Discussion Paper J.Björgvinsson September 2004 A. Introduction Practical Methods of Accrual Revenue Recording Rules on how to record taxes on an accrual basis are presented in the Government Finance Statistics Manual 2001 (GFSM 2001). These rules clarify the main principles behind accrual recording, as regarding the time of recording and the amounts to be recorded. But these principles may need more clarification to meet the practical requirements for compiling revenue data. For example, some assessed taxes will never be collected; others will take years to be fully assessed. Such recording issues need to be tackled in practice. The main purpose of this paper is to show some practical methods on how to record personal income tax on an accrual basis. As is known, the old GFS system (1986 GFS) played an important role in many countries as a framework suitable for conducting fiscal policy analysis. Country accounting data were closely linked to the GFS framework to produce fiscal indicators for measuring the government s performance and its impact on the economy. Similarly, the GFSM 2001, which replaces the old GFS cash-based system, is expected to play an even greater role as a fiscal analytical framework. It is therefore vital that both the accuracy and reliability of the accrual recording and the timeliness of revenue data are adequate for this fiscal role. For the GFS to play its expected role in fiscal analysis and fiscal decision making, the development of practical rules for revenue recording has to take account of this requirement and optimize the trade-off between the quality of accrual recording and the timeliness of the data. The following consists of nine sections. Section B gives a short overview of the quality of the accrual recording methods presented in sections C to F. Section G describes the coefficient concept and discusses the treatment of differences that appear between the assessed and the actual amount. Section H gives an illustration of how the coefficient tax adjustment can be recorded in the government books. Section I gives explanations of why uncollectible taxes exist. And finally, section I includes short summary notes. B. Overview of the Recording Methods.. 1 C. Time-Adjusted Cash Methods 2 D. The Tax Assessment Methods. 4 D.1 Net tax assessment method (D.11 & D.12)......... 4 D.2 Gross tax assessment method (D.21 & D.22).... 5 E. The PAYE / Assessment Method. 7 F. The PAYE / Time-adjustment / Assessment Method.. 8 G. The Coefficient 9 H. Asset Recognition and Recording of Coefficient Tax Adjustment 10 I. Why Uncollectible Taxes...... 12 J. Summary. 12 B. Overview of the Recording Methods As can be seen from the following table, the quality of the practical recording rules presented in the paper is quite different with regard to accrual recording and timeliness. For example, the time-adjusted cash method with no complementary period (C.1) shows that the real accrual amount for personal income tax, related to 2003 when the income activities took place, is 96,000. To reach this conclusion, a three-year time-adjustment was needed (at least). By using the net tax assessment method (D.11), the same result can be reached in eight months (T+8 months) from the end of the income year. If the time-adjusted cash method with complementary period (C.2) is used, the results will be reached in the fourth month (T+4 months) from the end of the income year, but the recorded amount will be less than the real accrual amount or 95,526. By using the PAYE/Assessment method (E), the results will be reached in the first month (T+1 month) after the end of the income year, and the recorded amount will be 95,239 in this example. Finally, 1
by using the PAYE/Time-adjustment/Assessment method (F), the results will be reached in the fourth month 1 from the end of the income year, and the recorded personal income tax will be 95,714. Sections Methods Recording amounts Timeliness C.1 Time-adjusted cash method (no complementary period) 96,000 T+3 years 2 C.2 Time-adjusted cash method (with complementary period) 95,526 T+4 months 3 D.11 Net tax assessment method (time-adjusted to the activity period) 96,000 T+8 months D.12 Net tax assessment method (recorded when determined) 91,429 T+0 month D.21 Gross tax assessment method (time-adjusted to the activity period) 100,000/4,000 T+8 months D.21 Gross tax assessment method (recorded when determined) 95,238/3,810 T+0 month E PAYE / Assessment method (PA-method) 95,239 T+1 month F PAYE / Time-adjustment / Assessment method (PTA-method) 95,714 T+4 months C. Time-Adjusted Cash Method (TAC-method) If the time-adjusted cash method is used, the cash receipts shall be time-adjusted so that the cash is attributed to the period when the activity took place that generated the tax liability. 4 In the following text, two examples of this method are presented one with no so-called complementary period and another with a complementary period. The complementary period could be, for example, the due-for-payment period or some average time difference between the activity and cash tax receipts. 5 C.1 TAC-method with no complementary period By using the TAC-method with no complementary period, all cash receipts related to the income year (the period when the activity took place), but received in following years, have to be time-adjusted to the income year. Time-adjusted cash method (no complementary period) Personl income tax in 2003 The total accrual amount is 96,000 450 450 450 450 2003 2004 2005 2006 1 The length depends on the length of the complementary period (due for payment period). 2 Three years are used in the example. In reality it could be more than three years. 3 One quarter is used as complementary period in this example. Complementary period can as well be shorter or longer. 4 SNA93 ( 7.60): In some countries, and for some taxes, the amounts of taxes may diverge substantially and systematically from the amounts due to be paid. In such cases, it may be preferable to ignore unpaid liabilities and confine the measurement of taxes within the System to those actually paid. Nevertheless, the taxes actually paid should still be recorded on an accrual basis at the times which the events took place which gave the rise to the liabilities. 5 See Regulation (EC) No 2516/2000 of November 7, 2000 of the European Parliament and Council. 2
The diagram above shows the timesequence of the cash receipts for the personal income tax related to income year 2003. The total accrual amount that should be recorded and time-adjusted in 2003 is 96,000 (80,000 is received in 2003, 13,000 in 2004, 1,800 in 2005, and finally 1,200 in 2006). Main advantages: The amount recorded (96,000) is the real accrual amount for that income year. Main disadvantages: The timeliness is very bad (T+3 years). It will take more than three years to have the final information for the personal income tax for 2003. C.2 TAC-method with complementary period (three months) By using the TAC-method with complementary period, all cash receipts related to the income year (the period when the activity took place), but received in the complementary period, have to be time-adjusted to the income year. All other delayed payments received in the following periods will be recorded in the periods they are received. The diagram below shows the cash receipts related to the income years 2003, 2002, 2001, and 2000 that are received in 2003, and the cash receipts related to income year 2003 that are received in the complementary period following that year, i.e., the first quarter of 2004. The total personal income tax recorded in 2003 is 95,526, which consists of 90,000 PAYE and the time-adjusted income tax (complementary period) related to 2003, 2,857 related to income year 2002, 1,633 related to income year 2001, and finally 1,037 related to income year 2000. Time-adjusted cash method using complementary period (three months) Personal income tax recorded in 2003 is 95,526 and is based on time-adjusted cash method using three months complementary period. Personal income tax in 2003 Total accrual amount is 96,000 2003: 450 450 450 450 2000 2001 2005 2006 Personal income tax in 2002 Total accrual amount is 91.429 2002: 9,524 429 429 429 2000 2001 429 286 286 286 286 2005 18,141 18,141 18,141 18,141 Personal income tax in 2001 Total accrual amount is 87.075 2001: 9,070 907 907 907 408 408 408 2000 2001 2002 2003 408 272 272 272 272 2004 17,277 17,277 17,277 17,277 Personal income tax in 2000 Total accrual amount is 82.928 2000: 8,638 864 864 864 389 389 389 389 259 259 259 259 2000 2001 2002 2003 Main advantages: The timeliness is good (T+3 months). 3
Main disadvantages: The recorded amount (95,526) deviates from the real accrual amount (96,000) for the recording year. D. The Tax Assessment Methods (TA-methods) The tax assessment methods use assessments and declarations and are split into net tax assessment method and gross tax assessment method depending on their treatment of the tax amounts (assessed and declared) never collected. 6 D.1 Net tax assessment method The net tax assessment method adjusts the assessed amounts on the revenue side by a coefficient reflecting assessed and declared amounts never collected. The assessed amounts can be attributed to the period when the activities took place that generated the tax liability, or they can be attributed to the period when tax liabilities are determined (tax liability method 7 ). D.11 The net tax assessment method when assessed amounts are attributed to the period when the activities took place: Personal income tax; the recording year is 2003. The gross income tax assessment related to 2003 is 100,000 made in July 2004. A coefficient is used to adjust the gross assessed income tax to determine the tax assessment that will never be collectable. The coefficient is based on calculation from previous years experiences and is in this example 4%. Under the net tax assessment method (assessed amounts attributed to the period of activities), the amount to be recorded in 2003 is 96,000 (100,000*0.96), and will be known in August 2004 (T+8 months). 8 Gross tax assessment related to income year 2003 is 100,000 Income taxes that will never be collectable (100,000*0.04%) -4,000 Adjusted assessment ($100,000-$4,000) 96,000 Personal income tax recorded in 2003 96,000 Gross assessment for 2002 is 95,238 made in July 2003 Gross assessment for 2003 is 100,000 made in July 2004 J J J Aug-Dec 96,000 is recorded in 2003 6 If assessments and declarations are used, the amounts shall be adjusted by a coefficient reflecting assessed and declared amounts never collected. As an alternative treatment, a capital transfer, to the relevant sectors could be recorded equal to the same adjustment.. See Regulation (EC) No 2516/2000 of November 7, 2000 of the European Parliament and Council. 7 Australia: In GFS, Commonwealth government taxation revenue is recorded using the tax liability method, under which revenue is measured when a liability to pay tax arises from an assessment process.... In national accounts, on the other side, tax revenue is recorded when the taxpayer performs the underlying economic activity that gives rise to a tax liability.... 8 The following months may be used for revisions, charges, and corrections. 4
Main advantages: Given that the adjusted assessment is correct, the amount recorded (96,000) is the real accrual amount for the period. Main disadvantages: The timeliness is bad. The final assessment is in T+8 months (even later; depending on following period for corrections and charges). D.12 The net assessment method when assessed amounts are attributed to the period when the tax liabilities are determined: Personal income tax; the recording year is 2003. The gross income tax assessment related to 2003 is 100,000 made in July 2004, and the corresponding gross assessment for 2002 is 95,238 made in July 2003. A coefficient is used to adjust the gross assessed income tax to determine the tax assessment that will never be collectable. The coefficient is based on calculation from previous years experiences and is in this example 4%. Under the net tax assessment method (assessed amounts attributed to the period when determined), the amount to be recorded in 2003 is 91,429 (95,238*0.96), and will be known in August 2003 (T+8 months). Gross assessment related to income year 2002, but recorded in 2003 95,238 Income taxes that will never be collectable (100,000*0.04%) -3,810 Adjusted assessment (91,429-3,810) 91,429 Personal income tax recorded in 2003 91,429 Gross assessment for 2002 is 95,238 made in July 2003 Gross assessment for 2003 is 100,000 made in July 2004 J J Aug-Dec J Main advantages: The timeliness is good. 91,429 is recorded in 2003 Main disadvantages: The assessed amount (91,429) is far from the real accrual amount (96,000) for the recording year. D.2 Gross tax assessment method. The gross tax assessment method adjusts the assessed amounts on the expense side by a coefficient reflecting assessed and declared amounts never collected. The assessed amounts can be attributed to the period when the activities took place that generated the tax liability, or they can be attributed to the period when tax liabilities are determined (tax liability method). D.21 The gross tax assessment method when assessed amounts are attributed to the period when the activities took place: Personal income tax; the recording year is 2003. The gross income tax assessment related to 2003 is 100,000 made in July 2004. A coefficient is used to determine the capital transfer required to adjust the assessed tax amounts that will never be collectable. The coefficient is based on calculation from previous years experiences and is in this example 4%. Under the gross tax assessment method (assessed amounts attributed to the period of activities), the 5
amounts to be recorded in 2003 are 100,000 on the revenue side and 4,000 (100,000*0.04) on the expense side and will be known in August 2004 (T+8 months). Gross assessment related to income year 2003 is 100,000 Capital transfer (income taxes that will never be collectable (100,000*0.04%)) 4,000 Gross assessment for 2002 is 95,238 made in July 2003 Gross assessment for 2003 is 100,000 made in July 2004 J J J Aug-Dec 100,000 is recorded on revenue side and 4,000 on expense side in 2003 Advantages: Since the coefficients in the net and the gross tax assessment methods have to be equal in magnitude to have the same effects on the net lending/borrowing, there are no additional advantages for using the gross tax assessment method rather than net tax assessment method. Disadvantages: It is questionable if the gross tax assessment method is acceptable from the point of view of measuring government revenue and international comparability. From the GFS standpoint, this gross tax assessment method is not acceptable since GFS does not only emphasize the net lending/ net borrowing concept, but also the total revenue and total expense and their composition (structure), e.g., the expenses by economic types and functions. It is therefore important that recommended rules lead to collection of meaningful economic data that are easily comparable between countries. The option to choose between net revenue recording or gross revenue and expense recording will complicate such comparability between countries. Similarly, the recording of capital transfers to other sectors is not economically meaningful, when these capital transfers are due to over-assessment in taxation. D.22 The gross tax assessment method when assessed amounts are attributed to the period when the tax liabilities are determined: Personal income tax; the recording year is 2003. The gross income tax assessment related to 2003 is 100,000 made in July 2004, and the corresponding gross assessment for 2002 is 95,238 made in July 2003. A coefficient is used to determine the capital transfer required to adjust the assessed tax amounts that will never be collectable. The coefficient is based on calculation from previous years experiences and is in this example 4%. Under the gross tax assessment method (assessed amounts attributed to the period when determined), the amount to be recorded in 2003 is 95,238 on the revenue side and 3,810 (95,238*0.04) on the expense side, and will be known in August 2003 (T+8 months). Gross tax assessment related to income year 2002, but recorded in 2003 is 95,238 Capital transfer (income tax that will never be collectable (95,238*0.04%)) 3,810 Gross assessment for 2002 is 95,238 made in July 2003 Gross assessment for 2003 is 100,000 made in July 2004 J J Aug-Dec J 95,238 is recorded in the revenue side side and 3,810 on the expense side in 2003 6
Main advantages: The timeliness is good. Main disadvantages: The assessed amount (95,238-3,810) is far from the real accrual amount (96,000). From the GFS standpoint, this method is unacceptable. See comments under D.21 above. E. PAYE/Assessment Method (PA-method) In SNA93, GFSM2001, and ESA95 the following practical principle is recommended: As a practical deviation from the general principle, income taxes deducted at source, such as pay-as-you-earn taxes, and regular prepayments of income taxes may be recorded in the periods in which they are paid, and any final tax liability on income may be recorded in the period in which it is determined. (SNA93 8.49) This method means, as will be illustrated in following example, (1) that all income taxes deducted at source (PAYE) related to the recording year are recorded when deducted and (2) that any final tax liability is recorded in the period in which the liability is determined. When deciding the final tax liability, the gross tax assessment is adjusted, in the following example, by a coefficient reflecting the assessments that will never be collectable, and as well by the tax amount that has already been paid (i.e., by provision (1)). An example on the PA-method: Personal income tax; the recording year is 2003. The PAYE related to 2003 is 80,000 9 and the corresponding PAYE figure for 2002 is 76,190. The gross tax assessment related to 2003 is 100,000 made in July 2004, and the corresponding gross tax assessment for 2002 is 95,238 made in July 2003. A coefficient is used to adjust the gross assessed income tax to determine the tax assessment that will never be collectable. The coefficient is based on calculation from previous years experiences and is in this example 4%. Under the general accrual principle the amount to be recorded in 2003 is 96,000 (100,000*0.96), and will be known in August 2004 (T+8 months). The PAYE/assessment method yields quicker results: by January 2004 (T+1 month). The personal income tax recorded in 2003 is 95,239, i.e., PAYE related to income year 2003 is 80,000 Gross tax assessment (GTA) related to income year 2002 made in July 2003 95,238 Income taxes that will never be collectable (95,238*0.04%) -3,810 Net (adjusted) tax assessment (NTA) (95,238-3,810) 91,429 PAYE related to income year 2002-76,190 Final tax liability (FTL) related to 2002 recorded when determined (2003) 15,239 15,239 Personal income tax recorded in 2003 95,239 PAYE related to 2002 is 76,190 GTA for 2002 is 95,238 and NTA is 91,429, both made in July 2003 GTA for 2003 is 100,000 and NTA is 96,000, both made in July 2004 J J J PAYE related to 2003 is 80,000 FTL related to 2002 recorded in 2003 is 15,239. Total 95,239 9 Only cash payments related to the income year 2003 are recorded. See the example in section B. 7
Main advantages: The timeliness is very good (T+1 month). Main disadvantages: The amount recorded in 95,239 compared with the real accrual amount 96,000. F. PAYE/Time-adjustment/Assessment Method (PTA-method) Taxes have to be recorded best at the time the economic activity occurred, which may impair timeliness needs. An alternative method may give quicker final accounts. It involves using time-adjusted cash recording (cash is attributed to the period when the activity.took place that generated the liability) with recording of final tax liability in the period in which it is determined. The PTA-method (applied in Iceland): (1) all income taxes deducted at source (PAYE) related to the recording year are recorded when deducted; (2) those taxes related to the recording year, but paid in following year, are time-adjusted based on the due-for-payment principle; 10 and (3) any final tax liability is recorded in the period in which the liability is determined. When deciding the final tax liability, the gross tax assessment is adjusted, in the following example, by a coefficient reflecting the assessments that will never be collectable, and as well by the tax amount that has already been paid (i.e., by provisions (1) and (2)). An example of the PTA-method: The recording year is 1996. The (1) PAYE and (2) time-adjusted income tax, related to 2003, is 90,000. 11 The adjustment period (due for payment period) is three months, 12 i.e., January-March. The corresponding figure for 2002 is 85,714. The gross tax assessment related to 2003 is 100,000 made in July 2004, and the corresponding gross tax assessment for 2002 is 95,238 made in July 2003. A coefficient is used to adjust the gross assessed income tax to determine the tax assessment that will never be collectable. The coefficient is based on calculation from previous years experiences and is in this example 4%. Under the general accrual principle the amount to record in 2003 is 96,000 (100,000*0.96), and will be known in August 2004 (T+8 months). The alternative method yields quicker results: by April 2004 (T+4 months). The personal income tax recorded in 2004 is $ 104,000, i.e., PAYE and time adjusted income tax related to income year 2003 is 90,000 Gross tax assessment (GTA) related to income year 2002 made in July 2003 95,238 Income taxes that will never be collectable (95,238*0.04%) -3,810 Net (adjusted) tax assessment (NTA) (95,238-3,810) 91,429 PAYE and time adjusted income tax related to income year 2002-85,714 Final tax liability (FTL) related to 2002 recorded when determined (2003) 5,715 5,715 Personal income tax recorded in 2003 95,715 10 Due-for-payment recording shows transactions at the latest times that the corresponding payments can be made without additional charges or penalties. 11 Only cash payments related to the income year 2003 are recorded. See the example in section B. 12 This period can, of course, be of different length (due-for-payment period), and it can be based on average time difference between the activity and cash tax receipt. 8
PAYE and time-adjusted income tax related to 2002 is 85,715 GTA for 2002 is 95,238 and NTA is 91,429, both made in July 2003 GTA for 2003 is 100,000 and NTA is 96,000, both made in July 2004 J J J PAYE and time-adjusted income tax related to 2003 is 90,000 FTL related to 2002 recorded in 2003 is 5,714. Total 95,714 Main advantages: The timeliness is relatively good (T+4 month). Depends on the due-for-payment period. Main disadvantages: The amount recorded in 95,714 is only relatively close to the real accrual amount 96,000. G. The Coefficient G.1 The Coefficient concept The coefficient should capture the amounts of uncollectible taxes, i.e., the amounts that were assessed or declared (accrued), but will not be paid due to various events, such as bankruptcies, corrections, etc. For a given year of income or event being taxed, the uncollectible amount will be known far after the event. In the following box, a simplified example is used to illustrate the main principle behind the coefficient calculation for personal income tax. The personal income tax assessed for 1995 is $100,000 (the assessment is made in July 1996). The income tax related to 1995 paid during 1995 is $90,000. Of the outstanding tax liability ($) related to year 1995, $6,000 was paid during the following years (ended 2000), and $4,000 was never collected. The tax-coefficient for personal income tax, based on 1995 income, is $4,000 / $100,000 = 4%. Based on this simple coefficient calculation, the personal income tax recording in 2001 may use the 4% coefficient to reflect the income tax never collected. Coefficient calculation for income tax on individuals (general principle): 1995 1996 1997 1998 1999 2000 Sum Income tax assessment (July 96) 100,000 (Jan95-Jan96) 90,000 Tax liability (Y1995) paid each following year 4,000 500 250 250 6,000 Taxes (Y1995) never collected 2,000 500 250 250 4,000 Outstanding tax liability (Y1995) 4,000 2,000 500 0 The taxcoefficient for personal income tax is $4,000 / $100,000 = 4%. For some countries the information above may not be available, which calls for the best approach to this main principle. G.2 Measure of the coefficient Since the coefficient will not be known exactly until after a few years (assuming a tax reporting system capturing the year of income to which each tax payment relates), some estimates of the coefficient will be needed for provisional or final accounts. The calculation can of course be repeated for more years, and the average results (even weighted by recent trend-changes) will be used to estimate the coefficient. Over a longer period, the coefficient will, of course, need regular revisions due to, e.g., changes in tax collection methods or the economic prosperity. It is therefore necessary to have floating assessment (more recent years) of the coefficient, which takes account of the recent trend-changes (even weighted). By doing these adjustments, the amounts of uncollectible taxes will be smoothed out over longer period. This will mean that uncollectible taxes will be corrected through revenue recording. 9
G.3 Treatment of a difference that appears between the assessed amount (adjusted) and the actual amount It is implausible that GFS compilers (users) would agree to perpetually revise taxes of previous years, as the actual cash flows allow for a finer and finer estimate of the actual coefficient for each year of income. Instead, it is likely that the estimated coefficient will be fixed for a year, perhaps at first estimate, or after a few revisions. The question then arises what should be done if a difference appears between the actual amounts and the assessed amount (adjusted by coefficient)? There are two classes of answers: (1) Correcting (delete/create) the difference in question in the books of government, at the time the difference is established, through: (1.1) other change in volume (1.2) capital transfers (tax revenue) (1.3) a tax revenue negative (positive) (2) Do nothing (just revise the coefficient). Approach 1.1 is not appealing because it allows uncollectible taxes to be recognized. Approach 1.2 does not yield the same revenue measure as correct accrual methods. Approach 1.3 gives a correct revenue measure, but the time of recording is questionable. In general, class (1) gives rise to entries at the time the accountant recognizes the noncollectible character of the asset (or the excess of cash inflows over recognized assets). This is not satisfactory. Option (2) is to simply do nothing other than revise the coefficient so that the difference between the actual and the estimated amounts can be smoothed out (corrected) over the longer period. This option does not involve immediate deleting (or adding) of the difference appearing in the other accounts receivable due to inaccuracy in the estimate of the coefficient. Since it is likely that the accumulated wrong other accounts receivable will be small, particularly in comparison with the total tax amount adjusted by the coefficient, it is recommended that nothing be done. H. Asset Recognition and Recording of Coefficient Tax Adjustment A recording of taxes on an accrual basis is clearly different from a recording of cash and usually implies a recording of a financial transaction under Other accounts receivable / payable (F.7; SNA code). The assets that flow to the entity as a result of (accrual) taxation include cash or the right to receive cash. The following table illustrates how the coefficient tax adjustment can be recorded in line with the net and the gross assessment methods in the books of the government. It should be underscored that both methods use coefficients to assess the uncollectible taxes, and their effects on the Net lending / borrowing are the same. 13 13 See the following text in Regulation (EC) No 2516/2000 of November 7, 2000 of the European Parliament and Council. If assessments and declarations are used, the amounts shall be adjusted by a coefficient reflecting assessed and declared amounts never collected. As an alternative treatment, a capital transfer, to the relevant sectors could be recorded equal to the same adjustment. The coefficients shall be estimated on the basis of past experience and current expectations in respect of assessed and declared amounts never collected.. The older version of these treatments is (see ESA95 manual on government deficit and debt): The first two options are relevant if the amounts referred to are those evidenced by assessments or declarations as amount due: 1. Amounts to be recorded shall be assessed amounts adjusted by a coefficient reflecting the assessments never collected. The coefficients shall be estimated on the basis of past experience and current expectations in respect of assessed amounts never collected. 2. Amounts assessed as due are entirely recorded as taxes and social contributions. But the discrepancy between this theoretical amount and the actual cash receipts shall be treated as a capital transfer in favour of the defaulting taxpayers. 10
The tax assessment methods D.1 and D.2 Net tax 1) assessment Gross tax 1) assessment method method 2003 2003 REVENUE 96,000 cr 100,000 cr Individual (personal) income tax 96,000 cr 100,000 cr Gross tax assessment 100,000 cr 100,000 cr Tax coefficient adjustment (2003) -4,000 dr 0 EXPENDITURE 0 4,000 dr Capital transfers 0 4,000 dr Tax coefficient adjustment (2003) 0 4,000 dr NET LENDING/BORROWING 96,000 96,000 FINANCIAL ASSETS 96,000 dr 96,000 dr Cash 90,000 dr 90,000 dr Accounts receivable 6,000 dr 6,000 dr Taxes outstanding (gross / due to 2003) dr dr Coefficient adjustment (2003) -4,000 cr -4,000 cr LIABILITIES 0 0 Under the net tax assessment method (D.1), the gross personal income tax assessed (100,000) is recorded on the credit side under the category individual income tax (GFS code 1111) and on micro premises, which means that the government creates a tax claim on each of its taxpayers (individuals). On the debit side, corresponding figures are recorded, i.e., 90,000 under cash (code 3212), which government has received, 14 and under other accounts receivable (code 3218). Figures under other accounts receivable are related to relevant taxpayers (micro-level). According to the coefficient adjustment, 4 percent of these claims will not be collectible. The government will therefore, under the net tax assessment method, record a tax coefficient adjustment with negative sign (-4,000) under the categories individual income tax (debit) and other accounts receivable (credit). This recording is on a macro level and is therefore not related to particular taxpayers. When adjustments are made due to, e.g., bankruptcies or corrections, the relevant entries (taxpayers related) under the categories individual income tax and other accounts receivable are corrected equally (on micro level). Same corrections will be made on macro level to the tax coefficient adjustment under these mentioned categories to eliminate the effects of the micro corrections. Similar recording procedure, as described regarding the net tax assessment method (NTA-method), will be used in connection with the gross tax assessment (GTA-method). The only difference is that the coefficient adjustment under the NTAmethod is corrected under individual income tax, but under capital transfer (GFS code 2822 15 ) under the GTA method. I. Why Uncollectible Taxes The main reasons for uncollectible taxes are (1) over-assessment, (2) bankruptcy, (3) tax corrections, and (4) tax forgiveness: (1) Over-assessment: In every tax-system there is always a portion of taxpayers that do not declare their income to the tax authority. The usual response by the authority is to assess the likely tax claim on the defaulting taxpayer. In such cases, it is natural that the authority over assesses its tax claim to prevent 3. Cash amounts are recorded in the accounts: but they shall be time-adjusted so that they are attributed to the period when the activity took place to generate the liability. 14 15 It might have received more, which effects the composition of cash and other accounts receivable. The code is 2632 if the capital transfer is to other general government entities. 11
the taxpayer from gaining from its behavior. In the following claim and appealing process, it is very likely that some over assessment will be corrected. (2) Bankruptcy: One of the main reasons for uncollectible taxes is simply the taxpayers bankruptcies for whatever reasons. Consequently, the government might lose all or part of its tax claims on their hands. (3) Tax corrections: Tax assessment is usually based on tax declaration, which of course can be inaccurate and can need further revisions. The taxpayer is usually given some defined period to appeal the government tax assessment, which can be wrong owing to lack of information or to other reasons. A tax correction might be made following this appeal. (4) Tax forgiveness: The fourth main reason for uncollectible taxes is simply the taxpayers difficulties in paying their taxes and the government s willingness by mutual agreement to forgive its tax claims or part of them. It can be said that the first three main reasons for uncollectible taxes are not on the authority of government to do anything about; they are simply unilateral and a logical part of the tax process. The fourth reason, on the other hand, can be seen as a part of the fiscal policy of the government, which is trying to obtain some results by giving up part of its tax claims. It can therefore be said, to keep the logic of the GFS accounting, that the coefficient tax adjustment should capture (cover) the first three reasons for uncollectible taxes and those of a similar nature. Tax forgiveness (by mutual agreement) as part of fiscal policy decisions should, on the other hand, be seen as a support to the sectors of the economy, and recorded as capital transfer (grant). 16 On debt forgiveness, the GFSM 2001 says in Appendix 2 (Government Debt Operations): Debt forgiveness is the cancellation of a debt by mutual agreement between a creditor and debtor. It is always recorded as the creditor providing a capital grant or transfer to the debtor... This statement is in line with the understanding in the previous paragraph on capital transfer. On debt write-offs (write-downs) the Manual says: General government units that are creditors may write off financial assets without an agreement with the debtor in cases such as bankruptcy of the debtor... the general government unit s claim has no value and is eliminated from the balance sheet by recording an other economic flow. A unilateral write-down of a partial value of the debt is treated similarly... By using the tax coefficient adjustment to eliminate the effects of uncollectible taxes, the effects of bankruptcies on government tax claims should be minimized and, with certain use of the coefficient adjustment, even smooth out over the longer period (see G.2). J. Summary The main purpose of this paper is to show some practical methods of how to record personal income tax on an accrual basis. Numerical examples have been used to illustrate the different methods. These methods can also, in most circumstances, be used to record other types of taxes and are therefore, in a way, guidelines for tax recording in general. One of the main conclusion from this analysis is that the so-called PTA-method is one of the most efficient methods of revenue recording 17 and makes it possible for the government to close their books in three to four months (depending on the length of the complimentary period) after the end of the income year and record relatively good accrual data (95,714 out of 96,000 in the presented example). 16 17 This last treatment can also be captured under the treatment tax credits, e.g., when tax claims are forgiven in an arbitrary way. This method has been used in Iceland since accrual accounting presentation (1998) was introduced into the central government budget. 12
D.11 Net tax assessment method (when assessed amounts are attributed to the period when the activities took place) year 2003 The recording year is 2003 The gross income tax assessment related to 2003 is 100,000 made in July 2004 The cofficient used to adjust for uncollectible taxes is 4% in this example 96,000 (100,000*0,96) is recorded in 2003 under this method Assessment made in July 2004 and the assessed amounts recorded in the period the activities took place, i.e. 2003 450 450 450 450 2005 2006 year 2002 9,524 429 429 429 429 286 286 286 286 2005 Recorded amount in 2003 is 96,000 The timeliness is T+8 months D.12 Net tax assessment method (when assessed amounts are attributed to the period when the tax liabilities are determined) year 2003 450 450 450 450 2005 2006 9,524 The recording year is 2003 The gross income tax assessment related to 2003 is 100,000 made in July 2004, and the corresponding gross assessment for 2002 is 95,238 made in July 2003 The cofficient used to adjust for uncollectible taxes is 4% in this example 91,429 (95,238*0,96) is recorded in 2003 under this method Assessment made in July 2003 and the assessed amounts recorded in the period when the tax liabilities are determined, i.e. 2003 429 429 429 429 286 286 286 286 2005 Recorded amount in 2003 is 91,429 The timeliness is T+0 month 13
D.21 Gross tax assessment method (when assessed amounts are attributed to the period when the activities took place) year 2003 The recording year is 2003 The gross income tax assessment related to 2003 is 100,000 made in July 2004 The cofficient used to adjust for uncollectible taxes is 4% in this example 100,000 is recorded under revenue and 4,000 under expense in 2003 under this method 450 450 450 450 2005 2006 Assessment made in July 2004 and the assessed amounts recorded in the period the activities took place, i.e. 2003 year 2002 9,524 429 429 429 429 286 286 286 286 2005 Recorded amount in 2003 are 100,000 under revenue and 4,000 under expense The timeliness is T+8 months D.22 Gross tax assessment method (when assessed amounts are attributed to the period when the tax liabilities are determined) year 2003 450 450 450 450 2002 2003 2004 2005 2006 9,524 The recording year is 2003 The gross income tax assessment related to 2003 is 100,000 made in July 2004, and the corresponding gross assessment for 2002 is 95,238 made in July 2003 The cofficient used to adjust for uncollectible taxes is 4% in this example 95,238 is recorded under revenue and 3,810 under expense in 2003 under this method Assessment made in July 2003 and the assessed amounts recorded in the period when the tax liabilities are determined, i.e. 2003 429 429 429 429 286 286 286 286 2005 Recorded amount in 2003 are 95,238 under revenue and 3,810 under expense The timeliness is T+8 months 14
E. PAYE / Assessment Method (PA-method) year 2003 The recording year is 2003 The PAYE related to 2003 is 80,000 and the corresponding PAYE figure for 2002 is 76,190 PAYE 80,000 is recorded in 2003 450 450 450 450 2002 2003 2004 2005 2006 The gross income tax assessment related to 2003 is 100,000 made in July 2004, and the corresponding gross assessment for 2002 is 95,238 made in July 2003 The cofficient used to adjust for uncollectible taxes is 4% in this example 15.239 (91,429 (i.e. 95,238*0,96) - 76,190) is recorded in 2003 under this method 9,524 Assessment made in July 2003 and the assessed amounts recorded in the period the activities took place, i.e. 2003 429 429 429 429 286 286 286 286 2005 Recorded amount in 2003 is 95,239 The timeliness is T+0 month F. PAYE / Time-Adjustment / Assessment Method (PTA-method) year 2003 The recording year is 2003 The PAYE and time-adjusted income tax (3 months complementary period) related to 2003 is 90,000 and the corresponding figure for 2002 is 85.714 PAYE and time-adjusted income tax is 90,000 recorded in 2003 450 450 450 450 2002 2003 2004 2005 2006 The gross income tax assessment related to 2003 is 100,000 made in July 2004, and the corresponding gross assessment for 2002 is 95,238 made in July 2003 The cofficient used to adjust for uncollectible taxes is 4% in this example 5,715 (91,429 (i.e. 95,238*0,96) - 85,714) is recorded in 2003 under this method 9,524 Assessment made in July 2003 and the assessed amounts recorded in the period the activities took place, i.e. 2003 429 429 429 429 286 286 286 286 2005 Recorded amount in 2003 is 95,715 The timeliness is T+4 month 15