A Proposal for the Development and Testing of a Diagnostic Tool for Assessing VAT Compliance Costs

Transcription

1 International Richard Highfield, Michael Walpole and Chris Evans* A Proposal for the Development and Testing of a Diagnostic Tool for Assessing VAT Compliance Costs Over the last two decades, many governments have sought to take stock of the burden generally imposed by their regulations, especially in relation to taxes imposed on businesses, and to identify and adopt measures to reduce the costs of complying with such regulations. In many countries, the VAT has been found, or is perceived, to be among the most burdensome of all taxes on business. This article sets out the design features of a proposed diagnostic tool for gauging the likely incidence and significance of VAT compliance costs at the country level and its use in comparative crosscountry assessments as a means of driving thinking about reform. 1. Introduction Interest in the issue of tax compliance costs has grown significantly over the last two decades, in large part as a result of the pioneering work of academics such as Cedric Sandford. 1 More recently, prompted largely by external pressures, many governments have started to take stock of the burden generally imposed by their regulations, especially on businesses, and sought to identify and adopt measures to reduce the costs of complying with such regulations. 2 Tax regulations have been a primary focus of * Richard Highfield, Michael Walpole and Chris Evans, University of New South Wales, Sydney, Australia. Readers wishing to obtain further information or keep abreast of progress with development and testing of the diagnostic tool can write to the authors at richardhighfield@msn.com. 1. See C. Sandford, M. Godwin & P. Hardwick, Administrative and compliance costs of taxation (Fiscal Publications, Bath 1989); and C. Sandford, Tax compliance costs: Measurement and policy (Fiscal Publications, Bath 1995). A comprehensive review of compliance costs studies can be found in C. Evans, Taxation compliance and administrative costs: An overview, in Tax compliance costs for companies in an enlarged European Community pp (M. Lang, C. Obermair, J. Schuch, C. Staringer & P. Weninger eds., Kluwer Law International 2008). Other valuable sources of comparative information on compliance costs studies include in European Commission, A Review and Evaluation of Methodologies to Calculate Tax Compliance Costs, Working Paper N in EC s series of Taxation Papers, prepared by Ramboll Management Consulting, the Evaluation Partnership, and Europe Economic Research (2013); and S. Eichfelder & F. Vaillancourt, Tax compliance costs: A review of cost burdens and cost structures, Arqus discussion paper 178 (Nov. 2014). 2. See, for example, OECD, From Red Tape to Smart Tape: Administrative Simplifications in OECD Countries (OECD, Paris 2003); OECD, Cutting Red Tape: Comparing Administrative Burdens across Countries (OECD, Paris 2007); and European Commission, Europe Can Do Better Best Practices for Reducing Administrative Burdens (European Commission, Brussels 2012). More recently, the New Zealand government launched a five-year plan to reduce business costs for dealing with government by 25% by 2017 (Ministry of Business, Innovation and Employment, 2012). this increasing activity given the significant burden perceived to result from the generally large number of taxes in place and a tendency for greater complexity within most tax legislation, especially the corporate income tax (CIT) and value added tax (VAT). Perhaps not entirely due to coincidence, this growing interest in tax compliance costs has largely paralleled the increasing use of VAT systems as a source of government revenue, a form of taxation which many countries studies have shown to be the most burdensome for business of all taxes. 3 Over the decades, a variety of approaches has been used to gauge the size and nature of tax compliance costs. In early research efforts, surveys, in particular postal surveys, of a random selection of businesses were frequently the main source of data. However, surveys along these lines require considerable effort and time and the results are not always conclusive given the low response rates sometimes achieved. As a result, more recent efforts to better understand the burden of tax regulations have largely entailed the use of other methodologies, in particular the European Commission s Standard Cost Model and the World Bank s Doing Business (DB) series. While each of these methodologies has a number of useful features, they also present their own set of conceptual and practical limitations. With a view to bringing greater attention to tax compliance costs, while recognizing the perceived shortcomings of other methodologies, this paper sets out the features of a diagnostic tool for gauging the likely significance of VAT compliance costs at the country level and its potential use in comparative cross-country assessments. Should the concept prove feasible and useful, it is expected to have potential application in relation to other major taxes. In section 2. of the paper, the authors review previous research in the area, whilst section 3. considers the growing use of diagnostic tools in tax system management. Section 4. provides the background on the development of the diagnostic tool that is the subject of this paper, and details its current design. Section 5. concludes with an outline of the plan to explore the feasibility and usefulness of the diagnostic tool in See, for example, Eichfelder & Vaillancourt, supra n. 1, at pp International VAT Monitor May/June 2017 IBFD

2 A Proposal for the Development and Testing of a Diagnostic Tool for Assessing VAT Compliance Costs 2. The Methodologies Used to Quantify/Assess Tax Compliance Cost Burden Over the decades, a variety of methodologies have been used to gauge the size of tax compliance costs within individual countries. Evans 4 provides a systematic account of the main studies (primarily quantitative, but also some qualitative) conducted over the prior 20 years or so and observes that surveys, in particular postal surveys, of a random selection of businesses are frequently the main source of data: 5 Postal surveys feature most prominently..., with nearly two thirds of the studies using this methodology wholly or in part. Roughly one quarter of the studies used interviewing techniques, usually on a face-to-face basis and with a structured survey instrument or script built into the process. The labour intensive diary and case study approaches tended to be the least used methodology. However, it is evident that such methods require considerable effort and time and the results are not always conclusive, particularly given the low response rates often achieved. Pointing to the future, Evans 6 observes: Using a variety of methodologies researchers have identified and quantified both compliance and administrative costs, and are now exploring a number of related and more qualitative issues. As Evans, Pope and Hasseldine note in their concluding chapter, 7 future operating cost research is likely to both drill down (seeking depth by looking at hot spots and politically sensitive areas) and reach out (broadening the scope of the research to embrace new countries, more comparative work, other disciplines and fresh methodologies). Given the amount of work required with large-scale surveys, it is not surprising that more recent efforts to better understand the burden of taxation and other government regulations have shifted to other methodologies, the number of which has grown enormously. In particular, a number of estimating and simulation models have been developed designed to provide measures of the tax compliance burden in one form or another. A study 8 prepared for the European Commission provides a valuable source of information on these more recent developments with tax compliance research methodologies. The study outlines 12 methodologies identified from research, and assesses whether they can be used to support the preparation of impact assessments and to measure the tax compliance costs of both small and large businesses (as well as for cross-border transactions), whether they can be used to compare countries tax compliance costs on a regular basis, and their level of flexibility in measuring the compliance costs of various taxes. A summary table of these features is provided in Annex 1. On the basis of the comparison of methodologies and the criteria used to evaluate each one, the study concluded 4. See C. Evans, Studying the studies: An overview of recent research into taxation operating costs, 1 ejournal of Tax Research 1, pp (2003). 5. See Evans, supra n. 4, at p Id., at p C. Evans, J. Hasseldine & J. Pope, State of the art and future directions in Tax compliance costs: A Festschrift for Cedric Sandford pp , (C. Evans, J. Pope & J. Hasseldine eds., Prospect Publishing 2001). 8. See European Commission, supra n. 1. that the Standard Cost Model (SCM) is the most useful methodology in a European context. However, it observed that the Paying Taxes Indicator of the DB series was particularly strong in cross-country comparisons of tax compliance costs and in doing so on a regular basis. In the authors views, however, there remain a number of important concerns with both methodologies and similar reservations have been expressed by other parties. For example: Standard Cost Model The report of the study conducted for the European Commission 9 notes that while the normally efficient business assumption which underpins the SCM methodology provides a detailed approach with a single standardized estimate for each potential segment, it also has its limitations and challenges. The normally efficient business assumption may, on one hand, simplify the measurement but, on the other hand, remove it further from reality. Furthermore, the assumption does not ensure uniform, consistent or accurate data collection. Eichfelder and Vaillancourt 10 also raise similar concerns, suggesting that the approach generally lacks representativeness and can lead to erroneous cost estimates which they illustrate by country example. Evans 11 notes that the resulting estimate of costs is only a partial measure of full compliance costs (for example, it does not seek to measure voluntary compliance costs and a host of other costs). The report prepared for the European Commission 12 observes that it is possible to carry out cross-country comparisons using SCM. However, this can be complicated owing to small differences in the practical application of the SCM being present and ad hoc decisions made as part of the measurements across Member States. An additional concern in the view of the authors is that despite the SCM s wide use across the European Union, the frequency of measurements by individual countries varies significantly, resulting in a lack of comprehensive cross-country data, either for specific years or over multiple years that would enable trends to be observed. DB Paying Taxes Indicator Over a number of years up to 2012, officials of the OECD s Centre for Tax policy and Administration conveyed concerns to the World Bank over the integrity of the Paying Taxes Indicator. Specifically, these included the lack of representativeness inherent in the single case study approach, assumptions made that underpinned the number of payments indicator, a lack of transparency in how the estimates of time spent to comply with tax obligations were constructed, the crude form of ranking employed, and how the findings were being presented and interpreted externally as empirical evidence of compliance burden 9. Id., at p See Eichfelder & Vaillancourt, supra n. 1, at pp See Evans, supra n. 1, at p See European Commission, supra n. 1, at p. 24. IBFD International VAT Monitor May/June

3 Richard Highfield, Michael Walpole and Chris Evans when, in reality, they were no more than a computation of the hypothetical burden for a single non-representative company. Unfortunately, many of these concerns and similar ones made in a formal review of the DB series conducted in 2012/13 (World Bank, 2013) have been ignored. 13 Studies by some academics, for example Barbone, 14 and Eichfelder and Vaillancourt 15 make passing reference to the Paying Taxes Indicator, observing that the cost (i.e. time) estimates made, while extensive in number, are not representative survey-based cost estimates and that there exists a considerable variance across countries of time burdens for the taxes estimated, pointing to various extreme examples. Taking into account what they regard as a lack of transparency and representativeness of cost measurement, Eichfelder and Vaillancourt 16 suggest a degree of caution in their interpretation. This view is shared by Tran-Nam and Evans, 17 who identify six key limitations: the focus on medium-sized companies; the fact that the total tax rate is more a measure of tax burden rather than tax compliance burden; the omission of key compliance costs (such as external adviser fees) from the estimate; lack of detail about the methodology involved; concerns about statistical validity; and concerns about the quality of the results. 3. The Growing Use of Diagnostic Tools in Tax System Management 3.1. Existing diagnostic tools Interest in the health and efficient functioning of countries tax systems has grown significantly over the last decade, in particular in the aftermath of the global financial crisis of 2008/09. As a result, the performance of countries tax systems and their respective administrations have come under increasing scrutiny. To assist both individual countries and those responsible for making evaluations and providing technical advice and guidance, international bodies have developed a range of diagnostic tools that are designed to provide for a structured and systematic assessment of particular aspects of countries tax systems. These include: the European Commission s Fiscal Blueprints; the Public Expenditure and Financial Accountability (PEFA) network s Performance Measurement Framework (PFN); 18 and 13. On a positive note, it should be acknowledged that the documentation now accompanying the DB series makes greater attempts to clarify how its indicators are constructed and how they should be interpreted, while the approach taken to ranking countries has also been substantially modified. Moreover, despite its perceived shortcomings, it must be acknowledged that the DB aeries and its Paying Taxes Indicator have been successful in instigating substantive reform efforts in many countries. 14. L. Barbone, R. Bird & J. Vazques-Caro, The costs of VAT: A Review of the Literature, CASE Network Reports 106 (2012). 15. See Eichfelder & Vaillancourt, supra n Id. at p B. Tran-Nam & C. Evans, Towards the Development of a Tax System Complexity Index, 35 Fiscal Studies 3, pp (2014). 18. PEFA is a multi-agency partnership programme sponsored by the World Bank, IMF, European Ccommission, the United Kingdom s Department for International Development, the French and Norwegian the International Monetary Fund s (IMF s) Tax Administration Diagnostic Assessment Tool (TADAT). All of the tools seek to examine and rate aspects of a country s tax administration system, applying a series of highlevel indicators and a system of scoring for specific aspects of administration. An additional tool the IMF s Revenue Administration-Gap Analysis Program (RA-GAP) provides a structured approach for helping revenue bodies undertake tax gap analysis. While all serve a useful purpose in evaluating aspects of national tax system management, none of them give explicit attention to tax compliance costs. The use of diagnostic tools and frameworks incorporating systems of scoring and ranking countries by way of an index or what the OECD terms a composite indicator is used widely in other domains for evaluating government policies and programmes. Examples include: the OECD s Programme for International Student Assessment (PISA), for evaluating and ranking education systems worldwide; the United Nations Human Development Index (HDI), which reflects average achievement in key dimensions of human development; Transparency International s Corruptions Perception Index, which scores and ranks countries based on how corrupt a country s public sector is perceived to be; and the World Economic Forum s Global Competitiveness Index, which assesses the competitiveness landscape of economies, providing insight into the drivers of their productivity and prosperity. More is said on the possible development of a composite indicator for VAT compliance costs in section Criteria for an effective diagnostic tool The feasibility study undertaken that preceded the development of the IMF s TADAT product includes some useful insights as to the general characteristics of a diagnostic tool for assessing aspects of tax administration performance that the authors consider are helpful in developing a tool to examine tax compliance costs. Crandall 19 provides an account of the feasibility study and, drawing on an analysis of other analytical tools and approaches applied to tax matters and his own research, suggests a range of desirable characteristics for a diagnostic assessment tool, including: comprehensiveness: the design of the diagnostic tool should encompass all relevant areas; focus on a few critical aspects: while being comprehensive, a degree of selectivity is needed to ensure that the most important aspects are properly assessed; Ministries of Foreign Affairs, and the Swiss State Secretariat for Economic Affairs. 19. W. Crandall, Developing a Tool to Assess Tax Administration Performance, A Feasibility Study prepared for the Public Expenditure and Financial Accountability (PEFA) Partnership (May 2011). 230 International VAT Monitor May/June 2017 IBFD

4 A Proposal for the Development and Testing of a Diagnostic Tool for Assessing VAT Compliance Costs straightforward and understandable: the tool should be simple to understand and apply; based on standardized data: using the tool entails working with standardized data sets and common definitions; consistency and common structure: the tool would need to be used consistently over time, and in an objective manner to the extent possible; predicated on evidence-based assessments: assessments should be supported by specific data, documents or observed activities, and the quality of evidence ascertained periodically; incorporated scoring system: while scoring has its pros and cons, where carried out competently it can provide an objective means of gauging progress over time, rather than simply relying on narrative assessments; support from international bodies and donors: wide and effective use of the tool dictates that its development and ongoing use be overseen by a recognized international body. These factors provide a useful frame of reference to guide thinking on the design of a diagnostic tool focusing on tax compliance costs, and have been incorporated, wherever feasible, in the actual design of the diagnostic tool for VAT compliance costs which is the subject of the next section of the paper. 4. Developing a Diagnostic Tool for VAT Compliance Costs 4.1. Background Over the period 2006 to 2010, OECD officials working on behalf of the Forum on Tax Administration were engaged in a series of studies intended to shed light on the priority areas being targeted by member countries for reducing tax compliance costs and the nature of the specific measures being implemented. 20 The timing of these studies coincided with a wave a compliance burden/red tape reduction initiatives that had been launched by governments across many OECD countries, for some as a result of specific mandates and burden reduction targets set by international bodies such as the European Commission. It was in the course of conducting these studies that OECD officials came into contact with the use of the SCM by many EU Member States and the DB series Paying Taxes Indicator developed by an arm of the World Bank, and became more familiar with their strengths and shortcomings. With a view to bringing greater attention to the issue of tax compliance costs, and concerned by the integrity of the main methodologies being used at the time, in 2012 officials at the OECD Centre on Tax Policy and Administration commenced exploratory work on an idea for an alternative methodology. 21 It was acknowledged from 20. See OECD, Programs to Reduce the Administrative Burden of Tax Regulations in Selected Countries (OECD, Paris, Jan. 2008); and OECD, Programs to Reduce the Administrative Burden of Tax Regulations in Selected Countries: Follow-up Report (OECD, Paris, Mar. 2010). 21. This initial work was led by Richard Highfield working with Jonathan Leigh Pemberton and Piet Battiau, both OECD officials, and further the outset that it would be impractical to ask all OECD member countries to undertake comprehensive compliance cost exercises for all their major taxes, given the time and costs involved and the many practical issues that would arise in ensuring that an agreed methodology was applied consistently across the countries involved. A more modest and practical approach was needed that suggested looking at each major tax. Initial thinking about assessing the tax compliance burden associated with VAT systems, which many studies have shown to be the most burdensome in a compliance costs context, 22 suggested that it should be possible to develop a diagnostic framework/tool that identifies the main factors that drive taxpayers compliance costs, to identify a comprehensive set of compliance burden indicators that could be applied reasonably objectively for each factor, and to derive a method of scoring and possible weightings that reflect their perceived contribution to the overall tax compliance burden. Applied systematically and regularly at the individual country level, it was envisaged that the tool could provide insights as to whether progress was being made in an overall sense to reduce taxpayers compliance burden and to identify those areas of tax system design and administration that continued to require attention from a burden reduction perspective. An additional consideration concerned the potential to undertake large-scale cross-country comparisons, given the attraction of using such comparisons to encourage poor performers to give greater attention to addressing the compliance burden. Under this scenario, a large number of countries would be able to make comparisons between their tax systems and assess the likely impact of the policy and operational choices they make on compliance costs. The set of indicators would show how a country scores against a comprehensive range of predetermined factors (and related largely objective indicators) that reflect important elements of tax compliance burden/ costs (i.e. activities related to time and effort required to comply with tax obligations and, for some taxes such as VAT, offsets and detriments linked to the time value of money ). If it was possible to identify an appropriate weighting for each of the indicators, then that could be used to arrive at an aggregate, overall score for the compliance burden of the tax in each country, which could be assisted by Michael Walpole (UNSW) during his secondment to the Centre. It included discussions with selected country tax officials and representatives of the European Commission and business sector that were associated with the Committee on Fiscal Affairs Working Party 9 (Consumption Taxes) but was never advanced beyond the preliminary development stage owing to other work priorities, and was suspended in early In mid-2015, academics at the UNSW School of Business agreed that the idea of a diagnostic tool, initially focussing on VAT compliance costs and building on the earlier OECD work, warranted further exploration. To this end, it sought preliminary expressions of interest in advancing this new work from a cross section of academics and the IMF (Michael Keen). There was wide interest in doing so. 22. For example, see OECD (2008), supra n. 20; Barbone et al., supra n. 14, at p. 8; and C. Evans, A. Hansford, J. Hasseldine, P. Lignier, S. Smulders & F. Vaillancourt Small business and tax compliance costs: A cross-country study of managerial benefits and tax concessions, 12 ejournal of Tax Research 2, pp (2014). IBFD International VAT Monitor May/June

5 Richard Highfield, Michael Walpole and Chris Evans the basis for more meaningful comparisons than can be made using the indicators currently available Factors influencing the incidence of tax compliance costs To advance thinking on this matter, preliminary work was undertaken to develop a diagnostic tool for assessing VAT compliance costs, involving experts in VAT and tax policy and administration, to identify the possible elements of such a model. The starting point for this thinking was the identification of those factors typically highlighted in the contemporary literature on tax compliance costs as significantly influencing their incidence: 23,24 tax law complexity; number and frequency of administrative obligations and practices; revenue body capabilities in meeting taxpayers service and compliance needs; and monetary costs and benefits associated with the act of complying. For each of the burden factors mentioned, steps were taken to develop a preliminary range of indicators that could be used to gauge their likely magnitude. More recently, some additional work has been undertaken to devise a set of strategic objectives (i.e. desirable outcomes from a compliance costs perspective for specified areas of policy and administration) that aim to better frame and justify the set of indicators being advanced. All of these matters are explored further in the remainder of this section. At this stage, the set of factors, strategic objectives and accompanying indicators should be viewed as work in progress all require some further discussion and testing for relevance and completeness. As a diagnostic tool per se, the purpose of the tool is to point to the most prevalent factors that are driving the overall incidence of tax compliance costs Tax law complexity Acknowledging the difficulty of assessing the contribution of tax law complexity to VAT compliance costs, the originating OECD design work adopted a relatively simplistic approach in this regard, focusing on what were seen to be desirable features of the rate structure, the scope of exemptions, and availability of simplified methods for 23. These included S. Cnossen, Administrative and Compliance Costs of the VAT: A Review of the Evidence, Tax Advisors Forum, Tax Notes Int l (20 June 1994); L. Ebrill, M. Keen, J. Bodin & V. Summers, The Modern VAT (International Monetary Fund, Washington 2001); KPMG, Administrative Burdens HMRC Project, vol. 2, part 27 (2006); and Barbone et al., supra n More recent research findings also generally provide support for the framework and indicators adopted. Eichfelder & Vaillancourt, supra n. 1, at pp , conclude that the complexity of tax law depends upon, inter alia: the number of taxes at the regional and national level; the number and understandability of tax regulations; the number of tax rates (e.g. for VAT), exemptions and tax credits; the frequency of law changes; and the frequency of tax payments. M. Walpole, VAT Compliance Cost Indicators, Australian Tax Forum 29, pp (2014) observes that the following factors appear particularly relevant: the costs of invoicing and record keeping, calculation and return filing processes, filing frequency, poor availability of good guidance, and poorly designed margin and calculation regimes. computing periodic liabilities from the viewpoint of minimizing taxpayers compliance costs. In brief, the following approach was adopted: (1) Taking into account the vast variety of products and services typically subject to VAT, a VAT with a single rate (with a zero rate for exports only) is taken to be easier (and less costly) for businesses to apply in practice; the greater the number of non-standard rates, the likely higher the level of compliance costs imposed on business owners as a result of this design feature. Support in favour of this assumption can be found in the following quote: 25 The exemptions and differentiated rates that are prevalent throughout the EU violate the logic and functionality of the VAT. More importantly, they are highly distortionary and greatly complicate the administration and compliance with the tax. Moreover, international bodies have observed that [t]here is considerable experience suggesting that multiple rates increase compliance and administrative costs and perhaps facilitate evasion. 26 (2) As in (1), the incidence of exemptions is assumed to have a direct bearing on the ease with which a VAT can be administered by businesses, especially SMEs; the greater the number and variety of exemptions (as measured by their aggregate share of the theoretical tax base), the likely higher the level of compliance costs imposed on businesses. (3) The availability of simplified methods for calculating periodic liabilities is also taken account of by recognizing the existence of provisions in the VAT law that permit the use of the cash basis (in addition to the accruals basis) for computing VAT liabilities or other simplified methods for particular industries (e.g. cafes and restaurants). The objectives identified and the preliminary set of indicators proposed for each of these areas is therefore as shown in Table Number and frequency of administrative obligations and practices The number and frequency of obligations under the law, along with certain revenue body practices, clearly have a direct bearing on the compliance costs borne by businesses, particularly smaller enterprises that have obligations under a country s VAT laws. In short, the more obligations that exist and the greater their frequency, the larger the amount of time and effort required of busi- 25. From the preface to S. Cnossen, Three VAT Studies, prepared for the CPB Netherlands Bureau for Economic Policy Analysis, p. 7 (CPB The Hague 2010). 26. See International Tax Dialogue, The Value Added Tax, Experience and Issues, Background Paper for the OECD Global Forum on VAT (Paris Nov. 2012), which references R. Bird, Commentary, in Dimensions of Tax Design The Mirrlees Review p. 366 (S. Adam, et al. eds., Oxford University Press 2010); and Copenhagen Economics, Study on reduced VAT applied to goods and services in the Member States of the European Union (2007), available at tion/files/docs/body/study_reduced_vat.pdf (accessed 6 Sept. 2016). The International Tax Dialogue is a collaborative network involving the IMF, European Commission, OECD, and World Bank. 232 International VAT Monitor May/June 2017 IBFD

6 A Proposal for the Development and Testing of a Diagnostic Tool for Assessing VAT Compliance Costs Table 1 Strategic objective (to assist minimize tax compliance costs) The tax has a simple (single) rate structure. The tax has minimal or no exemptions. The law permits small businesses to use cash accounting records to calculate their VAT liabilities and the majority of eligible registered businesses do so. Rules exist for prescribed industries enabling simplified calculations of periodic liabilities, and these are used by the majority of taxpayers in those industries. Description of proposed indicators The VAT rate structure: (1) No non-standard rates apply (other than a zero rate for exports). (2) One non-standard rate applies. (3) Two non-standard rates apply. (4) Three or more non-standard rates apply. Incidence of exemptions: (1) Nil or very narrow* range of exemptions. (2) Standard* range of exemptions. (3) Extensive* range of exemptions. * Benchmarks for deciding what constitutes a narrow, standard and extensive range of exemptions to be determined. Cash basis accounting rules: (1) The majority of small businesses required to pay VAT are able to use the cash basis of accounting for calculating VAT liabilities. (2) Between 25% and 50% of small businesses required to pay VAT are able to use the cash basis of accounting for calculating VAT liabilities. (3) Less than 25% of small businesses required to pay VAT are able to use the cash basis of accounting for calculating VAT liabilities. (4) use of the cash basis of accounting is generally not permitted and VAT liabilities must be calculated on an accruals basis. Simplified rules for calculating VAT liabilities in prescribed industries: (1) Simplified rules exist for taxpayers in one or more prescribed industries that are estimated to account for over 50% of taxable persons. (2) Simplified rules exist for taxpayers in one or more prescribed industries that are estimated to account for between 25% and 50% of taxable persons. (3) Simplified rules exist for taxpayers in one or more prescribed industries that are estimated to account for over 0-25% of taxable persons. (4) There are no simplified rules for taxpayers in any prescribed industries. ness owners to meet their tax obligations. For a VAT, the more common obligations for businesses include the need to register once a prescribed threshold (e.g. turnover) is reached, to regularly make payments and file VAT returns and, in a growing number of countries, a requirement to report details of invoices and summary information. Taxpayers compliance costs are also impacted by the conduct of audits and, where deemed necessary, the need to dispute VAT assessments. An important consideration in a tax compliance (and administrative) costs context concerns the proportion of the business population that is required to register and collect VAT on their sales. A registration and collection threshold set too low can substantially increase the population of businesses that fall within the net of taxable persons, and hence add to their compliance burden, as well as add significantly to the administrative costs of the revenue body. 27,28 On the other hand, a high threshold can 27. Many governments have taken steps to exclude small traders from their VAT system through the use of a threshold below which they are (compulsorily or voluntarily) exempted or not required to register. Thresholds are mostly, but not always, set as a prescribed amount of annual business turnover. Thresholds are generally applied to minimize taxpayers compliance costs and the administrative costs of tax bodies. 28. As noted by the International Tax Dialogue, supra n. 26: A high threshold can also alleviate the compliance burden on firms, which can be sizable: Research from New Zealand concludes that VAT compliance costs of SMEs amount up to 21% of their turnover. The original research from New Zealand can be found in Colmar Brunton, Measuring the tax compliance costs of small and medium-sized businesses: Final Report prepared for the New Zealand Inland Revenue Department, (Colmar free the vast bulk of very small businesses from VAT compliance obligations, albeit with some loss of revenue, and keep the workload of revenue bodies to more manageable levels. Finding the right balance is influenced by a variety of factors that can play out quite differently from country to country. As a result, the level of the VAT threshold observed in practice across countries, even those described as advanced economies, varies enormously, with direct implications for the incidence of VAT compliance costs. 29 Payment and return filing frequency are also important considerations in a compliance costs context. 30 Over the years, many governments have sought to address the compliance burden that would otherwise result from imposing a standard one size fits all set of payment and return Brunton, Auckland June 2005), available at govt.nz/sites/default/files/news/ report-sme-compliance -costs.pdf (accessed 6 Sept. 2016). 29. The OECD s periodic publication Consumption Tax Trends documents various features of VAT systems in OECD countries. Concerning registration thresholds, its 2014 edition reports that of the 33 OECD countries that administer a VAT, 14 have a threshold in excess of USD 30,000 (including nine where it exceeds USD 50,000), 14 have a relatively low threshold (from USD 1,500 to 30,000), and five have no general exemption threshold at all. The report notes that there is no consensus among OECD countries on the need for, or level of threshold and the level of the threshold is often the result of a trade-off to minimize compliance and administrative costs and the need to avoid jeopardizing revenue and distorting competition. 30. K. Bain, M. Walpole, A. Hansford & C. Evans, The internal costs of VAT compliance: Evidence from Australia and the United Kingdom and suggestions for mitigation, 13 ejournal of Tax Research 1, pp (2015). IBFD International VAT Monitor May/June

7 Richard Highfield, Michael Walpole and Chris Evans Table 2 Strategic objective (to minimize tax compliance costs) The registration threshold for VAT payment is set at a level appropriate to exclude very small businesses. Businesses required to register can do so electronically, and the majority do so. The law provides staggered (i.e. extended) VAT payment periods for SME taxpayers (as defined for tax purposes by individual countries). The law provides staggered (i.e. extended) return filing periods for SME taxpayers (as defined for tax purposes by individual countries). The law permits the use of electronic invoices between businesses and the majority of invoices are transmitted in this way. The law imposes minimal obligations on businesses to provide copies of VAT invoices to the revenue body. The law imposes reasonable record retention periods on taxpayers record keeping. The number of VAT audits undertaken is kept to a minimum. The number of VAT assessments that are disputed is kept to a minimum. Description of proposed indicators Standard registration and collection threshold: (1) Threshold is more than three times the [benchmark amount*]. (2) Threshold is above [benchmark amount*] by between 200% and 300%. (3) Threshold is above [benchmark amount*] by between 100% and 200%. (4) Threshold is below [benchmark amount*] but no more than 50%. (5) Threshold is less than 50% of [benchmark amount*]. * Nature of benchmark amount to be determined. Registration procedure: (1) Businesses can register electronically: over 50% use this method. (2) Businesses can register electronically: 25-50% use this method. (3) Businesses can register electronically: less than 25% use this method. (4) Businesses required to register must file applications on paper. Payment frequency: (1) SME taxpayers generally need only pay their VAT liabilities (incl. by instalments) on a quarterly or less frequent basis. (2) SME taxpayers generally need only pay their VAT liabilities (incl. by instalments) bimonthly. (3) Most taxpayers are generally required to pay VAT liabilities monthly. Filing frequency: (1) SME taxpayers generally need only file VAT returns on a quarterly or less frequent basis. (2) SME taxpayers generally need only file VAT returns bi-monthly. (3) Most SME taxpayers are generally required to file VAT returns monthly. Use of electronic VAT invoices: (1) Legislation permits use of e-invoicing between businesses and in excess of 50% of invoices are estimated to be prepared in this way. (2) Legislation permits use of e-invoicing between businesses and between 25% and 50% of invoices are estimated to be prepared in this way. (3) Legislation permits use of e-invoicing between businesses and less than 25% of invoices are estimated to be prepared in this way. (4) Legislation does not permit use of e-invoicing between businesses. Invoice reporting requirements to revenue body: (1) except for specific requests (e.g. in the case of audits), copies of invoices do not need to be provided to the revenue body as a general rule. (2) a minority of businesses (i.e. less than 50%) are required to supply invoices to the revenue body. (3) Most businesses are required to supply invoices to the revenue body. Record retention periods: (1) Records must be retained by taxpayers for up to 4 years. (2) Records must be retained by taxpayers for between 4 and 8 years. (3) Records must be retained by taxpayers for more than 8 years. Audits of taxpayers VAT affairs: (1) The number of VAT audits each year is less than 5% of the registered VAT payer population. (2) The number of VAT audits each year is between 5% and 10% of the registered VAT payer population. (3) The number VAT audits each year is over 10% of the registered VAT payer population. Disputed VAT assessments: (1) The number of VAT assessments disputed each year is less than 5% of the number of VAT audits. (2) The number of VAT assessments disputed each year is between 5% and 10% of the number of VAT audits. (3) The number of VAT assessments disputed each year is over 10% of the number of VAT audits. filing obligations by offering less frequent payment and filing arrangements for small and very small enterprises. However, the practice is by no means uniform, meaning that for quite a few countries the compliance burden imposed on smaller enterprises is much larger than it might otherwise be. The objectives and preliminary indicators identified for this factor address registration, tax payments, return filing, the reporting and use of invoices, and the retention of records for VAT administration purposes as identified in Table International VAT Monitor May/June 2017 IBFD

8 A Proposal for the Development and Testing of a Diagnostic Tool for Assessing VAT Compliance Costs Table 3 Strategic objective (to minimize tax compliance costs) The revenue body s website offers a comprehensive range of information on taxpayers VAT obligations. The revenue body offers extensive and accessible phone inquiry services. The revenue body offers online VAT payment facilities and the majority of taxpayers use them. The revenue body offers an online VAT return filing service and the majority of taxpayers use it. The revenue body offers (and delivers) an effective service for the timely refunding of excess VAT payments to taxpayers. The revenue body offers private rulings to taxpayers on VAT that are provided in a reasonable timeframe. Indicators Availability to VAT information on revenue body s website: (1) Revenue body s website has a very comprehensive range of VAT information on taxpayers VAT obligations. (2) Revenue body s website has a reasonably comprehensive range of information on taxpayers VAT obligations. (3) Revenue body s website offers very little or no information on taxpayers VAT obligations. Accessibility to revenue body staff to answer VAT inquiries: (1) Revenue body provides a call centre inquiry service and a high standard of phone response time, as reflected in its service standards and performance. (2) Revenue body provides a call centre inquiry service and a reasonable standard of phone response time, as reflected in its service standards and performance. (3) Revenue body provides a call centre inquiry service but the standard of phone response times is generally poor. Ease of VAT tax payment: (1) Over 75% of VAT payments received from taxpayers are made using online (i.e. Internetbased) payment facilities. (2) 50-75% of VAT payments received from taxpayers are made using online (i.e. Internetbased) payment facilities. (3) 25-50% of VAT payments received from taxpayers are made using online (i.e. Internetbased) payment facilities. (4) Less than 25% of VAT payments received from taxpayers are made using online (i.e. Internet-based) payment facilities, or there is no such capability. Ease of VAT return filing: (1) Over 75% of taxpayers use online filing facilities for submitting returns. (2) 50-75% of taxpayers use online filing facilities for submitting returns. (3) 25-50% of taxpayers use online filing facilities for submitting returns. (4) Less than 25% of taxpayers use online filing facilities for submitting returns or there is no such service. Timeliness of VAT refunds: (1) 90% of refund claims are paid within 1 month of receipt. (2) 90% of refund claims are paid within 2 months of receipt. (3) 90% of refund claims are paid within 3 months of receipt. (4) 90% of refund claims are paid after 3 months of receipt. Availability of rulings to taxpayers and their agents: (1) Rulings are generally provided within 1 month of being requested. (2) Rulings are generally provided within 2 months of being requested. (3) Rulings generally take longer than 2 months to be provided Revenue body capabilities in meeting taxpayers service and compliance needs It is clearly in the interest of national revenue bodies to offer a comprehensive array of services and education to taxpayers across their taxes, particularly for those taxes that apply widely and may be difficult for many taxpayers. Making it easier to comply with tax laws not only helps to minimize taxpayers compliance burdens but it can also help to minimize the incidence of errors that result in non-compliance or over-compliance (i.e. paying more than is actually required under the law). Getting tax liabilities determined accurately right from the start also helps to minimize the workload of revenue bodies in undertaking post-assessment compliance checks and other corrective actions. The objectives and preliminary indicators identified for this factor address the availability of guidance and help from the revenue body, the provision and use of online (electronic) payment and return filing services, and the provision of timely refunds and private rulings. They are as shown in Table Monetary costs and benefits associated with the act of complying Given the top down nature of the diagnostic tool, it is not feasible to directly quantify the aggregate monetary costs (or time) incurred by businesses in complying with the VAT law, as many traditional compliance cost measurement exercises seek to do. However, a costly feature of many VAT systems concerns the overall incidence of excess VAT payments that must be refunded to taxpayers. In well-functioning economies, and particularly those with a high volume of exports (e.g. Australia, Canada and the United Kingdom), it is not unusual to find that a very high proportion of annual gross VAT receipts must be refunded to taxpayers. For fiscal year 2013, the proportion of annual gross VAT receipts refunded to taxpayers was 54% in Australia, 54.2% in Canada, and 42% in the IBFD International VAT Monitor May/June

9 Richard Highfield, Michael Walpole and Chris Evans United Kingdom. The average across all OECD countries was 39.6%. 31 Cash flow is critical to all businesses and excessively delayed VAT refunds can represent a significant compliance burden for business. Governments and their revenue bodies can seek to ameliorate such compliance costs by providing for the timely processing of VAT refund claims and the payment of interest on refunds of excess VAT credits that are overdue. The objectives identified and the preliminary set of indicators proposed to address these concerns are therefore as shown in Table Other information relevant to assessing the management of tax compliance costs In addition to examining features of the VAT law and how it is administered at the country level, the diagnostic tool could also be applied to gain insights as to the degree of institutional recognition and attention being given to address VAT (and other taxes) compliance costs. Such information would complement the overall assessment process and enable informed judgments to be made as to the prospect of improvements being made to reduce the compliance cost burden. Issues that might be addressed in this context are set out in Table Scoring and weighting of factors An important consideration concerns an approach to the scoring of the factors, and their possible weighting to derive an overall score a composite indicator and this aspect also requires further discussion and development. While there would be an element of subjectivity as to the respective weighting of each factor if this was to be attempted, it is considered likely that some factors require greater consideration in a compliance cost context because of their perceived level of contribution to the overall compliance burden The development of a composite VAT compliance cost indicator As noted in section 3.1., it has become a fairly common practice for international bodies and others to use composite indicators which compare country performance as a tool in government policy analysis and communication. As observed by the OECD and European Commission in their jointly prepared handbook on constructing composite indicators: 32 Table 4 Strategic objective (to minimize tax compliance costs) The law provides for the payment of interest on refunds that are delayed excessively. The aggregate value of annual VAT refunds is identified. Indicators Payment of interest by revenue body on delayed payments: (1) Interest is payable on excess VAT credits unpaid after 1 month or more. (2) Interest is payable on excess VAT credits after 2 months or more. (3) Interest is only payable on excess VAT credits after 3 months or more. (4) Interest is not generally payable on excess VAT credits. Aggregate value of VAT refunds/gross VAT receipts: (1) Annual VAT refunds are less than 10% of annual gross VAT receipts. (2) Annual VAT refunds are 10-20% of annual gross VAT receipts. (3) Annual VAT refunds are 20-30% of annual gross VAT receipts. (4) Annual VAT refunds are 30-40% of annual gross VAT receipts. (5) Annual VAT refunds are over 40% of annual gross VAT receipts. Table 5 Statement of position There is a formal government goal/target in place for reducing tax compliance costs (or administrative burdens in general resulting from government regulations). Compliance costs considerations are generally assessed when formulating tax policy proposals affecting the VAT. Objective data on tax compliance costs (or administrative burdens ) are captured periodically from external sources to inform development of tax policy and/or compliance costs reduction initiatives. The revenue body s formal planning documents reflect goals/objectives for compliance cost reductions and related strategies to achieve them. Formal consultative arrangements involving representatives of business and/or the tax accounting profession are in place, which provide an opportunity for compliance costs issues to be raised/discussed. Yes/ No 31. OECD, Tax Administration 2015, p. 209 (OECD 2015). 32. This handbook, published in 2008, was jointly prepared by relevant experts from both the OECD and the European Commission. See OECD, Handbook on Constructing Composite Indicators: Methodology and User Guide (OECD and European Commission, Paris 2008), available at International VAT Monitor May/June 2017 IBFD