ATAF workshop: Developing a Compliance Program for Large Business Taxpayers

1. ATAF workshop: Developing a Compliance Program for Large Business Taxpayers Andrew Okello – IMF Fiscal Affairs Department

2. OUTLINE • The self assessment business model • The compliance model • Steps in developing a compliance program for LBT • Major compliance issues commonly associated with LBT • Approaches to managing LBT compliance • Summary: Elements of a LBT compliance strategy • References

3. The self-assessment business model

4. The self-assessment business model • The great majority of revenue agencies have or are moving away from administrative assessment systems to a system of self-assessment • 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

5. The self-assessment business model • Three 3 key strategies will optimize voluntary compliance: • Helping taxpayers and their advisors understand their obligations and entitlements • Making it as easy and cheap as possible for taxpayers to comply • Verifying compliance using a risk management approach

6. The self-assessment business model • How do you 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 • Conduct targeted education campaigns tailored to specific taxpayer groups (industries; new businesses etc)

7. The self-assessment business model • Making 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

8. The self-assessment business model • Verifying 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 • No tax administration is funded to deal with all risks in the system at one time • 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

9. The compliance model

10. The 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

11. The compliance model • So, how do you determine the right intervention or mix of interventions? • Modern tax administrations develop “Compliance Models” to provide a structured way of helping them understand the factors that influence different compliance behaviour • This enables the administrations to choose the most appropriate intervention for the circumstances

12. The compliance model • A 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

13. The compliance model

14. The compliance model - BISEP • Businessprofile • Structure, sole trader partnership • Business activities • Financial data • Business age • Industry • Industry definition • Region • Size, segment, participants • Profit margins • Cost structures • Industry regulation • Industry issues: competition, seasonal factors • Psychological • Risk • Fear • Trust • Values • Fairness/equity • Opportunity to evade • Sociological • Norms • Reciprocity • Age • Gender • Educational level • Ethnic background • Economic • Inflation • Interest rates • Tax system • Government policies • International influences

15. The 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

16. Steps in developing a compliance strategy for LBT

17. Step 1: identify compliance risks • As a first step, risks should be identified and documented in an exercise coordinated by the risk management unit and involving staff at all levels of the organization. LTU should play a critical role in identifying LBT risks. • The risk identification process should bring together multiple sources of intelligence • Top down (macro economic/strategic analysis) • Bottom up (case-based/operational) • Experience of other administrations • Insights obtained from the audit program • Analysis of rulings • Analysis of frequently asked questions • Analysis of information in returns and financial statements • Data from external agencies (Customs, other regulatory agencies etc) • Intelligence from other jurisdictions, and from professional and industry liaison groups • Community based information • Key product: A comprehensive register of all LBT risks

18. Step 2: assess and prioritize the risks • 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 • Sufficient, accurate and timely data is essential; utilize data analysis tools: data matching; data mining; case review 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

19. Typical risk rating matrix

20. Step 3: analyze compliance behavior • A critical element of 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 • Priority risks must be analysed using the compliance model to identify the drivers behind the attitudes and behaviours and to determine the appropriate mix of interventions: • Look beyond symptoms to causes • Recognize the effect of the tax system itself • Legislation • Administration

21. Understanding taxpayer compliance behaviour • What drives specific behaviour? • 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 WHAT is occurring? WHO is doing it? WHY are they doing it?

22. Step 6: determine treatment strategies • Develop a balanced program based on sound principles Key products • A compliance programme covering the current planning period • Products and tools tailored specifically to clients to be targeted through the compliance programme

23. TailoredApproach to Compliance Strategies Products / Strategies Attitude EVASION &FRAUD Active Enforcement Active Enforcement Active Enforcement Disengagement Prosecutions, sanctions, investigations. Resisting Taxpayer management, monitoring, profiling, reviews,audits. Assisted self regulation Assisted self regulation Assisted self regulation Resigned Consultative forums, education, rulings, advice. Self regulation - Cooperation Self regulation - Cooperation Willing Create downward pressure COOPERATION & COMPLIANCE

24. Step 7: document the whole process • 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 • The compliance program 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

25. Step 8: monitor performance and evaluate outcomes • Determine evaluation criteria at the time the treatment strategies are 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 • 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

26. Major compliance issues commonly associated with LBT

27. Major compliance issues commonly associated with LBT • Related party cross border and tax haven dealings • Complex structures and intra group transactions • Tax avoidance • Customs fraud • Permanent establishment issues • Structured financing • International arbitrage • Entity classification • Valuation of derivatives • Loss importation transactions • Abusive trust arrangements • Inter-company financing • Foreign tax credit intermediary arrangements • Offshore deferral arrangements • Income gain on sale of assets • Excise fraud

28. Approaches to managing LBT compliance

29. Building a better relationship • Critical in promoting transparency and a cooperative approach to compliance • Building a relationship based on transparency, trust, and mutual understanding will have a positive impact on LBTs • Understanding the expectations of both the tax administration and LBTs a good start • Tax administration’s expectations; more openness, full disclosure, compliance with the tax laws, open dialogue, and timely response to inquiries and requests for information • LBT’s expectations; increased openness and dialogue, greater certainty, consistency, clarity of roles and accountability, timely response and good guidance, sharing of audit plan and risk assessment, early settlement and speedy resolution of issues

30. Real-time management approaches • Trend is to move from post-filing of tax return examination to real-time evaluation of risk and compliance issue resolution • Instituting programs to provide greater certainty to LBTs crucial; e.g., • forward compliance arrangements • advance rulings (binding and non-binding) • advance pricing agreements • pre-filing agreements or advance agreements • contemporaneous documentation requirements (for cross-border transactions) • use of client or relationship managers to provide clarity • compliance assurance programs to resolve tax issues prior to the filing of a tax return

31. Impact of corporate governance on tax compliance • Tax administrations are increasingly using the corporate governance principles to improve tax compliance; believe that: • The responsibility for a company’s tax policy should be at Board level since tax is an important financial element as well as a major potential risk to the LBT both financially and in terms of reputation • Bringing tax policy to the Board level will foster more compliance and lessen likelihood of engagement in aggressive tax planning • The ATO for example has published a governance guide for board members and directors. Directors can use this to self-assess the type and degree of tax risks in relation to the overall performance

32. Building capacity and skills • Commitment to enhancing the technical and professional skills necessary to deal confidentially with the complexity of LBT as well as to improve focus on customer understanding and commercial awareness • Enhancing enforcement and customer service also requires training and retention of highly qualified workforce capacity • Complexity of the tax laws, business structures and transactions have created a need for specialized knowledge and expertise in certain areas. • Also succession planning programs required to maintain qualified and highly skilled workforce

33. Use of technology • Technology can be used not only to improve the quality of service to LBT but also to manage compliance • Several electronic tools have been developed to assist: • improve the early identification of risk and increase the efficacy of operating processes in the LBU • in performing risk assessment and to better control and manage compliance and to collect critical data • LBU staff, irrespective of location, communicate, share information and work collaboratively • E-filing

34. Summary: Elements of a LBT compliance strategy • The taxpayer population and its segments • What is the taxpayer population under the purview of the LBU? • How is it composed, for example: individuals, (high net wealth individuals); sector/industry; non-profit organizations; public institutions; etc. • Compliance patterns, trends, and the tax gap • What are the taxpayer compliance patterns and trends? • What is the tax gap and how is it composed—by economic sector, type of taxpayer? • Key compliance risks—identification and treatment • What are the key compliance risks and to taxpayer groups do these risks relate? • Are any of the major risks caused by weaknesses in laws and regulations or the administrative capacity of LBU? • How should these risks be treated to achieve the best possible outcome? • Organizing for and managing taxpayer compliance • How should resources be organized and allocated across the LBU to achieve the best possible compliance outcome?

35. References • IMF Technical Note (2010), Developing a Compliance Strategy • OECD Guidance Note (July 2009), Compliance Management of Large Business