This article is the third in the series focused on the costs of taxation. The first article offered a very basic conceptual background. The three kinds of costs a tax system inflicts to the society. The efficiency costs, the administrative costs and the compliance costs. Last week we looked at the six-phase framework in the development of the compliance costs of taxation as a policy area suggested by Jeff Pope, a Professor of Economics at Curtin University in the early 1990s. It starts with denial, followed by qualitative recognitions by practitioners and academics and the estimation and evaluation phase of the tax compliance costs. Then policy recognition kicks in followed by actual measures to address tax compliance costs. When all is done, the last phase is persistent monitoring of compliance costs and administrative costs. Looking at these phases, Tanzania is arguably within the first three. Modern tax administrations seek to optimize tax collections while minimizing administration costs and taxpayer compliance costs. In this article, we briefly discuss two main approaches to tax assessment. Understanding the approach used to assess tax is crucial. It determines the interplay of costs and risks between taxpayers (compliance costs) and tax authority (administrative costs).
Under administrative assessment system (in some countries it is also called official assessment system (OAS)), the responsibility is on the tax authority to (ex-ante) examine tax returns and financial statements, compute the amount of tax owed, and notify the taxpayers of the tax liability. Then the taxpayers pay the tax due or object to the assessment. Under this system, the risk to taxpayers is relatively low as they are not concerned with errors leading to an understatement of tax liability. Provided correct numbers about their business is given to the tax authority, the risk for incorrect computation of tax liability is borne by the tax authority. The absence of this risk means less compliance costs on taxpayers. But, from a tax authority perspective, administrative assessment systems are costly to administer because of the high level of intervention of tax officials.
The opposite of an administrative assessment system is a self-assessment system (SAS). Essentially a tax scheme of file and pay. Under SAS, taxpayers are obliged to accurately compute tax liability, submit their tax returns (or similar declarations) and proceed to make pay the self-assessed amount to tax. Experience shows that voluntary compliance is best achieved through SAS. Some taxes such as VAT, are designed to only work under SAS. Many countries, including Tanzania, have thus adopted self-assessment principles in tax administration. However, SAS shifts the burden of proof of the tax liability from the tax authority (TRA) to the taxpayers. The taxpayers must be prepared to later prove that the computation of their tax liability is accurate. There are at least two risks here. First is the understatement of tax liability, for which interest and penalties may be suffered as a result. And second is the risk of overstatement of tax liability. No penalties, but in the absence of immediate refund the overstatement can be costly to the taxpayer.
There are several pre-conditions for SAS to be able to optimize tax collections while minimizing administration costs and taxpayer compliance costs. SAS needs: (1) clear and simple tax laws; (2) good service to taxpayers; (3) simple filing and payment procedures; (4) effective collection enforcement; (5) selective risk-based audit; (6) fairly applied interest and penalties; and (7) fair and timely dispute resolution. In the next article, we will discuss these conditions postulated by Andrew Okello (of IMF) back in 2014.
By Shabu Maurus, Tax Partner, Auditax International.