The Tax Office’s penalties administration: What the Inspector-General found
The Inspector-General of Taxation’s (IGT) recently issued review of the Tax Office’s administration of its penalty regime was prompted by concerns expressed by both tax professionals and ordinary taxpayers, said the IGT Ali Noroozi.
The issues of most concern related to the adequacy of Tax Office guidance material, the high level of “unsustained” penalties, the legislative framework of the penalties regime and also that the Tax Office was perceived in many instances to be using penalties as leverage to influence the outcomes of tax disputes.
Noroozi noted that one of the Tax Office’s primary objectives is to promote voluntary compliance, however the IGT review concluded that this goal is in fact hindered by a variety of factors operating within the incumbent system. These include having no provision to pay interest on money already paid for penalties that are later quashed, the broad application of penalties for “false or misleading statements” even though no tax shortfall is involved, and a lack of sufficient differentiation between different behavioural categories.
The amount of unsustained penalties ended up being quite a focus of the review, which the IGT deemed necessary given the level of stakeholder concern. Noroozi found that over the 2010-11 to 2012-13 financial years, around 35% of total penalties raised were later reduced (and this was a significantly higher 46% for 2012-13 alone). While adjustments to the amounts of primary tax may explain some of the reductions, a significant proportion (about 25% of total penalties raised) appeared to be the result of the Tax Office reversing its decisions.
Noroozi’s report identified that these U-turns came about for a number of reasons. In many instances information was not provided to the Tax Office when audits were conducted, at times tax officers had not been able to reliably make the right decision, and when a penalty had been imposed this may not have been explained sufficiently to the concerned taxpayer. There was even a concern raised about indications that some tax officers had a tendency to determine that a penalty will apply first, and to later take steps to find evidence to support their decision.
The IGT made a number of recommendations to address these problems, including that the Tax Office:
- ensure its officers engage effectively with taxpayers to collect the facts and evidence relevant to penalties at the time that they collect the same in relation to primary tax;
- develop a penalty decision making tool that provides officers with an analytical framework and assists them to collect all relevant evidence; and
- ensure penalty decisions provide reasons that include the material facts and evidence, how the law was applied, and an explanation of any disagreement with taxpayer contentions.
On the widely-held perception that the Tax Office had been imposing penalties as a means of ending a dispute, Noroozi noted that the cost to individuals and businesses of questioning a penalty decision, both financially and emotionally, can stifle their decisions to challenge. Not only that, but the review flagged that taxpayers are required to pay the full or at least 50% of the amount, including penalties, while disputing a decision. He said that while the Tax Office had made some changes to its processes to address such concerns, perceptions of using penalties for settlement leverage have persisted.
The IGT’s recommendations aimed at addressing these perceptions included that the Tax Office:
- only require taxpayers to pay penalty amounts after the dispute on the primary tax is resolved;
- delay discussion with taxpayers concerning any application of potential penalties until after any position papers are issued;
- clearly and concisely communicate to taxpayers the reasons for its ability or inability to reduce penalties and primary tax during settlement negotiations; and
- publish more statistical information on penalties raised and/or adjusted.
- The review also identified opportunities to improve the clarity and practicality of specific aspects of the Tax Office’s penalty guidance, and made recommendations to:
- improve the guidance on voluntary disclosures and penalty remission;
- provide better examples of the law being applied to particular circumstances; and
- consolidate all publicly available penalty materials into a single location.
- Another recommendation from the IGT review was directed to the government, and suggests that it consider whether:
- the current penalties regime could benefit from more categories (to treat taxpayers according to their behaviour);
- penalties are appropriately aligned to factors that influence taxpayer behaviours; and
- taxpayers should be compensated for the time-value of money paid on unsustained penalties.
This last recommendation, that a form of compensation possibly be made available to taxpayers found to be fined in error, prompted a response from the Minister for Finance and Acting Assistant Treasurer Mathias Cormann. The Senator said that given the interaction between the tax penalties regime and the broader system of tax administration, the government will consider this and the other issues raised with the government once its intended “Tax White Paper” process has been finalised. This is expected to commence early in 2015 and continue over the following 18 months to culminate before the next federal election.
Not all of the IGT review’s recommendations have been wholly embraced by the Tax Office, which it explained (perhaps not unexpectedly) as being tied up with what it identifies as “resource constraints”.
Where the heat was felt
An interesting snapshot can be gleaned from the appendices attached to the IGT’s review into the Tax Office’s penalty regime, with data contained therein focusing on the three years surveyed — looking, for example, at both which taxpayers were targeted and the misdemeanours they were fined for. The IGT report found that small and medium-sized businesses tended to bear the brunt of most fines dished out — which over the 2010-11 to 2012-13 income years totalled $4.25 billion.
Of that total, the IGT found that micro businesses (defined as employing between one and five staff) took the biggest hit, being saddled with 51% of total penalties issued, or $1.4 billion in fines. Small to medium sized enterprises (up to 20 employees, or annual turnover of less than $20 million) were penalised $439.2 million for the same period, or a share of 16%.
By comparison, large businesses were issued with $525.9 million (19%) in tax penalties over the three years, and individuals $349.4 million (13%). Not-for-profit groups made up the remaining 1%.
Of the reasons for being issued with a penalty, “failure to take reasonable care” accounted for the most in financial terms, and made up 23% of total fines over the three year period of the IGT’s study. Next came “intentional disregard of taxation law” (17%) followed by “failure to provide document” (14%). The most frequently imposed penalty, but which yields less in total financial terms, was “failure to lodge” (11%), which was imposed roughly three times more than the financially highest-yielding penalty of the Tax Office’s armoury.