Part three - Key strategies and charter report: Paying tax and receiving entitlements
Responding to non-compliance
New Zealand's tax system has a high level of voluntary compliance, but we still need to intervene where returns are not filed on time or where customers go into debt. We also audit taxpayers to make sure that they pay the right amount of tax.
Outstanding returns
Our initial approach to managing outstanding returns is making it easier for customers to file returns before the due date. In 2006-07 we sent out 12.3 million return forms, 1.8% more than last year. Overall, 78% of our customers file their returns promptly.
We use a range of interventions to follow up those who do not file on time. Recovery of overdue returns is based on perceived risk to revenue, with a focus on high-risk areas. This includes employer responsibilities and those customers with the highest volume of outstanding returns.
During 2006-07, we finalised 1.2 million returns, a similar volume to last year. We collected 87.1% of these returns within 12 months of their due dates.
We have taken prosecutions when other remedies have not been effective. This year, we prosecuted 705 customers for 6,742 outstanding returns. Sentences for non-compliance ranged from fines through to custodial sentences.
Overdue debt
Collecting overdue debt helps to maintain compliance, sustain revenue cash flow and influence community confidence in the tax administration. In 2006-07 we introduced a new approach to our recovery activities by separating overdue debt into two discrete work streams. One helps customers who have fallen into debt and the other proactively enforces debt management. The two streams are:
- receivables, focusing on using early intervention with customers and assisting them to meet their obligations, while maximising the automation of manual processes.
- national collections enforcement, targeting customers who seem to have made a decision not to comply, and taking firm and deliberate action where appropriate. In some cases we take legal action to encourage compliance.
We have an additional targeted approach to:
- complex debt - we continue to investigate and prosecute customers who deliberately use complex business structures to avoid or delay meeting their tax obligations. We address non-compliance by this customer group by focusing on large complex cases.
- audit-assessed debt - we continue to prioritise and nationally manage cases resulting from our audit activity to maximise recovery. We break this action down into risk categories using factors that include the compliance behaviour that gave rise to the debt. We then target cases for active case management and collection. Audit-assessed debt cases will be a priority focus for 2007-08.
- high volume debt and returns - in July 2006 we began targeting the 2,000 taxpayers with the largest number of returns outstanding and the 1,000 taxpayers with the highest number of debt periods outstanding. By the end of June 2007 we had finalised 65% of the outstanding returns and 37% of the debt periods.
Our audit activity
We are concentrating our auditing on the greatest risk areas and matching our responses to the scale of non-compliance. Our audit strategy introduced new work practices around risk identification, intelligence analysis and a broader range of compliance measures. During the year, we implemented new case management technology to support our auditors.
Small and medium enterprise (SME) audits
The SME audit sector includes businesses as well as individual taxpayers. In 2006-07 our auditors worked in these principal risk areas:
- Property transactions - property transactions take up almost a quarter of our SME investigations resources and many cases subsequently involve debt recovery. The increase in discrepancies over the last two years reflects the resources we have put into the sector. This year, we identified $153.2 million in discrepancies compared to $113.4 million last year.
In Budget 2007 we received an additional $14.6 million (over three years) for further investigations and education on a risk we have been actively pursuing for a number of years. In the next few years we will put additional resources into expanding our base for risk analysis of the property market.
The funding will also be used for more debt collection staff, in-house legal resources (advice and prosecution assistance), and operating and IT costs. A more sophisticated level of analysis will enable us to provide a broader range of interventions and increase coverage. - Evasion and avoidance - these are still the two key areas that present the most significant SME risk to revenue. This is reflected in the high level of "discrepancy dollars" found (see figure 13, Audit Discrepancies) and the success we have had in maintaining the integrity of the tax system.
Several large avoidance cases dominated this risk area during the year. Cases generally progressed through the disputes process and on to legal action. Some taxpayers conceded before cases were heard. - Tax technical non-compliance - this risk area addresses issues such as the treatment of losses, imputation credits and issues involving depreciation claims. It has also meant giving a special focus to a number of private sector enterprises with annual turnover in the $50 to $150 million range.
- Income suppression to reduce child support liability - we selected these cases because we had seen a significant change in income reported by the paying parent for tax purposes, when compared to the year before they became a paying parent. Audits completed during 2006-07 confirmed a number of audited individuals were paying the correct child support as well as prompting a number of paying parents and custodial parents to enter into private arrangements.
Large enterprise audits
Large enterprises[18] audits are an important part of our compliance work. The taxpayers in this sector typically have complex and sophisticated tax affairs, and we identify risks specific to each taxpayer, rather than just general risks across the sector. We have one-on-one account manager relationships with large enterprises.
Our areas of audit focus in 2006-07 were:
- aggressive tax issues - we have major audits and ongoing compliance projects where applying the tax avoidance provisions are the key factor. The audits cover related-to-related-party financing (in particular, use of hybrid financial instruments), lease provisions (including use of cross-border leases) and intangible property.
- high-wealth individuals - we have actively been auditing this group of individuals (and their associated entities) over recent years. This year, our audits on 84 taxpayers in this group resulted in undisputed additional tax of $32 million being identified, and assessments of a further $265 million under dispute.
- private equity - we have started working on the tax implications arising from the growth of private equity transactions taking place in New Zealand markets. This project includes scoping audits and holding discussions with various industry groups and overseas tax administrators.
- transfer pricing enforcement programme - our goal here has been to maintain New Zealand's share of multinational tax under our tax law, acceptable income recognition principles, and accepted international practices.
- impact of International Financial Reporting Standards - our objective is to ensure tax compliance under the new accounting standards and at the same time minimise the impact on revenue collection in large enterprises. We are reviewing early returns where the new standards apply, to determine the impacts of the change.
- advance pricing agreements (APAs) - we have made progress with APAs covering multinationals with large associated party transactions. Through using APAs, we can predict and plan for future difficult transfer pricing issues. We have completed 30 APAs and are negotiating two more with the US Internal Revenue Service for two major New Zealand exporters. Completion of these may encourage more exporters to join the programme.
- foreign trusts - new disclosure and record keeping rules for foreign trusts came into effect on 1 October 2006 to ensure New Zealand remained "OECD-compliant" in terms of international information exchange. At 30 June 2007, our International Audit Unit had processed 2,821 foreign trust disclosures. We have also accepted applications from the New Zealand Institute of Chartered Accountants, the New Zealand Law Society and the Society of Trust and Estate Practitioners for "approved organisation" status. We have agreed to exchange information on trusts with Australian settlors twice a year.
Our Large Enterprises group plays an important role building Inland Revenue's relationships with international organisations and maintaining close relationships with key tax treaty partners - Australia, the United Kingdom and the United States.
We have taken a lead role in the OECD Working Party on Tax Avoidance and Evasion[19]. This group has constructed a directory of aggressive tax planning schemes as well as examining best practice in detection and response strategies to international tax avoidance and evasion. We are taking part in the special focus area on hybrid financial instruments and structures. All this work was endorsed by the September 2006 Seoul Declaration[20], which recognised the significant and growing problem of international non-compliance.
18 Entities with annual turnover exceeding $100 million a year.
19 The Working Party is part of the OECD's Forum on Tax Administration, which promotes cooperation between revenue bodies and develops good tax administration practices.
20 The Seoul Declaration is available from the OECD website.
Download the Seoul Declaration (PDF | 277kb | 6 pages)
Date published: 23 Oct 2007
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