Internal Reforms of Tax Administration
Heading
- Sri Lanka’s increasing government budget deficit need to be addressed.
- Prepare for future reforms that will be proposed by IMF, for their support to sort out the balance of payment problem.
- So, increasing the tax revenue will be the main focus.
- Drawbacks of ongoing system are highlighted by the proposals given here. However, there can be improvements on the suggestions made.
- Also emphasis on direct taxes, to reduce the inequality among different income earners.
- This effort is to identify lapses that is not showed in other forums.
- Main aim of this article is to promote use of modern technologies like Blockchain and CCTV like cameras.
- Emphasis on withholding tax more.
- Also do away with assessing taxpayers and change to criminal investigation.
- Less emphasis on annual audits & more taxpayer education.
- More officers in the field.
- Clean ledger for tax payments.
- Pension for taxpayers and more frequent refunds.
- No secrecy safeguard for political figures, their income and asserts made public
Withholding Tax and the tax payment Ledger for each taxpayer
Tax payment ledger
The computer system should have clean and proper tools to browse the tax payment ledger.
Currently, there are lot of lapses in it. Main effort should be the tax payable and payments but not return data or tax calculation.
Our current emphasis is on accurate tax quantum calculation, by the computer, but that endeavor has failed sadly.
Tax calculation! This is very hard due to lot of reasons. Mainly, complicated tax statues! Making it simple might take more years down the line.
Better, give the responsibility of calculating to humans with computer aided tax calculating tools.
In a self assessment system the responsibility is with the taxpayer to calculate the tax. IRD need to trust the taxpayer. Current method of not trusting the taxpayer and rechecking each entry made by him, makes the self assessment system useless! Unnecessary burden to IRD. It need to do two things. One, do the tax calculation. Two see whether taxpayer has done it correctly. This is a tedious thing to do for a human brain, looking repeatedly at the screen, sometimes using a paper sheet, and prone to lot of mistakes. The tax officials resort to the lazy and safe thing to do, issue more assessments! Doing everything by computer adds another dimension to the confusion. So shifting from official-assessment to self-assessment has double or triple the workload of IRD.
Withholding tax
Make withholding tax a main tax. It has much more advantages than income tax. There will be less avoidance, because it is someone else's money! To do it Inland Revenue need to be 100% accurate in their ledger, with 100% security. Also give prompt refunds. So, Inland Revenue need to have security system similar to a bank.
Currently, IRD do not understand this security factor regarding WHT (withholding taxes). Always expect taxpayers to get confirmation from bank personally. Taxpayer need to submit WHT certificates with the return, then again a fresh conformation from the bank in the audit.
Obtaining a refund is extremely difficult. Refunds should be made under all rules of government financial regulations. Example it need to be scrutinized by about 5 different persons.
Collecting Withholding tax
In case of withholding tax payments, the payment entries are not inserted directly to the computer system. It need to be done manually! Reason not enough security! So the advantage of withholding taxes are nullified. The home grown solution was to make withholding tax a final tax, on certain sectors. This creates disparity among different types of taxpayers.
Some suggestions in collecting WHT:
Taxing lawyers, is the most difficult. Unlike the other professionals they tend to live an extravagant lifestyle, less inclined to invest in asserts. This makes it easy to evade income tax. However, they charge exorbitant fees from wealthy clients, mostly paid by cash. These are the sentiments expressed by IRD officers of the past era.
Need to incorporate court registrar as an WHT agent! Because information of cases handled by the lawyers are available to him. All appearances of lawyers are recorded in case files.
A system should be designed for the registrar to collect withholding tax from lawyers.
Now we have the problem of identifying the quantum that need to be withheld. The lawyers can be categorized (say 3) according to their past annual income.
Also it is important to identify the cash strapped cases and information passed to IRD.
Even VAT invoices can be issued with the corporation of court register.
Extensively Increase Refunds
More refunds
It is better to have a system that issue large quantity of refunds from withholding tax, than having a large amount of default assessments.
We are paranoid of refunds because of the VAT fraud, but that makes the tax administration more inefficient.
Withholding tax, is such a good source of revenue, but ignored because of the difficulty of handling refunds, and resorting to final withholding taxes to avoid refunds.
The computer system should be geared to have a high security tax ledger, to collect a high volume of withholding tax and issue large volume of refunds (say at end of year).
It will encourage taxpayers to submit returns in time to get the refund. This will increase compliance, and taxpayers will be interested in keeping the cycle going instead of defaulting, with the fear of their refunds will be delayed in future, even if there is no refund for the current period. In processing the refunds, priority given for taxpayers with a good record of submitting returns in time.
High WHT and refund system, will also encourage public savings.
Refunds
Refunds should not be carried froward. All refunds need to be issued to the taxpayer promptly.
The system in IRD should be improved to achieve this. The system should have minimum human intervention and more security.
Even if the refund claim is bogus, if the refund is limited to the amount already paid and withheld, there will be less harm to the overall revenue collection.
Old practices in refunding funds held by the government should be reviewed. Stricter manual controls should be replaced with computer managed controls.
Taxpayer should not be allowed to mix past refunds with the current return. This is an ongoing problem, and has cluttered the whole system. Governments have resorted to no refund withholding taxes to avoid this problem. That is not the correct method to solve the problem.
Handling Taxpayer Data
Taxpayers index
IRD computer system should target for two things.
One, Taxpayers index.
Two tax payment ledger.
Taxpayers index should give all general data about the taxpayer. At the moment though there is an index it has a very low key compared to other activities of IRD
All data of the business, estimated revenue for each source, and similar details, need continuous updates from audit visits. It shows a picture of all details of taxpayers. If an individual, his qualifications, profession, estimated annual income etc.
Continuous updates can improve the accuracy of audit selection and necessary statistics.
The index for non individual entities, will need to have a single authorized officer responsible for all dealings with the IRD. Unlike individuals these names are fluid, and change periodically. IRD need to make sure these are updated regularly.
Taxpayers index should incorporate biometrics of the respective individuals.
Officers Index
Officers Index
Similar to the biometrics of the taxpayers, tax officers biometrics need to be taken. And create an officer index.
Tax Consultants Index
Tax Consultants Index
It is important to have a proper index of tax consultants. We need to categorize them as tax return helpers and other types.
The tax return helpers need to take responsibility to give clean data and IRD need to trust them.
So proper index with their quality evaluated say annually, and published. That will make them be more careful. Because they will loose business for errors done by them.
Statistics
Two sets of data for statistics and audit.
Usual practice is to use return data to extract statistics.
Following are drawbacks of this method: Security needed for these two sets are different, statistics no security, while return data need full security.
Because of this practice lot of manual labor and computer cost was incurred, in handling this single large data set.
The current practice is, to insert all return data digitally/manually to the system. The taxpayer may send it either digitally or by paper based returns. After data is in the system, compulsory tax calculating is made. This leads to another set of manual work, in the form of resolving discrepancies. This is mainly in the form of assessments and appeals and completely outside of tax collection or tax avoidance!
For statistics accuracy is least important, no need for 100% accuracy.
However, return data need 100% accuracy and security both. If return data can be kept in picture format, without resorting to digitally reinserting the data the workload of officers can be reduced. On the other hand taxpayers are also waste a lot of valuable time and money in inserting the data digitally. Tax returns are still very complicated, simplified returns though tried for several decades has not materialized.
Therefore using same data for both, tax-collection and statistics cost time, effort and money.
The problem can be solved by creating a special unit for statistics. Though such an unit exists Currently, practice is to give very low key to this unit. Whenever the ministry wants data, it is extracted in some ad hoc way, and no consistency. Even revenue targets are not prepared by this unit. Ultimately no proper revenue estimates are done, and finally blame, the inefficiency of tax officers at the end of the year.
Example of statistics, a taxpayers revenue will be uniform for say over one year, so to getting one months revenue is sufficient. When there are same type of taxpayers only one need to provide the data.
Current practice is to use data of returns to get statistical results.
Officers in the statistics branch do not have expertises in that field, do not understand even basic principals of a statistics. Most of the time they will request the necessary data from computer personal who are not familiar with statistics. Computer staff use some extraction method to get the necessary outcome. Current officers of the statistics unit are a set of officers trained in tax not statistics!
If we have an extravagant computer system it may be OK. But each year expenditure cuts kick in, and with no proper maintenance the system decorate.
Data accuracy
Data accuracy and cost of maintenance should be balanced, for each data type.
For instance, payments need very high accuracy.
Taxpayer information, including return data, need medium accuracy.
Statistical data need low accuracy.
But current IRD practice is to treat all in the same category resulting high cost of maintaining data.
Collecting data
Before collecting data, you need to know what you are going to do with the data.
Collecting data and storing with security, costs money. So do not collect data that you don’t use, it will clutter the system and reduce officer efficiency .
Currently time and energy of the IRD officers are wasted in shifting and processing unproductive data.They had to deal with taxpayers to sort out the errors causing taxpayers also incur some additional cost.
The wrong concept of “having more data we can check later” is so unproductive since that later date, never arrives.
Therefore, when good data is cluttered with junk data the workload of the officers increase exponentially and productivity falls, resulting less revenue to the government.
Taxpayers don't have a uniform method of record
Taxpayers don't have a uniform method of record keeping. Inland Revenue strategy is to force taxpayers, to conform with the standards of Inland Revenue, instead of helping taxpayers to submit data, easily. This is one reason, for delay in sending returns on time.
One world standard method is to use XML format, where, format accuracy is easily checked at the taxpayer end, even before the data is transmitted to IRD. And almost all data systems have functions to convert to XML format. XML is open source. While the preferred format of data transmission is Excel which is a proprietary non standard tool, not even designed for data transfer, owned by Microsoft!
Using the Computer system Incorrectly
Computers vs Mannual
Using computers to catch tax evasion.
Drawback of the computer system is, it blindly calculate tax (with mistakes) and issues a load of assessments.
Each assessment is appealed. An assessor can handle only about 3 appeal appointments per day, and may need couple of days to settle an appeal.
There is a large backlog of assessments that are not under appeal and also, a lesser amount of, but still, substantial number of unsolved appeals.
Appeal process is also burdened by ‘passing the buck’ attitude of the officers. Officers don’t like to take responsibility, because they lack proper knowledge of the law. This is the result of bad recruitment methods and loose promotion methods, pressurized by trade unions.
Computer systems have advantages and disadvantages. The main drawback is the human machine interaction. In tax administration, this type of activity is very common.
Computers are good to the point of a good manual system. In other words, computer system won’t make a bad manual system a good one.
If we don’t have a good manual system, we can’t design a good computer system. A computer system should follow a good manual system. We import computer systems like RAMIS with a bad manual system.
Main constraint is the cost. Can you afford it? We have implemented several computer systems in the IRD, that has failed, because we were unable maintain or upgrade it periodically. Further to hardware and software costs, expert personal cost to manage the system, needs review. The attempt to use IRD personal ended up in failure. We need dedicated computer persons, they are very costly!
Above all, what we need is a good ledger for tax payments, which we don't have, even now.
Incorrect utilization of IRD personal
Officers in the field
It is meaningless to employ corrupt offices to curtail corruption of the taxpayers.
So, officers workflow emphasis, should change from enforcing, to taxpayer education and data collection.
There was a theory that officers get corrupt when they go to the field. That was long time ago, now they are anyway corrupt, but we need them, so systems need to be designed, how to get the maximum with lesser trust. So they have to perform tasks, but do not have power in controlling the result. Like collecting data in the field, educating taxpayers in the field etc.
Lot of time is wasted in field visits because government procedure needs officers to come to office and sign in before going out to the field. With increasing transport costs this method has become inefficient and costly. Officers doing field visits,should be able to do the field visits directly from home.
Prohibit officers using their smart phones to
Prohibit officers using their smart phones to talk to taxpayers.
In fact use of smart phone is a security risk and also results in low productivity. So use of smart phones in Inland Revenue premises should be banned.
And all calls done through office phones should be recorded.
All interviews with taxpayers should be conducted in specific rooms that has internal camera and voice recordings, and not in officers’ workstations, which is the current practice. These interviews should be rare and conducted in properly controlled, and recorded environments.
The video recording should be inserted in a Blockchain immediately.
Whatever external communication with the taxpayers should be done only by letters, that should be the only medium of communication. Emails that have no security should not be used. If use of paper needs to be cut down other proper form of recorded communication should be adopted.
Revenue targets to officers
Collecting government revenue is very much different form achieving a sales target by a company. So, measuring performance purely based on the revenue collection of each single officer is absurd. The theory if each officer collect his share of target the total target of IRD can be achieved, will not work. Reason is, most of the revenue collected is from self assessment system.
Instead of target based incentives, pay good salaries to sustain them.
Officer workload should be realistic. Current practice is to allocate workloads in an ad hoc way. Workloads should be quantized and well defined. In such a way to achieve maximum output.
IRD should operate like a black box, where you input the tax statue, to get a specific outcome. It should be uniform throughout several years.
Improving the revenue administration is seen as a method of improving tax revenue. But this should not be the case. Periodically governments acted in that manner. They make ad hoc changes and improvements, e.g. sending a set of officers for overseas training, without evaluating, what that training will do to the department.
Improving the efficiency of the black box should be an independent work flow. Getting the desired revenue and annual targets should be separate from it.
Mixing both will not increase the revenue, but increase corruption and taxpayer harassment.
When improvements are suggested and new workflows are implemented, Officers purposely find ways to clutter the system (in the past this happened to all IMF proposals). They fear that, they will not be able to continue, their corrupt practices, due to barriers imposed.
My experience, if IMF proposes a certain system, the subordinates will give a load of reasons why such a system will fail, making superiors nervous, resulting dumping the intended changes.
Reform Assessment System
Division of labour in Tax Administration
Solution proposed here is to have separate bodies to carryout the process stipulated. Even officers of these units should not be transfered periodically between these units. Permanent staff is necessary. Appointment of the heads also done in a transparent way. The effectiveness of the system will depend on their independence.
These bodies should be independent, no corporation between these units, in the workflows. The logic behind is separation of powers will result in a cleaner outcome. Following are the units:
IRD (small taxpayers) - corporate with taxpayer and make them pay the correct tax. No option to issue assessments.
IRD (high profile taxpayers) - Gather information and issue assessments
Arbitration Board - Question of law regarding small taxpayers will arbitrate. Issue guidelines to change the statue in future.
Appeal Board - Settle the disputes of assessments. Very similar to the current process.
Taxpayer categorization Unit - Issue an annual list to categorize taxpayers as small-taxpayers or high-profile-taxpayers
Criminal Investigation Department - Criminal action against tax avoidance resulting in jail terms.
Note: you can see that there is no default tax collection unit! Reason is there will be no default tax! It is evident that one of the main allegation for the current tax administration is the large uncollected default! However, the assert seizures, including bank accounts will be done by the Criminal Investigation with the sanction of the court. These powers are currently under the Commissioner General of Inland Revenue. However, he is reluctant to use these powers, because of various reasons. Shifting this power to a court of law, the action taken will be more just and legal.
Existing Assessment systsem
Our assessment system shows to the parliament and public, that there is a large outstanding tax to be collected.
This gives wrong impression, that more revenue is available to the government. But in the end very little of it is collected.
Income tax in Sri Lanka, then Ceylon was 90 years old. Taxpayer population was small, when the system of assessments started. When the taxpayer submitted the return his tax was calculated and an assessment was issued, called official assessment system. After that there are several stages of appeal, going up the supreme court, if the taxpayer does not agree to the assessment.
Then came the self-assessment scheme, taxpayer calculate the tax and pays voluntarily. Here no assessments are issued if the assessor accepts the return and tax payment. By now, the number of taxpayers has increased and manually doing each assessment might have been impractical. But Appeal process remained same.
The next came the computer, first for the corporate sector only. Here, tax calculation, balancing the tax payment and printing the assessment was easily done by the computer. Then number of assessments started increasing, but limited to corporate sector. However a clean ledger was not designed for the system.
Then came GST, here the computer system expanded to all GST taxpayers. Assessments started increasing exponentially. Accordingly appeals also increased. The calculation of tax was done by the computer, this process was prone to mistakes, so the assessments gives wrong amount of collectible taxes. Now, even with the computer system, the appeal process remained the same.
My experience in implementing GST, when a refund is due, it is processed and printed by the computer. Being a refund, it is not issued without human intervention. So officers started having lot of backlogs. Sometimes when an officer gets transfered, the new replaced officer, finds unprocessed assessment bundles in the drawer.
But from taxpayers side, the usual practice, since he did not receive the refund, deduct the refund receivable from the total tax due, and make the next payment. When the computer does the next batch processing, since the un-issued refund in not in the system, it issues an assessment to the taxpayer. The taxpayer appeals. Or sometimes, don’t appeal, in that case the assessment will become a default!
With the introduction of RAMIS all taxes were computerized. The computer does all the tax calculations. Again the number of assessments increased. But the appeal process remained the same.
Officers who are in the appeal settling process will, write report after report without taking decisions. Some taxpayers, to end the harassment, will agree some additional tax. And the balance go to the appeal board or to the courts. Sometimes this process may take even 10 years. Officers are also glad to shift the responsibility than taking the responsibility and settle the appeal. Most of the time, officers are reluctant to cancel assessments, even when it is justified, because of peer pressure. “We keep on assessing and you discharge them, this will affect the revenue collection and affect our incentive”!
Drawbacks of the Appeal Process
Drawbacks of the Appeal Process
Currently, the appeal process is same to all taxpayers across the board. Individuals, very small companies and multinational companies all treated as the same in the assessment and appeal process.
System is clogged not because large companies but large number of very small taxpayers.
Disputes should be mitigated justly. But in doing so, if the number of disputes increase exponentially, some type of solution should be implemented.
Swift process will cause hardship to public, like kangaroo courts. So, as a cushion, conflict-resolution-bias should favor towards the taxpayer.
Different methods (at least two)should be adopted to the assessment-appeal process of different types of taxpayers.
One, for small & medium taxpayers and the other to large taxpayers.
Assessments should be there, but issued carefully.
Theory behind multiple stages of dispute resolution, in the current appeal process, which is distributed among the offices, in a tree of hierarchy, is to settle more appeals. More easier uncomplicated to lower ranks and difficult ones go up the rank.
There is an ideal number of cases, that should be solved at each stage, most of it should be resolved at deputy commissioner level. Reason, more officers are allocated to do it and the issues are more or less straight froward that can be settled with officers with lesser legal knowledge and experience.
At the deputy commissioner level initial attempt is made to agree with the taxpayer. Next, Commissioner General have a hearing to settle the appeal, next Appeal Board tries to settle it, failing these stages appeal goes to the appeal court and the court system takes over.
So the total volume of settlements will be high if proper amounts of settlements are completed at each stage.
Currently this process has broken down.
Ultimately all cases need to go to courts, even the appeal board is biased, sometimes, also the courts. The argument is, the appeal board and courts are guarding government revenue. Which means they are biased to government, instead of being unbiased institutions to protect the legal system.
This makes the appeal process redundant.
Do away with Assessments
Assessments have several drawbacks.
Solution: Abolish the current assessment and appeal process completely.
When the dispute is about a question of law, direct it to an arbitration board.
If the dispute is about a question of fact, IRD should try to sort out the matter amicably with the taxpayer and make the necessary adjustment to the tax due. This may be easy in most of the small cases. But, very difficult in cases of large companies(high profile). So, when categorized as high profile taxpayers the process will be very similar to the prevailing method.
If the taxpayer adamantly refuse to do the correction, the issue should pass to criminal investigation.
Avoiding tax should be a criminal offense. The criminal investigation branch should be streamlined similar to what is available in foreign countries.
This will stop an assessment going round and round the appeal process.
The ones who get the benefit of the bad assessment and appeal process are others! Not the government nor the taxpayer.
The main aim should be to finalize the liability in a Short duration of time. Currently five to ten years is the norm.
Advantage of Self Assessment
Average revenue collection on Self Assessment Basis is 96%, so, on assessments only 4%. It means even if we dump the assessment system, as long as we maintain the fear of legal action, the minimum tax collection will be some what in the region of 96% of the current figure.
Further, my guess is, return collection will be more than 96%. Because officers coax the taxpayers who are willing to change the return and avoid an assessment not to do so, since it reflects better, on officer performance.
With the threat of proper criminal action, (which we don’t have now), the percentage can exceed 100%. Further, since this method is more taxpayer friendly revenue collection can reach much higher levels.
Another theory I learned is that, if IRD show publicly, some corrective policy is being taken, it should be implemented fully, and not halfway. That will change taxpayer mentality to, “IRD means business”! So things IRD cannot do fully, should refrain from initiating.
Method of Assessing the taxpayers to collect unpaid taxes is no longer valid! Reason being, officer failure to act legally!
Assessments work if only one party to the dispute is corrupt, I.e. taxpayers. If both taxpayer and officers are corrupt that system wont work.
It is better to depend on self assessment, which will yield more taxes than depending on assessments.
By statistically analyzing the payments, officers could select which places to visit to collect statistics and do an audit.
Getting best results from self-assessment system, IRD need to be swift in going after unpaid installments, before the money is spent!
Officers can be used to taxpayer eduction and correcting mistakes done by the taxpayers. So in future taxpayers don’t make mistakes in their returns, resulting in clean data.
With better taxpayer education, mistakes in return data is minimized, then IRD will be processing only clean data. Normally, data system in IRD is dirty! with lot of errors. Most of the time spent by officers are to clean the data by issuing assessments, sending letters, calling for interviews etc.
Random Audits
By statistically analyzing the payments, officers could select which places to visit to collect statistics and do an audit.
Even here if the taxpayer is a small-taxpayer, the aim should be help the taxpayer to reveal the correct income of supply.
There are adamant taxpayers, taxpayers who always find methods to avoid tax. On one side, use taxpayer education to reform them on the other side, we have the criminal Investigation, and some number of small taxpayers should be investigated annually.
Penalty and Interest
Penalty and interest is another useless concept in our tax system. Foreign consultants definitely don’t agree to this. But consider the ground reality in Sri Lanka.
When tax cannot be collected effectively, it is absurd to impose penalties and interest on top of it. The end result is what cannot be collected is expanding but inefficiencies of collecting remains the same.
A large amount computer power and human effort is allocated in calculating, sorting, tallying and discharging this penalty and interest. Ultimate result is zero productivity!
Like the default collection, do away with this penalty and interest, specially for Small Taxpayers! For High profile taxpayers, if necessary, impose it with care.
As an alternative in each dispute resolution stage, arbitration, appeal board, or the courts, the judge or board can impose suitable fines, instead of penalty or interest. The advantage is the taxpayer will be conscious of the fine which is definite. When a penalty or interest that accumulates periodically, it is difficult for taxpayers to come to terms of exact liability. Result is, taxpayers have a blurred vision of the tax payable!
Tax Enforcement
Enforcement with six Units
Proposed Tax enforcement system will have six independent entities.
They are Taxpayer Categorization Unit, Small Taxpayer Unit, High Profile Taxpayer Unit, Arbitration board, Tax Appeals Commission, Criminal Investigation Department.
Taxpayer categorization Unit
The need for separate body to do it
Using same process to collect tax from different types of taxpayers is a waste of resources and reduce the overall efficiency of the tax administration.
I propose to have two types of taxpayers one as Small Taxpayers and the other as High Profile Taxpayers.
It is absolutely necessary to have a separate independent body to categorize taxpayers to these two types. High Profile taxpayer will have strict scrutiny and light scrutiny for small taxpayers. Therefore High Profile taxpayer can use their influence to be categorized as small taxpayers.
It is a common practice of taxpayers to use their influence and keep their tax file in a more favorable branch.
The officers will also like to keep certain tax files in their respective branches, because it will enhance their revenue collection.
For example it may be very difficult to categorize politicians as High profile taxpayers, but it is the correct thing to do.
Having an independent unit to do this will make is more difficult for taxpayers to influence in the categorization process.
Periodically re evaluation may be necessary to check the categorization of Small Taxpayers.
Another important task of the categorization unit is to allocate audit officers to do the tax audit of each specific tax payer. This will stop the abuse by the branch head who supervise the audit officers, because he will be the person usually responsible for this allocation.
Small Taxpayers
If arbitration board is going to be too lenient to the taxpayer, the taxpayers will start to take advantage of it.
So when arbitration board decide in favor of taxpayer following measures should be adopted:
An annual guideline should be advertised so that error is not committed in future years.
If the dispute is absurd or taxpayer tries to take advantage of the leniency, arbitration decision should be against the taxpayer.
If the board is convinced that the taxpayer purposely tries to deceive the revenue authorities, impose a fine, with an official warning.
(trying to cover a lot here, but it is difficult to cover all scenarios. In short arbitration board should act like a judge in a court, where they can go beyond deciding the issue at hand)
High Profile Taxpayers
For high profile taxpayers the same procedure that applies today will be applied.
Detailed returns, further returns, additional information and audited account with audit reports can be summoned.
Taxpayer can be summoned for questioning. These interviews should be strictly gathering information, but not to agree a quantum of tax. Agreeing with the revenue for some additional tax, has been the usual practice up to now. Taxpayer and assessor tries to settle the dispute, which is within the current law. Here, the accuser and the judge both rests upon the IRD officer, this is prone to corruption, the duties should be separated. An attempt was made to achieve separation of powers, by incorporating that, appeal should be settled by a different officer other than the one who issued the assessment. But, to circumvent the legal barrier, the investigating officer will issue the assessment under a colleague’s name.
So, this proposal recommends that, additional taxes will not be agreed with the taxpayer.
After investigation either the return is accepted or an assessment issued.
Taxpayer can pay the tax and finish the dispute.
Or taxpayer can appeal against the assessment.
All appeals will be settled by the Appeal Commission.
Without any steps by IRD, passing the appeal to the Appeal Commission will shorten the duration of the settlement.
Listing of High Profile cases
Selection of High Profile Cases
The criteria of a selection process need to be initiated.
The list need to be gazetted annually. Publishing like that is the only safeguard against corruption, changing the catigorization to be advantageous to the taxpayer.
Each year the list is reviewed. And new list published.
It is necessary to have an independent body to maintain this list. The responsibility of the Categorization unit.
Public will be allowed to complain about high profile cases, like politicians, when published.
Categorization unit will look into complains made by public, of certain individuals or entities not published in the list.
After the initial publication, complains should be made within one month.
Also the individuals or entities can complain to be removed from the list in case, they and dead, bankrupt, or reduced their incomes substantially or no longer have the sources.
After 3 months a revised list or confirmed list will be published.
Within the high profile, there can be sub categories, example political persons, these include all MPs and Secretaries Chairmans of boards etc
This public high profile cases will not have the protection of secrecy given by the Inland Revenue Act. All their asserts and incomes will be published. This is a demand by the public for a cleaner political system. It can extend to political party funds, election funds, even all executive public servants etc. This will be more advanced, than the current Assert Declaration by Public Servants, because declaration follows scrutiny.
Taxpayer Index Maintain
Maintain Taxpayer Index
This responsibility should be given to Categorization unit. Reason being it is related to categorization of taxpayers.
Other units will access the data, and transmit data to improve the index.
But sole responsibility in maintaining the index will rest on this unit.
Officer allocation to audit
The Categorization unit will be responsible how officers are allocated to audit
It is important to do the tax audit by a different officer each year. If someone is going to do the audit more than one year, it might affect the revenue.
So this change should be done by some independent person or body. Usually it is done, if it is done, by the head of the branch. However, it is not the usual practice. There was a change in the law that the officer who issued the assessment should not settle the appeal. But officers knows how to circumvent this.
IRD - Small taxpayers
Self Assessment Collection
The current system is burdened with collecting the tax declared in the return.
Though it is a self assessment system, most taxpayer do not have adequate amount of cash in the bank to pay the tax.
This also leads to automatic assessments being issued.
Whenever an assessment is issued more work for the IRD. It is better to avoid this happening, having a return, without payment.
Usually, when you know the tax it is possible to calculate backwards to find the income of the taxpayer. So there is no logic in asking the taxpayer to declare the income and the tax both. It is simply duplication, more than that, mistakes can creep in. Most of the workload of IRD officers is to grapple with this kind of dirty data caused by mistakes. It is really funny to note that, what we are doing is, just trying to find out how stupid the taxpayer is, making the wrong froward calculation! The solution is to treat the payment as the initial return and get the detail return separately, if and when necessary. If we can reduce the workload of officers by doing so, and employ them to go after the delayed payments promptly.
arbitration board
Arbitration
Even if an arbitration board created you will need large number of officers attending to the disputes.
Out of all decisions made, 70% need to be in favor to taxpayer. Otherwise, periodically, board members will be dismissed! In short the decision should be biased more to the taxpayer. This percentage of 70% can be reduced depending the reduction the number of cases coming for arbitration in future years. This method will not affect the revenue, since only 4% of the revenue is involved, and 1% in favor of Revenue 3% in favor of taxpayer. The ultimate loss will be less than 3% of revenue. However, large gains can be achieved by utilizing tax officials in collecting revenue promptly. This will result in a better tax administration because what happen on the ground is the same as what law stipulates.
In arbitration, taxpayer can be officially warned, if absurd, a fine can be imposed in such cases.
The arbitration board can reform the statute. They can give annual guidelines on the cases heard in previous year. This will be regulations that are legally binding. This will help to fine tune the law.
In taxpayer education tax officials can explain past regulations and prevent taxpayers going to arbitration. However, the decision is with the taxpayer.
This solution may look clumsy. However, 70% of the determinations made by the Board of Review, in favor to Revenue, prompted the change from the Board of Review to Appeal Commission. Because of complains were made by tax consultants, regarding this bias. But still, same status quo continues.
Conflict-resolution-bias
The method of having 70% decisions in favor of taxpayer can be implemented in this way. Balance of probabilities is the criteria used in arbitrations or non criminal cases.
50% is the non stipulated norm. That is, decisions will favor to the party that has over 50% of the points favorable to them.
This 50% can be reduced to 30% in favor of taxpayer, in arbitration.
IRD High Profile Taxpayers
The worrkflows for High Profile Taxpayers
This will be the same as what is being done by IRD. But even here there need to be reforms not to waste the officer time in the process.
Following action proposed:
Officers scrutinizing tax returns and accounts will not negotiate with taxpayer for higher taxes. (unnecessary loophole, leads to corruption)
Auditing officers will gather information and when necessary issue assessments.
Tax Appeals Commission
Appeal procedure for High Profile cases
Appeal procedure for High Profile cases
Current method of appeal settlements will apply to High-Profile cases.
The appeals will be heard by the Tax Appeals Commission. This will be separate from arbitration board.
A separate body is essential because, the Tax Appeals Commission will be unbiased (50% 50%) in settling the cases. This will be very different from the arbitration board that need to look into cases biased towards taxpayer and decide on 70% bias.
The appeal process will be more or less very similar to the current process.
There will be a difference between the current process, regarding what is done by IRD.
IRD will issue Assessments, and after that Appeal board will take over.
IRD will not be allowed to negotiate with the taxpayer and come to settlement, before or after the assessment is issued.
This will be stark different from the small taxpayer where IRD is encouraged to negotiate with taxpayer.
There will be two paths after an assessment is issued. Either the taxpayer agrees the assessment and pay the tax or make an appeal to the Tax Appeals Commission.
Criminal Investigation Department
Criminal enforcement
Enforcement using punishment system is useful up to the point, that fear of punishment can control the system. But if the system blowups with the number of punishments, that system becomes useless.
The same can be said of a self assessed system, where returns are rejected and assessments issued. The number of assessments can increase exponentially.
Taxpayer education should take the foreground and criminal prosecutions take the background.
Criminal procedue
Suggestions for Criminal procedure:
A Small-Taxpayer makes a mistake he is allowed to pay the correct tax voluntarily.
Say 3 official warnings are given. Each official warning should be inserted in the blockchain, so, no one can change it in future.
If not heeding to official warnings criminal procedure will be initiated.
It might be better to have some other body to work on the criminal procedure. Like the police who manage financial frauds. They indict the taxpayer in a court of law for criminal offense. The aim of criminal procedure, should not be, on recovering the unpaid tax, but jail terms!
Then other disputes of the question of law: Disputes like some source is exempt, some deduction is not allowed, taxed at a certain rate
These will be settled by an arbitration board.
Burden of proof
Modus operandi used to initiate criminal procedure need be absolutely different from the current assessment procedure. In the assessment procedure onus of proving the assessment is wrong, rests on the taxpayer. Criminal procedure the onus will rest on IRD.
If criminal action all proof should be beyond reasonable doubt, and not balance of probabilities. Current IRD officers are not used to this or the onus resting on IRD. So an change in modus operandi needed.
Whenever an investigation is initiated IRD officers need to have this principal in the back of their minds. They should not work loosely.
IRD officers lack the knowledge of other laws that exist in the country. They are so much absorbed in the revenue laws, they tend to forget that there are other laws in operation.
Incorporate Modern Technologies
Modern Technologies
I propose to incorporate modern technologies to improve tax administration.
It will not be limited to computers.
Some of it are:
Using cryptography and blockchains, that will improve data security, High-level of Transparency, Better Efficiency and Better Traceability
Use CCTV like cameras to monitor officers preventing them from being corrupt.
Use Blockchain
Usual practice of Inland Revenue is to collect return data for each tax period and store it secularly, either manually in a paper based system or in a computer system or both.
The aim is to use that data in an audit and to extract statistics. Government spends a lot to do this. Also, officers need to spend time in correcting errors in the data. It is necessary because, not all taxpayers are fully computerized, and even if they are computerized their systems might differ from Inland Revenue systems.
As a solution, use Blockchain to store returns. for instance, taxpayers do not need to submit returns to IRD, just insert in the blockchain. In majority of cases submitting the return will be taking a photograph (say jpeg or png format) and use the smart phone to insert it in the blockchain. It will be an NFT (non fungible token, though there will no value in trading, say like a deed of a land). Beauty of it is, no one can change it later, after inserting.
In an audit, accuracy of the return stored in the blockchain is checked. Then there is no need for department to spend money and effort to store returns.
Other benefits, no other security needed. If photos of returns could be stored in the blockchain. However, privacy issue should be addressed. Latest Blockchain technologies to handle medical records have the necessary privacy.
With Blockchain, officers cannot connive with taxpayers and make changes to historical return or assessment data, which was the case in the past!
Blockchain Using Modern technologies
Instead relying on imported technologies like RAMIS we should use blockchain to insert encrypted records where the individual taxpayer can view his records and IRD selected officers also can view the records.
These technologies are available now. Main emphasis is on security and non-alterability. Because there is lot of tampering of records that erode the tax revenue. These technologies may be much more cheaper than imported tax systems and easily maintained. Since those will be distributed systems with large number of implementations, unlike tax systems targeted to a particular country and a particular tax system, they are cheaper.
Imported tax systems like RAMIS is more geared to calculate tax, which we may not need at the moment since we have an excessive staff. They can look after the tax calculation with the aid of a automated calculator tool. This tool will be a general one and the officer can cut in to make amendments suit to particular taxpayer.
biometric cryptography
Take the case of a taxpayer submitted the return.
How can you prove that a particular person did this, not someone else?
In the past the signature is the evidence.
It is very difficult with e_returns, to prove in a court of law that person was in fact sent the return.
Solution is biometric cryptography
It happens like this:
The person need to come to IRD or IRD officers need to visit the person.
Usual practice (with current technology) is to use the mobile phone as the link. The officers will take the biometrics, say fingerprint, then particular app will be configured to do the authentication. Currently most mobile phones have fingerprint authentication.
When the taxpayer send a return if it is a photograph, uses the phone to get the photograph through the app, then upload the photo, but before allowing to upload the app will request the fingerprint. If the fingerprint is ok the return is sent. If the return is digital and need to send by a PC, still the smart phone will do the authentication before the PC upload the data. This is the usual practice adopted by most modern banks.
biometric blockchain
Some of the technologies mentioned in this article may not be fully developed and functional. However, it is the future and will be coming in near future, and better be prepared. This preparation need not be regarding technology, prepare the personal, their awareness of the technologies.
Read only Diary
Another alternative to privacy issues, is only the hash (it is a number that can be verified with the original document, if changed verification returns false) of the return goes to the blockchain and the photo or the return is stored in an IRD unerasable database.
Taxpayers have access to insert and browse. Only the particular taxpayer and IRD will have access to the record or photograph of the return. Facility to search for the document, depending on date, year, type, etc will be available.
This is one way database where taxpayers can insert documents required by IRD. IRD can browse but not change.
Well, then you might ask, blockchain what is it for? Since the return is in the custody of IRD there can be a legal challenge, IRD tampered with data. We need to forget paper based systems which are very different for electronic systems. Cannot use graphologist as an independent verifier. Before RAMIS IRD had paper based original document archived, that has handwritten signature of the person submitting the return.
Using cameras similar to CCTV to limit Officer fraud
If someone is watching, crimes are not usually to committed.
Psychologically, if proceedings are recored in camerae taxpayer and officer both will be careful not to utter a wrong sentence. This will make conniving extremely difficult, and to discuss an arrangement to defraud the government.
In most developed countries, police officers wear cameras in there suits. This will stop them committing wrong.
Taxpayer interview video file, goes into the Blockchain. So even the officers in IRD cannot tamper. This will be evidence in a court of law, because of tamper proofing.
Camera for external audit
Use a online camera for external audit.
These cameras are very cheap and use is widespread. Widely used for monitoring houses.
In an external audit at the business place, the camera is setup. The supervising officer, stationed in the central office, observing the proceedings by video, give the green light to go ahead with the audit, if he is satisfied with the placement of the camera.
Each audit team will carry a camera with foldable stand.
Using cameras will not stop all fraud, but it generates a psychological impact not to do fraudulent things.
Using XML format to transfer data
In Sri Lanka most popular format to handle data is in Excel spread sheets.
The common practice in Sri Lanka is to transfered data either comma separated text files (which is rare) or whole Excel files.
The better option is to use XML(Extensible Markup Language) is the most favored form to transfer data from entity to entity.
The one example of the processes proposed by me, which can be expanded to other than using Excel:
- Taxpayer use Excel Sheet to prepare the return.
- Data converted XML format using XSD schema provided by IRD. The schema will be different for each tax period, tax type and taxpayer category.
- Initially, this system, XML scheme can be implemented for withholding tax. And later for VAT and Income tax.
- Central Bank should issue digital tokens for say Rs. 1000, 10,000, 100,000. These will be available in commercial banks. Taxpayers can use their smart phones, PCs to have a crypto wallet and purchase these tokens to their wallet.
- These tokens can be used to pay taxes. They have to pay the taxes with the tokens along with the returns.
- The beauty of the system is, it need not have any manual checking! Suppose taxpayer pay the tax to the bank, then there are a chain of processors and checking, both manual and computer, up to the point it reaches the IRD. Then further processes are done in IRD both manual and computer. Then they will issue assessments on any discrepancies. Almost 90% of the work of IRD revolve around these assessments. Then on top of that, multiple safeguards are implemented to preserve the security of these assessments. Most of IRD security apparatus are aimed at making the assessments tamper proof. But there are so many holes, where taxpayers and tax administrators go through to defraud government!
- Only security needed in this system is to safeguard the tokens at each stage, when it is in the hands of the bank and when it is passed to IRD as tax payments. They should transfer it to government coffers immediately.
- Refunds also can be done with same or different kind of tokens. It will be transfered to the wallet of the taxpayer, the taxpayer can get it cashed through banks.
- It may not be possible to implement these precesses at once, but can be done in stages.
- At the time of tax payment by the taxpayer, these details of the return (either XML, or other format like a photo of the return) will go to the block chain
- Using blockchain since it is an open ledger the problem of secrecy and privacy will crop up. This may be solved by going along the lines of medical data in blockchain. On the other hand, withholding tax may not need that amount of privacy!
Procedure or workflow, with WHT handling
Withholding taxpayer buys tokens form the bank equal to the tax quantum he has to pay, this money is the sum he collected as withholding tax from his service providers.
Prepare a list of the details of the withholding taxes of each individual in XML format specified by the schema given by IRD.
Now the crypto tokens he bought will be in a crypto wallet. This may reside in his PC or smart phone.
He will use the wallet to sign the XML document plus the tokens and insert it in the blockchain.
When IRD extract the XML document they are confirmed that the necessary payment is made.
So, IRD will promptly insert the withholding tax of each one beneficiary taxpayer in the list, to their wallets.
Each taxpayer can use his wallet to pay his total tax, by adding what ever balance needed, by purchasing the necessary tokens from the bank.
Comparatively, instead using tokens, this process can also be done by bank. Then bank need security in sending the payment details to IRD, lot of personals involved. This is the process currently used. It is not operating smoothly, taxpayers have to go after the bank personally and get another conformation, then IRD will recheck it with their records manually before allowing the credit. Sometimes tell the taxpayer to request bank to contact the IRD officer personally, to verify the WHT.
IRD need to tally the payments in the return with the bank details.
Then IRD will need to give credit to each taxpayer for their returns.
This is lot of additional work to IRD and the taxpayer.
Using Tokens to pay tax
Digital tokens can be used to pay tax.
Tokens are something similar to Bitcoin, or a crypto currency. But there is a big difference, tokens can be created by anyone, unlike a crypto currency. Further, it works on top of a crypto currency like Ethereum or Bitcoin. To pay tax Central Bank can create the tokens. Then sell these tokens to commercial banks for rupees. Commercial banks will sell it to taxpayer. And taxpayers will pay tax using the tokens.
Crypto Rupee
We can create a crypto Rupee
The process is like this:
Central Bank should issue digital tokens that run on a blockchain most popular at the time is Ethereum.
Denominations say Rs. 1000, 10,000, 100,000. They will have the exact value as a Rupee!
The tokens are minted by the Central Bank and sold to commercial banks.
These will be available in commercial banks.
Taxpayers can use their smart phones, PCs to have a crypto wallet and purchase from any bank these tokens to their wallet.
These tokens can be used to pay WHT, VAT or Income Tax
Along with the tokens the return will be digitally signed and inserted in the blockchain.
These tokens will be bought back by Central Bank from IRD and returning Rupees to the Treasury.
Alternatively, when Central bank sells tokens to commercial banks the proceeds, Rupees should be transfered to the Treasury. And instead of tokens passing to IRD by the taxpayer, the tokens can be burned by the taxpayer! This will reduce the process.
So, no additional money supply but treasury will have rupees as tax revenue.
If the system is successful it may be extended to VAT input.
Cloud Computing
Usually data, in a tax administration, a large amount of data need to be handled. This data need, high security to protect taxpayer information, data protection to avoid accidental or malicious deletion or alteration, accessibility for ease of access by a large number of users, low cost to reduce government expenditure.
Data Centers are currently used by Inland Revenue Department. I suggest to transfer, may be gradually, to Cloud Computing. Other countries are trying to do it accept for defense related data. One of the main advantage is to protect from hackers and viruses. High cost in IT personal is necessary to protect local data centers from hackers and viruses. If a hacker or viruses attack takes place, it will be difficult to find fault, and who is responsible. If there is a lapse in the part of IT personal this may happen. But in cloud computing, since providers are servicing a large number of clients, a large team is employed to check on most recent developments in hacking and viruses, so protection is more than a local data center. In case of a disaster recovery cloud computing has high marks, than local data centers.
Scalability in Cloud Computing, ability to increase or decrease amount of data that is necessary to handled is very high. So even for individuals, small companies, large corporations and governments cloud computing is advantageous.
Progressinve ideas
Full implementation of VAT
VAT or GST should be implement fully, adhering to international standards.
All sales vouchers should indicate the price clearly and have VAT quantum printed. (so,no imposition under the table, do away with the practice of invoices “including VAT”) All goods should be properly price marked with VAT. In the past government allowed various sectors to issue sales vouchers as VAT included price. And in those cases input credit cannot be claimed. The downside is, unlike a specific VAT indicated invoice, the seller may not pay the correct VAT to the government.
If this is implemented, the record keeping of the seller will be clean and better able to verify in an audit.
VAT input checking
VAT input crosschecking is very important in correct implementation of VAT.
In an audit samples of input credit vouchers can be taken to the custody of the audit team.
These will be used to cross check in subsequent audits.
Officers in the field will improve the tax revenue.
The current method employed relies more on computerized data than audit visits. Taxpayers input to the computer system in a format specified by IRD.
This has following drawbacks:
Accuracy, taxpayers may be making random mistakes in inserting the data. These mistakes will cause more audits or assessments to taxpayers. And additional burden to IRD. This is one of the causes of excessive assessments.
Taxpayer need to put labor to do the task of submitting input credit data, that exactly matches IRD system, and it is an additional burden to the taxpayer.
The formats used by the taxpayers always do not tally with that of IRD, so addition software cost.
Excel is the favored format by IRD which is not suitable for this type of data transfer.
IRD need to spend lot of computer power to tally the entries.
Ability to tally the inputs is no defense against frauds relating to conniving taxpayers.
Wealth Gift Estate duty
Implement Wealth Tax, Gift Tax and Estate Duty.
These are usually imposed on the well to do sections of the public.
So, increasing tax revenue by these will not directly impact masses.
These taxes were present in the past, but abolished because the revenue quantum was small.
However, these may be good tax handles to increase the revenue.
Pension for taxpayers
Pension scheme for high tax paying individuals.
Theory behind is: In old age or for some other reason taxpayer may loose income, then they will loose the ability to sustain. So they need to collect and withhold some money. This is one reason for defrauding tax, fear of loosing future income.
Pension scheme for taxpayers is a good reason that can answer the most popular questions by taxpayers. Why we need to pay taxes? what is it for us?
A welfare state should look after the old.
If it is not possible to implement immediately, a future plan to do it may be sufficient.
In past children looked after the parents, which is a rare phenomena in the current context.
Pension is much better than EPF and ETF schemes. It is a burden for old people to invest, most will squander these terminal benefits or there will be some leftover at time of death that passes to children, that makes old not utilizing the benefits in full.
A pension scheme for all, will reduce the demand to become government servants.
With such a scheme government can impose high taxes, that can reduce short term budget deficit and pay some years later as pensions.
In developed countries, when they loose their job a certain payment is made until they get a job, and in old age they are entitled for a pension.
