this issue, coal enterprises often adopt methods such as "affiliation" or "agency issuance" in collaboration with third-party transportation companies. In practice, due to the imperfect management systems of some coal enterprises and their negligence in preserving the authenticity of business records, coupled with inconsistent judicial criteria for criminal determination of such agency or affiliation behaviors, these coal enterprises are prone to being deemed as issuing fraudulent invoices, leading to administrative or criminal liability risks.

Simultaneously, with the development of the Internet and information technology, "ownerless carriage" has gradually become an essential part of China's cargo transportation industry. More and more coal enterprises entrust online freight platforms to undertake transportation services. In practice, a phenomenon has emerged where consignors (coal enterprises) organize their own fleets and provide vehicle and transportation information to ownerless carriage enterprises (online freight platforms). Subsequently, the ownerless carriage enterprises issue value-added tax invoices. Moreover, during this process, there may be instances of advance payment for transportation compensation to individual fleets. It should be noted that this so-called flexible transportation model is prone to the issue of "fund backflow," thereby triggering administrative and criminal liability risks related to issuing fraudulent invoices.

V. High-Risk Area Four: Equity Transfer

According to my understanding, during the special rectification process in the coal sector conducted in some provinces, tax-related issues in the equity transfer of coal enterprises have gradually surfaced. Investigating authorities have found tax-related illegalities and irregularities in the equity transfer activities of some coal enterprises.

For instance, some coal enterprises use the guise of equity transfers to conceal the actual transfer of mining rights. Some coal enterprises mutually transfer equity among shareholders at significantly low prices without legitimate and reasonable justification. In some equity transfer transactions, parties involved fail to declare and pay taxes on time.

Companies must realize that tax authorities can comprehensively review various links in the business activities of coal enterprises by accessing financial, tax, and business data such as account books, accounting vouchers, contracts, etc. All types of tax-related illegalities and irregularities of enterprises will be exposed. Companies may not only need to pay back taxes, surcharges, and fines but may also face the possibility of criminal liability.

VI. Recommendations for Companies to Strengthen Risk Prevention and Control Throughout the Entire Process

For any enterprise, compliance is the bottom line for sustainable development. Only through legal operations and honest tax payments can companies stand firm and thrive in market competition. For coal enterprises, it is necessary to align with actual production and operation, identify high-risk points in various processes, improve corresponding business processes, strengthen business approval procedures, and enhance tax risk prevention and control.

In specific business operations, emphasis should be placed on retaining written contracts. Attention should be paid to whether the signatory of the contract is an authorized representative of the other party company and whether the stamped contract is genuine. Framework contracts should be avoided. In terms of designing contract terms, clear agreements should be made on tax-related terms such as the type of invoice, items, tax rate,

 invoicing time, tax-bearing entity, and external costs. After completing a transaction, relevant documents and evidence related to the transaction, such as contracts, invoices, transportation documents, and remittance vouchers, should be preserved.

When purchasing coal or receiving transportation services, particular attention should be paid to whether there is any affiliation on the other party's side, and timely investigation should be conducted to identify any inconsistencies in the "three flows" (flow of goods, funds, and information). If there are indications of delivery instructions, advance payments, etc., agreements and explanatory documents from the other party, proving the authenticity of one's own business, should be retained.

If a company enters the tax inspection process due to influences from upstream or downstream, coal enterprises should attach great importance to communication and exchanges with tax authorities, provide detailed information to prove the authenticity of business transactions, and undertake effective risk mitigation. If a case enters a criminal process, the company should actively cooperate with the investigation, provide relevant documents to prove the compliance of its business, actively communicate to prove that it does not have the subjective intent of tax evasion, and, based on relevant provisions of tax law and criminal law, make reasonable statements and defenses to seek a better outcome for the case.

(This article was published on page B3 of "China Taxation News" on April 7, 2023. The author is Liu Tianyong, Director of Hwuason Law Firm and Director of the Financial and Tax Law Professional Committee of the All China Lawyers Association.)