Several factors are in play:
1. Tax administration disruption begins. Many countries are implementing new data submission and electronic auditing requirements, creating a whole new set of challenges. For starters, businesses must overcome difficulties in accessing their tax and financial data, especially when it is spread out among multiple enterprise resource planning (ERP) systems; tax processes may not support new submission requirements. Businesses must also keep abreast of new rules, understand their impact and cope with the speed of change, among other challenges.
The impacts of change are many, but one really stands out. As countries move data gathering (i.e., compliance) closer to the point where a transaction originally occurred (i.e., “moving upstream”), they must understand that the data they are submitting may well be less “polished” than data that has been tax-sensitized, checked for errors and generally prepared for final submission.
One can foresee new friction between taxpayers and taxing authorities, centered on the testing of data that hasn’t been quality checked as closely as it should be. The results? Audit notices might increase; companies will have to respond to incoming inquiries in an efficient and timely manner, creating a range of penalties if they fail to keep up; and disagreements may arise over the amount of tax assessed. In some cases, requests for refunds may be rejected as the taxpayer is deemed to be noncompliant in other areas.
2. Tax administration goes digital. As more tax administrations go digital, there are clear parallels with the base erosion and profit shifting (BEPS) project. Tax authority digitalization seeks to crack down on evasion and fraud. All governments have essentially the same set of overarching goals: to collect more tax and to collect it more efficiently.
Some standards — such as the Standard Audit File for Tax (SAF-T) requirements from the Organisation for Economic Co-operation and Development (OECD) — are gaining traction in Europe. But design and implementation generally occur at the national level, resulting in numerous differences.
3. Digital tax administration is developing — now. One of the strongest indicators of the speed at which tax administration is digitizing comes in the form of how tax authorities will use data analysis to assess risks within Country-by-Country Reporting (CbCR) data. As tax administrations around the world prepare to start exchanging CBC reports in June 2018, the OECD has released tax risk recommendations it hopes will lead to greater transparency — not increased controversy — in the future.
The first CbC data will provide tax authorities for the first time with a full breakdown of a multinational enterprise (MNE) revenue, profits, tax and other attributes by tax jurisdiction, significantly increasing the volume and scope of information available to them. An OECD publication in September 2017 sets out recommendations for national tax authorities to consider when introducing CbC reports into their existing tax risk assessment frameworks, detailing 19 specific risk indicators that could be extracted from CbC data and used with other information to determine an MNE’s overall level of risk.
Tax administration going digital doesn’t just mean the paradigm shift of “the end of the tax return” arriving. It means gradually increasing data submission requirements, enhanced data analytics routines and more routine sharing of electronic files — between taxpayer and tax authority and between tax authorities themselves.
How did we get here?
The drivers that brought tax administration digitalization to this point are recognizable to anyone operating a business. More must be done with less — fewer people and lower budgets.
Tax authorities also want to remove as much human interaction as possible, leveraging automation and analytics to drive decision-making. And they want to glean more insight from growing volumes of data, focusing their scarce resources on the most serious cases of evasion, fraud and aggressive tax avoidance.
But tax administrations must also address other catalysts. They must react to pressure to perform — from the public, political circles, the media, and charities and nongovernmental organizations. In effect, they have a “moral obligation” to do something with all the data they have sourced.
A growing number of global trends
Despite inevitable differences in national approaches, a global review of tax digitalization practices does highlight a number of similarities. We have identified eight common global trends:
1. All tax authorities are collecting more data, creating a more valuable global taxpayer web. Despite focus from business on meeting BEPS requirements on CbCR and transfer pricing master and local file preparation, tax authorities are more aware than ever of both the range of data available and the public and political demands to do something with all of it. All this information paints a sophisticated picture — not only of data-driven transaction flows but also of a company’s risk appetite and overall structure.
2. Tax authorities are moving compliance “upstream.” The availability of data is leading many revenue bodies to consider how to support tax assessment in real time or near-real-time instead of capturing and analyzing transactions that have already occurred.
3. After moving toward real time or near-real-time data submissions, tax authorities tend to rapidly “layer” new data submission requirements upon one another. In the past five or six years, Brazil has rapidly increased the regular data submissions a company must make. Now a company must comply with 29 submission requirements, many of them monthly.
4. Tax authorities are quickly adopting data analytics and data-matching techniques, often sharing their leading practices with one another. According to a recent OECD report, 15 of 16 tax authorities surveyed use data analytics to drive audit case selection.
5. Most tax authorities are starting their journey with value-added tax (VAT). Because of its highly transactional data, many national tax authorities choose VAT as the “tip of the spear” for their digital journeys before moving on to other tax types and accounting treatments.
6. We are seeing heavy collaboration among national tax authorities, coordinated by the OECD as a new phase of work. With BEPS moving into national implementation and global tracking and monitoring, digital is a new focal point for the OECD. Tax administrators learned the value of such collaboration from previous projects and are putting that experience to good use by sharing approaches and leading practices.
7. Not all tax authority approaches are enshrined in law. We have spoken with many companies that received unexpected requests for data from national tax authorities. This is not limited to technology companies that may host a platform where their users trade with one another. In some cases, companies have been asked to provide data files. In others, they have even been asked to install tax authority software on their systems.
8. The move to digital tax administration is not necessarily linear. Countries — particularly developing nations — may leapfrog directly from one level of digital maturity to another, rapidly replicating successes demonstrated by other nations in this area.
But isn’t tax a national business?
Despite the ongoing efforts of bodies such as the European Commission, the OECD, the International Monetary Fund, the United Nations and the World Bank, tax remains a sovereign business at heart. Much like the G20/OECD BEPS project, implementation typically occurs at the national level. Countries willingly look at “standards” developed multilaterally, but they discard some parts, modify others and, of course, add one final slice that makes certain the finished product looks very different from what the standard setter envisioned.
Why understanding regional trends is important
Upon initial analysis, various regions of the world seem to demonstrate more differences than similarities. But closer study highlights greater consistency than might first be assumed.
Latin American countries have adopted a “layering” approach, splitting tax and accounting data into “slices,” each with its own submission schedule, scope and format. In Europe, meanwhile, countries are increasingly adopting SAF-T submission requirements — long described as the closest to a consistent approach for managing tax audits.
Created by the OECD, SAF-T is intended to give tax authorities ready access to relevant data in an easily readable format to allow more efficient and effective tax inspections. In reality, though, SAF-T is far from a uniform standard.
File format is just one of the differences among countries. Timing, the scope of taxes or transactions covered, and submission routines all differ, resulting in a challenging model for companies to address. The scope of data testing and the timing of submissions also vary.
Preparing for digital tax administration
Preparing for digital tax administration today is relevant and appropriate. What steps should tax department leaders consider in forming their response? Companies must plan, by addressing the issue holistically and strategically; assess, by learning country requirements and identifying required data sources; execute, by designing pre-submission tax authority analytics tests and meeting data submission requirements; and sustain and improve.
Four questions stand out as the most important actions a company can take:
1. Can you form a single global response, or perhaps a series of regional responses? Companies that try to address the global phenomenon of digital tax administration by developing point solutions for a single country will quickly fall behind.
2. Do you need to create data translation routines to transform your data? In all likelihood, any company using well-known ERP technologies can locate the data needed. But it is not always in the required format, so high-volume transformation protocols are needed.
3. Can you create a library of tests that the tax authority is known to, or believed to, run? And can you replicate these tests on your own data? It is estimated that 70% to 80% of national revenue authority requirements are similar, including the bank of tests to run on your data. The tests tend to address the overall quality and format of your data and the tax accounting treatments you have applied.
4. Have you prepared your controversy team for digital audit defense activities? As tax authority scrutiny and testing move into real or near real time, so must the controversy response. This means assigning the right resources to the tax function’s digital strategy and verifying that they fully understand what is being sourced from the financial systems, how and why data transformation is applied, and what processes exist to remediate issues.
What does the future look like?
An overarching conclusion regarding the digitalization of tax administration is that companies must be absolutely ready, absolutely all of the time. Today, you must be prepared to supply new, accurate and quality-checked data on demand — monthly, quarterly or on a mix of different schedules.
As a result, digitalization is accelerating the timing of tax reporting and filing obligations for businesses, upping the pressure on data governance, availability and quality, as well as refocusing controversy professionals on “digital audit defense.”
Coordination with the tax authority is a good thing, but it is only one vital dimension. Collaboration with the developers of new and disruptive technology, as well as the taxpayers using it, is also essential. And that’s where tax authorities must strive to being business partners with them on the journey. It’s a massive, transformative change that is bigger than any single stakeholder.
This article was originally published in Tax Insights on 23 Apr 2018.
Summary
The challenges of disruption in the tax world are hitting taxpayers especially hard as they struggle to keep up with voluminous, fast-paced and inconsistently designed changes to tax policy and tax administration.
