Digitalisation of tax: the dawn of the robo regulator
The stereotype for tax time used to be a shoebox stuffed full of receipts, and an accountant slowly reconciling the transactions of a year. It’s a stereotype that now couldn’t be further from the truth.
Across the world, tax authorities are using digital technologies to reinvent the tax process — in part to streamline processes but also to gain deep insights into the practices of the business community.
And while the benefits to business should be seen in a faster assessment of tax liabilities and refunds, there are risks and challenges as well.
“Digitalisation of tax authorities is not a new phenomenon but it is accelerating.”
– Androulla Soteri.
The digitalisation of the tax system means additional scrutiny of books, files and practices — challenging for those businesses using legacy systems or even paper records.
Then there is the design of the digital system itself.
Robo-regulators should‚ at least in theory, provide a more accurate view of a business and its accounts. But as some countries have found, the way algorithms are designed can be the difference between a trouble-free tax system and one mired in complaints and lawsuits.
“Digitalisation of tax authorities is not a new phenomenon but it is accelerating,” says Baker Tilly Global tax director Androulla Soteri.
“Tax authorities are harnessing the power of new technologies such as big data and advanced analytics to improve tax administration, counter fraud and facilitate taxpayer compliance.
“For tax professionals, that means we need to reinvent our role as well.”
The race to digitalised tax
There are different tiers of digitalisation for tax, with five recognised approaches used by tax authorities.
At the most basic level, most advanced economies now allow for e-filing of tax or reportable transactions, using standardised forms and employing data-matching from within the tax system as needed.
Introduced first by the United States in 1986, e-filing can include pre-filling parts of the return based on employer-reported data or information from other government agencies. The World Bank estimates 106 of the 174 economies it tracks now have an e-filing option, and it is used by 97 per cent of countries in the OECD.
A key question is: How easily the digital footprint of a business or taxpayer can be brought online?
E-accounting allows source data such as financials, invoices and other documents to be submitted easily, or the use of e-invoices that provide tax authorities with a live record of transactions. As with e-filing, it is useful, but not really disruptive.
A third level of digitalisation is e-matching, in which tax authorities access data from outside the tax system — such as bank accounts, motor vehicle registrations, or welfare authorities. This is increasingly being used by tax authorities as a way to address areas of non-compliance or underreporting of income.
More complex still is e-auditing, in which data submitted actively or passively by the tax entity is assessed using machine learning by the tax authority, looking for anomalies or errors. This can then be presented back to the taxpayer with a bill or request for further explanation.
“Advisors will need to be ready to help clients defend their position and conduct audits of e-assessments.”
– Androulla Soteri
Finally, the ultimate digitalised tax approach is e-assessment, in which tax administrations — now in possession of nearly real-time activity and financial data — simply advise taxpayers what is owed or due, eliminating the need for entities to file.
Ms Soteri says a key question for tax authorities, businesses, and tax professionals is how easily the digital footprint of a business or taxpayer can be brought online.
“There are two implications for professional services. Firstly, if tax authorities are on a trajectory to compute tax liabilities, tax advisers will need to put less reliance on compliance and greater emphasis on advisory, to help businesses make the leap,” she says.
“The second implication is that advisors will need to be ready to help clients defend their position and conduct audits of e-assessments, in what will no doubt become a rising number of enquiries and questions from taxpayers.”
Latin America leading the way
Mexico is one of several Latin America countries that have accelerated the digitalisation of their tax systems, in a region traditionally characterised by low tax-to-GDP ratios.
Tax to GDP is an average 23 per cent in Latin America and the Caribbean (LAC) compared to an OECD average of 34 per cent, and compliance has traditionally be low, in part because tax systems can be slow, difficult to navigate and complex.
The World Bank’s regular summary of the time needed to pay taxes estimates LAC country businesses need 325 hours a year to comply with all relevant corporate liabilities — an improvement on the 416 hours required in 2006 but still well above the 174 hours averaged by firms in East Asia and the Pacific.
“Digital tax receipts were welcomed by large businesses. But small and medium enterprises were resistant to change.”
– Eliel Amaya
In some LAC countries, notably Brazil and Bolivia, the time to comply remains well above the global average: 1,501 and 1,025 hours respectively.
“The struggle against tax evasion and the deficit in public revenue led the Mexican tax administration to adopt a disruptive approach to its tax system,” says Eliel Amaya, Partner specialising in foreign trade and indirect tax at Baker Tilly Mexico.
“In 2004, Mexico became the second country after Chile to pioneer in tax digitalisation by introducing their first e-invoicing system through the implementation of CFD (digital tax receipts).
“Though not mandatory, it was a simplified method that was positively welcomed by large businesses.
“But small and medium enterprises were resistant to change. E-invoicing hindered improper deductions derived from fictitious invoices and created a sense of unease and mistrust among older clients that felt paper invoices were ‘safer’.”
Businesses initially objected to the cost of adjusting business models to the new tax system, Mr Amaya says, and SMEs had to invest in training and upskilling employees to be able to manage an increasingly digital system.
Despite this, the tax authority introduced digital tax receipts by 2011, and required mandatory compliance with the scheme by 2014.
“This modernisation had a positive economic impact,” he says.
Tax revenue (% of GDP) in Mexico.
“The volume of digital invoices that were issued from 2011 to 2017 increased from 1.7 billion to 6.5 billion and the country’s gross domestic product rose 3.5 per cent from 2013 to 2017 — all due to tax revenue.”
He puts the success of e-invoicing in Mexico to four crucial factors: The standardisation of invoices, digital signatures that guarantee document integrity and authenticity, an authorised certification provider that validates fiscal invoices through third parties rather than having the tax authority certify invoices; and permanent evolution of the program.
“Mexico was able to lead the way and, at least from a government perspective, it wanted to set an example for the rest of the countries involved in digitalisation,” he says.
Chile sets the benchmark
In Chile, the tax authority Servicio de Impuestos Internos (or SII) has also used early digital steps to set the stage for higher-level digitalisation.
The country led the world when it introduced e-invoicing in 2001 on a voluntary basis (becoming mandatory from 2014). It now uses the information to automatically create monthly VAT tax returns for those taxpayers obliged to declare VAT.
The returns are pre-filled based on the invoices and other sources, such as receipts, and taxpayers either need to accept the pre-filled tax return or query the amount if they disagree.
It is estimated that 90 per cent of taxpayers who need to declare VAT are now using the pre-filled returns, leading to a big jump in compliance.
Federico Raby, Partner at Baker Tilly Chile, says the changes has seen the business offer more support for taxpayers who have had to navigate mandatory technology as well as helping businesses comply with the Chilean requirements.
“We have increased our support for advisory on sworn statements, income determination, as well as specialised services for specific matters which become important for tax purposes in the event of a possible business acquisition or reorganisation,” he says.
“Advisory services are responding to client requests in order to comply with the tax requirements of the tax authority in Chile.”
The digitalisation of records, payments, invoices and transactions has also had the side effect of bringing new insights into client businesses.
“We have experienced greater availability and access to the information processed by our clients, and for us, this translates into an optimisation of time, automation of some processes, as well as a high commitment to confidentiality,” Mr Raby says.
“Specifically, the obligation for companies to keep electronic purchase and sale records has allowed us as Baker Tilly to shorten field work times and reorganise the work of our collaborators resulting in a more efficient way to deliver results and response to our clients.”
Designing tax for digital success
The success or failure of digitalisation efforts can hinge on the speed of introduction and level of consultation — as well as public trust in the system.
In Australia, where tax information has been data matched with welfare payments to crack down on perceived levels of fraud, so-called robo-debt notices were found to have been sent incorrectly to hundreds of thousands of citizens.
After losing a Federal Court battle to keep the system, the Australian Government has been forced to re-examine the design of the data matching program and could face a compensation bill worth hundreds of millions.
In Spain, there have also been challenges in the rapid movement to full digitalisation, with businesses forced to shoulder the cost of upgrading internal technology at very short notice.
In contrast, Turkey’s gradual process, which prioritises digitalisation of processes for larger businesses over smaller ones, has been better received.
Baker Tilly Global’s Androulla Soteri says helping businesses adjust and adapt to digital tax systems has now become a critical role for tax experts, who are having to expand their skills in response.
“Technical tax knowledge and skills remain critically important. However, increasingly, the evolving tax environment requires skills in areas that are not tax-technical,” she says.
“Technology lies at the core of most of the changes we are encountering in our profession, and we have a choice. Compete with computers, who are increasingly more capable than a single individual could ever be, or build a practice that listens, communicates and can provide the strategic advice our clients so desperately need.”
The power of the ‘clean slate’
The factors for successful digitalisation can seem contradictory. On the one hand, it helps to have an advanced tax system with a history of delivering digital government services but some countries suffer from disparate legacy systems used by multiple agencies, making it costly to integrate.
For even basic tax digitalisation, the OECD says robust third-party and intergovernmental systems are needed, and a high-integrity system of allocating a single ID to taxpayers.
The ICAEW argues that countries with simpler, even less developed tax rules can find the process easier.
“Simplification is easier to achieve in countries with less legislative history in their tax code – for example, the former Soviet nations started from a clean slate and are not burdened with the long history of rulings and legacy IT systems to maintain,” it says.
Estonia represents a good example. The average Estonian tax return takes five minutes to complete, due to government-provided pre-filled information, united by a single shared platform known as X-Road, which links all aspects of citizens’ digital identity together from a single secure identity log-on.
Spain’s game-changing new tax service
The Spanish Tax Agency is a world-leader in digitalisation of the tax system, working to reduce bureaucracy and streamline engagement between taxpayers and the tax administrations.
In doing so, it has revolutionised the way tax obligations are typically reported, says Fabio Delbosco, a Partner at Baker Tilly Spain, and sweeping changes to begin this year  will change the role of tax professionals from preparing assessments and filings to reviewing those produced automatically by the Tax Office.
“Almost all aspects of tax management have been addressed: tax reporting, exchanging of information among different public administration entities, user authentication and access, data checks between different taxes,” says Mr Delbosco, who specialises in advising multinationals and foreign clients.
“All the above increase the efficiency of the administration and provide the taxpayer, either an individual or a company, with the right to relate with the Tax Agency in a more agile and structured way.”
Digitalisation hasn’t happened overnight. A law from 2007 laid the foundation for guaranteeing citizens, professionals and companies the right to relate electronically with public administration.
“That established the need to create ‘electronic offices’ to make these rights effective,” Mr Delbosco says.
“Since 2013, and in connection with the major IT and technological developments, many and remarkable advances have been accomplished — sometimes in excess of the basic requirements that original law set out.”
The first major advance was the introduction of Electronic Access, allowing taxpayers and advisers to go online to consult or duplicate documents or check the status of procedures.
Once this was achieved, it allowed access to the electronic register, enabled services like submitting tax returns and self-assessed returns to be carried out, and for the authorities to notify taxpayers of any new or outstanding obligations.
While the advance has now been matched by other administrations, Mr Delbosco says the latest local change is “game changing” for Spain. Immediate Supply of Information, shortened to SII in Spanish, represents a radical change from the 30-year VAT management system.
“It is a new system of keeping the VAT Register Books by means of transferring electronically all billing records to the Electronic Tax Office within four days from the date of the transaction,” he says.
“In this way, the system not only allows an almost immediate invoice registration, but it also provides high-quality information in almost real time to both authorities and taxpayers.
“The data are stored and processed by the Tax Office in a much more agile and detailed way, removing the need for some tax filings that were required solely in order to cross-check information.
“The immediate availability reduces the time between the filing and the possible refund and brings about the possibility for the Tax Office to do away with the taxpayers’ self-assessments and filings altogether.
“The changes should be able to revert the flow of communication as we know it: the Tax Office no longer needs to await the taxpayer to file, but can collect the information received and present the taxpayer with their dues.”
The SII is currently applicable only to Spanish companies with a turnover above €6 million, but it is expected that it will be extended as soon as 2021 to all entities, regardless of turnover.
This year will see a test phase for a limited number of Spanish companies (on a voluntary basis) who are willing to start having the Tax Office calculate and present them with their VAT and intra-EU returns.
With the change has come concerns by business that they will need to invest heavily to achieve the digital sophistication required by the SII.
“The first and biggest impact on businesses has been one of dismay,” Mr Delbosco says.
“The 2017 implementation of the new system forced the businesses in scope to adapt their own Enterprise Resource Planning software (ERPs) at considerable costs and in quite a hurry as the go-live date was announced only three months in advance, which gave little time to businesses and ERP providers to fully adapt.
“Over two years later, some issues still exist in companies that have not been able to invest the necessary amount of time and resources in order to be fully compliant with the data transmission requirements.
“The Tax Authorities – after an initial period of ‘truce’ – have also begun sending notifications and requirements to companies for having detected time differences between the VAT filings and the information provided through the SII. Often these notifications end in a rejection of VAT refund claims, which increasingly frustrates the taxpayers.”
While the benefits of digitalisation are so far visible mainly to tax authorities, Mr Delbosco says, there have been side-effects of the upgrading and adoption of technology, particularly through upgrades to accounts receivable and accounts payable processes.
“This has resulted in a beneficial increase in efficiency of their processes and internal organisation but the benefit is not yet compensating (generally speaking) the efforts put into the compliance exercise,” he says.
“Our view is that the overall benefits (for both taxpayers and administration) will be evident only in the medium-long term, once the system is running smoothly and the advantages of having the data collected and fully organised will generate opportunities for the taxpayers too.”
Early mover advantage for Turkey
It’s been 15 years since Turkey reorganised its tax administration, simplified its tax code, introduced digital technologies, and implemented mandatory e-filing — and the impact on compliance has been enormous.
Back in 2004, citizen use of e-filing for income taxes was only about 30 per cent. By 2009,the use of e-filing by citizens and corporates had climbed to 99 per cent, and e-filing of value-added taxes are also nearly universal.
“Turkey’s tax-collection upgrades resulted in improved accountability, transparency, and information cross-checking among agencies, among other benefits,” says Hansin Dalbayrak, Partner in Turkish Baker Tilly network member Gureli.
“The country experienced a reduction in estimated tax evasion of 1.1 percent of GDP from 2005 to 2010 — which translated into approximately $13 billion in tax revenue that otherwise would have been lost.”
The cost of achieving those gains was also minimal, and speaks to the value of implementing digitalisation.
“Turkey achieved these gains with only a modest increase in funding: spending rose by just over $230 million, or around $2 per citizen,” Mr Dalbayrak says.
“In the end, each additional dollar spent on tax collection yielded almost $60 of additional tax that would otherwise have remained unpaid.”
Since the early gains, Turkey has continued to innovate. Its Integrated Social Assistance Services System (or ISASS), enables all social assistance processes to be carried out on an electronic platform, so data can be exchanged directly with citizens, municipalities, and non-profits.
ISASS integrates data from 22 public institutions and 1,000 local social-assistance offices, which has improved the management of services, as well as the transparency of resource allocation.
The Turkish Revenue of Administration is now requiring larger taxpayers to undertake further e-transformation, with the introduction of e-invoices to replace traditional printing and billing, a digital e-ledger for all books, an e-delivery note — to speed up shipment processes and commerce — and an e-archive, to keep invoices for a minimum of 10 years.
The introduction of e-notifications for all tax notices in 2016 is estimated to have saved 650 million TL (or about $112 million) that otherwise would have been incurred in postal costs to send 48 million items.
Across the whole tax system, some 22 billion documents have been transferred from paper to digital form, saving an estimated $345 million.
Mr Dalbayrak says the range of businesses targeted by the e-transformation program has been expanded, with annual turnover limits reduced from 10 million TL to 5 million TL (about $865,000), making further inroads into curbing fraudulent behaviour.
“It has been announced that the number of taxpayers using e-Document and e-Ledger is expected to reach from 140,000 to 300,000 in the coming year,” he says.
“It is predicted that misleading document arrangement and usage will decrease with the transfer of documents to electronic environment.”