Risk Management In Tax Administration: An Examination Of VAIDS Witholding Tax And Vat. By Suleiman Dikwa
Part 1
Recently, the Federal Government of Nigeria introduced the voluntary assets and income declaration scheme (VAIDS), encouraging Nigerians to declare their tax liabilities in exchange for amnesty. Most Nigerians have a perception of tax as part of several official legislations used by public officials to proverbially rob Peter to pay Paul. Moreover, they view taxation with cynicism, seeing that it has not aided any provision of public infrastructure. The scheme was therefore envisaged to raise about US$ 1Billion by engaging members of the public in a manner that does not perpetuate the sense that their default in tax payment was lingering criminal case hanging over them like the proverbial sword of Damocles. While the scheme is welcome, certain parameters in tax collection management should be considered, especially the risk management aspect of tax administration and sustainability of collection administration and compliance mechanism beyond the timeframe of VAIDS.
Withholding tax (WHT), is an advance payment of tax targeting revenues of the receiving business or individual. The WHT draws from the identified revenue values in currency of the transaction ranging between 5 and 10 percent for a corporate entity and 5 percent for individuals. Tax administrators estimate a base of 30 percent of income after deducting allowable expenditure is permissible . The withheld sum is held without any accruable benefit to owner of credit for as long as it takes to use up credit generated by the withheld tax. The best practice in other tax territories is to have immediate remediation and refund of unused credit. This fund which is accrued to the Federation account is not put in any economic use for the clear benefit of funds in credit of the entity.
On the other hand, the value added tax (VAT) is an indirect tax on consumption of goods and services on both public and private entities and citizens. It is inclusive of the shelf price of any “vatable” goods and services. My concern here is VAT on public procurement, which I term “value reducing round tripping.” Risk has been defined by the ISO 31000(2009)/ISO guide 73, as the effect of uncertainty on objectives, including events (which may or may not happen due to lack of information) that may have negative impact on objectives. Accordingly, risk analysis is the process of highlighting the dangers to individuals, businesses and governments, posed by potential natural and human causes as well as adversities. In the case of taxation and tax administration in Nigeria, the focus has been on quantitative and compliance adherence which is used to evaluate and analyze risk.
Risks by nature are future issues that can be avoided or mitigated rather than present problems that must be immediately addressed. In that regard, the VAIDS program can be viewed through many prisms, though many have applauded the scheme. A deeper review will show that it may be a case of putting the cart before the horse. Another possible consequence is its effect on cash flow of companies and its impact on jobs and productivity. The economic implication of tied down funds in the case of withholding tax and the cost of collection of vat on public procurement which actually reduces funds for development is ignored. The policy document apparently does not have a tax perspective as it ignores the provisions of or the possibility of other means of tax settlement as provided by extant laws.
Tax administration in Nigeria over the last two decades of intensive reforms have focused on operational reforms through improved compliance and rendition of accurate returns to optimize tax collection. The focus of company income tax return is in the use of analytical tools to determine quantum of tax payable. Recently, integration of various financial transaction platforms has made more information available to tax administrators to collect optimum taxes. While this approach has increased tax yield, the burden has remained on already complying tax payers while ignoring the Raison d’être citizens don’t pay taxes. The aim of risk management is to help the tax administrators achieve their objective of optimum tax collection from tax payers; risk management being a technique that improves the tax administrator’s effectiveness in dealing with risk.
The tax administrator requires two critical items to effectively analyze risk. These are technical know-how and knowledge of the environment. Administrators have focused on the ‘technical’ and ignored the environmental risks posed by not mitigating the perception of internal management and utilization of collected resources. The concept of “government money” was conceived due to reliance on other sources of revenue such as oil money to fund government activities. This concept has manifested itself in how individuals deal with public property. Since the citizens do not pay taxes, they do not perceive that public resources are indeed public resources but government funds. Whereas, citizens who pay personal income taxes under the pay as you earn (PAYE) in their states of residence are discriminated against in the allocation of resources, in favor of indigenes who may never pay taxes – unless they work in formal institutions – further entrenching the “government money” mentality.
This is clearly shown when government property is destroyed where there is a disagreement with government officials. Proponents of coercive collection of taxes have argued that when the citizen is forced to pay taxes he will pay more attention to how such resources are utilized, while another school of thought argues that government must respect its social contract so that citizens will be happy to pay taxes. In that regard we may consider that risk management in taxation goes beyond technical and administrative solutions but a holistic approach, which takes cognizance of all variables and not an element.
The VAIDS scheme, while a good policy, is in my opinion a step too early, implemented to raise badly needed revenue and not the solution in tax administration. It is another collection strategy. We will see if a canon of taxation, economic cost of collection, will be achieved. In mitigating risk in tax administration, “revenue expenditure budget“ is imperative, rather than revenue collection budgets or targets as tax authorities call it. The concept of revenue budgeting is not alien, but Nigeria being a peculiar case requires that state and Federal tax authorities and the governments must tie revenue targets to specific projects which can be easily monitored by the citizens, unlike the national budget which is generally lacks citizens’ ownership therefore and subject to the executive choice of where to allocate budgeted funds.
We need to rethink the extant law provisions on “WHT” by innovative utilization of tax credits to boost finance available to the economy thereby increasing tax yield. In an economy where the private sector is in strong need for finance and sustainability, WHT tax credit presents a safe instrument for effective credit management which mitigates significant risk in credit management and presents alternative credit finance to the economy. Instead of government holding down funds, a percentage of tax credit available to companies can be utilized as collateral for burrowing. Its liquid in nature with the ability to recover credit by banks and other institutions through simple utilization of tax credits to offset failed loans, either to offset taxes due or cash in the credits with the government. This will free billions of naira to boost liquidity and feed the needs of financing in the economy.
It will also enhance compliance as companies can effectively utilize the funds within a financial year by offsetting their taxes and accessing credit with any excess.
The provisional tax act can be revisited to serve as the amount that is to be withheld from company revenues pending the determination of income and tax payable.
The deduction and remittance of VAT on public procurement in reality reduces funds available for development through the cost of collection and non-remittance. The process is to collect 5 percent vat on all “vatable” transactions by public institutions, which is shared in the next federation budget by the same entities who deducted the tax in the first place. The implication is that the administrative cost of collection by both remitting agencies and the Federal Inland Revenue Service (FIRS) when deducted, reduces the amount of funds available for public expenditure in every cycle, if you estimate the cost of collection by both remitting agencies and the FIRS at 6 percent of total funds available. All income earned and expended by Nigeria is reduced by 6 percent in every cycle of public expenditure. When you deduct the budgetary expenditure on health and education from total budget, you will have an idea of how much is lost to an unnecessary cycle.
Part Two
Risk definition-
The first step in risk management is risk identification by determining the likely sources of risk and the magnitude of risk, which threatens the objectives of tax collection by developing a list of potential risks.
The potential risk in tax collection, when we consider that the biggest tax payers are those closest to power, and are in the know of how tax is collected and expended, will feel hard done that their hard earned income is squandered. The ordinary citizens see the misuse of government resources and will not voluntarily take their head to slaughter by paying for the lifestyles of their oppressors.
It seems that the poor do not have access to quality of life and their meager income is collected and utilized to finance the lifestyle of the elite.
Risk analysis-
Risk analysis is the stage when risk is examined with the view to discover its impact on organizational or governmental objectives. The frequency of risk, likelihood of occurrence and consequence of occurrence and vulnerability of occurrence are analysed. Risk analysis is important because it explains why the tax payer is behaving in a particular manner and the best way to mitigate the risk.
VAIDS policy formulators probably assume that penalties and fear of sanctions is the reason why many are not complying and hence the offer of amnesty.
It goes beyond that and a critical lack of tax payer education by connecting the nexus of tax payment and the right to ask questions. The tax payer education department is critical in this regard as it can create the matrix by connecting the dots for the citizens to demand for their dues from government.
Risk assessment and prioritization-
If the risk management model had been adopted as a part of a holistic tax reform strategy, with a view to inclusive tax management assessment and prioritization, it would have shown that apart from technology which brings more information to the tax administrator, the human element is far more important.
Aggressive drive for revenue over the last two decades through various commercialization and privatization of social institutions has reduced the quality of life of Nigerians by taking away the little they have, without commensurate returns in terms of quality of life.
This approach should have identified the most significant risks. Risk is an evolving phenomenon and moves with time. It is therefore important that live intelligence is available, as empirical evidence has shown that risk should be evaluated, not in terms of revenue collected, but sustainability, which takes cognizance of political, economic, social, technical, administrative, environmental and legal impact.
Risk treatment-
Treatment of risk depends on its manifestation and in the case of Nigeria it is manifest in all aspects of life – administrative, political, social spiritual, environmental etc. Nigeria has continued to lay emphasis on direct taxation whereas its circumstances and level of technological development suggest that it is better if the focus is on indirect taxation where cost of collection and risk of evasion is low. As determination of income and allowable expenses in direct taxation is not an open and close activity, indirect taxation is simple to evaluate. The tax payer, despite bearing the incidence of tax does not feel the psychological impact of paying tax because it has been factored into the cost of transaction.
Policy makers may look at the quantum of taxes coming from direct taxation and the inflationary consequence of indirect taxation but this is where revenue budgeting mitigates the risk of negative reaction. There are implicit costs of lack of certain facilities that can be collectively financed through taxation which reduces the cost of living of citizens.
If this integrated approach is adopted, it will make it easier to get the buy in of citizens. Risk reduction will naturally occur and may even lead to risk covering that neutralizes the risk.
The VAIDS project while well intended does not take a holistic approach to improving tax yield and compliance. An evaluation of steps taken will show that the government lacks the capacity to follow up, post-VAIDS, and the question arises of whether it is a sustainable strategy and bring about improved compliance. An effective framework should not only look at potential tax yield, and short term gain, but intended outcomes and external effects. The opportunity WHT administration presents for increased tax yield and meeting credit demands of the private sector should be explored. Exemption of public sector deduction and remittance VAT should be reviewed, which will make more funds available for development and reduce or eliminate incidences of unremitted taxes by government institutions.
Would VAIDS really serve simply as a collection tool or seek to improve our tax collecting and compliance culture. Only time will tell.
SULEIMAN DIKWA, FELLOW, CHARTERED TAXATION INSTITUTE AND FORMER INSPECTOR OF TAXES FIRS.
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