BY RUAN JOOSTE
AS THE GLOBAL economic slowdown reaches proportions not seen in decades, fears are mounting that ordinary taxpayers will likely pick up the shortfall in the percentage of tax revenue to gross domestic product (GDP) as a result of lower expected tax revenue collections from the declining profitability of South African businesses.
Analysts expect the percentage of tax revenue to GDP to increase from 28% in the last Budget year – already above the 25% recommended by the Katz Commission – to 30%. Martin Walbeck, Africa tax director at Ernst & Young (E&Y), says: “A global economic slowdown doesn’t mean the SA Revenue Service’s revenue goals and the strong drive to achieve them will necessarily diminish. Taxpayers can expect more court cases, tax controversy and audits. The focus is going to be on aggressive tax planning, tax evasion and strict adherence to the law.”
Deneys Reitz tax director Ernie Lai King, agrees. “The overrun on tax revenue collections for the last Budget year was in the region of R9bn and the percentage of tax revenue to GDP is around 28%. The slowdown will impact on the profitability of South African companies and businesses, which will translate into lower 2009/2010 tax revenue collections.”
King says South Africans can expect the percentage of tax revenue to GDP to increase even further. “The complexity in our tax system continues to increase and calls for an overall decrease in the current high ratio of tax revenue to GDP are likely to go unheeded.”
That may seem paradoxical at a time when overall tax revenue should be shrinking, in tandem with a general decline in corporate profitability. But the veneer of an organisation that – from afar – seems a model of State efficiency betrays the reality of ill-equipped and unskilled Revenue auditors under immense pressure to reach year-end targets set by their superiors.
An investigation by Finweek into Revenue’s central case management and tracking system – used to verify and report tax assessments and collections – paints a scurrilous picture of systemic malaise where underskilled and unqualified auditors and senior managers have invariably disregarded internal control procedures, flouted public accountability standards and found “creative” ways to raise, increase and defend tax assessments at the cost of taxpayers.
Finweek has it on good authority that close to 500 Revenue auditors’ only qualification is matric. When we put that to Revenue, Logan Wort, GM: Reputation Management, flatly denied the allegation. “The fact that Revenue is run by matriculants is an exaggeration,” he says. “We’re aware skills are scarce but research shows we’re an attractive employer and we retain skills where employees believe in our philosophy.”
Trouble is, auditors at Revenue certainly believe in the philosophy of tax collection – if that’s indeed what Wort means. However, combined with complicated tax principles that have to be applied to sometimes very intricate commercial arrangements, a reputation of aggressive tax collection and monetary incentives on which auditors’ revenue targets are
based, is it any wonder Revenue has become a force to be reckoned with, exceeding every target set annually since its inception over a decade ago?
According to current and former Revenue employees (who spoke to Finweek on condition of anonymity) the internal state of affairs borders on “insanity”.
Indeed, that’s no mere exaggeration. They state that tax assessments, collections and corrections are captured manually from income tax, value added tax (VAT) and pay-as-you-earn (PAYE) systems. “The fact that the systems aren’t integrated, coupled with human error, can result in a mismatch between the reporting system and the core systems,” they say.
“It’s not uncommon for assessments that have been reversed (due to error, for example) from the three relevant sub-systems to still reflect on the management system.” For example, an amount of R5m assessed in 1998 can still reflect on the management system but won’t be found on the other three systems. “The management system is where national reporting figures are derived from,” they add.
In other words, the reported figures are false reflections of the actual revenue owed by taxpayers to Revenue. According to its statement of financial performance for the year ended 31 March 2008 (contained in its recently released annual report), net revenue was R565,3bn. That’s almost a 17% increase over the previous year, which was R484,11bn. That figure is R16,2bn above the original printed estimate of R556,6bn and R1,8bn above the revised printed estimate in the 2008 National Budget.
Revenue is represented by gross collections net of refunds. Its cash flow statement shows those amounts, and even more, were translated into cash, with the taxation portion of cash received from operating activities being R589,28bn. That’s almost R80bn more cash in hand than the previous year of R509,31bn.
Cash includes cash in hand, which comprises amounts receipted by Revenue as at 31 March but not yet deposited and cash at the bank. Those exuberant amounts look very impressive on paper and the Auditor General (AG) noted in the external audit report on the annual financial statements and management letters that no significant or material noncompliance with prescribed policies and procedures exist.
In the report the AG states the procedures to obtain audited evidence on the amounts and disclosures in the financial statements – including the assessment of the risks of material misstatement (whether due to fraud or error) – showed no evidence of misinterpretation of unfair presentation. In addition, the AG believes Revenue complied with all legislation, including the Public Finance Management Act (PFMA), the Constitution, the Public Audit Act and the South African Revenue Act, to which it’s subject.
What all that legal jargon means is that Revenue is operating within the scope of the law and that reported figures correlate with its accounting system. However, the report didn’t express an opinion on the internal controls of the organisation. That’s surely a tad disconcerting, because that’s the one element of financial management that can put financial statements and an audit report into disrepute. In addition, qualified annual financial statements (AFS) don’t necessarily mean nothing is wrong: it means that (based on the audit sample of the AG) the errors found were within “materiality” levels.
That’s true at one level: there’s no doubt Revenue has done a great job collecting nation- al revenues and improving the tax compliance levels of South Africans.
However, our probe into the validity of Revenue’s reported figures (based on interviews with current and former employees) reveals highly questionable methods by auditors to inflate year-end revenue collection numbers and meet their incentive targets.
Says a former employee: “January to March is silly season at Revenue. Collection departments work till the early hours of the morning, sometimes offering to physically collect cheques from taxpayers.”
Our informant adds that in their drive to meet year-end incentive targets, Revenue’s auditors use “creative” accounting. For example, a large assessment raised in December last year and found to be incorrect should have been reversed in theory but was kept on the system (as an income item) until after year-end and only then reversed. That means such assessments will be included in numbers reported to the public and used to determine incentive payments.
“Taxpayers may also find waivers and payment plans being denied and more penalties and interest charged (sometimes up to 200%) during that three-month period,” the informant says, adding: “Revenue goes into bully mode and the ‘pay now, argue later’ attitude is applied. The number of asset seizures increase, in addition to the number of unresolved
disputes left on the system. Revenue employees are put under tremendous pressure, sometimes to the detriment of a taxpayer’s rights in certain instances.”
It seems the disregard for control procedures is also visible at the highest levels of management. For example, the Income Tax Act compels employers to pay over payroll taxes such as PAYE to Revenue within seven days of month-ends. However, Revenue pushes many State institutions to do so by the last day of March at year-end. That’s a seven-day cash benefit that will be included in that year’s collection figures.
Taking into account the number of public servants in SA, that amount can run into millions of rand. “Reaching targets by artificial means has become a culture at Revenue but is in contradiction of what tax law stands for,” the former employee says.
The proof is in the pudding. According to expenditure and borrowing figures released by National Treasury for the 2007/2008 tax year, tax income amounts to anything between R30m and R70m/month, with March being the highest of them all (see table).
We all know Revenue is under immense pressure to perform. It has set targets, it has to enforce legislation, it has had no hand in drafting and it must uphold a certain standard. But is organisational pressure a good enough excuse to disregard internal controls and apply methods in violation of the law and of taxpayers’ civil rights?
However, Revenue’s Wort
that customer impact surveys and audit figures show the overall perception of the organisation is positive. Wort says Revenue has always been upfront regarding its innovative and creative ways of collecting revenue from taxpayers. “It’s an issue of revenue efficiency,” he says. “We can’t raise taxes but we still need to meet our targets. How else will we be able to excel as a revenue agency?”
Wort adds that the R1bn (State PAYE taxes) out of R169bn of total personal tax revenue is insignificant. He says that most of the misappropriation or misinterpretations of taxpayers’ funds mentioned are insignificant in the greater scheme of things.
However, although relieving people of their hard-earned cash has never won anyone popularity contests, anti-tax activists might not be so far off when it comes to SA’s tax regime.
What makes Revenue’s clear disregard for honest accounting and taxpayers’ rights even worse is its overzealous, often aggressive, method of defending its bottom line.
According to Jeffrey Owens, director of the Centre for Tax Policy and Administration at the Organisation for Economic Co-operation and Development (OECD), SA’s tax authorities are a tough lot. “Their level of aggression compares well with their counterparts in Europe but hasn’t reached the levels of the IRS in the United States just yet.” Revenue has been accused of manhandling and the warning lights are starting to “flicker,” he says.
That’s a stark irony in light of the goals and values set out in Revenue’s strategic plan released in 2005. It set out a broad approach and specific interventions it would pursue during a three-year planning cycle. Among other laudable promises, the Commissioner vowed to lighten the administrative burden of submitting tax returns, increase the tax base and mobilise a collection regime without infringing taxpayers’ rights.
The application of certain core values – such as respect, trust, equality, integrity, honesty, transparency and courtesy – were to be the hallmark of its public relations disposition.
Taxpayers should ask themselves whether Revenue has lived up to those core values in its dealings with taxpayers. Based on our research (and in my opinion) the answer is no. But before we get too subjective – and in all fairness – Revenue has also suffered from the skills crunch in this country, not to mention the aftershock of affirmative action and the exodus of many specialised skills from the public sector in the process.
To compound matters, industry players have noted the combined impact of an acute crisis of capacity at Revenue and complex tax legislation. Part of the problem is warped resources allocation. Skilled team leaders are employed in an administrative capacity and not in the field of assessing, where most of the mistakes occur. In addition, the Large Business Centre (LBC) is absorbing most of the skills: which means regional offices don’t have the resources to offer efficient services or expertise.
Industry players say Revenue also has to
enforce laws it wasn’t involved in drafting, which makes it more difficult to consult with it as the interpretation of rules differs on both sides.
Fact is, tax legislation has changed so many times over the past five to seven years – becoming more complicated with every amendment – that even industry veterans struggle to keep abreast of it all.
Des Kruger, a tax director at Mallinicks Attorneys and an old tax hand of 30 years, articulated it perfectly in Parliament recently when he said that amendments in tax legislation will drive him to alcohol.
For Revenue employees who have to administer close to 20 different (sometimes very complicated) tax laws, administration is doubtless a difficult feat by any standard.
However, that doesn’t mean the dire consequences for taxpayers of Revenue’s management’s poor efforts in attracting appropriate skills, providing proper training and effectively managing staff turnover are excusable.
Finweek’s confidential informants say that with staff turnover so high, auditors are also not properly educated in the industries they need to audit. “Auditors don’t get any recognition for non-cash flow efforts in understanding the construction industry, for example. Management expects them to assess and research an industry in one go.”
That means an all-encompassing, wellexecuted audit is out of the question and leads to auditors raising incorrect assessments due to a lack of understanding, time constraints and pressures from management to realise monetary gains.
“Because management wants instant cash gratification, many incorrect assessments are submitted,” our informant says. “But what they don’t realise is that it takes money and time to correct those figures at a later stage.” In addition, interest and penalties levied by auditors aren’t objective – they’re left to their discretion. Due to their overall lack of qualification and experience auditors will, for example, charge 200% interest if a taxpayer interpreted the Income Tax Act differently to how he did – especially if there isn’t consensus in the industry on the application of that section of the Act. The taxpayer in such a scenario wasn’t negligent, dishonest, didn’t evade tax and followed the advice of his tax adviser. What do you do?
Many taxpayers have found it more economical to pay assessed taxes than take the time and expense to dispute the matter. The dispute resolution process is a lengthy one and can drag on for years.
Those prepared to take on the mighty Revenue and its open chequebook will have to budget for a lot of man-hours and legal fees.
Some good news comes in the form of the tax courts, which have halted Revenue’s intimidating demeanour by dismissing various cases with costs, finding in favour of the taxpayer (see court case box.) The bad news is that the general tax community will have to pay for those legal costs as well. Having your case heard in a tax court is estimated to cost up to R500 000, which can increase exponentially when taken to higher levels of the judicial system.
Ironically, that merely adds more revenue to the proverbial taxman’s coffers. Indeed, defending tax matters in court and employing consultants and attorneys to do so has already cost the taxpaying community a pretty penny. Professional and special services for the year ended 31 March 2008 cost the taxpayer close to R750m. Notes to the financial statements aren’t specific about which amount was allocated to which profession and in what context, but the main expenses include audit fees, legal fees, IT maintenance, consultation fees and security services.
Industry players think it’s not too much of a concern. “Those expenses equate to less than 2% of total revenue collected and form part of running a business,” they say. Of course, that’s 2% added to the same artificially inflated figures mentioned above – and R750m less for economic development. But, hey, who’s counting?
overzealous? Pravin Gordhan
Warning lights are starting to flicker. Jeffrey Owens Focus on aggressive tax planning. Martin Walbeck