The mutant virus called “tax noncompliance”

Chapter 5. Auditing Taxpayers
ICT as a Strategic Tool to Leapfrog the Efficiency of Tax Administrations

Today, the vast majority of the world’s people spend their days watching news about the progress of the pandemic and discussing its effects with colleagues, family and friends; it is now difficult to divert attention to other issues. That’s why I was inspired by Covid-19 to write this post.

In the current scenario, the pandemic is wreaking havoc on the world’s health and countries’ economies; but it will surely leave a mark on the behaviour of individuals, governments and organisations in the years to come.

Many countries that were going through economic or financial crises see their situation more acute, generating an increase in public spending and pessimistic estimates of tax revenues; which further enhances the role of the tax administration as an organization that watches over the resources that make up a State’s budget.

Tax control, from a broad perspective -from the identification of risks to the application and evaluation of treatment actions- constitutes a fundamental tool for the correct operation of the tax system. In times of crisis, adequate tax control slows down the drop in revenue as a result of declining productivity. In other words, tax control is ultimately the function with the greatest specific weight at the time of generating voluntary compliance, allowing collection as a result of the efficiency and effectiveness of the tax administration, without leaving the evolution of collection totally at the mercy of economic cycles. An example of this could be the case of countries with high rates of evasion that need to increase tax revenues and therefore decide to create new taxes or increase the tax burden by broadening tax bases or raising nominal tax rates when the current tax system still has potential. Another current example has to do with the fiscal waiver that will imply for many countries the treatment of the effects of the Covid-19, where ultimately the most productive taxpayers should pay the fair price so that the State can attend to those most affected by the crisis; and everyone should declare the fair price in a later stage of economic recovery to face possible fiscal deficits. It would be very difficult to meet these objectives without adequate control, based on a plurality of elements – appropriate standards, technology, suitable personnel, political support, among others.

In this sense, to achieve this objective and fight the mutant “tax non-compliance” virus; which adapts its modus operandi as the context evolves, making use of technology and the weaknesses of the tax administrations’ “immune system”; it is necessary to generate different preventive and reactive medicines.

If we compare the situation 50 years ago and today, we find many differences that testify to the mutation of this virus we referred to earlier and to the medicines referred to. For example, businesses and individuals have become globalized, virtual and physical goods and services are being traded through virtual tools, the number of people and businesses has multiplied, many traditional businesses have become financial and digital businesses, among other aspects. On the other hand, tax administrations have also changed. Today they have developments such as georeferencing to locate taxpayers, biometric data to identify persons, satellites and drones to control taxes on real estate and agricultural crops, electronic invoicing as a structural and basic information regime of the tax administrations, international information exchange tools for tax purposes, mechanisms that allow access, processing and analysis of “big data”, numerous information regimes based on information submitted by the taxpayer and third parties, electronic receipts, electronic audits, pre-prepared returns, advance disclosure regimes for tax schemes, new control powers in their tax codes, among others.

Despite these advances and the good results achieved, there are still high rates of evasion of the main taxes and informality in many countries; it is a challenge for all countries in the world -developed and developing- to work on the search for more and better tools to address this issue. The future is uncertain, but one thing we know for sure, it will be more complex for everyone. For example, it is likely that in the face of pandemics such as the one we are currently experiencing, it will be necessary to develop more non-intrusive controls and to better understand the behaviour of the subjects in order to apply differentiated treatment to each target group. To this end, technology ends up being the main ally of the tax administrations in the entire control process, from the management of tax non-compliance risks to investigation and audit actions.

In an ideal risk-free world, the work of tax administrations would be mainly summarized in providing service and processing payments. Since we do not live in an ideal world, risk management is the process that largely conditions the success or failure of control actions or treatment strategies; and despite this, it is a pending subject for many tax administrations. There is no master approach to develop a comprehensive system of tax non-compliance risks that allows to focus efforts in a rational and objective manner. To achieve this purpose, it is necessary to understand that the model must be created based on the tax system, the operating capacity of the tax administration, its budget and the characteristics of the country in question; and within the framework of these developments, existing practices in other countries may be adopted. Corruption can make a good tax control system useless, so it is necessary to have tools to ensure that the process is safe.

As regards audits, most technological developments are aimed at facilitating controls within the massive taxpayer sector, and it is still necessary to automate more control processes focused on the selective sector, either by developing sector studies or simpler measures that allow automated controls to be carried out as far as possible in lower-risk operations. The electronic invoice is an ally for the control of both segments of taxpayers; by allowing, for example, to execute invoice controls and to relate them in an automated way with taxpayers’ manifestations of wealth -for example: based on the report of expenses invoiced by third parties-, to monitor the formation of prices that could serve as reference for the elaboration of transfer pricing analysis, or to provide information to contribute with automated processes of tax returns or computation of tax credits/debits.

International taxation presents some additional challenges, as the identification of abusive international tax planning schemes requires collaboration between states. For example, joint or simultaneous audits are a powerful tool for understanding the situation of a given taxpayer operating in two states, the results of which would allow for an appropriate distribution of tax bases, preventing disputes and reducing compliance costs by virtue of addressing a single audit process in more than one jurisdiction. This is an issue that developing countries should explore further, as well as cooperation practices in international collection, which ultimately allow for the collection of uncollectible tax credits, applying amicable collection measures, precautionary measures and coercive recovery measures in countries where the taxpayer who is insolvent in his home country maintains assets.

The digital economy has also challenged tax collectors who, for practical reasons, have for many years failed to collect taxes from the actors in the economy. Methodologies are currently being discussed for the main subjects that make up the digital economy to pay income tax, but their complexity would lead to a scarce control capacity to define the veracity of the information obtained to apply the respective methods proposed in Pillars I and II of Action 1 of the BEPS Action Plan. The control of the digital economy in this area will be one of the major themes to be developed. On the other hand, it would seem that VAT taxation in the digital economy is on the way, with collection mechanisms (means of payment) and registration systems in place. With respect to this latter approach, CIAT, with financial support from the Norwegian Cooperation (NORAD) is developing a computer tool that will facilitate this task. Regardless of this, checking the accuracy of information for VAT purposes will also remain a challenge.

There are many situations, tools and examples that could be dealt with in this post, such as the use of information on the last final beneficiary, the recommendations of the “Tax & Crime” initiative, country-by-country reporting, the use of specific and general anti-abuse measures, control methodologies for commodity exporting countries, the use of “blockchain” technology applied to tax management, among others. However, I consider it appropriate to recommend that you read the “Flagship Report”, which in its section number 5 called “Auditing Taxpayers” provides ideas related to the management of tax non-compliance risks, the use of technology applied to audit tasks, the selection of taxpayers to be audited and tax intelligence procedures; all of this from a theoretical and practical perspective, highlighting country experiences.

I conclude by saying that Mrs. Emily Dickinson, a 19th century American poet, has moved ahead of our times by outlining the following phrase “Change? When the hills do.”. If the hills are already moving-earthquakes -, like the oceans-tsunamis – and the poles-melting -; it is time to mutate to combat the virus.

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Disclaimer. Readers are informed that the views, thoughts, and opinions expressed in the text belong solely to the author, and not necessarily to the author's employer, organization, committee or other group the author might be associated with, nor to the Executive Secretariat of CIAT. The author is also responsible for the precision and accuracy of data and sources.

1 comment

  1. Anonymous Reply

    Excellent article Gonzalo. One if these I have read recently. It addresses all issues and challenges faced by tax administrators in the developing countries. The article can serve as a great lead to reformulate the priorities.

    Please do suggest excellent resources for deeper reflection and understanding if the current challenges.
    Thanks for sharing.

    Regards.

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