UGANDA ERITREA ETHIOPIA KENYA TANZANIA MALAWI Tax Administration reforms - recent trends and developments Andrew Okello Revenue administration Advisor What is the East AFRITAC? A tripartite undertaking to strengthen capacity in East Africa in the areas of the IMF s expertise An effort to promote closeness and strengthen field presence for effective technical assistance A result-oriented approach and an enhanced governance structure Areas of East AFRITAC Assistance East AFRITAC delivers technical assistance on a grant basis in the following areas: Banking supervision Monetary operations Revenue administration Macroeconomic statistics Public financial reform Macroeconomic analysis 1
Membership and Funding East AFRITAC covers 7 countries in East Africa: Eritrea, Ethiopia, Kenya, Malawi, Rwanda, Tanzania, and Uganda The Center is funded by 15 bi- and multi-lateral donors, two member countries, and the IMF: AfDB, Canada, China PR, Denmark, Finland, France, Germany, Italy, Luxembourg, Norway, Russia, Sweden, Switzerland, The Netherlands, and United Kingdom 25 sub-saharan countries covered by 3 AFRITACs Tax policy and administration Reform agendas full of undertakings that require major funding allocations Tax policy and tax administration are the means by which governments raise revenue to finance spending on public goods and services Tax policy the choice of tax instruments Tax administration the implementation of tax policy Policy change without administrative change is nothing Milka Casanegra, 1992 An efficient tax system will provide the most sustainable source of government funding in the long term Tax revenue performance for selected countries Country Kenya Zambia Malawi Rwanda Tanzania Ethiopia Year 2005/06 2005 2005/06 2006 2005/06 2005/06 Tax-to-GDP ratio 17.7 17.0 15.6 14.1 12.9 12.2 2
Tax administration reform drivers Enhance revenue Modernize administration/improve service Reduce compliance burden Reduce administration costs Facilitate trade and investment Improve integrity A modern tax administration is characterized by An integrated organization with a function-based structure A strong headquarters function Effective businesses processes, based on self assessment Risk-based compliance programs Skilled and professional staff acting with fairness, honesty, and transparency How the structure of tax administration has evolved 3
Development of self-assessment Self-assessment - A system where taxpayers comply with their basic tax obligations without intervention of a tax official Tax officials provide taxpayer with information and education about their obligations Taxpayers complete their return accurately and submit them voluntarily with their payments Failing that, enforcement actions is taken and penalties applied VAT was the impetus Income tax now mostly self-assessed However, while most countries have adopted self-assessment, the practice in reality falls far short Conditions for self assessment Simple and stable tax law Good services to taxpayers Simple filing and payment procedures Effective collection enforcement Selective risk-based audit programs Fairly applied penalties Fair and timely dispute resolution Integration of domestic tax administration Traditional Anglophone influence in the region - split of direct and indirect tax administration RA and VAT missed integration opportunities VAT, income tax, and excise domestic operations have been merged in Kenya, Rwanda, Tanzania, Uganda, Malawi The revenue agencies have established fully integrated domestic tax administrations that are organized around the key functions at the operational and headquarters level Advantages of integrating domestic tax administration: Reduces tax administration and taxpayers compliance costs Allows implementation of a unified, function-based organization Increases effectiveness of tax administration (common registration, collection, and audit functions) Head office/field office functions 4
Integration of domestic tax administration international perspective In early 2007: 122 had an integrated department for all domestic taxes 7 had a special VAT department VAT was administered by customs in 1 country (Israel) Integrated VAT Dept Customs Integration of domestic tax administration Integration of key tax administration functions in a unified agency is a predominant trend Example of integration in the past 10 years: Transfer of collection function to the tax administration Transfer of social contribution collections Transfer of revenue collections from petroleum, mining, forestry resources Merging of direct and indirect tax operations Lesson Integration is key for modernization Efficiency Help reduce taxpayers compliance costs Eliminate duplication and decrease tax administration costs Effectiveness Better taxpayer services More effective collection enforcement More effective audit programs 5
Integration of domestic tax administration key issues Legislative review and development of common tax procedures code Business process review and improvement Integrated tax administration system (ITAS) Change management, training and capacity building Taxpayer segmentation Taxpayers are not homogeneous In the past decade, many tax administrations have moved away from a one-size fits all approach and developed organizational structures on the basis of taxpayer segments Initially in the OECD countries (the Netherlands in 1990, New Zealand in 1994, and more recently Australia, France, and the UK) Several countries in the region have also developed the concept to improve their organization and tax compliance programs (Kenya, Rwanda, Tanzania, and Uganda) Tax administrations categorize their taxpayer population into 4 main categories: large business, medium businesses, small businesses and micro businesses Distribution of taxpayers and revenue Number of... Tax revenue from... Large enterprises 1% 60 70 % Medium-size enterprises 10 20 % 20 30 % Small enterprises 80-90 % 5 % 6
Why the move towards taxpayer segmentation? Developing compliance strategies that take into account risk management concepts Providing services to taxpayers according to their needs (better focus on client needs) Allocating enforcement and audit resources to areas of greatest risks Creation of large taxpayers units (LTU) Large taxpayers units established in all countries, as a first step in adopting a taxpayer segmentation approach Secure 60+ percent of total tax revenue Expected benefits of LTUs Reduce level of non compliance among large taxpayers Provide better services to large taxpayers Use LTU as a pilot to introduce major changes (e.g., integration and self-assessment) Use LTU to secure implementation of major policy reform Signal government s commitment to enforce tax laws to the taxpayer community Centers of excellence??? Functional and integrated organization Simplified procedures New approaches risk analysis, self-assessment Computerization Introduction of new systems in the LTU Merging direct and indirect tax administration: Implementing self assessment procedures: Developing collection system through Banks: Introducing E-filing and payment procedures: Developing an integrated IT system: Egypt, Rwanda, Uganda, Malawi Benin, Egypt, Morocco Cameroun, Kenya, Rwanda, Uganda, Tanzania Morocco, South Africa, Mauritius Algeria, Egypt, Rwanda, Tanzania 7
Revenue contribution of large taxpayers - 2006 Country Kenya Number of large taxpayers 812 Percentage of total taxpayer population 1.3 Percentage of revenue contribution 72 Number of staff 147 Rwanda 286 1.7 76 64 Tanzania 370 2.0 70 80 Uganda 474 3.3 65 58 Creation of medium taxpayers units Definition Early steps taken in identifying taxpayers in the next most important group by revenue potential i.e. medium-size enterprises Some countries are developing dedicated offices and/or programs for the administration of medium-size taxpayers However, management of medium taxpayers still weak and concept of medium tax offices not yet developed Critical focal area for the medium term Administration of small and micro taxpayers The very large number of small and micro-businesses pose many challenges for tax administrations Is a key sector that must be tapped if tax base is to be expanded Simplified tax administration regime for small businesses Eritrea, Ethiopia, Rwanda, Uganda, Tanzania, Kenya Use of withholding systems Block management system in Tanzania Issues design, resource allocation, cost... 8
Focal areas Tax administration reform has taken hold in the region Reforms have been steady, sometimes based on international experience Not effective without system and procedural modernization, integration, and segmentation Challenge To increase the tax-to-gdp ratio while reducing cost of collection, and improving services and support to taxpayers Requires achieving higher levels of voluntary compliance of taxpayers Development of compliance management programs that are structured around taxpayer segments the focal area Other issues Taxation of small business - a challenge Other emerging issues - transfer to RAs of the collection responsibility of other government levies such as social contributions, natural resource taxation and accountability issues Thank you 9
Introduction to Compliance Risk Management Kevin Woodley Tax Administration Advisor IMF Compliance Risk Management : Managing and Improving Tax Compliance Workshop Nairobi, Kenya November 3-7, 2008 Introduction to Compliance Risk Management Managing Compliance Taxpayer Compliance Tailored Approach to Compliance Strategies Functions and Business Processes Why Risk Management? Voluntary Compliance and Risk Risk Management Processes Assessing Risks Range of Compliance Activities Managing Compliance We cannot control every individual taxpayer To maximize compliance we need to encourage taxpayers to comply voluntarily. Provide taxpayers with everything necessary to enable compliance What does the taxpayer need to comply? How do we make it easy to comply? If taxpayer chooses not to comply Enforcement action Appropriate penalties and sanction 10
Taxpayer Compliance Need tailored responses to different taxpayers and taxpayer groups based on compliance risk levels, histories and behaviour. Encourage voluntary compliance within a cooperative and participative framework Range of products, techniques, & methods, ranging from support and assistance through to targeted enforcement measures, such as audits, investigations, sanctions and prosecutions. Tailored Approach to Compliance Strategies Products / Strategies Prosecutions, sanctions, investigations. Taxpayer management, monitoring, profiling, reviews, audits. EVASION &FRAUD Active Enforcement Assisted self regulation Attitude Disengagement Resisting Resigned Consultative forums, education, rulings, advice. Self regulation Cooperation Willing Create downward pressure COOPERATION & COMPLIANCE 32 Functions and Business Processes EDUCATION & ASSISTANCE REGISTRATION PAYMENT & RETURNS PROCESSING All functions interconnected and have flow through impact on each other and overall compliance. AUDIT & OTHER VERIFICATION COLLECTION & FILING ENFORCEMENT DISPUTES/ APPEALS 33 11
Why Risk Management? Cannot comprehensively audit everyone and every issue (even in LTO) Government expects administration to: Maximize revenue Minimize costs Administrations costs Taxpayer compliance costs. Build and maintain community confidence 34 Why Risk Management? Assists in planning - determining objectives, establishing strategies & prioritizing activities Provides focus on compliance impacts of a range of issues and strategies Minimizes non-compliance Provides structure and a basis of governance and accountability = integrity. 35 Voluntary Compliance and Risk Objective Maximize Voluntary Compliance Policies Strategies Procedures Risk Driven Program Cannot audit every taxpayer comprehensively Maximize return on resource investment Minimize costs of compliance Select audit targets taxpayers & issues Risk = Likelihood + Consequence 36 12
Risk Management Processes Understand environment, taxpayer behaviour, and the law. Identify the risks. Assess and prioritise the risks. Plan strategies. Implement strategies. Monitor, review, evaluate and improve. 37 Risk Management Processes Adopting processes: Links strategies to risks. Accounts for changing circumstances. Builds administrators intelligence. Provides opportunities for leverage. Strengthens links with business plans. Demonstrates efficient use of resources. Focuses on meeting strategic goals. Provides continuous improvement loop 38 Assessing Risks Analysis of external and internal data to identify high risk taxpayers, issues and industries that impact on revenue, system integrity and community confidence. Top Down, e.g. macro economic analysis Bottom Up, e.g. case based Risk = Likelihood + Consequence 39 13
Factors in Assessing Risk Business and transactions Globalization Attitude Systems of compliance Perceptions of stakeholders Materiality Application of the law 40 Range of Compliance Activities Education programs Taxpayer relationship management Public / Private rulings Profiling / monitoring Collections and Filing enforcement Range of audit intervention Record keeping inspections Specific reviews systems, interpretative Refund verification Single year / multiple year Single issue / multiple issue Single tax / multiple tax Comprehensive audits Industry project or taxpayer specific 41 Message Manage Compliance rather than Supervise Processes Make it as easy as possible to comply Deter, detect, and address non compliance Impose appropriate penalties for non compliance 42 14
UGANDA ERITREA ETHIOPIA KENYA TANZANIA MALAWI Developing a compliance strategy Andrew Okello OUTLINE 1. The self assessment business model 2. The compliance model 3. Risk management 4. Types of audit 5. Effectiveness measures 6. Penalties and interest regime 7. Compliance plan 8. Common errors in implementing a tax compliance program 9. Use of IT tools to support audit The self assessment business model 15
Self assessment business model A Self assessment system relies on most taxpayers voluntarily complying with their basic obligations without the intervention of a tax officer: Register for tax Keep proper records File complete and accurate returns Pay tax on time Self assessment business model There are 3 key strategies that will optimize voluntary compliance: Help taxpayers and their advisors understand their obligations and entitlements Make it as easy and cheap as possible for taxpayers to comply Verify compliance using a risk management approach Self assessment business model Help taxpayers and their advisors understand their obligations and entitlements (taxpayers can t comply if they don t know): Publish guidelines and technical interpretations in plain language (paper, web etc) Provide easily accessible taxpayer services (enquiries; rulings etc) Engage in meaningful liaison arrangements with professional and industry associations Targeted education campaigns tailored to specific taxpayer groups (industries; new businesses etc) businesses) 16
Self assessment business model Make it as easy and cheap as possible for taxpayers to comply (taxpayers won t comply if it is too hard or too expensive): Simple policy Clear law and regulations Simple procedures (user-based design) Easy access to services (through preferred channels) Accessible dispute resolution mechanisms independent of original decision maker Self assessment business model Verify compliance using a risk management approach: Taxpayers must perceive real risk of detection if they choose not to comply Broader taxpayer community confidence in the tax administration must be maintained But no tax administration is funded to deal with all risks in the system at one time Self assessment business model Verification activities must therefore be: Targeted to the most severe risks Effective in dealing with the identified mischief and must promote compliance (actual audit revenue accounts for only a small fraction of total tax collections) Visible to the general community of taxpayers and regarded by them as fair and reasonable 17
The Compliance Model Compliance model The challenge for the administration is to get the right balance in its compliance responses: Audit is not the best response to ignorance of the law Education is not the best response to deliberate evasion Taxpayer penalties are not the best response to missed obligations where the fault lies in poor administrative policies and procedures Compliance model So, how do you determine the right intervention or mix of interventions? The ATO has developed a Compliance Model to provide a structured way of helping us understand the factors that influence different compliance behaviour This enables us to choose the most appropriate intervention for the circumstances 18
Compliance model The compliance model recognizes that taxpayer compliance behaviour is affected by many circumstances which influence whether they choose to meet their obligations It reflects a continuum of taxpayer attitudes to compliance from willing to comply to hard core evaders; and It aligns the different sorts of interventions and support mechanisms that might be applied to different compliance scenarios Compliance model The Compliance Model - BISEP Business profile Psychological Risk Fear Trust Values Fairness/equity Opportunity to evade Economic Inflation Interest rates Tax system Government policies International influences Structure, sole trader partnership Business activities Financial data Business age Sociological Norms Reciprocity Age Gender Educational level Ethnic background Industry Industry definition Region Size, segment, participants Profit margins Cost structures Industry regulation Industry issues: competition, seasonal factors 19
Compliance model The compliance model aims for a more responsive form of regulation than traditional enforcement programs It is based on the proposition that effective enforcement requires a dynamic application of less to more severe sanctions and regulatory interventions It advocates a deeper understanding of motivations, circumstances and characteristics of taxpayers so that enforcement can be tailored to promote better compliance Risk Management Risk management Regardless of how an administration is organized, a market segmentation approach is the first step in risk identification This enables you to slice and dice the taxpayer base into more manageable chunks Most administrations apply an initial segmentation based on taxpayer size 20
Risk management Some common market segments: Large business relatively few very large taxpayers account for largest share of tax revenue well organized and advised sophisticated computer systems often public companies and/or members of international groups relatively stable taxpayer population Risk management Medium business larger number of businesses of significant size higher proportion of ownership more entrepreneurial in attitude to tax compliance less reliable record keeping systems account for significant share of tax revenue Risk management Small business very large numbers of small entities mainly private ownership high churn in taxpayer population high number of new to business poor record keeping practices financially insecure can t afford professional advice account for only small share of tax revenue 21
Risk management Government includes government departments and government enterprises constrained by administrative budgets often don t regard tax obligations seriously often in competition with private sector often not subject to same penalty regime as private sector Risk management Some risks are endemic in particular markets: Large business international dealings; transfer pricing; exploitation of gray areas of the law; aggressive accounting practices to minimize tax Medium business high wealth individuals control significant assets; wealth extraction practices; phoenix operations; undisclosed transactions; incorrect refunds Small business record keeping; filing; payment; informal economy; errors; incorrect refunds; missing traders Government poor governance around tax obligations; lack of effective sanctions; lack of political will Risk management Market segments may be further disaggregated on basis of entity type, industry, region, age or life cycle etc to facilitate a sharper analysis of risk: Industry: Banking and finance; construction, mining; export; import; manufacturing; retailing etc Region: State or province basis; urban; remote; border area etc Life cycle: New to business; mature business; change in entity type; change in ownership etc 22
Risk management Risk identification process should bring together multiple sources of intelligence: Experience of other administrations Insights obtained from local audit program Analysis of frequently asked questions and rulings Analysis of information in returns and registration applications etc Data from external agencies (Customs, other regulatory agencies etc) Intelligence from other jurisdictions, and from professional and industry liaison groups Community based information Risk management Identified risks must then be assessed and prioritised in a structured manner using a likelihood and consequence matrix Consequence should not be measured only on revenue at risk but should include measures such as the impact on the integrity of the system, and the impact on the reputation of the government The aim is to achieve a reasonable balance of risk management across all market segments with all severe risks under active management Formal risk assessment model Risk Matrix A risk matrix ensures a consistent approach to the overall assessment of risk and effective alignment of compliance strategies to risk levels. Consequence /Likelihood Insignificant Minor Moderate Major Severe Remote Negligible Negligible Low Low Significant Unlikely Negligible Low Low Significant High Possible Negligible Low Significant High High Likely Low Significant High High Extreme Almost Certain Low Significant High Extreme Extreme Use to rate risks from multiple perspectives 23
Risk management Priority risks must then be analysed using the compliance model to identify the drivers behind the attitudes and behaviours and to determine the appropriate mix of interventions A critical element of the strategy development is identifying the specific target population The intent is to target those who are not complying for attention while being as least intrusive as possible for complying taxpayers Visibility of compliance verification Verification activities low Build risk profiles of groups of taxpayers Apply automated data matching to specific taxpayers most Intensity and visibility of verification activities Review high-risk cases Audit confirmed risk cases Number of taxpayers affected high few Types of audit 24
Types of audit Where an audit verification is determined as the appropriate response, consideration should be given to the full range of audit types to optimize visibility and coverage Full audits should be conducted in only limited circumstances and restricted to large and medium taxpayers or cases or suspected fraud or evasion Types of audit Registration checks mainly for new businesses, particularly small and medium-size ones. These are unannounced visits to the premises of a business to ensure that it has registered with the tax administration and to confirm that: the taxpayer has a clear understanding of its obligations appropriate records are being kept proper invoices are being prepared and issued This type of audit should not require more than a half day. Types of audit Desk audits - these are made annually (usually after the filing of the income tax return) and are intended to detect mathematical errors as well as other anomalies in the returns which would result in the assessment of additional tax liabilities. Desk audits are primarily based on: (a) a review of the income tax and sales tax/vat returns (including a review of basic ratios such as profit margin, cash-flow, cost of personnel, and the comparison with ratios for previous periods and ratios for industry averages); and (b) cross-checking of information included in the taxpayer files (particularly income tax, sales/vat, and customs information). (Note: these types of checks are very suitable for automation) 25
Types of audit VAT refund audits a pre-refund audit should be undertaken for all first refund claims; audits of further claims should be carried out selectively (based on risk criteria). Refund audits should focus on verifying the refund for the period covered by the claim. Single issue audits are directed at verifying items for which errors have been detected in returns (such as an unusual credit claim). An issue-based audit should focus on no more than one or two tax returns, and should not last more than two-three days. Types of audit Comprehensive audits all cases where serious under reporting or evasion have been detected during a registration check, desk verification, or an issue-oriented audit, should be subject to a comprehensive audit. Comprehensive audits entail a full examination of all tax liabilities (sales tax/vat, income tax, and excises) over a period of several years, up to the limit provided for in the law. They usually take from 30 90 days (for medium and large enterprises) to 5 10 days (for small enterprises). Types of audit Tax fraud investigations - these involve the most serious cases of non-compliance which may have criminal implications. Fraud investigations require searching of premises, seizure of evidence, testimony from witnesses, etc. and are normally carried out by specialized investigators in accordance with criminal law. Fraud investigators may be assigned to the audit department or a separate department within the tax administration for criminal tax offences. 26
DESIRED OUTCOME INPUT ACTIVITIES OUTPUT EFFICIENCY EFFECTIVENESS ACTUAL OUTCOME (EFFECT/IMPACT) Effectiveness Measures Effectiveness measures Another key element of strategy development is the identification of the indicators of success Most administrations apply a range of efficiency indicators (e.g., number of cases per auditor, number of days per audit, strike rate, return on investment etc) Some include quality indicators (e.g., review of audit against standard procedures; review of technical decisions taken in course of audit; review of application of penalty remission guidelines) However, few have developed meaningful effectiveness indicators (i.e., has the intervention improved ongoing compliance?) What is effectiveness? Program logic: Effectiveness is the extent to which the actual outcomes of an activity achieve the stated desired objectives EFFECTIVENESS DESIRED OUTCOMES INPUTS ACTIVITIES OUTPUTS (QUALITY/ QUANTITY) ACTUAL OUTCOMES (EFFECT/IMPACT) EFFICIENCY 27
Effectiveness measures Effectiveness measures must be determined as an integral part of strategy development not as an afterthought at the end of the process If you don t know why you are embarking on a strategy and what impact you expect to have on compliance you should not be proceeding A process model for measuring compliance effectiveness Phase 1 ARTICULATE RISK ALIGN WITH BUSINESS INTENT Phase 2 DEFINE OUTCOMES DEVELOP STRATEGIES Phase 3 DESIGN INDICATORS Phase 4 VALIDATE INDICATORS DETERMINE EXTENT OF EFFECTIVENESS facilitated workshop environment supported by data experts How does our Business Intent translate into the context you re working in? What outcomes are you seeking to achieve by addressing the risk? What potential effectiveness indicators (proxy measures) would demonstrate achieving desired outcomes? Identify potential indicators that are robust and measurable What are the behaviours and drivers of the risk? What is the compliance What strategies will you risk to achieving the use to deliver these intent? outcomes? How do you define success in terms of more specific goals? Will potential indicators meet reporting requirements? What range of factors may affect the indicators? Convert data into information for decision makers Construct selected indicators and determine appropriate analytical tools Who s involved in the risk? Who are your target groups? What measurement comparisons will be used? Interpret indicators LEVEL OF DETAIL CHECKPOINTS FOR ITERATIONS CHECKPOINTS FOR ITERATIONS CHECKPOINTS FOR ITERATIONS CHECKPOINTS Ensure the risk aligns to our Business Intent Ensure the desired outcome aligns to our Business Ensure each specific goal can be measured and has a Ensure indicators are valid and provide a balanced Ensure the risk adequately reflects behaviours and Intent and the risk you have identified corresponding indicator (or range of indicators) picture of performance drivers Ensure the overall desired outcome is adequately Ensure potential indicators are aligned with our Ensure data exists, is available, or can be acquired at a Ensure risk is refined, concise and not open to covered by your specific goals Business Intent and the desired outcomes reasonable cost interpretation Ensure strategies target participants of the risk and Ensure that both qualitative and quantitative drivers of the behaviour information is used Ensure the strategy addresses unintended Ensure we can explain why actual outcomes do not Compliance Management consequencesin Tax Administration Workshop, Nairobi, Kenya, November align 3-7, with desired 2008 outcomes Penalties and interest regime 28
Penalties and interest Penalties and interest serve two different functions: penalties are meant to discourage non-compliance interest is intended to protect the real value of government revenue. Penalties for underpayment should be imposed on a graduating scale depending on the circumstances of the underpayment and the compliance history of the taxpayer Penalties and interest This is usually achieved by imposing a standard penalty under the law set at a punitive rate, with provision for remission by the authorities Penalties should be applied consistently according to published remission guidelines and should not be used to coerce taxpayers to agree to audit based assessments Penalties and interest Once a debt has been established, interest should accrue at a rate marginally above market rates to deter use of the tax authority as a financier Interest should apply to both unpaid taxes and associated penalties, and is regularly compounded There should be no maximum level to which interest can accrue since the purpose of interest is to protect the real value of government revenue. 29
Compliance plan Compliance plan The whole process from risk identification to strategy implementation should be documented This forms the basis of your Compliance Plan and provides context for your front line delivery staff It also enables you to respond to questions or criticism from commentators on how you are deploying your scarce resources Compliance plan Your Compliance Plan should set out: The risks you have identified for intervention The nature and timing of the planned interventions The resources allocated to particular tasks Efficiency indicators Quality indicators Effectiveness indicators 30
Common errors in implementing a tax compliance program Common errors Failure to understand the nature of a self assessment system and what is required to support voluntary compliance (administrative assessment -v- self assessment) Failure to understand the different compliance management challenges of a broad accounts based tax compared with a narrow regime of customs tariffs and excises where physical control has traditionally been exercised Common errors Failure to put effective compliance programs in place early in the implementation effort (prior to the commencement date) Failure to adequately train and support audit staff (gaps around forensic accounting skills; procedures manuals, technical interpretation support and issues escalation processes) 31
Common errors Failure to develop proper plans and governance (audit plans, performance measures and performance monitoring, effective anti-corruption arrangements) Failure to properly allocate resources to compliance (often linked to failure of registrations project to properly identify and register taxpayer base early enough) Failure of government to properly support tax administration in its compliance efforts due to trader political influence IT support available for audit activities IT support Data matching and data mining technology to identify risks, assist in risk quantification, and improve case selection Automated risk rating engines for risk assessing registrations and returns data Case management systems to improve management and quality of audit casework 32
UGANDA ERITREA ETHIOPIA KENYA TANZANIA MALAWI IT support Lap-top based computer-assisted verification programs (e.g., IDEA) Spreadsheet analysis tools Audit programs embedded in commercial offthe-shelf accounting software packages Standard business reporting initiatives Thank you The Compliance Risk Management Process Kevin Woodley Tax Administration Advisor IMF Compliance Risk Management : Managing and Improving Tax Compliance Workshop Nairobi, Kenya November 3-7, 2008 33
The Compliance Risk Management Process Introduction Establishing the Context Identifying Risks Assessing and Prioritizing Risks Analysing Compliance Behaviour Determining the Treatment Strategies Applying the Strategies Evaluating the Outcomes Introduction Primary role of a revenue authority is to collect tax, in accordance with the law, in such a manner that will sustain confidence in the tax system and its administration. Revenue authorities have a role in ensuring that taxpayers understand their obligations under the law. Introduction There are four broad categories of taxpayer obligation: Registration in the system, Timely filing of information, Reporting of complete and accurate information, Payment of tax obligations on time. All revenue authorities have a finite level of resources A structured and systematic process is required 34
The Compliance Risk Management Process Operating Context Identify Risks Assess and prioritize risks Monitor performance against plan Analyse compliance behaviour (causes, options for treatment) Determine treatment strategies Evaluate compliance outcomes Registration Filing Reporting Payment Compliance Management Plan in Tax and Administration implement Workshop, strategies Nairobi, Kenya, November 3-7, 2008 Establishing the Context Compliance risks can only be determined in the light of a tax authority s broader objectives Compliance risk management is a continuous process demanding awareness and proactive action The external environment needs to be monitored Establishing the Context Key internal capabilities impact upon risks associated with tax administration: Organizational culture, Organizational structure, Information technology and business systems, Staff and business capabilities 35
Establishing the Context Key products A statement of the environmental operating context A statement of organizational priorities from senior revenue authority executives Identifying Risks Source and Impact of risks form two dimensions to the risk identification phase Risk identification can be: Top down (macro economic /strategic analysis) Bottom up (case-based /operational) Segmentation of taxpayer base is a key element Identifying Risks There must be close alignment of the strategic and operational compliance risk management processes Not an either/or concept it is a continuum Relevant indicators Macro level relationship between compliance and an external benchmark Public opinion surveys and research results 36
Identifying Risks Measurement criteria of the effectiveness of the risk identification process need to be developed at the outset These can include: Random audits Analysis of actual audit results Analysis of anomalies Good internal communication Identifying Risks Key product A comprehensive register of all risks Assessing and Prioritizing Risks Revenue authorities need a mechanism to objectively assess the relative size of compliance risks Risk = Likelihood + Consequence Prioritizing risks requires a relative weighting based on likelihood and consequence 37
Assessing and Prioritizing Risks Sample Compliance Risk Rating Matrix Consequence /Likelihood Insignificant Minor Moderate Major Severe Remote Negligible Negligible Low Low Significant Unlikely Negligible Low Low Significant High Possible Negligible Low Significant High High Likely Low Significant High High Extreme Almost Certain Low Significant High Extreme Extreme Assessing and Prioritizing Risks Sufficient, accurate and timely data is essential Utilize data analysis tools: Data matching Data mining Case review Assessing and Prioritizing Risks Key products A register of risks that have been quantified and prioritized according to the risk likelihood and consequence processes Documented organizational compliance priorities that form the compliance programme for the year of effect 38
Analyzing Compliance Behaviour What influences taxpayer behaviour? Economic factors Financial burden, Cost of compliance, Disincentives, Incentives Behavioural factors Individual differences, Perceived inequity, Perception of minimal risk, Risk taking Analyzing Compliance Behaviour Main reasons for non-compliant behaviour Equity Opportunity for non-compliance Individual differences Social norms Dissatisfaction with revenue authorities Analyzing Compliance Behaviour What drives specific behavior? Understanding taxpayer compliance behaviour WHAT is occurring? WHO is doing it? WHY are they doing it? e.g. Under reporting of income Characteristics of e.g. Lack of knowledge Over claiming of expenses the taxpayer (group) Cost of compliance Duplicate books Perceived inequality Dishonesty 39
Analyzing Compliance Behaviour Look beyond symptoms to causes Recognize the effect of the tax system itself Legislation Administration Analysing Compliance Behaviour Key products A suite of treatment strategies that collectively address non-compliant behaviors at all levels of the compliance model Products and tools to support the treatment strategies Determining the Treatment Strategies Develop a balanced programme based on sound principles Build community confidence: Act with fairness and equity, Pursue a flexible, customised approach 40
Tailored Approach to Compliance Strategies Products / Strategies EVASION &FRAUD Attitude Prosecutions, sanctions, investigations. Taxpayer management, monitoring, profiling, reviews, audits. Active Enforcement Assisted self regulation Disengagement Resisting Resigned Consultative forums, education, rulings, advice. Self regulation Cooperation Willing Create downward pressure COOPERATION & COMPLIANCE 121 Determining the Treatment Strategies Improving compliance Make taxpayers obligations clear Make it easy to comply Exercise sanctions when appropriate Make powers and activity visible Determining the Treatment Strategies Seek additional leverage Bolster integrity of TIN, Ensure effective withholding and reporting systems Promote effective record-keeping Build community partnerships 41
Determining the Treatment Strategies Enforcement escalation Customised letters Walk-in visits Income/sales reviews Comprehensive audits Serious evasion audits Prosecution Determining the Treatment Strategies Key products A compliance programme covering the current planning period Products and tools tailored specifically to clients to be targeted through the compliance programme Applying the Strategies Effective application of any specific compliance treatment strategy depends on: Resources Maximize human and other resources Design Collaborative design can contribute significantly to ultimate success Execution Must be fair, impartial and consistent taking into account taxpayers individual circumstances 42
Key products Applying the Strategies Administrative business processes describing the application of the compliance strategies and the deliverables to be achieved Industry consultative forums Staff trained to carry out the compliance strategies Project plan to guide implementation Evaluating the Outcomes Determine evaluation criteria at the time the treatment strategy is being developed Developing an evaluation framework: Target (what behaviour are we treating?) registration, filing, reporting, payment of liability Objectives (what are we intending to achieve?) direct impacts related impacts impacts over time cont d Evaluating the Outcomes Developing an evaluation framework (cont d): Methodology (what broad approaches will we take?) audit based studies statistical techniques trend or time series analysis qualitative techniques surveys, interviews, observation Measures (what kind of indicators can be used?) macro indicators non-compliance indicators public opinion indicators programme impact indicators Data (what are the measurements based on?) data needs to be accurate and derived from many sources 43
Evaluating the Outcomes Carrying out the evaluation; capture of pre and post intervention data letters designed to influence the compliance behavior of a specific group Recognising the difficulties of evaluating compliance factors beyond the control of the revenue authority random base audits can be costly Evaluating the Outcomes Key products Evaluation methodology to assess the impact and identify what has been learnt Organizational governance reports detailing efforts and progress made against the compliance programme Reports of residual risk following compliance strategy intervention Conclusion Encourage voluntary compliance Self assessment Manage risk Follow a consistent process Identify and assess risk Understand compliance behaviour Choose and apply treatment strategies Evaluate the outcomes 44
TAXPAYER AUDIT AND INVESTIGATION IN THE CONTEXT OF THE COMPLIANCE MODEL by David Sserebe Presentation Outline Definitions Compliance risks Audit treatment Signals that an investigation may be necessary Sources of information about non compliance Conducting the investigation Post investigation activities Conclusion DEFINITIONS 1. Large Businesses contributing 70+ percent of domestic tax revenue and in the normal tax regime 2. Medium Businesses above VAT threshold, or voluntarily registered for VAT, or contributing about 25 percent of domestic tax revenue and in the normal tax regime 3. Small Businesses below the VAT threshold, in the presumptive tax regime and contributing about 4-5 percent of domestic tax revenue 4. Micro Businesses contributing not more than 1 percent of domestic tax revenue and in the presumptive tax regime 45
Compliance Risks TAX REVENUE RISK 1. Large Businesses Millions to billions of Shillings, Francs, Kwacha 2. Medium Businesses Hundreds of thousands to millions of Shillings, Francs, Kwacha 3. Small Businesses Tens to hundreds of thousands of Shillings, Francs, Kwacha 4. Micro Businesses Thousands of Shillings, Francs, Kwacha RISKS (Areas of non compliance) - 1 LARGE BUSINESSES Tax treated as an expense to be minimised Complex and dynamic structures Exotic financial products Non-arms length transactions Aggressive interpretation of tax laws 46
RISKS (Areas of non compliance) - 2 MEDIUM SIZE BUSINESSES Understating sales Overstating purchases and expenses Falsifying documents Creative accounting Diversion of income to wealthy owners RISKS (Areas of non compliance) - 3 SMALL SIZE BUSINESSES Non registration Non / late returning Inaccurate / incomplete returns Late or no payments Fraud (hiding some business activities RISKS (Areas of non compliance) - 4 MICRO BUSINESSES Receiving cash Not withholding taxes Poor or no records Not registering Not filing 47
RISKS - Probability of Non- Registration LARGE BUSINESSES Low (due to investor / regulators requirements) MEDIUM BUSINESSES Low (due to visibility in the business world) SMALL BUSINESSES Relatively high( due largely private or limited ownership) MICRO BUSINESSES High (due to invisibility to tax administrators and other regulators) RISKS - Quality Of Record Keeping and Complexity of Transactions - 1 LARGE BUSINESSES Record keeping : Comprehensive (due to financiers, regulators and investors requirements) Transactions: Extremely complex (due to volumes and linkages with other businesses MEDIUM BUSINESSES Record keeping: Good quality Transactions: Large volumes and value RISKS - Quality Of Record Keeping and Complexity of Transactions - 2 SMALL BUSINESSES Record keeping: Erratic quality Transactions: Can be complicated by being migratory or seasonal 48
RISKS - Quality Of Record Keeping and Complexity of Transactions - 3 MICRO BUSINESSES Record keeping: Poor quality where they exist Transactions: Simple and usually completed in one or few dealings RECAP: Types of Audit leading to Investigations TYPES OF AUDIT - 1 Registration checks. A quick check on businesses to establish that they are correctly registered for all their taxpaying obligations. Information from the business license offices, customs, other third parties or other audit activities may alert the administration that a check should be undertaken. Advisory audits. A visit to newly established businesses advising them of their obligations in terms tax types, filing of declarations, payment of amounts due, records to be maintained and likelihood of audit if considered to be a risk and sanctions that might apply. Very appropriate when introducing new laws. 49
Types Of Audit -2 Record keeping audits. A check on enterprises that may have a reputation of not keeping adequate records. The visit would point out the obligations of the taxpayer in regard to the keeping of records and the consequences of failing to do so. These audits should be followed up and penalties need to be imposed if the taxpayer continues to disregard record keeping requirements. Desk audits. Basic checks from the tax office. Conducted in relation to specific issue audits of a small enterprise or employee when the auditor is confident that all necessary information can be ascertained by conducting the examination in the office. Also be used as a preliminary examination of declarations by analyzing ratios and cross checking information to determine if further investigation is warranted Types Of Audit - 3 Single issue audits. Focusing on a single tax type or a single period. For example, only examining whether the taxpayer has met their obligations in respect of employment withholding, sales tax, excise or income tax or for a one month period. VAT refund audits. Verifying the taxpayers right to a refund prior to processing the refund. Usually undertaken for first refund claims as well as where the refund claim varies significantly from established patterns and trends. Types of Audit - 4 Audit projects. Audits can be organized as a separate project for specific groups of taxpayers. Audit projects may cover an industry (e.g., construction) or a line of business (e.g., retail) and/ or certain items from the declaration or profit and loss account (e.g., depreciation). Consist of specific checks and are used to address a particular risk or to establish the degree of non-compliance in a particular sector. Comprehensive (or full) audits. All tax obligations over a number of tax periods and are time consuming. Typically referred for more extensive examination when discrepancies are uncovered during more routine single issue audits. Comprehensive audits should only be applied to taxpayers where there is evidence of under reporting that will impact across taxes. 50
Types of Audit: Fraud Investigations - 5 Fraud Investigations. Involve the most serious cases of non compliance that have criminal implications. Require special skills in investigation and evidentiary requirements as they often involve seizure of records, taking testimonies from witnesses and preparing briefs for courts. Audit Treatment AUDIT TREATMENT - 1 LARGE BUSINESSES Tailored Teams comprising sector / industry specialists Computer assisted and international issues MEDIUM BUSINESSES Single issue Sampling and computer assisted 51
Audit Treatment - 2 SMALL BUSINESSES Hybrid Sampling Computer assisted where warranted MICRO BUSINESSES Selective Use of educative approach Penalties to engender compliance in the wider community Causes / Cases for Fraud Investigations When does an audit turn into an investigation? Fraud a deliberate misrepresentation which causes another person/entity to suffer damages, usually monetary losses with criminal intent CAUSES / CASES FOR AUDIT or INVESTIGATIONS - 1 LARGE BUSINESSES Aggressive interpretation of the law / aggressive tax planning (testing the boundaries) Deliberate omissions of transactions / falsifying records Non arms-length transactions Persistent returning of losses Heavy provisioning and interest accounts Unclear loans and movements of assets ownership and values 52
Causes / Cases for Audit or Investigations -2 LARGE BUSINESSES Inappropriate refund claims Complex / multinational accounting records MEDIUM BUSINESSES Non registration of some business activities Faulty returns (persistent) Questionable payments Questionable accounting records / more than one set of records Causes / Cases for Audit or Investigations -3 SMALL BUSINESSES Non cooperation with or obstruction of Revenue Agency staff Apparently unfunded acquisition of assets Association with suspect traders, accountants or solicitors Existence of front companies Tax paid not commensurate with wealth Causes / Cases for Audit or Investigations -4 MICRO BUSINESSES Non registration No tax return accompanying tax payment None or erratic payment No accounting records Criminal, smuggling activities and personal fraud cases Unexplained high lifestyle 53
Causes / Cases for Audit or Investigations - 5 MICRO BUSINESSES cont/d Shifting TINs Dealing with known / suspected defaulters The type of business activity Multiple trading names Information Sources INFORMATION SOURCES - 1 LARGE BUSINESSES Macro economic analysis and statistical modelling Revenue Agency initiatives Cross-border consultations Liaison with other statutory / regulatory bodies Off shore investment havens / anti money laundering initiatives The internet and the taxpayer s website 54
Information Sources - 2 MEDIUM BUSINESSES Within the Revenue Agency Comparisons with other traders data Competitors Insider whistle blowers The Commercial Courts The media Information Sources - 3 SMALL BUSINESSES Street walks Local authorities Utilities suppliers Trade fairs and exhibitions Voluntary inquiries by the trader at the Revenue Agency Information Sources - 4 MICRO BUSINESSES Street walks Disgruntled competitors / employees Jilted spouses / lovers Law enforcement agencies and courts Testimony from witnesses / collaborators 55
Information Gathering Methodology INFORMATION GATHERING METHODOLOGY - 1 LARGE BUSINESSES Comprehensive information as the company may later contest the investigation IT specialists on hand to effectively mine the data Adequate mass storage devices / space Search warrants Information Gathering Methodology -2 MEDIUM BUSINESSES Focused on the area of concern Select representative sample Capture aspects not known about the trader before (e.g. trading outlets and business lines) SMALL AND MICRO BUSINESSES Rapid action to curtail migration / mutation Simple files for ease of taxpayer education As much information as possible to enable registration or completion thereof 56
Information Analysis INFORMATION ANALYSIS - 1 LARGE BUSINESSES Trend analysis to detect when the evasion effort was launched Ratio analysis to detect departure from the norm (sector and trader) Year end and prior year adjustments Creative use of IFRS or local accounting standards Information Analysis - 2 LARGE BUSINESSES Provision for unrealized items Exploitation of Revenue Agency Practice Notes Porous tax concessions Borderline cases / items 57
Information Analysis - 3 MEDIUM BUSINESSES Trends and ratios for the trader (year on year) in comparison to others in the same business activity / area /size Obtain the source documents and recalculate the particular item(s) under investigation Crosscheck the accountant s (tax consultant / agent) working papers Review year end and prior year adjustments Information Analysis - 4 SMALL AND MICRO BUSINESSES Reconstruction of incomplete records Extrapolation of available information Interview the trader extensively to obtain hints on what was not recorded at all Use informant s information Audit / Investigation Team Competencies 58
AUDIT / INVESTIGATION TEAM COMPETENCIES - 1 LARGE BUSINESSES Highly skilled / high profile individuals Experienced Specialist skills An interest in research Ability to see the larger picture to derive interrelationships and connections Outsource where internal gaps exist Negotiating skills Report writing (and communication) Audit / Investigation Team Competencies - 2 MEDIUM BUSINESSES Experienced and knowledgeable in tax, law and accounting Risk identification abilities Specialist skills in particular tax types and business operations Imagination and ability to identify gaps and what is significant Report writing (and communications skills) Audit / Investigation Team Competencies - 3 SMALL AND MICRO BUSINESSES Tax and accounting knowledge in reconstructing incomplete records Street walkers Imagination and ability to perceive and report risks and facts Energy and perseverance Interviewing skills Experienced supervisors 59
Executing the Audit EXECUTING THE AUDIT - 1 LARGE BUSINESSES Preliminary activities (extremely involving and meticulous) Appointment with taxpayer (may be several) Request for needed information and persons to deal with Indicate / request for taxpayer s resources that will be used during the audit Draw up the audit plan / program (scoping) Document and index all documents Understand the accounting package / systems Right the first time pays! Stick to the timeframe (as far as is possible) Look out for diversionary / threatening behaviour Executing the Audit - 2 MEDIUM BUSINESSES Focused and involved preliminary activities (planning) Appointment(s) and introductory interview(s) Identify the information and key staff required from the taxpayer May need search and seizure warrants Document all proceedings with indexing and cross referencing Endeavour to stick to the time frame 60
Executing the Audit - 3 SMALL AND MICRO BUSINESSES Pre-audit activities ; may be modest once a target is identified SAR/IR/ISQ and Search Warrant(s) Audit plan (objective and scope) Appointment on short or no notice Comprehensive Working papers Capture educative points for the taxpayer (to assist him regularise his tax affairs) The Audit / Investigations File and Report THE AUDIT/INVESTIGATIONS FILE AND REPORT - 1 Taxpayer s name, address, key contacts Associated companies (for large and small/medium businesses) local and abroad The taxpayer s sector / industry Aspects of the trader s business not previously known by the Revenue Agency Tax heads / activities investigated Period covered by the audit 61
The Audit / Investigations File and Report - 2 Authority to audit/investigate Audit plan and scope The audit / investigation team The sections of the law violated Working papers Record of taxpayer interviews All correspondence (to taxpayer and 3 rd parties) The Audit / Investigations File and Report - 3 Audit/investigations methodology (including any hypothesis adopted) Observations about the general tax health of the taxpayer Findings and taxpayer contentions plus records of reconciliation proceedings The audit/investigations Report (summary of the file) Recommended further action, including prosecution and handover process to prosecutors. Post Audit / Investigation Activities 62
POST AUDIT / INVESTIGATION ACTIVITIES Debriefing the team to gather learning points Programs for educating the taxpayer about rights and obligations (for micro and small businesses) Updating the taxpayer intelligence database Preparing for prosecution (evidence, documents, witnesses) Assessing the effectiveness and efficiency of the revenue agency s audit / investigation effort Other Issues OTHER ISSUES Building taxpayer profiles profile registers / templates Creating non-compliance hypothesis Targeting Trend and ratio analysis Elements of tax evasion What induces taxpayers to evade The decision to or not to prosecute Issues of proof including difficulties and evidential standards 63
SOME RECOMMENDATIONS - 1 Small and Micro businesses not necessarily (if ever) for investigations ; value for money; complaints of victimisation while big fish are left to grow fatter due to connections or bribes Evidentiary standards required by court Compliance modelling ; charts and graphs showing (per segment) record keeping accuracy; returns filing -timeliness and accuracy; payment of tax timeliness and accuracy Some Recommendations - 2 Specialist investigations units ; focusing on the most serious tax frauds Enhanced skills in forensic accounting and evidence gathering Guidelines setting out criteria for identifying cases suitable for investigations No investigator (however skilled or experienced) should choose his own cases Regional information sharing Conclusion Focus on the risk to proper compliance by the taxpayer (registration, record keeping, falsifying of transactions information, return filing, payment of tax, refunds); Determine whether it is an audit or an investigation; Assemble appropriate resources (competent team, tools computers, other logistics, time); Capture learning points (on the taxpayer, sector, industry, accountants, lawyers); and Prepare to defend the case in court. 64