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Statement on tax policy



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STATEMENT

ON

TAX POLICY

Circulated by the Hon John Dawkins MP Treasurer of the Commonwealth of Australia

16 September 1992

C O M M O N W E A L T H PARLIAMENTARY LIBRARY MiCAH

Introduction

Taxation is both an instrument of wider economic and social policy and a field of policy in its own right.

Throughout its term of office, the Government has applied taxation policy creatively and constructively towards the nation's major economic and social goals.

The fundamental role of taxation is to fund the programs of Government as fairly and efficiently as possible. But tax policy is also used to promote social justice and the

redistribution of income, to support wage and inflation objectives, to encourage improvements to saving and investment, and for a variety of other industry and social purposes.

Since its election in 1983, the Government has radically transformed the taxation system into a more effective, more efficient and fairer program of Government In the

1990s, the Government will continue to transform the tax system to meet new challenges and to enhance further existing programs.

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The Fundamental Role - Collecting Revenues

The fundamental role of taxation is the raising of revenues to fund the Government's expenditure programs including the provision of services (such as education and

defence), the payment of benefits (such as age pensions and family allowances), and all of the other community purposes met by the national Government.

Over the past decade, the overall burden of taxation has been kept broadly constant as a share of total national income. In comparison with other developed countries, Australia has one of the lowest overall tax burdens and this ranking has been improved over

recent years. In 1990, Australia had (taking account of all levels of Government) the

third lowest tax burden in the OECD at 30.8 per cent of GDP.

By maintaining revenues broadly at a low, constant level of GDP (substantially varying only with the economic cycle), the Government's consistent expenditure restraint has been applied to substantially improve the underlying structure of Government finances. With expenditure restraint and continuing economic recovery, this will mean a steady

reduction in the Budget deficit over the coming decade.

The Structure o f Taxation

Because Australia has a relatively low overall tax burden, it has not needed to pursue all of the tax bases commonly adopted overseas.

Instead, the Government has met its revenue needs with income taxes which are broadly

comparable with those overseas, supported by indirect taxes imposed on a relatively

small range of goods (such as the excises on tobacco, alcohol and petroleum products,

and the sales tax which is not imposed on services or on food or clothing).

A comparison of the OECD countries is provided in the following table showing, for all

levels of government combined, total taxes as a share of GDP and the relative shares in

total tax revenue of taxes on income and profits (including social security and payroll

taxes and taxes) on goods and services (including sales taxes, excises, customs duties

and value added taxes).

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OECD Tax Table: 1990

Tax Revenue as a Taxes on Income - Taxes on Goods and

percentage of GDP percentage of total services - percentage tax revenue of total tax revenue

Sweden 56.9 71.8 24.6

Luxembourg 50.3 68.0 23.5

Denmark 48.6 62.2 33.4

Norway 46.3 60.9 35.4

Netherlands 45.2 69.6 26.4

Belgium 44.9 72.0 25.3

France 43.7 63.4 28.2

Austria 41.6 64.4 31.5

Italy 39.1 69.7 28.0

New Zealand 38.2 60.1 33.7

Finland 38.0 59.7 37.3

Germany 37.7 68.9 27.4

Ireland 37.2 53.0 42.3

Canada 37.1 62.5 27.4

United Kingdom 36.7 56.9 30.4

Greece 36.5 49.5 45.7

Portugal 34.6 53.0 44.0

Spain 34.4 66.1 28.3

Iceland 32.6 36.1 51.5

Switzerland 31.7 73.9 18.3

Japan 31.3 77.5 13.2

Australia 30.8 63.3 27.8

United States 29.9 72.7 16.5

Turkey 27.8 53.2 27.9

Unweighted Ave. 38.8 62.9 30.3

The Government reviewed alternative approaches to the tax base in 1985, but has

accepted the community's clear preference to maintain the existing structure of taxes.

Indeed, the Government has transformed the income tax by making sure that it is a much fairer tax than ever before.

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The income tax base has been made much broader, both by ensuring that a wider range

of incomes is taxed (fringe benefits, capital gains and so on) and by ensuring that compliance with the tax laws is increased.

Both of these strategies are essential for a fair tax system. And the benefits of a broad and fair tax base have been directly transferred to Australia's taxpayers through a

substantial reduction in personal tax rates.

In the ONE NATION statement, these tax rate reductions were taken even further. The Government, once again, can provide these tax cuts because it will be acting to achieve an even fairer and broader income tax base over the next few years. Details of the tax cuts and tax base improvements are noted later.

Broadening the Income Tax Base

The fundamental equity principle underlying the imposition of income taxes is that the level of tax should relate to the capacity of the taxpayer to pay. Around the world,

income taxes are levied because they are recognised as the most effective taxation

instrument for achieving equity objectives.

To be fair, an income tax must apply to all types of income - otherwise many people

who can take their income in different forms will be able to avoid paying tax in

accordance with their capacity to do so.

After the decades of neglect preceding it, the Government since 1983 has taken many

steps to ensure that all major classes of income are included in the income tax base.

These steps included the following:

. introduction of the Capital Gains Tax in 1985;

. introduction of the Fringe Benefits Tax in 1986;

. removal of tax exemptions for gold mining, the life insurance business of friendly

societies, and superannuation fund income and lump sum benefits;

. broadening of the business income tax base through removal or reduction in concessions for films, the investment allowance and 5/3 depreciation, foreign

source income and a variety of other tax shelters; and

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. introduction of substantiation provisions and the denial of deductions for business lunches and similar entertainment expenses.

These and other measures have ensured that virtually all of the major classes of income in Australia are included fairly in the tax base.

Increasing Fairness Through Lower Avoidance and Evasion

In addition to ensuring that the legislated income tax base is broad, the actual tax base

can also be broadened by ensuring that everyone meets their tax obligations. The higher the level of tax compliance, the lower the required level of tax imposed on honest taxpayers.

Reforms have been progressively introduced to increase the effectiveness of tax administration and to improve tax compliance. This program has included a mixture of

strategies including improving taxpayer services (so that taxpayers are better able to

comply with the laws) as well as enforcement actions.

Examples of the major actions taken include:

. the introduction in 1983 of the Prescribed Payments System, which was announced by the Fraser Government, requiring income reporting or source

deductions of tax in a number of industries;

. the overhaul of the offences and penalties provisions in 1984;

. the progressive introduction of self assessment of income tax since 1986,

supported by substantially upgraded audit programs, to replace the clerical processing of returns;

. the introduction of the Tax File Number system and associated information

reporting systems, to date principally in the areas of interest income and wages;

. the modernisation of tax compliance systems through a major new computer

acquisition program matched with organisational changes in the Tax Office; and

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. increased orientation of the Tax Office towards the provision of information and

advisory services to taxpayers to assist them in meeting their tax obligations, including through innovations such as the "Tax Pack" and the electronic lodgement of returns.

The Benefits o f Reform - Lower Tax Rates

A broader statutory tax base, together with greater compliance with the tax laws, increases tax revenues. Given the Government's policy of keeping the tax burden low by developed country standards, these revenues can be returned to the taxpaying public through lower tax rates.

In turn, lower tax rates make the tax system more efficient and, at least for some, reduce the incentive for tax avoidance or evasion.

The Government has reduced marginal rates of personal income tax: since 1983, the bottom rate has been lowered from 30 per cent to 20 per cent and the top rate has been

cut from 60 per cent to 47 per cent.

The company tax rate has been reduced from 46 per cent to 39 per cent.

At the same time, the severe double taxation of dividends was removed through the introduction of the full dividend imputation system, with effect from July 1987. This

has transformed the role of equity markets in Australia, providing a firm foundation for

a more efficient capital structure for Australian businesses.

It has also greatly reduced the taxation bias in favour of debt, as opposed to equity,

financing by companies.

At the same time, the imputation system has reduced the incentive for the minimisation

of company tax by avoidance, aggressive utilisation of tax breaks, or the shifting of

income abroad. To that extent, it has helped fund itself.

Tax Reform, Wages and Inflation

One of the most important achievements of the Government over recent years has been

the achievement of wage restraint and now, the quite remarkable reduction in inflation and inflationary expectations.

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Previously, even in recession, Australia achieved poor wage and price outcomes.

The improved attitudes and processes leading to wage and price restraint have been won through a consistent, long-term strategy engineered under the Accord processes. They have involved the cooperation and commitment of the Trade Union movement, and vital to that has been the Government's commitment to fairness in taxation policy.

In the 1980s, which continued an era of centralised wage determination, Accord agreements buttressed by tax cuts and tax reforms achieved the gradual breaking of the inflation psychology in Australia.

Now, in the 1990s, under more decentralised wage fixing arrangements, taxation policy

will continue to be crucial to the maintenance of wage and price restraint.

Tax rates set the environment for wage negotiations. It is essential that they be accepted in the community as fair, and that tax arrangements are not seen as unduly eroding the value of wages.

The Government has announced major reductions in the tax rates facing the working

men and women of Australia, to take effect in 1994 and 1996.

It has also rejected proposals for a goods and services tax, which most people see as

unfair, and which would generate a destabilising surge in consumer prices, putting at

grave risk the orderly operation of wage settlements.

Maintaining the Incentive to Save and Invest

The Government's policy of maintaining a broad income tax base has by no means been pursued in neglect of the vitally important task of maintaining incentives to save and to invest.

While income taxes must be broadly based for equity reasons, they must also be

designed to provide for economic growth and for the needs of the future.

The Government has not deviated from this difficult balancing task. It has rigorously

tested the capacity to broaden the tax base but at the same time has ensured that

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business investment and community savings are encouraged. On occasion, this has also required adjustments to policy arising from changes in the economic cycle.

Overall, income which is saved is subject to a lower tax burden than other income which is applied to consumption. This results either directly through savings

concessions, or indirectly through lower taxes on certain priority areas of investment. Some major examples of these policies are as follows:

. superannuation tax concessions are provided through the reduced rate of tax of 15

per cent and further concessions on superannuation benefits: this provides a substantial incentive for savings for retirement income purposes. This policy is reinforced by the Superannuation Guarantee Charge provisions recently enacted. The full details of the Government's policy in this area are set out in the "Security In Retirement" Statement of 30 June 1992;

. home ownership, a major form of saving and investment of vital community importance, is exempt from income and capital gains tax;

. lesser tax benefits are provided to life insurance and friendly society savings

products;

. a variety of priority areas of investment are provided with concessions which reduce the effective tax rate applying to them: these include:

- the 150% deduction for Research and Development;

- concessions for Pooled Development Funds which invest in small business;

- the 10 per cent Development Allowance for large projects; - the 10 per cent tax rate on Offshore Banking Units; and

- tax advantages for Infrastructure Borrowings.

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Into the 1990s - The Strategy Enhanced

The Government is committed to maintaining and enhancing its fundamental approaches to taxation policy.

It will not increase the overall burden of tax.

It will not introduce a broad-based consumption tax.

It will continue to design tax policy to support savings and investment, responding as

necessary to new opportunities and changing circumstances.

In particular, the Government will take to a further stage its commitment to the

fundamental strategy of broadening the tax base and reducing tax rates.

The substantial personal tax reductions announced in the Prime Minister's One Nation

Statement will be legislated now by the Government.

These tax scales provide substantial reductions in marginal tax rates faced by the great

majority of working men and women in Australia. The marginal tax rate faced by those

on average earnings will fall from 38 to 30 per cent, and the next step will fall from 46 to 40 per cent.

The tax scales, which will be achieved through two stages, are set out in the following

table:

Income Range ($ per annum)

Marginal Rate (cents per dollar)

Current From 1 July 1994 From 1 January 1996

0 - 5,400 0 0 0

5,400 - 20,700 20 20 20

20,700 - 36,000 38 34 30

36,000 - 38,000 46 34 30

38,000 - 40,000 46 43 30

40,000 - 50,000 46 43 40

Over 50,000 47 47 47

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In the following table, the tax cuts to be provided at varying income levels are set out.

At 1 July 1994 At 1 January 1996 Total at 1 January 1996 (a) Annual Income

$

Change in Disposable Income $pw

Change in Disposable Income $ pw

Change in Disposable Income $ pw

15,000 0.00 0.00 0.00

20,000 0.00 0.00 0.00

22,000 1.00 1.00 1.99

24,000 2.53 2.53 5.06

26,000 4.07 4.07 8.13

28,000 5.60 5.60 11.20

30,000 7.13 7.13 14.27

32,000 8.67 8.67 17.34

34,000 10.20 10.20 20.41

36,000 11.74 11.74 23.48

38,000 16.34 13.27 29.61

40,000 17.49 18.26 35.75

42,000 18.64 19.41 38.05

44,000 19.79 20.56 40.35

46,000 20.94 21.71 42.65

48,000 22.09 22.86 44.96

50,000+ 23.25 24.01 47.26

(a) Columns are not necessarily additive. The total effect is calculated as if both tax cuts occurred on 1 January 1996.

The Government proposes two initiatives, in keeping with its broad tax policy strategy

since 1983.

1. Expansion of the Fringe Benefits Tax

The effectiveness of the FBT will be increased, and the fairness of the tax system

generally enhanced, by changing the method of calculating the value base of the tax to

make it as near to that of income tax as practicable.

From April 1994 the Fringe Benefits Tax will be levied on the FBT inclusive value of

the fringe benefit and FBT payments will be made deductible to employers for income

tax purposes.

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This is equivalent to the tax treatment of salary, where the employee pays income tax on the gross amount of salary and the employer has a tax deduction equal to the gross amount of salary.

At present, FBT of $482 is paid if a fringe benefit of $1000 is received by an employee. To provide the same benefit in the form of salary to an employee on the top tax rate, an employer would need to pay a gross amount of $1932 on which income tax of $932 would be payable.

For employers subject to income tax, the substantial advantage for fringe benefits is reduced, but not eliminated, by the non-deductibility of the FBT. Taking this into

account, a fringe benefit of $1000 bears total tax which is $87 lower than for equivalent salary. The advantage for fringe benefits is even greater for employers on low tax rates

or income tax-exempt employers (eg most of the public sector). A significant share of the revenue yield of the proposed changes will come from tax exempt government

employers who have benefited from lower taxes on fringe benefits until now. The Government will discuss this issue with the States in the context of the next Premiers' Conference.

These differences have continued to distort remuneration arrangements in favour of

payments in the form of fringe benefits rather than salary, mainly to the benefit of

higher income earners.

Introduction of the measure in 1994 will allow businesses to adjust to the transition

when economic conditions will have improved and will allow a period of time in which

to review remuneration arrangements.

The Government is not considering any other changes to the FBT. In particular, it does

not propose to alter the classes of FBT-exempt organisations. Accordingly, religious institutions and public benevolent institutions, such as public hospitals and charities, will continue to be exempt from FBT.

The Government is aware of some concerns on the part of those in remote areas in

relation to aspects of the operation of the FBT exemptions which allow employers

generally to provide recreational and community facilities for their employees free of tax.

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The Government is examining the scope of these exemptions to ensure that they cover facilities, such as swimming pools and community halls, which are of particular interest to those communities whose work requires them to reside in areas which are remote from the rest of Australia, and which are distant from many such community facilities.

2. Improved Compliance

The second source of additional revenues will be a substantial enhancement of the Tax Office's compliance strategies, designed both to help further taxpayers meet their obligations and to enforce greater compliance where necessary. The Parliamentary Public Accounts Committee is examining, among other things, the help and enforcement aspects of the Tax Office's compliance strategy.

The Commissioner of Taxation has provided a report to the Government on means of enhancing tax compliance - this report is being tabled together with this tax policy document. The Government has endorsed the strategy outlined in the Commissioner's report.

The enhancement strategy will include a substantial extension of the role of information

reporting, using the Tax File Number system. In addition, there will be enhancements

to the record-keeping and audit programs of the Tax Office.

The existing exemptions for pensioners from the Tax File Number system will

continue, so changes to the reporting requirements will not affect such pensioners.

Given that improving tax compliance is of concern to the whole community, and

directly affects all taxpayers, the Government will ensure full consultation on the

proposals for enhanced compliance. It will also ensure that taxpayers, particularly

business, are given adequate notice of changes and time to adjust systems following the

passage of any new laws which may be required. This will mean that significant

revenue effects are not expected until 1994-95.

It is anticipated that legislation for the compliance measures will be introduced in

1993-94. The Government will seek and welcome full parliamentary scrutiny of the draft legislation.

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Studies undertaken by the Government indicate that these measures will generate significant revenues at acceptable costs. Accordingly, the Government is confident that there will be no requirement to pursue other options for tax base expansion or compliance measures such as increased withholding, whilst ensuring that the Budget

deficit will be reduced as planned by 1995-96.

The implications of the proposed measures for Government revenues and outlays are as

follows:

1994-95 ($m) 1995-96 ($m)

REVENUE FBT Reform 1640 900

Compliance Enhancement 750 950

TOTAL REVENUE 2390 1850

OUTLAYS Public Debt Interest 85 210

Less: ATO Resources 35.5 35.5

Net outlays savings 49.5 174.5

Total 2439.5 2024.5

These estimates do not include any allowance for possible improvements for Department of Social Security programs which may follow improved tax information

reporting.

AUSTRALIAN TAXATION OFFICE

INCOME TAX COMPLIANCE/ENFORCEMENT STRATEGY

INTRODUCTION

The Australian Taxation Office exists to collect the revenues properly payable under the

laws administered by it at least possible cost to the community.

The most effe;tive way we see of doing that is by promoting voluntary compliance in a self

assessment en\ ironment through achieving, with the aid of appropriate systems, the right

mix of help and enforcement, by understanding our clients and by using appropriate risk

analysis and management techniques. The ultimate goal is a community-based tax system in which payment of tax is "simply the right thing to do".

In achieving maximum voluntary compliance we have identified areas where we must

continue building on the work we have been doing. These areas are -

. enhancing our existing ability to systematically identify areas of potential risk to the

revenue so as to best target our help and enforcement strategies in a self

assessment environment; and

. modernising the law in a way that makes it easier - and thus less costly - for us and

the community to work with, including through systematic approaches to

supporting maximum compliance.

The enforcement of taxpayer compliance has received considerable attention in recent years

with the successful implementation of the Large Case Audit Program and the introduction

of the Tax File Number reporting arrangements covering employment and investment

income. Our successes here have been widely reported.

In addition, we continue to conduct a range of Other audit programs which, while successful

in their own right, are a relatively costly means of achieving compliance with tax laws.

Systematic approaches have large value in tax administration. The pay as you earn (PAYE)

system of deduction of tax at source is a vital element of the income tax system. A

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comparable system, the Prescribed Payments System, announced in the 1982-83 Budget,

also assists.

While deduction-at-source systems have that considerable value, systems o f information

reporting cany lesser burdens o f administration and can be highly effective in promoting

compliance. For example, the TFN information reporting arrangements for interest and

other investment income have been highly efficaceous in causing that income to bear its

intended level o f tax. When fully implemented, we consider that acompliance level

approaching 95 per cent is attainable. In light o f that, it is believed that some extension of

information reporting, rather than o f deduction at source, would represent the best strategy

to follow in relation to a number o f areas o f current low compliance.

Allowing for the progress that has been made, there is scope to do more through a

combination o f strategies, o f both a help and enforcement nature, to achieve further

improved compliance with tax laws. In particular:

- Information reporting arrangements (including tax file numbers) can be widened

to cover further categories of business and other income. This extension, which

requires the passage o f legislation, would materially assist the detection o f

unreported income. Revenue authorities overseas apply this strategy extensively.

- The ability of small businesses to comply with their tax obligations is influenced

by the comprehensiveness o f their record-keeping practices. We consider that

poor records go hand in hand with poor compliance. A program o f activity to

address this major problem is being developed but requires the support o f

Government to enable our goals to be fully realised. This would include changes

to the Income Tax Assessment Act - to be developed in consultation with the

accounting profession and small business organisations - to bring more certainty

into the record keeping requirements. -

- Increased use can be made o f information technology in the short term to provide

more efficient systems· to support the audit function. . . . . " : .

Adoption o f the additional strategies identified in this paper should lead to significant

improvements in voluntary compliance and the ability to detect unreported income. If these

strategies were progressively implemented from 1993-94, revenue gains would increase

each year, reaching about $950M a year by 1995-96.

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This document:

Outlines strategies being employed by the ATO to achieve compliance with the

income tax laws.

Identifies areas of non-compliance that will be receiving special emphasis over the

next three years (1992-1995).

Identifies opportunities for further enhancing taxpayer compliance through a

combination of measures including legislative changes, additional investments in

computer systems and staff resources.

The techniques and strategies used to achieve improved taxpayer compliance vary across the

ATO's client base according to the characteristics and needs of different taxpayers. The

ATO's auditing activities have long been approached on a market segment basis, with a

range of strategies applying in the different segments. This document focuses on each

segment

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(1) LARGE/MEDIUM BUSINESS

1.1 DESCRIPTION

This segment encompasses all taxpayers with an annual turnover o f $5 million or more.

The main focus of activity in this segment includes ·

.· corporate groups; . . . · ’· · ; ' ■ . .

. corporations and trusts;

. international issues;

. key individuals; and

. tax planning.

The audit program tends to be concerned with the larger corporations and is, at the extreme,

at the low number/high value end o f the spectrum. Case selection with the largest o f the

corporations is not an issue. The intention is to cover all large corporations over time. For

the balance o f the Complex Audit cases, case selection is more o f an issue.

Taxpayers in this segment pay the majority o f income tax revenue collected by the

Commonwealth:

- 51% o f income tax collections

- 77% o f PAYE deductions at source

- 40% o f PPS deductions at source

- 79% o f FBT tax collections

- 99% o f IWT collections.

This segment includes the international area where, over the past 10 years, there has been a

dramatic internationalisation o f the Australian economy, globalisation o f corporate activity

and deregulation o f the banking and financial systems. Almost 50% o f international trade is

intra-group, thus direct investment by multinationals is one o f the strongest growth areas in

international capital transfer.,' international profit shifting including transfer pricing and ■. '

allocation o f expenses by multinational enterprises has become a major compliance issue.

The issues associated with transfer pricing ahd expense allocation are extremely complex

and there is still significant OECD debate over appropriate solutions.

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1.2 BROAD APPROACH

In an environment of very limited audit resources (funding/staff), activities in the Large/Medium segment are directed at making known to taxpayers what the law requires of

them and establishing an audit environment which ensures: '

. maximum possible coverage of the taxpayer segment;

. concentration on current issues; , concentration primarily on issues of significance;

. identification, with the use of minimal resources, of areas where:

- revenue is most at risk;

- tax planning is evident; and - the law requires clarification by amendment, by issuing taxation

mlings/determinations, or by other ATO service initiatives.

1.3 AREAS OF EMPHASIS IN 1992-1995

The ATO is now in the process, following a review of the Large Case Program by the

Boston Consulting Group (Pappas Carter Evans & Koop), of extending its experience and

techniques developed in the examination of the Top 100 corporations to the Top 600

corporations. It is doing this in a number of ways:

By implementing a series of auditing arrangements (which include a number of new

approaches). These include -

. full audits;

. rollover audits;

. abridged audits and reviews;

. record retention audits; and

. monitoring or watching briefs.

When fully implemented, it is expected that these new auditing approaches will see a

reduction in the number of full audits but -

. a significant increase in coverage;

. improved awareness and removal of current "grey area" issues;

. improved awareness of the revenue at risk areas;

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. identification o f the areas for taxpayer education and assistance;

. early identification o f significant issues; and

. identification of areas o f the law requiring clarification or amendment.

Developing pools of technical expertise; emphasising training by -

. technical and practical training through practice cells;

. more emphasis on fostering understanding of commercial practicea and their tax

' implications, and "

. formal training in new auditing arrangements and tax strategy review

methodology. .

Implementing new approaches to audit team management, composition and

evaluation.

Ongoing analysis o f systems needs particularly in the areas o f -

. managing resources/case management;

. case selection; and

. identifying cases where a similar technical issue arises.

Increasing the level o f resources committed to the writing o f Income Tax Rulings and

Determinations;

Pappas Carter Evans & Koop highlighted the need to clarify contentious areas o f

the law and to develop a faster and more effective method o f communication to

corporate taxpayers.

Under the arrangements now in place, rulings are produced according to an

agreed program which is publicly available. The program is oversighted by the

Taxation Rulings Committee (TRC) which consists o f senior officers from the

; ' . . · . ATO; representatives from the Commissioner's Tax U m o n Group anda. · ■

representative from the Corporate Tax Association. The TRC provides high level

strategic input to the Rulings Program representing both an internal and external

perspective. Expansion o f the Rulings Program will elevate the importance o f the

work o f the TRC,

— ^ I

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Complementing the Rulings Program are determinations, a method for conveying technical advice which was established in May 1992. Determinations usually address one particular issue and are not meant to give a comprehensive analysis;

rather, they are designed to provide rapid dissemination of advice to taxpayers on

common and significant issues that have been identified. They may be followed

by the release of a comprehensive ruling.

Increasing the focus on international issues by the approaches adopted for other taxpayers in

this segment and, more specifically, by -

. development of an international audit strategy for the next five years;

. progressively increasing the number and skills of the resources devoted to this work;

and

. greater participation in forums addressing the major complexities in this area.

1.4 ENHANCEMENT MEASURES

Around 100 higher level technical resource positions (including up to 40 positions at SES

and SOG(A) level) are required to support upgrading of the Rulings Program and the

general provision of technical advice, and to increase the number of staff concentrating on

complex and international issues. This expansion would also enable the ATO to accelerate

the implementation of its new auditing arrangements covering the top 600 corporations, and

its increased focus on international issues.

Additional funding to enable engagement of requisite specialist legal, economic and other

technical expertise is essential.

Upgrading of the Rulings Program will promote voluntary compliance and thus increase tax

revenue.

In the main, the ATO has or can develop the people it needs to carry out this high level

work. In seeking Government endorsement of its worth, we would stress the limitations

imposed by present remuneration and classification systems and seek some relaxation of the

tight central controls that inhibit the ATO's ability to move people to SOG(A) and SES

levels.

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1.5 POTENTIAL REVENUE BENEFITS

Adoption of the strategies identified to enhance compliance by this segment o f

taxpayers will lead to improvements in voluntary compliance, and thus increased

revenue, and the ability to detect unreported income and overclaimed deductions.

. Ib e .net benefit to revenue is estimated to reach S250M a year by. 1995-96.. ■ ..

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(2) SMALL BUSINESS

2.1 DESCRIPTION

This segment includes some 1.9 million small businesses arid self-employed taxpayers

operating across all industries. (It includes taxpayers subject to the Prescribed Payments System.) These taxpayers operate as corporate entities, superannuation funds, partnerships,

trusts and sole traders.

Taxpayers in this segment are responsible for:

- 35% of income tax collections

- 23% of PAYE deductions at source

- 60% of PPS deductions at source

- 21% of FBT collections

- 1 % of IWT collections.

2.2 BROAD APPROACH

The primary strategy employed to encourage voluntary compliance and detect non­

compliance is targeted audit activity along with publication of rulings and the like to clarify

what the law means for this group of taxpayers.

Business Audit Program: entails individual audits of taxpayers to validate income disclosed

and deductions claimed and other activities aimed generally at improving compliance. In

dealing with this segment, our primary approach is to break it down into industry and

business categories and to systematically look at particular groups to establish whether there

are compliance problems, the extent of these, what are the causes and what the appropriate

responses might be. This approach has become known as the 'Project Based Audit’

approach.

Source Deduction Audit Program: covers individuals and businesses that are or should be

complying with the PAYE and PPS systems as currently structured. Audits here entail an

examination of business records to ascertain whether tax has been properly deducted at

source from salaries and wages or prescribed payments. A 'Project Based Audit' approach is

also applied in conducting this program. .

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2.3 AREAS OF EMPHASIS IN 1992-95

Generally speaking, there are many areas o f poor compliance in this segment, particularly in

the non-reporting o f cash receipts. Associated with this, the record-keeping practices o f

many taxpayers in this segment can be improved considerably.

The ATO proposes to develop, in consultation with the accountancy profession and small

, business organisations, a strategy for improving? mall business record-keeping with the

following objectives: · · . . ■ ·

To encourage small business operators to adopt business practices that will assist

them through better management o f their business activity and in so doing better meet

their taxation obligations.

To encourage small business operators to follow record keeping guidelines that are to

be finalised by the ATO.

To encourage tax agents/advisors to help clients.

To identify areas and causes o f non-compliance.

To inform taxpayers and their tax agents o f the penalties for non-compliance,

particularly those relating to self-assessment.

' '

To increase the number o f ATO officers present in the community for advice and

information.

To identify cases where non-compliance warrants more intensive audit action.

To properly support this program, action is required which necessitates legislative and

administrative changes.

The completion o f Phase 2 o f the TFN legislation - the Investment Phase - will enable

large scale systematic income matching to be extended to this segment o f taxpayers,

thus facilitating the detection o f unreported investment income.

11

In 1993-94, the ΑΤΟ will make its first release of its re-developed business systems under the Modernisation Program - known as Collection Systems Modernisation. Implementation of this system, initially for PAYE and Sales Tax revenue lines, will

provide a much improved capacity to administer the laws in these areas.

The ATO's upgraded program of rulings/determinations will be of increasing

assistance to these taxpayers.

2.4 ENHANCEMENT MEASURES

Effective implementation of the record keeping audit program requires Government support

at two levels:

Legislation: under current law there is a degree of uncertainty about the records

required to prepare income tax returns. Some changes have been foreshadowed as a

consequence of recent self-assessment developments. However, we consider that more specific record-keeping requirements, particularly in relation to small business,

should be included in the income tax law. These requirements would be developed in

consultation with the accounting profession and small business organisations.

Audit Resources: the ATO is planning to divert 100 of its existing resources to a

program of record-keeping audits in this area. However, a much wider program

of these audits is required to achieve significant and sustainable improvements in

voluntary compliance. Additional resources (around 200 ASL) are required to

achieve the aims of this program.

Expanded programs of information reporting (including tax file numbers), requiring

changes to the income tax law, would provide a significant stimulus to voluntary

compliance as well as improve the ATO's ability to detect non-compliance. Specific areas

of business susceptible to new information reporting arrangements include:

Income paid through specified marketing agencies (eg. covering areas of primary

production).

Income for specified services rendered by professionals and other consultants.

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12

Income o f specified commission agents and independent contractors not subject to

PPS.

Business licensee arrangements.

Establishment o f these new reporting requirements would require consultation with relevant

industry representatives as well as appropriate lead-times for implementation planning.

■ . i - . ' · « · ■*,. .. - · i . ‘ ' * ' . ‘ e .

Audit coverage o f this taxpayer segment, as: well as" the bottom end o f the Large/Medium

segment not presently covered by the Top 600 program, needs to be strengthened - around

200 ASL - to provide a greater deterrent to non-compliance behaviour.

2.5 POTENTIAL REVENUE BENEFITS

Adoption o f the strategies identified to enhance compliance by this segment o f

taxpayers will lead to improvements in voluntary compliance and the ability to

detect unreported income and overclaimed deductions.

The net benefit to revenue will rise to around S350M a year by 1995-96.

13

(3) NON-BUSINESS INDIVIDUALS

3.1 DESCRIPTION

This segment covers the vast majority of taxpayers -

. some 6 million taxpayers whose major source of income is salary and wages

taxed under the PAYE system; and

. some 1.7 million taxpayers whose income is principally from investments (eg.

interest, dividends) and rental properties.

Overall, compliance by this segment is high. Much of the income of these taxpayers is reported direct to the ATO by employers, financial institutions and others, who have

obligations under the law to report income and deduct tax at source. Of the non-compliance

found in this segment, much of it is for relatively small amounts of revenue and often results from ignorance and carelessness rather than deliberate attempts to evade the law.

However, because of the large number of cases, the revenue leakage is significant and

requires a systematic approach.

We have some concerns - based on audit projects and overseas experience - that the overall

level of compliance in the area of capital gains is less than it should be. The most common

capital gains relate to profits derived from the sale of real estate, shares, and business

goodwill.

Project work in the area of rental income has not revealed any major risk to the revenue at

the present time. .

3.2 BROAD APPROACH

The primary strategy applied to detect non-compliance is systematic large scale matching of

information supplied by employers, investment bodies and others - employment declaration

processing and income matching.

Employment Declaration Processing: this is a recent initiative now being implemented

nationally following successful piloting in two regions. It entails the universal checking of

information contained on employment declarations to validate employee identification

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14

details. Suspect cases, including employers with a high incidence of potentially invalid

declarations, are reported for actioning by source deduction audit staff. (Information

obtained from employment declaration is also used in administering the Child Support

■ Agency arrangements and matched with Department o f Social Security records to detect .

overpayments o f benefits.) ·

Income Matching: reports o f income by payers (much o f it in magnetic form) are

systematically.aggregated and matched with taxpayer records to detect unreponed income. .. ■

This process is known as the Income Matching System. ' :

Under present arrangements, the volume o f cases detected by this system with apparent

understatements o f income far exceeds what can be physically actioned. These volumes are

expected to increase into the future when the investment phase o f the TFN legislation is

fully implemented.

Desk Audit Program: entails audits o f taxpayers primarily directed to the substantiation o f

work-related expenses. These audits are generally conducted by way o f correspondence

and/or direct interviews with taxpayers in the ATO. Increasingly, the focus o f this program

is being directed towards those tax agent prepared returns where deduction claims are

abnormally high.

Capital Gains Tqg: our audit projects support the view that ignorance o f the law and not .

evasion is the major problem in this area. Reflecting this, present service and enforcement

strategies have included the issue o f a series o f booklets, the establishment o f a Specialist

Cell, and further audit projects, all focusing on CGT issues.

Rental income: the position will continue to be monitored by audit projects, and other

techniques as emerging technology permits.

3.3 AREAS OF EMPHASIS IN 1992-1995

■ ' The completion of Phase 2,o f the TFN legislation - the Investment Phase r will, significantly ·..

enhance the ability o f the Income Matching System to detect unreported income.

PAYE non-compliance:

15

Recent experience suggests that the PAYE base is being eroded through a tendency

for both employers and employees to convert their relationship to that of 'independent contractors' so that arguably they fall outside the scope of the PAYE collection system. This trend is being exacerbated in many instances by the interposing of

entities between the payer and income recipient.

In a recent case in the Supreme Court of NSW (The World Book case) the Court of Appeal held that commission paid to a bookseller fell outside the ambit of the PAYE

provisions so that deductions of tax from the payments were not required. The ATO does not accept that this decision reflects the correct interpretation of the law and we

have sought special leave to appeal to the High Court in this case. In the event that

leave is refused or the appeal is dismissed, amendments to the law will be

recommended to Government to ensure that the policy is enacted as intended.

In the short to medium term these arrangements, which are designed in part to avoid

the PAYE obligations, are to receive considerable attention through the Source

Deduction Audit program.

Examination of compliance in areas of casual/itinerant employment will continue

(including that involving non-residents). The current simplified source deduction

arrangements (eg. flat-rate withholding) could be extended to other areas of poor

compliance.

Substantiation of work-related expenses:

Audits in this area will continue to be enhanced by monitoring their outcomes to

further develop appropriate systematic approaches including -

. the use of comparative data in case selection;

. greater interaction with tax agents; and . .

. education programs through industry groups, etc.

Capital Gains Tax:

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I P

16

ΑΤΟ activities in this area would be assisted by information reporting arrangements,

but the scope and nature o f these would need to be further examined to address

particular problems, eg. the majority o f real estate transactions are for private

residences. On balance, therefore, we believe that the appropriate approach is to

continue the present mix o f service and enforcement strategies being employed in this

area and to keep the situation under review, particularly as the economy improves.

3.4' ENHANCEMENT MEASURES. . . . .. . . 1 .

The completion o f Phase 2 o f the TFN legislation will see a significant increase in the

volume o f information reported to the ATO for matching.

Effective and efficient utilisation o f this (and any new) information reporting necessitates a

continuing major investment in information technology, featuring:

Enhanced mainframe capacity to aggregate and match in excess o f 40 million

information reports each year with over 15 million taxpayer records (all types).

More widely automated case actioning facilities.

The development of new applications (eg. automatic issue and follow up o f final

notices for non-lodgers).

Under its Modernisation Program, the ATO is redeveloping its core business systems. The

audit component of this redevelopment activity is not scheduled to come on line until

around 1996. There has been some upgrading o f audit applications but scope exists to do

much more. In the meantime, the majority of available ATO applications development

resources are being devoted to other core elements o f the target system (eg. registration,

accounting, returns processing, taxpayer inquiries). Essentially what is required is an

advancement of our Modernisation investment in the form of staff resources and additional

computer hardware. These measures will involve a small enhancement o f the ATO's . budget. ' ··· . · . · , .■' · .. ·.

Arrangements o f the kind outlined above that are successful in avoiding the PAYE

provisions could be swept up by the proposed expansion o f information reporting discussed

in relation to enforcement strategies for small business.

17

3.5 POTENTIAL REVENUE BENEFITS

Adoption of the strategies identified to enhance compliance by this segment of

taxpayers will lead to improvements in voluntary compliance and the ability to detect

unreported income.

The net benefit to revenue is estimated to rise by at least $350M a year by 1995-96.

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(4) SPECIAL AUDIT (CRIMINAL ACTIVITIES)

4.1 DESCRIPTION .

The ATO conducts a Special Audit Program which focuses on those persons engaged in

criminal business pursuits generating income, and high profile persons who, for various

reasons, attract the interest o f the law enforcement agencies or who, because o f their status

and possible criminal business connections, merit special attention. ' , · , ■

4.2 BROAD APPROACH

The conduct of this work entails intensive investigation o f targetted individuals or specific

activities, working closely with law enforcement agencies such as the National Crimes

Authority (NCA), the Australian Federal Police (AFP) and the Australian Customs Service

(ACS). .

4.3 AREAS OF EMPHASIS IN 1992-93 ..

Extend uses o f information provided by the Cash Transactions Reports Agency (now

AUSTRAC) and telegraphic transfers, with a particular emphasis on many laundering

activities. (We will also extend the use o f this information in other audit programs, eg.

work in the cash economy and the international area.)

4.4 ENHANCEMENT MEASURES

The ATO will extend its capacity to meet its responsibilities in assisting other law

enforcement agencies to combat crime (eg. through NCA sponsored task forces involving

State and Federal agencies across Australia).

Individual agencies are increasingly asking for ATO involvement in estimating the profits

of criminal activity, and in locating assets acquired through that activity. The additional .

.: capacity, will help meet those demands. ' . / . ' . · . ·'. '■·

Some o f this effort will also assist in the confiscation of proceeds o f crime with spin-off

revenue benefits to the Commonwealth.

19

To meet these increasing responsibilities, a small investment of resources of 30 ASL and

associated administrative expenses of about $250,000 per annum is needed.

4.5 POTENTIAL REVENUE BENEFITS

There are substantial potential revenue gains in this area, but the nature of activities

encompassed makes their estimation impracticable. However, by way of example, a

small number of appropriate staff for special audit work directed at one or two

geographical risk areas not presently covered could increase revenue by $10-20 million.

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2 0

SUMMARY

Opportunities exist to enhance the effectiveness and efficiency o f the ATO's compliance

> activities with a mix o f additional help and enforcement strategies. These have been

outlined. Key factors relevant to consideration o f this matter can be summarised as follows.

ATO Resources .

. ' * -■ * ' · ' \ ' · , ' * ■ - ' . ■'

Additional resources are needed in the form o f business audit staff, some higher level ■

technical resources for both audit and advisings work in the large/medium business sector,

and accompanying support o f around 100 ASL. Some advancement o f the ATO's

modernisation investment covering systems applications resources and hardware is also

called for.

Resources required to meet the objectives set out in this report would be around 630 A S L

Some of these resources may be found from reinvestment of audit modernisation savings

and from productivity improvements. The total running costs would be up to $31 million a

year, plus property operating and plant and equipment expenses.

Timing Considerations

The need for legislative changes; consultation with industry bodies and others and general

implementation planning suggest a lead-time o f up to two years before some measures can

be fully implemented.

Community Compliance Costs

The combination o f help and enforcement strategies as outlined are designed to promote

voluntary compliance. In the case o f the former, they are designed to benefit the

community rather than impose any additional burdens.

The suggested enforcement strategies would impose additional compliance burdens, the

costs o f which cannot be quantified at this stage. Needless to say, the design o f any new

administrative arrangements o f the kind outlined would be developed in consultation with

relevant industry bodies, the accounting profession and others and would seek to minimise

attendant community costs.

21

Potential Revenue Benefits

Adoption of the strategies identified can be expected to result in improved voluntary

compliance and the ability to detect unreported income and overclaimed deductions. By 1995-96 the total revenue gain could be of the order of $950M per annum.

Taxpayer Segment 94/95 95/96

$M $M

Large/Medium 250 250

Small Business 250 350

Non-business Individuals 250 350

750 950

AUSTRALIAN TAXATION OFFICE

CANBERRA

15 September 1992