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Efficiency Audit - Reports of Auditor-General - Collection of excise duties and deferred customs duties by the Department of Business and Consumer Affairs, dated 11 March 1982


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The Parliament of the Commonwealth of Australia

REPORT OF THE AUDITOR-GENERAL ON AN EFFICIENCY AUDIT

The Collection of Excise Duties and Deferred Customs Duties by the Department of Business and Consumer Affairs

11 March 1982

Presented by Mr Speaker I ! March 1982 Ordered to be printed 25 March 1982

Parliamentary Paper No. 70/1982

Report of the Auditor-General on an Efficiency Audit

The Collection of Excise Duties and Deferred Customs Duties by the Department of Business and Consumer Affairs

Efficiency Audit Report No. 4

Report of the Auditor-General on an Efficiency Audit

The Collection of Excise Duties and Deferred Customs Duties by the Department of Business and Consumer Affairs

AUSTRALIAN GOVERNMENT PUBLISHING SERVICE CANBERRA 1982

® Commonwealth of Australia 1982 ISBN 0 644 01645 0

Printed by Authority by the Commonwealth Government Printer

Auditor-General’s Office CANBERRA A.C.T. 11 March 1982

Sirs In accordance with the provisions of sub-section 48F (8) of the Audit Act 1901, 1 trans­ mit to the Parliament a copy of my Report, signed on 10 March 1982 upon an efficiency audit of the collection of excise duties and deferred customs duties by the Department of Business and Consumer Affairs.

Yours faithfully

K. F. BRIGDEN Auditor-General

The Honourable the President of the Senate The Right Honourable the Speaker of the House of Representatives Parliament House

CANBERRA A.C.T.

REPORT OF THE AUDITOR-GENERAL ON AN EFFICIENCY AUDIT OF THE COLLECTION OF EXCISE DUTIES AND DEFERRED CUSTOM S DUTIES BY THE DEPARTM ENT OF BUSINESS AND CONSUMER AFFAIRS

Abstract

This efficiency audit examined the systems employed in the collection of:

• excise duties on beer, spirits, tobacco and petroleum

• customs duty on imported goods held in licensed warehouses, and

• diesel fuel tax payable when fuel purchased free of duty is subsequently used for a dutiable purpose.

Revenue from these areas in 1980-81 totalled over $3000 million.

The objectives of the audit were to assess whether the management of the control systems used by the Department was such as to ensure efficient and effective collection of revenue due to the Commonwealth, and where deficiencies were identified, to make proposals for improvement.

The audit examined the 'commodity control’ methods used by the Department whereby producers and dealers are responsible for calculating duty payable, their records serving as the basis for the exercise of control. Commodity control covers licensing or registration of producers or dealers, taking of securities, examinations of re­ turns from firms, physical and documentary checks of firms’ operations, receipt of rev­ enue and formal clearance of dutiable goods and the application of penalties when duty

is underpaid or delayed.

Audit has concluded that this general approach requires additional validation checks of a nature independent of the main commodity control systems. It supports a more systematic application of the full range of controls available to the Department, including the use where feasible of measurements independent of those provided by the

producer at the earliest possible points in the various commodity production processes to establish product volumes.

In particular, Audit recommends the central development of guidelines for each commodity on the risks to the revenue and on the management and control of investi­ gation programs. Systematic analysis should be undertaken to estimate, for each com­ modity, the revenue due to the Commonwealth.

Information systems should be developed and existing systems more rigorously analysed and monitored to provide for systematic measurement of the effectiveness of available controls. This will enable concentration of resources on the areas where there is the greatest likelihood of revenue loss and revenue recovery, and use of the most

effective control measures.

The Report sets out Audit’s findings in regard to the controls applied for each of the commodities subject to duty and makes recommendations for their improvement. It is not practicable to estimate the likely gains to revenue if these recommendations are adopted.

Contents

Page

ABSTRACT v

CHAPTER 1 INTRODUCTION 1

CHAPTER 2 AUDIT FINDINGS 3

2.1 General Management by Inland Services of the Excise Collection Control System . . . 3

2.2 Excise on B e e r ........................................................................................................................ 4

2.3 Duties on Spirits ................................................................................................................... 5

2.4 Excise on Tobacco .............................................................................................................. 6

2.5 Excise on Petroleum P r o d u c t s ............................................................................................... 7

2.6 Excise on Diesel Fuel ......................................................................................................... 7

2.7 Administration of Bonded W a re h o u s e s ................................................................................ 9

CHAPTER 3 CONCLUDING SUMMARY 11

3.1 Overview ............................................................................................................................. 11

3.2 Recommendations for Improvement ................................................................................ 11

ATTACHMENT Advisers’ Reports on Accuracy of Measurement for Petroleum Products, Beer and T o b a c c o ............................................................................................................................. 14

APPENDIX 1 BACKGROUND 22

1.1 Scope and Objectives of the Efficiency A u d i t ....................................................................... 22

1.2 Inland Services Administrative Background ....................................................................... 23

1.3 Evaluative Framework for the Audit ................................................................................ 26

1.4 Desirable Characteristics of a Risk Management System ................................................... 27

APPENDIX 2 AUDIT FINDINGS ON THE INLAND SERVICES’ MANAGEMENT SYSTEM 30 2.1 Internal Review of Inland Services 1977-78 30

2.2 Knowledge of the I n d u s t r y .................................................................................................... 30

2.3 Point of Measurement of Duty Liabilities ........................................................................... 31

2.4 Control P o i n t s ........................................................................................................................ 31

2.5 Risk M a n a g em en t................................................................................................................... 32

2.6 Reporting and Review Systems .......................................................................................... 33

2.7 Deterrents ............................................................................................................................. 34

2.8 Recommendations .............................................................................................................. 36

ATTACHMENT Suggested Inland Services’ Control Strategy 37

APPENDIX 3 EXCISE ON BEER 3.1 Description of Process .........................

3.2 Establishment of Liability for Excise Duty 3.3 Risks to R e v e n u e ...................................

3.4 Recommendations ..............................

41 41 41 44 45

APPENDIX 4 DUTIES ON SPIRITS 4.1 Description of Process .........................

4.2 Establishment of Liability for Excise Duty 4.3 Risks to R e v e n u e ...................................

Verification of production . . . .

Control over product substitution . . 4.4 Summary and Recommendations . .

46 46 47 47 47

50 54

APPENDIX 5 EXCISE ON TOBACCO PRODUCTS 5.1 Description of Process ..............................

5.2 Establishment of Liability for Excise Duty . 5.3 Risks to R e v e n u e ........................................

5.4 Recommendations ...................................

vii

APPENDIX 6 EXCISE ON PETROLEUM PRODUCTS 59

6.1 Description of Process ................................................................................................... 59

6.2 Establishment of Liability for Excise D u t y ........................................................................... 59

6.3 Risks to R e v e n u e .................................................................................................................. 61

6.4 Recommendations ............................................................................................................. 63

APPENDIX 7 EXCISE ON DIESEL FUEL Description of Process .........................

Establishment of Liability for Excise Duty Risks to R e v e n u e ...................................

Recommendations ..............................

7.1 7.2 7.3 7.4

64 64 64 66 69

APPENDIX 8 BONDED WAREHOUSES 70

8.1 Description of Process and Liability for D u t y ...................................................................... 70

8.2 Risks to R e v e n u e .................................................................................................................. 71

8.3 Recommendations .............................................................................................................. 73

Chapter 1 Introduction

This efficiency audit has examined the processes by which the Department of Business and Consumer Affairs administers its responsibility for revenue collection under the legislation relating to excisable goods and imported goods upon which the payment of Customs duty is deferred by storage in bonded warehouses. Inland Services is the term

used by the Department for the organisational unit which has responsibility for these functions and is used throughout this Report. Inland Services employed about 350 staff at 30 June 1981. Background on the conduct of the efficiency audit and on the administrative systems of Inland Services is given in Appendix 1; organisation and staffing details are shown in Figures 1.1 and 1.2 of that appendix.

The audit examined the collection of:

• excise duties on the major excisable products—beer, potable spirits, tobacco products and petroleum products ($2731 million in 1980-81) • customs duty on imported goods held in licensed warehouses (approximately $430 million for year ended 30 April 1980), and

• diesel fuel tax payable when fuel purchased free of duty is subsequently used for a dutiable purpose ($119 million in 1980-81).

These areas represent the bulk of the Inland Services’ workload. Inland Services also has responsibility for collecting excise on naturally occurring petroleum liquids ($3108 million in 1980-81). This function was excluded from the efficiency audit because of other concurrent audit reviews in respect of which reference has been made

in Reports tabled in the Parliament on 11 September 1980 and 24 September 1981.

The objectives of the audit were to assess whether the management of the control systems used by Inland Services was effective and efficient in ensuring collection of all revenue due to the Commonwealth and to make proposals for improvement. Field operations were examined only to the extent necessary to form opinions on the manage­

ment system and to identify possibilities for improved control over revenue.

The audit focussed on operations in Sydney, with visits to other areas in relation to specific issues. Revenue collections in New South Wales are significant as they rep­ resent approximately 40 per cent of the Australian total for excise, and approximately 50 per cent of the total customs revenue paid on imported goods passing through bond

stores. A review of the possibilities for improved measurement of the production of the major dutiable commodities was undertaken with the assistance of officers from the National Measurement Laboratory and the National Standards Commission. Reports from these advisers are included as an attachment.

The issues considered in this Report were discussed with officers of the Department during the course of the audit and, in accordance with sub-section 48F (3) of the Audit Act, the proposed Report was sent to the Permanent Head for comment. The Depart­ ment’s specific comments have been reflected in this Report. In addition, the Depart­

ment observed that since the audit was completed new control procedures co-ordinated from Central Office had been introduced. These developments have not been examined.

The audit approach involved development of an evaluative framework against which the management of the discharge of the Inland Services function was assessed at

Central Office, State and field levels. Audit’s perspective was based on the premise that an agency responsible for revenue collection of this kind should have a capability to:

• ascertain the total amount payable by way of duty • assess the risks to the revenue (and regularly exercise that capability), and ® give priority to investigating those areas offering the greatest return.

This approach, in which management is concerned with assessing and acting on risks to the different elements of revenue due, is described more fully in Appendix 1.

The 4 primary areas of risk against which the control systems should guard are:

• understatement of a producer’s liability for duty, either from incorrect measure­ ment of production or from diversion of product prior to measurement • over-statement of changes in dutiable volume between the estimate of initial duty liability and subsequent duty payment—through product losses or duty-free

exemptions ® late payment of duty, and ® the addition, after payment of duty, of a product not duty-paid-.-such as exten­ sion of potable spirit with non-dutiable spirit.

The next chapter summarises the findings of the audit on the performance of Inland Services in the 4 areas. The first section deals with the management of risk to excise rev­ enue and the following sections relate to each dutiable commodity and the vulnerability of the control systems to the above areas of risk. The Appendixes provide more detailed supporting information. The final chapter brings together the Audit recommendations.

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Chapter 2 Audit Findings

2.1 General Management by Inland Services of the Excise Collection Control System The excise collection control system includes:

• licensing or registering producers and dealers111 • taking securities • receiving documentation on firms’ operations • undertaking physical and documentary checks of the operations of firms to

confirm stated duty liability • clearing goods after payment of duty, and • applying sanctions and penalties where the requirements of the legislation are not met.

Under the principle of ‘Commodity Control’ currently adopted, the measurement of production of dutiable commodities and the subsequent calculation of the amount of duty are the responsibility of the firm. The task of Inland Services is to collect the rev­ enues due and to validate the information provided. Under the commodity control sys­ tem Inland Services relies on the records of firms to assess revenue due.

Prior to the introduction of this system, Inland Services stationed officers on the premises of the firms to physically oversight and monitor production operations. The audit examination took the view that in these new circumstances of total reliance on firms’ internal records it was important for Inland Services to use, wherever possible, measurements that are independent of those provided by the producers to confirm the amount of revenue due, as well as applying systematic procedures to verify the accu­

racy of producers’ internal record-keeping systems. Audit has concluded that Inland Services are not in a strong position to appraise the effectiveness of its controls because of the difficulty in obtaining independent and accu­ rate data on the total quantity of excisable products released for home consumption.

Accordingly, serious consideration should be given by Inland Services to developing independent sources. Two areas of consideration should be pursued; one, the use of se­ cure measurement devices at the earliest possible points in the various production processes to better establish production quantity and two, the use of available statistical

surveys of total production, total purchases or total use, as developed, for example, by the Australian Bureau of Statistics (ABS). An essential element in the commodity control system should be the assessment of risk to the revenue and the consequent application of this assessment in the manage­

ment of investigative effort. Audit considers that such applications would require:

• the promulgation to State Collectorates of guidelines, approaches and criteria by Central Office • the systematic collection by Collectorates of data in accordance with these guidelines and criteria • evaluation at the Collectorate level of the data collected leading to the cost effec­

tive allocation of investigative resources at that level

(1) The description “dealer" covers wholesalers and other agents handling commodities in large quantities. It applies particularly to the diesel fuel distribution network.

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• evaluation of the data at the national level by Central Office leading to:

- continuing development and refinement of guidelines, approaches and criteria - continuing review of the legislation to ensure that it remains appropriate to the current situation in relation to items subject to duty and rates of duty, and to powers of enforcement and penalties for evasion, and

- an adequate basis for the effective and efficient collection of a major source of revenue.

There is no consistent, regular and comprehensive application of such a system. The role of Central Office is limited to an oversighting function—mainly as a result of a de­ cision by the Department, on the basis of other priorities, to reduce the resources de­ voted to Inland Services in Central Office from approximately half the services of a First Assistant Secretary and the full time services of an Assistant Secretary and three Directors, to one full-time Inland Services Director.

While not directly relevant to the efficiency of departmental systems per se, it is noted that the face value of penalties appearing in Acts relevant to Inland Services have changed little since 1901. Consideration could be given to whether their deterrent power should be restored by increasing them to match current values. Greater guidance should be provided by Central Office to Collectorates on the consistent exercise of dis­ cretion in applying sanctions and penalties.

2.2 Excise on Beer Excise duty is levied at the rate of $0.52 per litre. Net excise revenue from beer totalled $991 million in 1980-81.

Excise liability is established at the stage of release for home consumption based on the quantity packaged. The licensed brewing companies maintain integrated pro­ duction, inventory, administrative and security controls for commercial purposes. Under licensing provisions Inland Services specify a system of checks and balances which are designed to ensure that duty will be paid on all beer entered for home consumption.

The current Inland Services’ approach aims at visiting premises to check the accu­ racy of weekly returns and verify the internal consistency of company records from company documentation. If all production is recorded, these records provide a sound basis for excise purposes.

However, diversion of unrecorded production would not be detected under the cur­ rent checking system. It would be easier to detect if there were an independent and ac­ curate measure of total company production against which the company was expected to justify its losses prior to packaging. The nature of the product and the small number of breweries in Australia lend themselves to this.

Representatives from the National Measurement Laboratory advised that accuracy of one part in a thousand should be feasible for the measurement of beer production volumes flowing through pipes. Using such a measurement as a check on excise due would deter possible diversion and put greater onus on the manufacturer for justifying losses prior to packaging. Preliminary enquiries indicated that measurement devices cost of the order of $2600 each. Discussion with the Department indicated that cover­ age of the industry in Sydney would require use of such devices at about 30 points. In­ stallation costs would also be involved.

Consideration could be given to transferring the point of excise liability to the bright beer stage. This would reduce control problems associated with possible diversion of

4

product between the bright beer and the currently controlled packaging points. To comply with the policy of duty payment only on those goods released for home con­ sumption, allowance would need to be made for production wastes between the bright beer and packaging stages and for duty rebates for losses, with the onus on the producer

to substantiate such allowances.

2.3 Duties on Spirits

Excise duty is levied at the rate of $18.75 per litre of alcohol ($16.00 for brandy) and totalled $111 million in 1980-81. Customs duties on imports were $192 million in 1980-81.

Customs and excise duties and sales taxes are levied on spirituous beverages includ­ ing brandy, rum, whisky, gin, vodka and liqueurs. The production, storage and distri­ bution of these items are subject to Inland Services’ control to ensure the correct and timely payment of duty. In addition a number of items free of duty is subject to super­ vision by Inland Services because of their potential to substitute for potable spirit. These items include spirit used for industrial, scientific, educational or therapeutic pur­ poses and comprise more than 90% of total spirits production.

Duty liability for spirit produced in Australia relates to the quantity of spirit output from the distillation columns to the spirit receiver and thence to storage vats. Duty liab­ ility for imported spirit is based on the quantity measured and recorded by firms as received into bond.

Inland Services’ controls involve the licensing and registration of producers and dealers supported by field and documentary checks, with the latter regarded as the pri­ mary control mechanism. At the time of the audit a number of initiatives was being de­ veloped including Loss control, effectiveness measurement and operations auditing.

Various approaches were applied by Collectorates to the analysis of risk to revenue ranging from a structured approach under which visits were programmed for six- monthly control periods based on assessed company risk and complexity to less struc­ tured systems where premises were allocated to investigation officers who were respon­ sible for their control. There was also some variation in controls over illicit production,

i.e. the production of spirit without a licence. Some programs involved development of an intelligence and information base and the investigation of likely sources of pro­ duction having regard to cultural and seasonal factors. Others involved no detection

work.

In Audit’s view, a major risk in this commodity area is the use of what need only be a small proportion of duty free production be it alcohol produced by the major distilleries or spirit produced by wine fortifiers or vignerons—to extend or make up potable liquor of various kinds. This risk is particularly high for bottling operations con­

ducted outside of bonded premises (known as out-of-bond bottlers). There is no re­ quirement that these bottlers be licensed. However, those firms producing, distributing and using duty free alcohol are required by legislation to be licensed and the controls applied by Inland Services to these are described in Section 4.3 of Appendix 4.

The quantum of revenue from spirituous beverages is also affected by changes in consumption patterns, e.g., away from products which are subject to duty. Inland Ser­ vices currently does not monitor such production/consumption, and is not well placed in this regard to advise on the need for amendment of the Excise Tariff. Inland Services

does, however, have access to representations from industry. A third important area of risk arises from the losses of product which are accepted as an offset against excise charges. Audit findings indicate that the control of losses is

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generally based on precedent rather than an analytical assessment of the processes involved.

Within the framework of the current commodity control system Audit recommends that resources be deployed in accordance with a more structured and better planned scheme for assessing likely risks to revenue. If the resources applied to the control tasks are to be kept within bounds and the integrity of the commodity control system is to be sustained, then a discriminatory application of effort to the areas of highest risk is essen­ tial. In respect of illicit stills, Audit noted that some information was collected by In­ land Services comparing the wage costs of investigation with the revenue actually recouped. However, attempts to weigh costs against benefits were not applied to spirit investigations generally. If control can be tightened by more comprehensive and accu­ rate measurement of production similar to the proposals for beer, the magnitude of the field inspection task could be reduced by applying such controls where it would be use­ ful and feasible to do so.

The audit did not explore in detail the operational options available to Inland Ser­ vices in striking a balance between investigative effort and revenue collected. Such an assessment would have required an extension of the audit beyond its concern with the management system. However, given the difficulties of the control task and the fact that spirits are also subject to a sales tax, Audit suggests that, as part of a a more sys­ tematic examination of current control procedures, the Department, in consultation with the Taxation Office, investigate the possibilities for collecting by way of sales tax, revenue now payable as excise duty. The attraction of this option would be that it would no longer be necessary to apply controls to producers; the existing control system applied to sales tax collection at the wholesale level would be used.

Another available control instrument which could supplement the current or future system is high resolution chemical analysis. Given that different beverages are derived from different raw materials e.g., rum from molasses, whisky from grain and brandy from grapes, techniques of analysis are available to distinguish spirits fermented from different raw materials. Thus, whisky extended with sugar alcohol could be dis­ tinguished from the unadulterated product. Inland Services has undertaken prelimi­ nary investigation of the use of chemical analysis, but systematic application as a con­ trol tool would require greater attention than is currently being given by the Department.

2.4 Excise on Tobacco Net excise revenue was $704 million in 1980-81 of which 97% was derived from cigarettes. Excise is levied at rates of $12.58, $24.75 and $21.12 per kilogram on manufactured tobacco, cigarettes and cigars respectively. Customs duty is levied on imported tobacco and amounted to $40 million in 1980-81. An additional duty is levied

if the imported tobacco exceeds 50% of the blend for cigarettes, cigars and manufac­ tured tobacco. Two controls are exercised by manufacturers over measurement of the tobacco in cigarettes. These are on-line automatic monitoring during the production processes and sample test weighing of cigarettes prior to packaging. These processes confirm that the manufactured cigarettes entered for home consumption are of standard weight. The duty is then calculated on the packaged quantities. As in the case of beer, Inland Ser­ vices lacks an accurate independent check of the dutiable quantity i.e. the tobacco actu­ ally used in manufacture. It should be possible to obtain such an independent check with relatively insignificant cost and interference with the manufacturing process, using current weighing procedures.

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Measurement at the earliest possible stage would be at the point at which the tobacco leaf is weighed on delivery to the manufacturer. This procedure would raise a new set of control problems associated with establishing that all the tobacco delivered was accounted for. However, there are only two sources of tobacco to the manufac­ turers, and both of them have some form of government delegated control—the Bureau of Customs can monitor tobacco imports and the Australian Tobacco Board controls sales of domestically produced tobacco. Both would be expected to have available re­ liable records of all tobacco transfers. It would therefore be feasible for Inland Services to use information on raw material consumption to reconcile production and duty

payments.

2.5 Excise on Petroleum Products Excise is levied on motor spirit, aviation fuel and kerosene at 5.155 cents, 4.555 cents and 4.19 cents per litre respectively. Total revenue in 1980-81 was $813 million. Gener­ ally, the products are transferred to major distribution depots by pipeline, ship or barge.

Subsequent distribution is by rail or road tanker.

As with other commodities, reliance is placed on company records. The Depart­ ment’s approach is to check the clerical accuracy of weekly returns and verify the con­ sistency of company returns with company documentation. Physical checks are also an important investigative control measure. Significant movements of petroleum products

take place under bond, before duty is levied. For example, coastal shipping transfers from refineries to depots are under bond, payment of duty being deferred until the product leaves the coastal receiving depot.

Losses occur because of the volatile nature of the product. These are accepted by Collectors without question unless they are abnormal in relation to previous patterns. Thus, acceptance is based on precedent rather than technical analysis and the validity of the losses is not checked. The notional duty attaching to losses claimed as occurring

in refineries, during transfers from refineries to depots, or within depots is of the order of $10 million annually. Measurement of dutiable volume at the point of production and placing more onus on the companies to justify claims for losses would, in the view

of this Office, be more conducive to ensuring the collection in full of revenues due.

Such a situation could be achieved by the installation of accurate and independent flow measuring devices at the appropriate point in the motor spirit production process. An independent accurate check of total production would provide the assurance that company records are true and greater effort could be concentrated on assessing companies’ claims for losses. Discussion with the Department indicated that measure­ ment would be needed at about 30 places. Suitable flow meters were estimated to cost between $4000 and $6000 depending on pipe sizes and they would provide increased as­ surance over a major source of revenue. The Department advised that accuracy

proving devices and installation costs would also be involved and that overall costs could be high. There could be some compensating reduction in the 10 man years of con­ trol effort currently allocated to this area. Some control effort would need to be invested in the maintenance and monitoring of the meters. Audit considers that the in­ stallation of meters should be evaluated in detail by the Department.

2.6 Excise on Diesel Fuel Excise on diesel fuel used in road vehicles is levied at the rate of 5.155 cents per litre; collections in 1980-81 totalled $117 million. Less than 30% of diesel fuel consumed in Australia is currently subject to this duty—the balance is used for off-road vehicles, en-

7

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gineering plant and as a furnace fuel. Analysis of information from the ABS'1 1 suggests a shortfall of 4% in revenue collected against reported consumption for road vehicles.

Exemption from duty is currently administered by the issue of certificates authoris­ ing users to purchase duty free fuel for the specified applications. The fuel may be pur­ chased from:

• agents who have already paid duty, and • agents who act as intermediaries in duty free transactions between oil companies and bulk users. If fuel is purchased for duty free purposes by a certificate holder from an agent who has already paid duty, the fuel is sold duty free and the agent’s account with the oil company is credited for the amount of duty paid. The onus is on certificate holders to claim a rebate on fuel for which duty has been paid and which has been used for duty free purposes or to pay the duty if the converse applies.

The risks to revenue may be summarised as:

• understatement of dutiable quantities by oil companies • overstatement of duty free quantities by oil companies • overstatement of duty free sales by agents, and ® overstatement of duty free use by certificate holders.

The Department currently exercises control by means of:

• clerical checks of computer produced statements by the oil companies on diesel fuel sales • sample surveys of agents, and • investigation of individual certificate holders as suggested by the results of apply­

ing the preceding controls.

Given the large number of certificate holders (almost half a million) and agents (about 4 000), control has tended to concentrate on clerical checks of oil company statements and on spot checks decided on by investigation staff at the regional level totalling about 40 man years per year Australia wide. About 10% of agents are inves­ tigated annually. The control exercised by the Department must therefore rely largely on the validity of statements made by a large number of users and agents.

The control problem for diesel fuel arises out of the preponderance of duty free use, thus, in most cases, making it difficult to levy duty correctly at the source and putting the onus on users to claim a rebate. In this situation, there does not appear to be any substitute for an integrated program of checking at three levels.

Oil company level—There was no evidence of any credible controls beyond clerical checks of computer produced company documentation. Against the evaluative framework developed for this audit (Appendix 1), the following deficiencies were found: • lack of validated information on total production of diesel fuel, and • lack of systems based evaluations of the validity of company documentation.

Resolution of these requires: • evaluation of the accuracy of the volume of diesel fuel produced and, if necessary, consideration of the installation of accurate flow measurement devices immedi­ ately downstream of production, and

(1) Surveys of Motor Vehicle Usage, 1979.

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F

• a systematic program of systems based investigations of company diesel fuel documentation systems.

Agent level—Again there was no evidence of any comprehensive, credible controls beyond clerical checks of documentation. However, investigation officers do check with end users to verify receipt of product if there are doubts as to the authenticity of the agent’s records. Adequate assurance would require:

• evaluation of the accuracy of measurement of diesel fuel taken into and released from stock, and if necessary, the installation of properly calibrated equipment, and • evaluation of the reliability of control of releases to certificate holders.

Certificate holder level—It is at this level that the problems of control are the most serious. Application of the evaluative framework developed in this report would suggest consideration of the following control measures:

• an Australia-wide catalogue of certificate holders incorporating information such as:

- patterns of use - plant holdings - vehicle use - internal controls assessment (for major users only) • a nationally integrated program of investigation of a small sample of certificate

holders exhibiting the largest consumption of both dutiable and duty free fuel, supported by other background research as necessary e.g. surveys of diesel pow­ ered vehicle registrations and their use patterns • from this survey, a set of generally applicable risk factors could be developed • on the basis of use and risk, a nationally integrated rolling program of investi­ gation could be drawn up, having provision for comprehensive reporting of re­

sults to central management, and • the results of this rolling program should be assessed on a cost/benefit basis to de­ termine any appropriate re-allocation of staff resources.

i 2.7 Administration of Bonded Warehouses I Bond stores are essentially a means whereby the duty payable on imported goods or [excise on domestically produced goods may be deferred until they are released for home [consumption. A calculation undertaken during audit field work showed that, for the I year ended 30 April 1980, customs duty on goods released from bond stores in Australia i was $435.8 million. Approximately 75 officers were allocated to this area as at 30 June 11981.

The fees payable by licencees had been intended, when established in 1969, to cover 1 two-thirds of the cost of Inland Services surveillance. At the time of audit the rate of i cost recovery had not been re-assessed. Following subsequent Audit enquiry the De­ partm ent advised that fees had been reviewed and were being given Ministerial

considerations. Licensees maintain records of movements of goods under bond enabling verification of physical stocks and revenue collection. Goods may be transferred between ware­ houses subject to the approval of Inland Services for each movement, or through the iuse of the ‘continuing permission’ facility whereby approved licensees may transfer

9

without prior notification, with transactions supported only by normal commercial documentation.

The overall control structure—granting of licences to approved persons, require­ ment for payment of duty before goods are released for home consumption, right of access to company records—is adequate in principle.

The ADP systems currently in use have the potential to maintain a record of inven­ tory on hand and consequently the contingent liability for duty but this facility has not been fully developed. The systems independently record goods entered into and cleared from bond. A logical extension of this transaction based approach would be a merger of the systems to facilitate routine oversight of inventories, their age (or dwell time) and their duty potential. Such information would facilitate management and review. The Department has advised that some redevelopment of the ADP systems is taking place but that technical problems have yet to be resolved.

Inland Services’ checking concentrates on a high percentage check of documen­ tation for goods entering warehouses and a lighter but still substantial check of exit records. A statistical sampling approach could minimise the extent of check particu­ larly in relation to large companies with well established and reliable control systems. The sampling system could be biased towards goods attracting higher duty value ensur­ ing that the major part of revenue is covered.

The ‘Continuing Permission’ system referred to above exacerbates control prob­ lems. The deferral of duty payment, for example, is facilitated. Aware of the inherent control weakness, the Department has restricted the ‘Continuing Permission’ system to prime movers of goods (international shipping and airline companies) and certain other constraints have been imposed.

These findings suggest that control over revenue from bond stores could be improved by the following measures:

• regular review of ‘continuing permissions’ • merging of the present ADP systems for entries and releases • a more discriminatory approach in documentary and physical checking towards stores attracting higher revenue, recognising risk factors, and • monitoring of cost effectiveness to assess continued need for the level of(control

resources.

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Chapter 3 Concluding Summary

3.1 Overview

Audit is satisfied that the commodity control approach, whereby detailed accounting for production is the responsibility of the producer and Inland Services carries out vali­ dation activities, is an efficient method for protection of excise revenue. However, it re­ quires highly effective validation techniques and it is in this regard that Audit found deficiencies.

Inland Services should develop further its risk management operating philosophy and its use of effectiveness measurement to concentrate its resources on areas of great­ est likelihood of revenue loss and revenue recovery. The use of measurement systems which cover the production process from raw materials to product sale will provide opportunities to identify discrepancies which, while accounted for at least in part by manufacturing wastage and production processes, will indicate possible losses of

revenue.

Inland Services should more thoroughly integrate its checks of clerical and account­ ing records with its physical examinations of quantities and manufacturing and distri­ bution facilities. The Central Office should develop investigation programs and guidelines for each commodity based on industry-wide knowledge of risk to the rev­

enue. Collectorates’ control programs should reflect a co-ordinated approach. Field checks should be aimed at proving the adequacy of control systems rather than detec­ tion of clerical errors. The program should be subject to continuing review at all levels of the organisation.

High priority should be given to the development where possible of independent, se­ cure and accurate measurement systems at the earliest possible points in the production processes to establish the volume of dutiable products and therefore the potential rev­ enue due for which the producer is accountable. The onus for substantiating losses of dutiable commodity between production and release for domestic consumption should

lie with the producer.

The effectiveness measurement system operated by Inland Services would need to be improved and used to provide data on which costs and benefits of the modified con­ trols recommended in this report can be estimated.

Following the introduction of accurate measurement of total dutiable quantity for beer and petroleum a next step could perhaps be to consider levying duty on gross pro­ duction, allowing recovery for exports and duty free sales. This would do away with the need to account for losses. The feasibility of such an approach would depend on the de­ gree of variability of losses between manufacturers. The incentive would be elimination of the need for investigatory effort other than routine checks of the measuring devices

and of production processes to ensure that the measured revenue base continued to be valid. A further incentive would be the release of manufacturers from the procedures necessary to maintain the current system of commodity control.

3.2 Recommendations for Improvement Management System (i) Central Office should assess industry-wide production and distribution systems for each commodity with a view to establishing possible revenue gaps and

11

opportunities for evasion and use the results to set out national control programs.

(ii) Central Office should create and monitor a consistent and comprehensive risk management system for use by Collectorates.

(iii) Central Office should review the points of measurement of product within the production processes to ensure the full accountability of producers for revenue due.

(iv) The face value of penalties should be reviewed. Beer

(i) Consideration should be given to assessing liability for duty at the ‘bright beer’ stage of production.

(ii) Additional independent checks of production quantities should be undertaken to provide assurance of adequate accountability for product. This should be achieved by use of devices for measuring product volumes where increased assurance is deemed warranted.

(iii) Check programs should be designed to validate the adequacy of the producers’ accounting and recording systems rather than to detect clerical errors. Effec­ tiveness monitoring should be re-directed to evaluating the reliability and accu­ racy of control systems and revenue protection away from the current empha­ sis on clerical checking of documentation.

Spirits (i) A risk management approach based on concentrating control efforts on areas of greatest risks of loss of duty should be applied. The approach should include using workload, efficiency and effectiveness data as the basis for resource de­

ployment and details are set out in Appendixes 1 and 2.

(ii) A consolidated data base on losses should be prepared as a basis for decision on a standard losses policy. There should be a move away from acceptance of losses on the basis of patterns of precedent to one based on objective assess­ ment of the production processes.

(iii) In view of the difficulties associated with control over excise revenue the rela­ tive advantages of an extension of sales tax vis a vis the current excise duty should be considered for review by the appropriate authorities.

(iv) Changes in production and consumption patterns for alcoholic beverages (e.g., away from dutiable items) and the consequent possible need for amendment of the Excise Tariff, should be monitored.

Tobacco (i) More attention should be given to assessing material balances and to the use of systems-based checks.

Petroleum Products (i) Inland Services should require secure metering of production volumes and should examine production and distribution facilities to ensure total coverage of production. (ii) On a sample basis, Inland Services should undertake reconciliation checks of

refinery and depot transfer volumes.

(iii) More detailed assessments of company claims for losses should be made. This will require Inland Services to acquire additional technical skills.

12

Diesel Fuel (i) Duty and tax are only applied to certain types of use. As a result the controls require a concern with end use of the fuel. The Department should apply the risk management approaches outlined in this Report.

Bonded Warehouses (i) The ADP system should be developed to enable analysis of dwell time and assist a discriminatory approach to the preparation of check programs, based on age, value and previous risk history.

(ii) Control over the ‘continuing permission’ facility should be tightened.

Canberra, A.C.T. 10 March 1982

K. F. BRIGDEN Auditor-General

13

Attachment

ADVISERS’ REPORTS ON ACCURACY OF MEASUREMENT FOR PETROLEUM PRODUCTS, BEER AND TOBACCO

THE METERING OF REFINED PETROLEUM PRODUCTS

by

G. A. Bell, Division of Applied Physics, National Measurement Laboratory and J. V. Hindman, National Standards Commission

Objective At the request of the Auditor-General of Australia an examination has been made of the measuring processes for refined petroleum products. Measuring procedures have been examined at a refinery and at storage depots. Particular attention was given to all procedures which are involved in measurements required in the determination of excise payable on products.

Introduction Any measurement system is susceptible to errors and uncertainties which are in­ herent in the whole measurement process and arise from the nature of the material being measured, from defects inherent in measuring instruments and from environmen­ tal effects such as changes in temperature or pressure. It is necessary to distinguish be­ tween three types of error in measurement. There are those errors the source of which is known and for which appropriate corrections can be made such as the correcting to the measured volume of a liquid to the reference temperature when the measurement is made at a temperature significantly different from the reference temperature. There are those errors of a purely random nature which are distributed randomly about the mean value. The magnitude of such uncertainties may generally be reduced by the use of improved measuring procedures but they can never be eliminated. The third type of error is known as systematic error and causes measurements to be biased in one direc­

tion. One common source of bias is incorrect calibration of a measuring instrument. Systematic errors of this type should be eliminated or at least reduced to the smallest possible magnitude.

The first essential in eliminating bias in any measurement system is to ensure that there is an unbroken calibration chain from the field instrument back to the national standard, that every operation necessary to maintain this chain is faithfully performed and that all necessary recalibrations are made at the required intervals.

Findings The metering procedures in use at the various centres have been examined in the light of the above principles and the following general conclusions have been reached: these conclusions apply to the installations inspected and probably apply to many others.

1. The calibration and required recalibration of the meters at the loading terminals is performed regularly. In some cases the calibrations are made by officers of the oil

14

company, in others by professional calibration services including meter supply companies.

2. The techniques used have not been witnessed but descriptions of them indicate a de­ sire on the part of the companies adequately to maintain their metering facilities.

3. There is serious doubt about the quality of some of the standards being used for cali­ bration of meters.

4. The measurement of products in rail tank cars appears to be reasonably satisfactory.

5. The procedures and techniques used by private calibrating companies have not been the subject of any objective assessment but some calibration reports seen at the various places visited leave a good deal to be desired.

Recommendations With the objective of upgrading the standard of metering and product measurement the following general recommendations are made:

1. All standards used in the verification and reverification of meters should be calibrated by a recognised authority which will ensure that the standards are trace­ able to the national standards and that acceptable techniques are used.

2. The objective outlined in (1) may be achieved by either of two methods or by a combination of them.

(a) The State Weights and Measures Authorities could be asked to assume full re­ sponsibility for calibration in this field in those states where they have not already done so. (b) Use could be made of the National Association of Testing Authorities

(ΝΑΤΑ) to upgrade the present calibration facilities by requiring that every item in a metering system be the subject of a ΝΑΤΑ endorsed calibration re­ port from an organisation registered with ΝΑΤΑ in the appropriate field of testing. This would have the effect of causing the private industrial calibrating

firms to upgrade their standards and techniques to the levels required by ΝΑΤΑ. In certain cases this procedure might also lead to the registration of oil companies which operate their own calibration systems on refinery premises. A good deal of this last type of work appears to be performed quite satisfactorily

at the present time. ΝΑΤΑ is the Australian Organisation for the co-ordination of testing and cali­ bration facilities through the registration of laboratories operated by individuals, companies, local government authorities and State or Australian government de­ partments and instrumentalities. One significant advantage of this last proposal is that it will make full use of those existing facilities which measure up to the required standard or which can attain this standard with relatively small expenditure of

effort or money. If, however, the operators are unwilling to comply with the ΝΑΤΑ requirements for registration they will not be in a position to supply acceptable cali­ bration data for use in metering petroleum products.

3. The Bureau of Customs could be directed to assume full responsibility for cali­ bration and measurement of refined products in the industry. It is considered that this course should be taken only as a last resort as it would require the acquisition of considerable expertise as well as hardware. In any event the Bureau of Customs should be in a position to maintain an overview of the whole measurement system.

Appendix A. Present Position at the Refinery At the refinery all products are held in bond and products are transferred in bond by pipeline to a local depot or shipped in bond by sea going tankers to other depots. The products are released from bond when they leave the depots.

Therefore so far as collection of excise is concerned there is currently no require­ ment for accurate measurements at the refinery. Those measurements which are made are for company stock record purposes only. All these measurements are made by tank dipping.

It is understood that regular checks are made by the company of volumes leaving the refinery with those received at the local depot. The differences were claimed to be acceptable.

Appendix B. Present Position at the Local Depot At the present time excisable products leave the local depot by road tankers and rail tankers. The measurement processes in the two cases are quite different. Products are also sent in bond by pipeline to the local airport. This last case is discussed in Appendix C.

(a) Road Tankers Road tankers are filled at a large loading rack where the product is metered into the tanker compartments, a ticket is printed and the meter reading is the basis for levying of excise.

The master meter is recalibrated as required against a proving tank of capacity 705 gallons, appropriate temperature corrections being applied. The cali­ bration procedure used for the master meter is generally satisfactory but for the size of meter used a larger proving measure would be desirable.

The proving tank is most unsatisfactory. It is stated by company officers to have been made some 20 years ago and to have been calibrated by “strapping", that is by dimensional measurement, a most unsatisfactory procedure for such a standard. It was also stated that the interior of the tank had been sub­ sequently coated with epoxy to protect it against rust.

If it is intended to continue using this proving tank it should be recalibrated as soon as possible in metric units.

It is understood that a pipeline linking some depots for the transfer of bonded products will soon be in service. A sophisticated system for metering and con­ trol of products in the pipeline has been installed and includes a 5 kilolitre pipe prover. This prover is the subject of a certificate of calibration from the US manufacturers in which the volume is given in terms of the US barrel which is not a legal unit in Australia. It will be essential for the prover to be calibrated, in situ, in metric units and if it can be utilised for the proving of the master meter used to control the meters on the loading rack it should be possible to dispense with the proving tank currently in use.

(b) Rail Tankers The rail tank car compartments are used for the measurement of products shipped by rail. The tanks are calibrated by an independent calibrating company and the calibrations are witnessed by the State Government Depart­ ment of Weights and Measures. This procedure should yield acceptable cali­ bration values.

16

Appendix C. Position at Other Points of Custody Transfer (a) Coastal Ports Those ports at which shiptankers discharge bonded cargo and the product is subsequently released from bond must be equipped with adequate measure­

ment facilities which must be properly maintained. (b) Airport Aviation fuel is transferred in bond by pipeline from the depot to a storage fa­ cility from which the airline companies draw their supplies. Fuel is pumped

from hydrant points by truck mounted pumping and metering units into air­ craft. This is the point of custody transfer and release from bond. Excise is pay­ able only on' fuel supplied to domestic airlines, international airlines generally

do not pay excise. All meter calibrations in this system appear to be traceable to a trailer mounted master meter. This master meter is calibrated against a 6,000 litre proving tank which has been certified by the State Government De­ partment of Weights and Measures. As the proving tank is in many cases not located in the same State as the master meter, calibrations of the meter may be

infrequent and conditions of calibration may not correspond with the con­ ditions under which it is used.

17

REPORT ON A VISIT TO A BREWERY

by

G. A. Bell, Division of Applied Physics, National Measurement Laboratory

The purpose of the visit was to inspect the measurement procedures and processes in use which are relevant to the collection of excise on beer.

Since the excise payable on beer is not related to its ethanol content the determi­ nation of the ethanol is not relevant to the excise payable.

The areas requiring examination are therefore:

(1) The possibility of the diversion of “bright beer” between the filtration stage and the packaging stage.

(2) Under or over filling of tanks, bottles or cans.

(3) Errors in the counting of filled tanks, bottles and cans.

(4) Diversion of filled containers between the filling point and the counters.

(1) As there does not appear to be any serious attempt to measure accurately the vol­ ume of beer produced, any illicit diversion of beer after filtration would be most difficult for BACA officers to detect but could probably be done only with knowledge of the brewery management. The only way in which a check could be made between beer produced i.e. leaving the filters and the quantity packaged would be to have a high qual­ ity meter in the line immediately downstream of each filter unit. The meters should be sealed and under control of BACA officers. A weekly or monthly reconciliation of vol­ umes indicated by the meters with the volume packaged into cans, bottles and tanks would very quickly reveal systematic losses.

(2) Any systematic under filling of containers sold to the public would be quickly detected by the State Government Consumer Affairs (Weights and Measures) Depart­ ment, and overfilling would not be in the interest of the brewery. In addition every bot­ tle and can is subject to an inspection of the level of liquid in the container.

(3) The procedure for counting filled bottles is entirely satisfactory. Three indepen­ dent counters are used. The readings usually agree within very close limits and the highest reading is used.

In the bulk beer section the empty tanks are counted into the filling area and the counter is presently so arranged that it may be possible to double count a tank. This would augment the revenue rather than reduce it.

(4) It appears to be practically impossible to divert filled bottles between the filling and counting stations. Tanks are counted before filling so any diversion of filled tanks will not affect revenue from excise.

18

REPORT ON A VISIT TO A TOBACCO COMPANY

by

G. A. Bell, Division of Applied Physics, National Measurement Laboratory

The purpose of the visit was to inspect the measurement procedures and processes used in the factory which are relevant to the collection of customs duty and excise on smoking material.

All measurements are based on the apparent weight in air of the various raw materials and finished products and, as tobacco is a plant material which will absorb or lose water according to the relative humidity of the surrounding air, it is necessary to ascertain that the relevant measurements are made under conditions which minimise

the effects of changes in relative humidity.

Imported leaf is liable to customs duty and locally produced leaf is not. The leaf is delivered to the factory in hermetically sealed containers which are opened and the block of compressed leaf, approximately one metre cube, is weighed on a platform scale, reading to 1 kg. This scale is subject to regular inspection by the State Govern­

ment Department of Consumer Affairs. Differences up to + 2% between the measured weight and the shipping weight are not uncommon and duty is levied on the weight as measured on receipt.

The finished product must contain a certain minimum percentage of local leaf but as this percentage does not directly affect excise the blending procedures were not stud­ ied in detail.

The excise payable on cigarettes is based on the ‘declared weight’ of each brand product and on the total number of each product leaving the factory. The values of the declared weight are supplied to officers of the Department of Business and Consumer Affairs and it is therefore important to examine the procedures used for control of the

uniformity of the weight of each product and those used for determining actual average weights.

The uniformity of the product is checked on the production line. /3-ray thickness gauges are used to check the uniformity of packing of tobacco in individual cigarette batches of 100 cigarettes and are weighed regularly to ensure that the declared value is being maintained. The reject rate from all sources was stated to be about 5% and the

tobacco in rejected cigarettes is reused. These procedures are considered satisfactory.

In the manufacture of cigarettes the tobacco is conditioned to contain a specified amount of water and the relative humidity of the air in the manufacturing sections is maintained at a constant value to minimise changes in weight of the tobacco during the manufacture of cigarettes.

The final determination of the average weight of the product is done by weighing a batch of 500 cigarettes against special standard weights on a balance reading weight differences to + 0.5 gram ( 1 mg per cigarette). This data is submitted to officers of the Department of Business and Consumer Affairs as evidence that the declared weight

is being maintained.

The cigarettes are packed into regular retail packs, 500 of which are packed into cartons each carton containing 10,000 cigarettes. These cartons are counted into a bond store from which they are distributed.

19

The most important measurement function is the weighing of the batches of 500 cigarettes to ascertain that production is maintaining the declared weight. Special weights are used for this weighing operation, one for each product type, and these are verified in the laboratory against weights which are reputed to have been calibrated. The company should be asked to produce the relevant calibration report and if this is not acceptable the weights should be recalibrated and issued with a certificate under the relevant Weights and Measures legislation. Further, the balances in the laboratory and those used for the final batch weighing should be regularly serviced and certified by a ΝΑΤΑ registered laboratory.

20

APPENDIXES

Page

Appendix 1 B a c k g ro u n d .............................................................................. 22

Appendix 2 Audit Findings on the Inland Services’ Management System . 30 Appendix 3 Excise on B e e r ......................................................................... 41

Appendix 4 Duties on Spirits .................................................................... 46

Appendix 5 Excise on Tobacco Products ................................................. 56

Appendix 6 Excise on Petroleum P r o d u c ts ................................................. 59

Appendix 7 Excise on Diesel Fuel ........................................................... 64

Appendix 8 Bonded W a re h o u s e s ............................................................... 70

21

Appendix 1 Background

1.1 Scope and Objectives of the Efficiency Audit Inland Services within the Department of Business and Consumer Affairs (BACA) is responsible for the collection of excise duty, coal export duty and for the collection of Customs duty on imported goods for which payment is deferred by storage in licensed

warehouses. Details of relevant revenue for 1979-80, 1980-81 and 1981-82 are sum­ marised in Table 1.

Table 1. Excise Revenue fo r 1979-80, 1980-81 and 1981-82

79 80 80-81 81 82

Estimated

$m $m $m

Beer ........................................................................... . 989 991 1015

Potable S p i r i t s ........................................................... . 99 111 125

Tobacco P r o d u c t s ....................................................... . 699 704 719

Petroleum Products .................................................. . 914 925 956

Naturally Occurring Petroleum L iq u i d s .................... . 2270 3108 3440

Other Excise ............................................................ . 14 13 14

Less Credits etc....................................................... . 20 19 20

Total ................................................................. . 4965 5833 6250

S o u r c e s : 1980- 81 Budget Papers No. 4 Table 4, 1981-82 Budget Paper No. 4 Table 4.

In relation to goods released at concessional rates of duty for specified purposes, e.g. diesel fuel for use other than in road vehicles, Inland Services also investigates the end- use of goods.

The audit examined the management of the control systems used by the Depart­ ment in protecting the revenue associated with:

• excise on beer, potable spirits, tobacco products and petroleum products • customs duty on imported goods held in licensed warehouses, and • diesel fuel tax payable when fuel purchased free of duty is subsequently used for a dutiable purpose.

These areas represent the greater part of the Inland Services’ workload. The other revenues were not examined in depth because of review activity underway or pre­ viously undertaken.

The objective of the audit was to assess whether the management of the control sys­ tems used by Inland Services was efficient and effective in ensuring collection of the rev­ enue due to the Commonwealth, and where deficiencies were identified to make pro­ posals for improvement.

The audit approach was based on an examination of the Inland Services’ function at three levels:

• how Central Office Management ensures that the program is efficient at a national level • how each State Collector ensures that the program is efficient in his Collectorate (State), and • the efficiency of the individual field checking programs.

22

Details of the framework used to evaluate efficiency are presented in a later section of this appendix. It was developed after investigation of Inland Services’ operations in Central Office and in the New South Wales Collectorate. Visits were made to other offices in relation to specific issues. Revenue collections in the New South Wales Collec­

torate represent approximately 407c of the Australian total for excise and approxi­ mately 507o of the total customs revenue paid on imported goods passing through bonds stores. Visits were also made to selected companies for each of the commodities studied.

Representatives from the National Measurement Laboratory and the National Standards Commission were consulted in reviews of the accuracy of volume measure­ ment for certain excisable products. The relevant reports have been included as an attachment to the Report.

1.2 Inland Services Administrative Background Legislation administered by the Department through Inland Services includes:

• Excise Act 1901 and Regulations • Excise Tariffs 1921 • Excise By-Laws • Customs Act 1901 and Regulations • Customs Tariff 1966 • Customs By-Laws • Customs Tariff (Coal Export Duty) Act 1975

• Distillation Act 1901 and Regulations • Spirits Act 1906 and Regulations • Spirits Act By-Laws • Coal Excise Act 1949 and Regulations • Diesel Fuel Tax Acts • Diesel Fuel Taxation (Administration) Act 1957 and Regulations • States Grants (Petroleum Products) Act 1965. The Acts and Regulations are supported by a comprehensive set of General Orders, together with operational policy statements which have been brought together into a single volume following 1977-78 departmental review.

These instruments provide a set of measures by which Inland Services ensures that all commodities subject to duty payment are brought within its control prior to clear­ ance for domestic consumption so that the correct amount of duty can be collected on a timely basis. The main measures are:

• the licensing or registration of producers and dealers • the taking of securities to ensure compliance with the legislation • a requirement for returns by companies to Inland Services on their activity • field and documentary checks of company operations, records and return

• formal clearance (known as ‘entry’) of goods by Inland Services and collection of duty, and • the application of sanctions and penalties when the requirements of the legislation are not met.

23

Customs and excise activities in the Department are managed by two Central Office Divisions and State Collectorates. For public identification purposes these are collec­ tively known as the Bureau of Customs. The place of Inland Services within the Bureau of Customs is shown on Figure 1.1 which also lists the Collectorates (State offices of the

Department) and includes Inland Services stafif numbers as at 30 June 1981.

F i g u r e 1.1 I n l a n d S e r v i c e s ’ s t a f f i n g a n d o r g a n i s a t i o n ( a)

Secretary and Comptroller-General of Customs I Deputy Secretary

FAS Operations Division • Appraisements/Revenue Branch • Inspection and Control Branch

• Cargo and controls • Inspection • Inland Services (18)

Collectors of Customs FAS Tariff Division • New South Wales (194) • Victoria (101) • Queensland (49) • South Australia (48) • Western Australia (37) • Tasmania(22) • Northern Territory (9) • A.C.T. Sub-collectorate (2)

— Petroleum products — Excise and warehousing

(a) At 30 June 1981 the number of staff filling Inland Services'establishment positions totalled 350. Further staff, equivalent to 130 full-time units, were deployed on Inland Services' activities in Outports.

The Central Office Inland Services group had 18 staff at 30 June 1981 and is respon­ sible for the development and communication to Collectorates of operational policies and programs to provide national direction for the control tasks. Customs and excise activities in State offices are divided into three main organisational groups- Revenue Control, Services, and Management Services. Inland Services is one of four areas of ac­ tivity in the Services group and its activities are organised along commodity lines. The structure of the N.S.W. Head Office in Sydney is shown in Figure 1.2 and includes staff numbers as at 30 June 1981.

Formal co-ordination and control of Customs activities, including those of Inland Services, are achieved through the Customs Board of Management (CBM). This is an advisory body to the Secretary and comprises the Deputy Secretary and the two First Assistant Secretaries responsible for Customs activities, the First Assistant Secretary,

Management Services, and the Collectors for N.S.W. and Victoria (who represent the interests of all States). The CBM meets approximately quarterly and considers issues extending beyond the bounds of individual State Collectorates. Annual general meet­ ings of the CBM are chaired by the Secretary, and attended by CBM members and all Collectors; they are known as Collectors’ Conferences.

Figure 1.2 Organisation structure and staffing of the N.S.W. Head Office (a)

Collector of Customs

Services Branch Revenue Branch

® Airport • Port Sen-ices • Special Services e Inland Services (Total Staffing 103)

Executive (3)

Operations Operations

Control Audit (6)

Group •A'

Group B"

Group C"

Operations Support Group

• Senior Investigation Officer (1) «Diesel fuel (8)

• Energy Enquiries Cell (Task Force) (5) • Petroleum subsidy (3) • LPG subsidy (2)

• Fuel operations (5) • Export concessions (2) Total 26

• Senior Investigation Officer (1) o Spirit bonds (10) e Breweries (1 )

• Distilleries (1) • Concessional spirit (2M. 2N. 2J) (3) • Griffith Sub-

Collectorate (2) Total 18

• Senior Investigation Officer ( I ) • Duty-free shops (3) • Tobacco ( 1) • Manufacturing

Electrical. Timber (2) • General bonds (3) • Private bonds (6) Total 16

• Senior Investigation Officer (1) • Implementation

support (5) • Queens Bonds (8) • Drawback and

management control (5) • Clerical support (9) • Relief

staff (6) Total 34

(a) Full-time Inland Services" positions only

The “Commodity Control” approach was originally developed in the late 1950 s and has been progressively introduced into all areas of excise and under-bond goods control. The system protects the revenue by: • placing the onus upon firms to account to the Bureau's satisfaction for the pro­

duction, importation, movement, duty payment and storage of goods, and • testing the discharge of that accountability and responsibility by investigation of firms' production and accounting systems.

25

Commodity control is fundamentally different to the previous system of control, which was based on the full-time supervision by excise officers of firms’ operations. Commodity Control includes a ‘Total Evaluation Concept' which involves in-depth study of the overall operations of companies, encompassing the commercial systems,

the record-keeping, management, supervision and operational activities and is designed to detect sophisticated fraud and to examine and question existing Inland Services stan­ dards and practices.

In 1978, an Operations Audit unit was set up to enhance investigative aspects of control by assessment of the main chances of risk, development and use of information and intelligence as a basis for investigative action, and the resourceful development of leads. The Bureau of Commercial Intelligence is a central clearing house in Central Office for departmental information which may prove of value in providing leads for in­ vestigations. Information is provided by Inland Services on the results of investigations, suspicious practices, under-payments of duty, warnings, prosecutions etc., and success­ ful practices are summarised in a regular bulletin.

1.3 Evaluative Framework for the Audit Management of the system based on commodity control involves striking a balance be­ tween the total cost of control on the one hand and the revenue at risk on the other hence the description “risk management". Total cost is comprehensive to the extent that it need not necessarily be restricted to the costs incurred by the revenue collector, but can also include the procedural cost incurred by the payer. The element of risk has 2 components—the amount of revenue at risk and the probability that revenue will be foregone.

The management problem is to gain information on how changes in the control effort affect revenue foregone and to use the information to decide on the level and de­ ployment of control resources. In practice this information is incomplete. There will generally be uncertainty, firstly, as to the degree of risk applying to the particular item of revenue under consideration and, secondly, as to the probability of detecting evasion by deploying particular resources. It is part of the task of management to reduce this uncertainty as much as possible and to base its allocations of investigative resources on considerations of amount of revenue at risk, probability of evasion and probability of successful investigation. In practice, it would be expected that resource constraints

would require that priority setting would be involved. The essence of risk management lies in developing a strategy aimed at balancing the costs and benefits in the most effec­ tive and efficient way, and Audit has examined the extent to which Inland Services has managed to do this.

An additional dimension to the investigation cost/revenue foregone trade-off is the deterrent effect of an investigation program. Clearly, this is linked to the severity and credibility of the penalties applied to duty evaders and this aspect is discussed later.

In practice, statistically exact estimates of the factors determining resource allo­ cation priorities will not be possible. Management will need to balance a number of fac­ tors to arrive at an implicit and subjective valuation of risk. Illustrative examples of these follow:

26

(a) Probability of evasion:

(i) Commodity characteristics:

—ease of product diversion is more probable when the duty per unit volume or weight is high; when the product is easily moved; when the product is identical in appearance to the non-dutiable product; when there are many producers or sources of potential production, when there is a high through­ put, such that small biases, losses or diversions can lead to material revenue changes and when there is a ready market for duty evading sales.

(ii) Operator Characteristics:

- evasion is less likely with firms having reliable physical security, adminis­ trative and audit controls; a good record of compliance with Inland Ser­ vices’ requirements, and with firms intent on a good public image or with firms where production or turnover is smooth and comparable in terms of duty collected with other similar companies.

(b) Probability of detection:

- is enhanced when there are few producers of the dutiable commodity; when the production process is such as to readily identify the point at which the commodity is produced and when accurate and reliable measurement of production is achievable; when the firm’s control systems permit ready

identification of the amount and timing of duty liability, and when com­ munication with operators is easy.

There are 4 associated principal sources of risk of loss of revenue:

• understatement of initial liability for duty due to prior diversion of product or in­ correct measurement • overstatement of shrinkages between point of initial duty liability and subsequent duty payment—whether by product losses or duty-free exemptions

• late payment of duty, and • production of goods not liable for duty which are substituted for the dutiable product.

These risks must be specifically catered for by Inland Services’ risk management systems.

1.4 Desirable Characteristics of a Risk Management System To implement a systematic approach to risk management Inland Services needs to:

• have adequate information on the production, storage and movement of dutiable commodities, and

• have adequate related information on the producers’ administrative control sys­ tems on which commodity control is based.

This information should be used together with information collected from systematic application of control resources so that:

• the opportunities for evading duty may be identified, and • estimates or judgments may be made on the amounts of field and analytical effort required to reduce the probability of these opportunities being exploited.

27

Inland Services has a number of control measures which its resources can apply:

• control over operators through licensing requirements—including data sub­ mission, fee, security, and renewal requirements • education of operators in Inland Services’ requirements through provision of information • the use of an ADP system that records the location and values for duty of

imported goods and the release for domestic consumption of imported and excis­ able goods « submission by operators of regular documentary returns recording all inventory movements • independent access to firms to verify the information declared using a variety of

investigation, surveillance and checking activities, and • a range of penalties under the legislation.

A basic responsibility is to make the best use of resources in applying these various control measures to protect revenue. In addition, action can be taken to change some of the conditions of these measures. For example, if penalties are made sufficiently severe and are enforced, licensees may be less inclined to risk evading revenue. Inland Services may then be able to put less emphasis on field visits, to the extent that increased sanc­ tions deter potential offenders. Data should be maintained on the costs and returns of each of the control measures, particularly the effectiveness of different types of investi­ gation in different situations to enable resources to be most effectively deployed.

While responsibility and authority should be unified as close as possible to the level at which the work is performed, there is a need for Central Office management of the program for purposes of policy formulation and development and for overall resource allocation decisions. While Central Office would not need to be concerned about the day-to-day operations conducted at the field level, it should:

• make adequate assessments of revenue due • define and promulgate to Collectorates the precise points for the measurement of duty liabilities, duty payments and duty exemptions for all commodities and the associated appropriate assessment methods, tolerances, and loss policies

• identify and promulgate guidelines to Collectorates on the main control points for all commodities • ensure that administrative and investigation resources are deployed most cost effectively • co-ordinate, conduct and promulgate the results of research and development -

delegating specific tasks to individual Collectorates as appropriate, and • manage an iterative process of review at all levels.

In managing day-to-day operations the Collectorates would similarly need to be fully informed about dutiable commodities, of technical processes and the elements of risk assessment and to use this information in developing priorities, conducting investi­ gations and following up results.

Knowledge offirm s operations—risk management requires a process under which all operators can be identified and their operations brought within a control system. Production estimates of total duty liability for a commodity should be confirmed where possible through independent sources of production, consumption or sales data.

28

Knowledge o f technical processes—the technical and commercial systems involved in producing, importing, warehousing and distributing goods must be understood to assist in the allocation of surveillance and investigative resources. Documentation should feature the critical measurement points for duty purposes and the possible opportunities in the production and distribution systems for revenue evasion. This would enable resources to be focussed on critical areas and suitable control tech­

niques to be developed.

Risk assessment—an assessment of risk for particular commodities should be car­ ried out on a national basis by Central Office to establish general guidelines. Collec­ tors should then assess particular risks associated with individual firms.

Methods o f investigation—the control systems operated by producers provide the major assurance of control over revenue. In considering a firm the objectives of In­ land Services’ checking should be to express an opinion on whether these controls are adequate. Checking of these control systems should incorporate the following

features:

• examination of producers’ records forming the basis of the duty payable; this will require statistically based sampling schemes and should also cover timeliness of duty payment • inspection of producers’ premises, on a random and surprise basis, to ensure that

the required production measurement controls are, in fact, in operation and to verify that the plant has not been modified to the extent that controls may be compromised, and • on-going assessment of revenue risk associated with individual producers—in par­

ticular monitoring of initial duty liabilities, all exemptions from duty, and sub­ sequent payments to ensure their correctness—so that the allocation of resources to the investigation of producers can continue to conform to the system of priori­ ties derived from the earlier assessments of risk.

In addition to checks of premises, other investigations might include:

• intelligence gathering from members of the industry on a commodity basis • sampling and chemical analysis of some products at the retail level to detect adulteration • documentary analysis for unusual trends—e.g., goods held in bond for unusually

long periods; unusual diesel fuel usage patterns; above average duty-free sales, losses, refunds or remissions, and • analysis of ABS statistical data or other data on commodity volumes.

Appendix 2 sets out the findings of the audit on how well BACA’s management sys­ tem met these specifications. Appendixes 3 to 7 examine the risks specific to each of the excisable commodities considered and put forward recommendations for improving control. Appendix 8 examines controls over bonded warehouses.

29

Appendix 2 Audit Findings on the Inland Services’ Management System

The audit sought to establish whether the management of Inland Services ensures that the correct amount of revenue due to the Commonwealth is being collected in an efficient and cost effective way. The findings that follow are set out in relation to the broad criteria outlined in Appendix 1, and particularly against the specifications con­ tained therein for Central Office and Collectorate tasks.

2.1 Internal Review of Inland Services 1977-78

The review concluded that although the commodity control concept was sound in principle, it was not working in practice because it had not been fully implemented; re­ sources to be assigned to Inland Services had been accorded low priority, investigations tended towards rostered checks of compliance, investigation staff were untrained, Cen­ tral Office/State Office Co-ordination was poor, and there were no performance stan­ dards. Most importantly, despite the importance of the Inland Services role in revenue protection it was found that the Department did not know where the risk to the rev­ enue was and which areas were most at risk and that current operations were not establishing and pursuing such matters.

Recommendations proposed a revitalisation of Inland Services with particular attention to an upgrading of the Central Office role, evaluation of premises in terms of risk to the revenue, greater control over losses, training in investigatory skills, more flexible staff deployment and a new emphasis on the primacy of the investigative func­ tion as the means of control. Much of the implementation was delegated to newly estab­ lished Operations Audit cells which provided centres for planning and operating inves­ tigation functions. The report identified many issues which the audit confirmed were of continuing concern. Formal monitoring and increased planning by Central Office are

necessary to achieve an effective implementation of the review’s recommendations.

2.2 Knowledge of the Industry Audit found that Central Office has not undertaken systematic analyses of the general control problems associated with individual duitable commodities and to assess industry-wide production systems and distribution networks from the point of view of opportunities for evasion. Collectorates have largely functioned independently and, as a result, national intelligence or operational information has not been sufficiently collated and applied to the improvement of administration.

Central Office does not plan control strategies. The measurement of duitable pro­ duction quantities and the associated calculation of the amount of duty is undertaken by the producer. Inland Services at the Collectorate level attempts to validate pro­ duction by examining records maintained by firms. Collectorates have not gone behind firms’ records to establish whether they correctly reflect the amount of revenue due. There are no independent reliable data available on total production and therefore the amount of revenue potentially due which can be compared with revenue actually col­ lected. That such information gaps are important is indicated by the results of an exam­ ination of ABS data which indicated for diesel fuel use a possible gap of about 4%

($4million) in diesel fuel excise revenue in 1978-79, and for beer, a possible gap of over

30

1 I

1% ($37milIion) for 1977-1980. Such data are only indicative but their magnitudes re­ quire explanation.

The currently limited role of Central Office in Inland Services’ program direction and co-ordination is ascribed by the Department to the low relative priority accorded Inland Services in Central Office. The Department advised that, in response to other priorities, a decision was taken in 1975 to reduce the Central Office Inland Services’ or­ ganisation, from Branch to Section level.

2.3 Point of Measurement of Duty Liabilities

Associated with the assessment of total potential duty is the point of measurement at which liability for duty is established within the production process. For example, for beer the Department bases the liability for duty on the volume in saleable containers—

cans, kegs, bottles, etc. In the United Kingdom liability is established at a much earlier point (on the wort). For petroleum products, duty is assessed at the point of exit from storage depots, usually through meters into road or rail tankers.

Without adequate checks upstream of this packaging there is no independent verification that the production declared by firms on the basis of measurements at pack­ aging represents total production. Revenue could be eroded by diversion prior to measurement, or through inaccurate recording and measurement processes. It is poss­ ible to measure at a number of points in the production process but the most important one is the first point at which an accurate measurement of the product can be

obtained i.e. immediately downstream of the stage at which refined oil becomes an identifiable product or at which identifiable beer is produced and so on. Such a measurement would allow the manufacturer to be required to account for all sub­ sequent disposal (including production wastes) of the product.

Further checks can be provided by measurement of input materials but variations in their constitution could lead to inaccuracy. The point at which duty is payable is cur­ rently that at which the product enters home consumption, sometimes well down­ stream of the point at which the product becomes identifiable. The requirements for controls for particular commodities are discussed in Appendixes 3-7.

2.4 Control Points

Evaluation of the probability of revenue erosion requires consideration of the integrity of the controls of firms and of the validation checks made by Inland Services. Pro­ ducers control systems should be examined to verify that the liability of firms to pay to

the Government the revenue legally due is translated into controls capable of ensuring | this result, thus safeguarding the revenue. The producers maintain integrated pro- | duction, inventory, and other records for commercial purposes and this integration adds to the reliability of the control. The types of producer control are illustrated in the

following list (which relates particularly to the brewery industry):

Production Controls—use of raw materials and yields throughout the production processes are recorded. Production is reconciled with raw materials input, shortfalls are identified and assessed against production norms.

Inventory Controls—receipts, whether from production or by transfer and all out­ goings are recorded. There are periodic physical stocktakes of inventories which are reconciled with inventory records. Goods cannot be removed from inventory with­ out authorised documentation. Staff access to inventory is limited to those authorised.

Loading Controls—dutiable goods are loaded onto transport under supervision and should agree with loading documentation covering customers’ orders.

31

i

Delivery Controls—transport leaving stores passes through gates where loads are confirmed against documentation for deliveries. Evidence of goods receipt by cus­ tomers upon delivery is obtained.

Administrative and Accounting Controls—invoices are raised for sales. Inter­ company transfers are recorded on commercial documentation. Deliveries returned to companies for re-issue following previous issue and duty payment are separately recorded. Reconciliations of receipts, production, deliveries and inventories are made on a weekly basis for the purposes of the weekly settlement of excise pay­ ments. The monthly returns submitted to the Department document this reconcili­ ation for excise purposes as follows:

Opening stock + production + transfers in (for re-issue) - duty free sales - packaging losses - sales subject to excise duty - transfers out (underbond movements) = closing stock.

Where firms cannot balance such equations to the satisfaction of Collectors, excise duty is paid on discrepancies. The determination of excise liability is derived from the product delivery records.

Measurement Controls—producers are required by Inland Services to establish ac­ curate, secure and reliable methods for the recording of production. Departmental officers are required to confirm the accuracy of declarations and the taking up of the amounts into records.

Inland Services should ensure implementation of field checking programs for each commodity to audit the validity of these various control systems in each firm. Such programs should be designed to identify the points of revenue risk and initiate investi­ gations and further checks where appropriate.

Guidelines for operational controls have been issued by Central Office for some commodities but little guidance is provided as to the methods, techniques, and fre­ quency of checks to be applied to the control areas. Further detailed technical examin­ ations and analyses would need to be completed and documented before a credible program of control validation could be undertaken.

2.5 Risk Management The Department advised Audit that it did not centrally identify risk areas on the basis of revenue. The departmental approach was to examine particular operations in depth according to judgements made at the local level, based on revenue rates, the assessed efficiency of company operations, performance history and industry information. Also, local judgements on areas for resource deployments were aided by memoranda, Oper­ ations Audit Bulletins and training course material and would be aided in the future by the results of effectiveness measurement studies and management information avail­ able elsewhere. Audit is of the view that such a decentralised approach does not provide the integrated approach necessary for maximally effective control. A strategic and industry-wide investigative program is required, particularly for a manufacturing pro­ cess which has a high degree of technical and management complexity.

The requirements for a nationally co-ordinated risk management program were supported in principle by the 1977-78 departmental review. However, the thrust of the review report and of subsequent initiatives has only been directed towards risk man­ agement at the level of the individual firm. No guidelines exist on the deployment of in­ vestigative resources across commodities, considering, for example, concentration of re­ sources on those commodities where risk is likely to be greatest.

32

Within each Collectorate, a firm in each commodity area is judged as a high, me­ dium or low risk based on the following factors:

• adequacy of systems • quality of returns in terms of detected error rates • volume of transactions • complexity of records • revenue risk • level of management co-operation, and

• ease of physical checks.

Each firm is also rated in terms of the complexity of its control systems as high, me­ dium or low. These ratings govern the frequency and intensity of field investigations. Evaluation of the effectiveness of the commodity control program rests on local judge­ ment. Audit considers that risk assessment should be a process by which a specific evaluation of the risk in one area should be compared in a systematic way with evalu­ ation of risks in other areas and resources deployed accordingly. This requires that con­ sistent criteria be centrally established, and refined as experience suggests.

The effectiveness measurement procedures under development by the Department provide a basis for development as the control segment of a risk management system. At the time of the audit the program concentrated on counts of errors found during de­ partmental checks of firms’ documentation. This has 2 weaknesses. First, it concen­ trates attention on the clerical consistency of the records of firms rather than the ad­

equacy of the internal controls of these firms. This is a serious deficiency since records are unlikely to expose major attempts to underpay duty, and may not reveal control weaknesses. Second, the examination rarely concerns itself with the materiality of the error found and its relevance to the duty protection objective of Inland Services. Audit considers that effectiveness measurement must be directed to assessment of how well

Inland Services’ controls protect the revenue. Programs should be designed to assess the effectiveness of firms’ control systems when supported by Inland Services’ checks, not the checks alone.

2.6 Reporting and Review Systems The significant data deficiencies identified limit the ability of the Department to report on the discharge of its revenue collection responsibilities in other than general terms.

Within Collectorates, it is the responsibility of supervisors to review field reports completed by Investigation Officers. Reports vary in coverage and detail. The reporting system is not designed to reflect on the revenue protection objective of Inland Services and the system does not report on the effectiveness and efficiency of Inland Services’

program administration. The Department recognises deficiencies in its management in­ formation. In response to a question by Audit relating to the data available to allow the effectiveness of controls over spirits to be assessed, the Department advised that “meaningful statistics relating to volume, thoroughness and effectiveness of field inves­ tigations and documentary checks are still in the process of being compiled.” Data are

not gathered to allow an assessment of the benefits and costs of alternative enforcement procedures. Review of the Inland Services’ program is undertaken through:

• Collectors Conferences (annual) • Customs Board of Management Meetings (CBM) (at least quarterly)

33

• informal discussions or meetings between executive and operational staff, and • formal reviews undertaken on an ad hoc basis.

However, such reviews are limited by the lack of data on the effectiveness and efficiency of the Inland Services’ operation.

Audit considers that priority should be given to developing a management infor­ mation system to enable the effectiveness of revenue collection under the Customs and Excise legislation to be evaluated. A suggested strategy is set out in the attachment to this appendix.

2.7 Deterrents

Deterrents play an important role in risk assessment. There are a number of deterrents of differing value, e.g., retrospective payment of duty, warning letter, licence suspen­ sion and revocation, the call-up of securities, and prosecution. The type and size of de­ terrents and their ease of application, are critical aspects of the Inland Services’ role in revenue protection. It is the responsibility of Inland Services to ensure that the range of deterrents available is appropriate and that deterrents are effectively and efficiently ap­ plied to protect revenue.

An effective deterrent system in the Inland Services’ context would in Audit’s view have the following features:

• clearly defined offences • companies adequately informed of their obligations and of the penalties attached to failure to meet obligations

• credible policing by Inland Services

• action consequent upon detection of offences clearly defined, appropriate to the offence and consistently applied, and

• legal enforcement of penalties when offences are committed and detected.

The Customs and Excise legislation identifies a number of offences of varying de­ grees of seriousness. Producers should be aware of what constitutes an offence and the Department has an obligation to inform them of its requirements so that appropriate action may be taken. Once offences are detected, consistent and appropriate action should be taken. Action taken following detection of an irregularity involving duty short payment is a function of the Department’s assessment of the cause of, or intent behind, the irregularity. Revenue short falls may result from fraudulent intent or negli­ gence. Departmental action in respect of errors where there is no intent to defraud gen­

erally involves merely duty adjustment on an informal basis. Inland Services should assess with care its action following the detection of short payments by firms. Producers may have no incentive to improve controls and thus reduce mistakes where the worst outcome (detection and duty call-up) would have no greater financial consequence than honest and careful performance.

An effective deterrent system is dependent upon the following management initiatives: • periodic reviews of relevant legislation, regulations and General Orders to ensure that offences are well defined, that potential offences are recognised and that the

range of deterrents and value of penalties are appropriate

• information is provided to firms defining offences and their consequences

34

• guidelines are provided to Collectorates to aid Australia-wide consistency in the application of deterrents

• provision of an information system which adequately supplies details of duty underpayments or avoidance so that consistent and well-informed action can be properly planned

• formalised review systems to ensure effectiveness, efficiency and equity of appli­ cation, e.g., - legal proceedings are initiated consistently - ineffective penalties are reviewed or removed - range and value of deterrents are appropriate, and

• training in the application of penalties.

The face values of penalties appearing in Acts relevant to Inland Services have varied little since 1901, though the change in the value of money since 1901 has been of the order of 1500%. The Excise Act s. 117 (unlawful possession of excisable goods) and the Distillation Act s. 74 (offences as to illicit stills) referred in 1901 to fines of £ 50 and

£500 respectively, and these amounts still apply. At present money values, the current penalties would be approximately $1,500 and $15,000 respectively. It is not suggested that the value of money is the only criterion for determination of penalty values, but, in the absence of review it is reasonable to conclude that many penalties are no longer ap­ propriately defined in money terms.

Audit was advised that the level of penalties is a policy responsibility of the Attorney-General’s Department and, in all cases of amendment to or introduction of legislation administered by the Department, the levels of new penalties are the subject of discussions between officers of the 2 departments.

In any organisation a degree of administrative discretion is necessary for its smooth and efficient operation and for reasonable interpretation of its governing legislation. The legislation expressly provides Collectors with a discretion on major aspects of In­ land Services’ operations (e.g. Excise Act ss. 61A and 62). In any exercise of discretion,

it is expected that Collectors would be provided with the relevant information to enable functions to be performed adequately and with consistency among Collectorates. On the subject of institution of proceedings and issue of warning letters, guidelines in

general terms have been issued to Collectors and staff. These guidelines state, inter alia, that:

given the basic objective of achieving penalties commensurate to offences, court proceedings should be taken in respect of offences involving: (b) a significant amount of duty or a large quantity of goods;... or (g) an offender known to have transgressed on a number of occasions ...

In any case where in the Collectors’ judgement an infringement is not sufficiently serious to warrant penal action a Collector may issue a letter of warning to the offender...

No guidance is given to Collectors on what constitutes a significant amount of duty, a large quantity of goods or an insufficiently serious infringement. Records of any sub­ stantial call-up of additional excise/customs duty maintained within Collectorates are used in determining risk and allocating resources. It is an offence to make an entry

which is false in any particular and the onus to provide accurate statements is clearly upon the producers and product owners. Generally when errors are detected in

75

company records, from which entries are completed, little penalty or other disciplinary action ensues. Instead, Inland Services often corrects the entries, requests adjustments in future entries or claims the amount of the error separately, and, if the error clearly in­ dicates a diversion of product or lack of physical control, additional field checks may re­ sult. Departmental records are not generally maintained unless a separate claim is made for the amount of an error.

No formalised Central Office or Collectorate review systems exist to ensure con­ sistency within and between Collectorates in the exercise of discretions and the appli­ cation of deterrents, including penalties. Also, no periodic review occurs unless a major weakness or deficiency is noted by Collectors. While departmental officers should con­ tinue to be encouraged to highlight any deficiency noted in the legislation, it is con­ sidered that total management reliance cannot be placed upon this process, particularly in view of the apparent deficiencies noted above.

The Inland Services Review of 1977-78 considered a number of the issues raised here. It is of concern that, apart from a 1979 internal review principally aimed at amal­ gamating and making consistent some provisions of the legislation administered by the Department through Inland Services, little attention has been given to deterrents since

then, despite the view that some inconsistency of attitude did exist between Collec­ torates and that the value of warnings to companies was doubtful.

2.8 Recommendations Based on the evaluative framework set out in Appendix 1 and having regard to the matters set out above, Audit recommends that:

• for each of the relevant commodities the Department’s Central Office should collate and analyse data in relation to the technical production and distribution systems of producers and maintain details of quantities of dutiable product in­ volved, the possible risks to revenue and summary results of inspections and examinations carried out • based on this information, Central Office should establish critical measurement

points for duty following completion of the production cycle, formulate com­ modity risk management policies and issue clear guidelines to facilitate a uniform and effective revenue control system • control over revenue would be most assured by measurement at the earliest point at which the product is identifiable. The point where duty liability is assessed and the timing of duty payment need not necessarily be changed. In line with this a number of recommendations are made for the introduction of additional measur­ ing devices and measurement checks for some excisable commodities. Specific recommendations are contained in the appendices following on beer, tobacco, petroleum • Central Office should establish and maintain a system to monitor performance, to review changing risk factors and to ensure cost-effective allocation of investi­ gation resources • Collectors should establish similar risk management procedures as well as investi­ gation systems according to guidelines set by Central Office. These investigation systems should be systems-based aimed at validating firms’ reporting systems and checking points of revenue risks, and • there is a need to independently assess with some confidence the full potential rev­ enue due so that it may be compared with revenue received and form an integral part in the assessment of risk.

36

Audit endorses the conclusions of the departmental review of Inland Services in 1977-78 and the consequential effectiveness measurement program which should pro­ vide a better basis for system documentation. The review's recommendations should be aggressively pursued.

Central Office would be expected to be able to justify the level of resources used in each Collectorate through a control process relating program objectives and perform­ ance effectiveness measures to resource needs. This would incorporate a definition of:

® the total control task—numbers of premises, revenue by premise • the required number of staff with the appropriate expertise, and ® the field techniques to be used, including a definition of purpose, scope and depth of checking, guidance on timing of visits and methods of evaluating the results of

field visits for planning future field visits.

In the absence of the integrated management process mentioned above it is not possible to state what the correct level of resources should be.

The level of penalties appearing in Acts relevant to Inland Services should be reviewed. More formalised Central Office review systems should be introduced to ensure consistency in the exercise of discretions and the application of deterrents.

ATTACHMENT TO APPENDIX 2

Suggested Inland Services’ Control Strategy An 8 step process is suggested. Each step is developed and the control risks (exposures) if the steps fail to occur are specified.

Steps:

1. identify all revenue sources 2. estimate likely revenue (quantities, duty rates) 3. categorise sources by risk to the revenue 4. implement incentive, checking and penalty systems to reduce risk to revenue

(ensure correct duty payments) 5. receive payment 6. monitor amount and timing of duty payments versus clearance data, company returns, and revenue estimates and take action when significant variances occur 7. report to Parliament upon extent to which revenue collected represents revenue

due

8. review revenue estimates, risk categories, and risk management program.

Steps Exposures

Step 1: Identify all revenue sources 1.1 ensure all producers and dealers have cur- · goods released without duty pay-rent licences or registrations ment

1.1.1 ensure all potential producers and dealers · requirements not met are aware of Inland Services’ require­ ments

37

Exposures

1.1.2 ensure licences are granted on a timely basis subject to certain conditions:

• submission of information on location, management, nature of production pro­ cess, maximum annual production ca­ pacity of equipment, security of premises • likelihood of future compliance with In­

land Services’ requirements (returns, checks, security of premises)

• entering of an appropriate security, with surety if appropriate • payment of appropriate fees 1.1.3 ensure licences/ registrations are renewed

on a timely basis subject to certain con­ ditions consistently applied 1.1.4 ensure licences/registrations are repealed/revoked on a timely basis sub­

ject to consistently interpreted guidelines

Steps

• baseline control data unavail­ able

• opportunity to reduce control task not taken • Inland Services’ controls may not prove cost-effective • sanction role of securities not

used or under-used

• sanction role of licence renewals not used or used inequitably

• sanction role of licence revo­ cations not used or used inequi­ tably

Step 2: Estimate likely revenue 2.1 ensure that formal procedures exist for · Government revenue shortfall estimating revenue receipts by tariff item and by firms 2.1.1 establish point of duty liability (i.e., point · inadequate definition of revenue

in production process where initial duty base liability set for Inland Services’ purposes) for all commodities 2.1.2 ensure information base identifies revenue by tariff item and by firms for appropriate time periods 2.1.3 ensure information base identifies likely future supply (data on raw material and stock inventories, production potential) and future demand (seasonal factors, elasticities) 2.1.4 establish timing of duty payment, method of product measurement for duty pur­ poses, and means of duty payment for all commodities

• baseline control data unavail­ able

• corroborative control data unavailable

• inadequate definition of revenue base

2.1.5 establish policy on post-duty liability point losses for all commodities • inconsistent treatment, reduced revenue

38

Exposures Steps Step 3: Categorise sources by risk to revenue 3.1 ensure that guidelines are set down for risk · staff not deployed on basis of definition and that these guidelines are con- priority control areas

sistently applied for the deployment of staff 3.2 assess current risk data for all firms · categorisation of firms by risk not possible 3.3 categorise commodities and premises by risk

to revenue, and deploy resources accord­ ingly

Step 4: Implement incentive, documentary return, inspection, and penalty systems to manage risk, and to ensure compliance with legislation 4.1 ensure that appropriate securities (with

sureties where appropriate) are applied to firms, and ensure guidelines exist for the call-up of securities and that guidelines are constantly applied 4.2 ensure firms submit appropriate docu­

mentary returns on a timely basis and that guidelines exist for the scrutiny of documen­ tation 4.3 ensure that formal procedures exist for the

planning, control, review and evaluation of field inspections 4.4 ensure effective deterrents and penalties exist and are applied consistently

• if sureties not applied, call-up of duty from bankrupt firms does not protect the revenue

• inconsistent treatment

• eligible firms who fail to submit returns not identified

• with knowledge of ineffective in­ spection or review function, firms may pay less than required • ineffective deterrents and penal­

ties reduce the incentive to com­ ply with Inland Services’ re­ quirements

Step 5: Receive payments 5.1 ensure all payments are promptly and prop- · recording of payments may be erly recorded, and deposited intact witheld or delayed • possibility for fraudulent diver­

sion of funds by Inland Services’ Officers • revenue flow from payments re­ tarded • revenue m is-stated by un­

r e c o r d e d or i m p r o p e r l y

recorded items

39

· I ,

Exposures

Step 6: Monitor timing and amount of payments versus clearance data, returns o f firms and revenue estimates, and take appropriate action

6.1 ensure information is available to identify · revenue not received in a timely collection trends and problems in collections fashion and/or in a proper by firms, commodities (e.g., EDP variance amount monitoring against norms) . items subject to duty and rates

not subject to timely review

6.2 ensure revenue reports reflect the substance · relevant program management and levels of detail required by the various and control information not levels of the organisation and other organis- available ations 6.3 ensure timeliness and distribution of revenue · information not available on a

reports satisfy the needs of managers (con- timely basis sider needs of external bodies, e.g., ABS, Treasury) 6.4 ensure compliance with Inland Services’

requirements re losses (see also Step 2)

Steps

Step 7: Report to Parliament upon extent to which revenue collected represents revenue due

Step 8: Review risk assessment and risk management program 8.1 ensure currency of controls · staff deployment not cost-

effective

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Appendix 3 Excise on Beer

3.1 Description of Process Beer, defined in the Excise Tariff" 1901-1973 as any fermented liquor brewed from a mash, of alcoholic strength of not less than 1.15% by volume, and containing hops or other bitters, is subject to excise duty at the rate of $0.52 per litre. Net excise revenue

from beer totalled $991 million in 1980-81. The brewery industry in Australia is concentrated in a small number of major companies. Twenty-one breweries were operating in Australia at the time of Audit field work.

Breweries, as with other licensed premises, are licensed by BACA following an examination of key company personnel, physical security, suitability of premises and adequacy of accounting systems. Having regard to its assessment of risk and the re­ sources available to it, the Department has elected to commence its detailed control

procedures at the point at which beer is packed into saleable containers supported by upstream checks from time to time. Assessment of the amount of excise for which the producer is accountable is therefore undertaken late in the production process, on the basis of the packaged product derived from the number of packages and their capacities in litres. This assessment takes into account bona fide factory wastes which are not

dutiable. As for other commodities, duty free deliveries occur for: • concessional deliveries for use by diplomats, consular and service personnel • export, and

• other underbond movements as inter-company transfers or to other bonds.

Provision exists for a refund of duty on bulk beer unfit for consumption upon which duty has been paid and, in common with other excisable commodities, for remissions or refunds of duty for various reasons. An overview of the product flow for beer for excise purposes is shown in diagram­

matic form in Figure 3.1. The figure displays the various shrinkages by which gross pro­ duction is progressively reduced to net production for excise purposes. The role of In­ land Services is to provide a system of checks and balances to ensure that duty is paid on all beer that enters domestic consumption.

3.2 Establishment of Liability for Excise Duty The processes of beer production are outlined in diagrammatic form in Figure 3.2. The points in the production process where liability for excise duty is established and excise duty payments are made are shown. Overseas authorities have established the excise

liability at different stages of production, including the malt stage, the wort stage, and the bright beer stage. Establishment of liability at the packaging stage requires that In­ land Services guard against diversion of the product before packaging quantities are recorded.

Advice given by officers of the National Measurement Laboratory, Division of Ap­ plied Physics, CSIRO confirms that accurate measurement is possible at the bright beer stage using high quality flow meters; some breweries already use such meters at this stage. If the point of liability were set at this bright beer stage losses between the point

of measurement and packaging or release to tankers will be subject to duty unless specifically allowed as losses by Collectors. The onus for justifying the loss would lie with the producer.

41

Figure 3.1 Beer — product flow for excise purposes — Australia

Production waste

Packaging losses

Underbond movements Export deliveries Concessional deliveries Losses post packaging

Spoilt beer (duty refunded)

Domestic consumption 42

I

Figure 3.2 The production of beer — diagrammatic

Raw materials Processes

Barley -------------- ---------- -—^ Malting

Milling

Mashing Water

Sieving

Boiling

Cooling

Fermentation Yeast

Filtration

Canning Bottling

Pasteurisation

Pasteurisation Pasteurisation

Storage

Storage Storage

Draught beer (a)

Bottled beer (a)

Bright beer

Wort stage

Canned beer (a)

_____________________________________________________________________________________________ ( b ) _

Market-place

(a ) Excise liability established on packaged volumes (b) Excise payments made

43

The scope for basing excise payments for beer on volumes produced upstream of packaging is recognised by the Department and indeed is implicit in its policy for losses. However, the Department outlined some of the factors precluding accountability from the bright beer stage onwards:

• bright beer tanks are not calibrated sufficiently accurately for duty purposes • beer may be produced with a higher than normal alcohol content and sub­ sequently extended with oxidised water • beer is often returned to the bright beer tanks from the filling and holding tanks

for recycling (product double counting), and • excise is payable only on that quantity of product that goes into home consumption.

The first three points relating to the accuracy of measurement for duty purposes may be overcome by the installation of accurate measuring equipment and check sam­ pling for alcohol content.

The fourth point may be resolved by separating the setting of duty liability from subsequent duty payments. The issue is whether revenue collection is safeguarded by setting the initial duty liability at the point of packaging or beforehand; the onus would be on the producer to account for losses after liability is established.

3.3 Risk to Revenue

If liability continues at the present point of packaging there remains the issue of whether departmental control over revenue would be upgraded by extending checks upstream, to the wort stage and to the bright beer stage. Relevant factors are listed.

(i) Although yields throughout production vary depending on a number of fac­ tors, (including, the quality of raw materials, the durations and temperatures of the production processes, the additives used, the sophistication of the pro­ duction equipment and the attention given by firms to loss recovery) there will be relationships between the various points of production, enabling data gath­ ered on yields earlier in production to corroborate final production. For example, in the United Kingdom, excise is presently levied on the wort col­ lected after boiling and cooling with provision for taking account of the raw materials input to production.

(ii) Product at the chosen points for product reconciliation should be measurable and applicable to all breweries. The development of continuous processing, and the different approaches adopted by breweries, mean that the same two points may not be practicable for all breweries.

(iii) Losses between the bright beer and packaging stages are significant (e.g., % loss from bright beer to production on firm or departmental records or reports sighted by Audit varied from about 2% to 3.5%). The legitimacy of these losses is not subject to systematic departmental verification.

The Department saw the diversion of bright beer as deserving of theoretical rather than practical consideration. While recognising the feasibility of diversion at the bright beer stage, the Department stated that there was no evidence of such diversion occur­ ring. It further submitted that such diversion would not be possible without the effort of a number of people acting in conspiracy and possibly would require the brewery itself to have set out on a determined course to defraud revenue.

44

Officers from the National Measurement Laboratory supported the view that con­ spiracy would be necessary for bright beer diversion. However, they suggested that evi­ dence of such diversion would be unlikely to be detected— “As there does not appear to be any serious attempt to measure accurately the volume of beer produced, any illicit

diversion of beer after filtration would be most difficult for BACA officers to detect but could probably be done only with knowledge of the brewery management” (Attach­ ment to Report).

The cost of introducing measurement at the bright beer stage is small in relation to the quantum of revenue safeguarded. Preliminary enquiries indicated that measure­ ment devices cost of the order of $2600. Discussion with the Department indicated that coverage of the industry in Sydney would require measurement of outflow at about 30

points. Installation costs are not known. A further factor is that the cost of measurement devices could be traded-off against reduced costs of administration. Investigative and monitoring resources could be reduced and less checking of firms’ records would be needed. It is Audit’s view that the

Department should examine the installation of accurate meters at the bright beer stage to provide a volumetric check against which the manufacturers would need to justify all losses and exemptions. An alternative excise control might be to calculate the duty liability on the basis of

total production of bright beer, giving producers an incentive to minimise losses and maximise security against diversion. It would then remain for producers to substantiate rebates for duty-free sales. The duty rate would be pitched at a level, for the whole in­ dustry, having an in-built loss rate corresponding to modern effective production prac­

tice, maintaining the total excise collection on beer at the current level.

3.4 Recommendations Consideration should be given to the introduction of high quality flow meters at the bright beer stage of production. These would provide greater assurance about pro­

duction quantities. Consideration could also be given to transferring the point of excise liability to the bright beer stage. This would reduce control problems associated with possible diver­ sion of product between the bright beer and controlled packaging points. To comply

with the policy of duty payment only on those goods released for home consumption al­ lowance would need to be made for production wastes between the bright beer and packaging stages and for duty rebates for losses, but putting the onus on producers to justify these losses.

Estimates should be made of gross production based on independent sources of data such as Australian Bureau of Statistics collections and these should be used to check total duty payments. Losses between the bright beer and the packaging stages vary between 2 and 3.50

and represent significant quantities. Central Office should promulgate detailed guidelines on field checking methods appropriate to validate these losses and a suitable risk management process should be applied in a systematic way.

45

Appendix 4 Duties on Spirits

4.1 Description of Process

Customs and excise duties and sales taxes are paid on a number of spirituous beverages, including brandy, rum, whisky, gin, vodka and liqueurs. In 1980-81 $111.2 million in excise and $192.2 million in customs duties were collected. The Excise Tariff provides for Inland Services control through licensing and registration procedures over a number of items which are free of duty but which are subject to Inland Services’ control because of their potential to erode the revenue base through substitution with potable spirits. These items include spirit produced for purposes other than drinking, including spirit for industrial, scientific, educational or therapeutic purposes (Excise Tariff Items 2M, 2N, 2P and 2Q) and for automotive or other liquid fuel purposes, and spirit produced for drinking which is exempt from duty (Tariff Items 2J, and the concessional items

10A and 10H, 13, 18 and 19), or privately produced. Less than 10% of the total Aus­ tralian production of spirits is currently subject to excise duty.

The spirit production and distribution network is presented diagrammatically as follows (the unbroken lines represent legal channels of production, distribution, storage and use; the broken lines possibilities for illegal channels).

Distillation

Illicit Licensed (a) Importation (a)

Duty-free users

— Bottlers

Market-place for potable spirit

Key (a) Duty liability assessed ------------- Customs and excise duties collected ------------- Customs and excise duties not collected

Spirit subject to duty is produced in Australia by approximately 20 major dis­ tilleries. Imports are substantial, making up over 60% of total releases in 1980-81.

Bottlers receive Australian-produced spirit or imported spirit in bulk and package for domestic consumption. Prior to bottling, bulk spirit is diluted to potable strength and flavoured or blended as required. These storage, transit and production processes mean that the initial duty liability is reduced to the extent that production wastes occur during these processes.

At 30 June 1981 there were approximately 85 underbond bottlers throughout Australia, 155 spirit storage bonds and 76 general bonds which also handled packaged

4 6

spirit. There were also estimated to be 27 ‘out-of-bond’ bottlers. These bottlers are out­ side Inland Services’ control as they purchase spirit on a duty-paid basis, and therefore need not be licensed.

Clearances of spirit not subject to duty under Tariff Items 2J, 2M, 2N, 2P and 2Q in 1979-80 totalled about 50 million litres of alcohol, representing, if the spirit were excis­ able at current rates, over $900 million and were distributed to about 5 000 registered users. Spirit delivered under Tariff Item 2J, i.e., “Spirit for fortifying Australian wine or

for fortifying Australian grape wine” (11.8 million litres cleared in 1979-80) is a potable spirit distilled from grapes, grape residues, wine etc and is distributed to about 260 regis­ tered users. Non potable spirit delivered under Items 2M, 2N, 2P and 2Q (37.0 million litres cleared in 1979-80) is produced from molasses, a by-product of the sugar industry.

The production of duty-free and dutiable spirit is linked in the case of 2J spirit and brandy by common producers as is, to a lesser extent, the production of spirit cleared under Tariff items 2M and 2N and rum.

A reduction in revenue payments may occur through extension of spirit subject to duty by non-dutiable spirit. This risk is reduced for spirit delivered under Tariff Item 2N (representing about 60% of spirit not subject to duty), which is rendered less fit for drinking and less readily substitutable with spirit subject to duty, by denaturing with

methanol and other additives. However, the remainder (2J, 2M, 2P, 2Q), can be dis­ tinguished from potable spirit only by scientific analysis and represents a potentially considerable risk to the revenue base.

The revenue base may also be reduced by spirit entering the market without the knowledge of Inland Services, through distillation by unlicensed producers (illicit or moonshine production), distillation in licensed premises which is excluded from records, and through illegal importation. An additional and separate source of reduced

revenue is a change in production/public consumption patterns whereby the quantum of alcoholic beverages subject to duty which is produced/consumed is reduced. This may occur either through a fall in the total consumption of alcohol, or through a re­

duction in the market share of those alcoholic beverages which are subject to duty.

4.2 Establishment of Liability for Excise Duty The Department has defined in operational policies the initial duty liability for potable spirit produced in Australia as falling upon the quantity of alcohol received by ‘spirit re­ ceivers’, storage vessels at the end of the distillation process, from the distillation

columns or ‘stills’. Distillers are required to account for losses between that point and the quantities delivered. Licensees and proprietors of approved places who receive Aus­ tralian produce or imported spirit in bulk are required to account for losses compared to quantities received. Quantities and strengths are required to be determined and

recorded at the time of receipt. Duty is paid on packaged quantities (i.e., number of bottles by volume per bottle) at the time of release of goods to the market place. Goods can be moved underbond.

The point of liability has been set at other points in the productive process. In the UK duty is levied on wort and wash production, much earlier in the process. However, this involves excise staff in supervisory activities to confirm production and duty payable.

4.3 Risks to Revenue Verification o f production To the extent that Inland Services’ checks do not provide an independent verifica­ tion of company systems, revenue erosion through understatement of the initial excise

liability is possible. Such production cannot be ruled out conclusively unless Inland Ser­ vices is informed of production independently of company records. Physical and cleri­ cal checks are performed on an occasional basis by Inland Services but do not provide comprehensive confirmation of production. For spirits the production process involves distillers and bottlers.

Distillers

Independent monitoring of distillery production volumes can be achieved through sealed meters and Audit considered whether the likelihood of production of significant quantities by the major distilleries of potable spirit was sufficiently strong to justify ad­ ditional controls, viz:

• the type and size of the still together with the strength of the finished product de­ termine the duration of the fermentation/distilllation process. However this dur­ ation coupled with the frequency of Inland Services’ field checks (Approximately monthly) means that there is scope for unrecorded production to go undetected < * the production per still in major distilleries is large, e.g., a large pot still produces

1500 litres of absolute alcohol daily, representing a daily duty liability of almost $30 000. Each major distillery has several stills • distilleries employ few people, so that collusion within the distillery itself would not have to be extensive • many distilleries have associated bottling operations, meaning that unrecorded

production could be readily packaged for retail sale, and • retail and wholesale sales and stocks are not monitored by the Department against customable and excisable clearances and production figures, with the result that sales in excess of excisable and customable production would not be detected.

Audit considers that the potential for application of sealed meters to stills to measure production should be pursued by the Department.

Bottlers The major risk to the revenue from licensed bottlers involves understatement of production and release of the excess without duty payment. Other risks lie in false scheduling of duty-free exemptions, tariff misclassification and late payments of duty.

Understatement of production could occur through bottling of more than the recorded stocks of bulk spirit, and through overstatement of losses or under-filling or under­ strengthening of bottles where the quantity of bulk spirit into production is correctly recorded. For licensed bottlers, quantities in excess of recorded stocks could occur if smaller quantities than those actually received either in bulk ‘under permission’ from distilleries, or via Nature 20 entry documentation for imported bulk spirit, were entered into records or if stocks outside these sources were obtained and not entered into records.

Out-of-bond bottlers may, by extension of duty-paid stocks with duty-free bulk spirit, evade duty.

Controls by Inland Services over bottlers could be expected to include:

• cost-effective field and documentary inspections, to ensure that receipts, pro­ duction and deliveries are entered into records correctly, and • accurate measurement instrumentation and equipment, meeting tolerances and assessment procedures acceptable for the Department’s revenue responsibilities,

and independent proving of bottling yields.

48

On the first point, Inland Services’ field and documentary inspections establish the consistency of licensee records with licensee returns for particular periods. However, to the extent that checks of physical and clerical systems were not rigorously and system­ atically performed, Inland Services does not provide an independent check of licensee

production.

With respect to the accuracy of measurement and the proving of bottling yields it is the policy of the Department:

• to accept normal commercial practices and standards subject to reserving the right to require evidence of accuracy from recognised authorities for instruments used to determine the strength of dutiable spirit, and to obtain independent advice in the event of disputes between the Department and firms in respect of measur­ ing devices, instruments or calibrations, and • at the Collectorate level to determine loss standards for each premise, to require

the maintenance by licensees of detailed records of losses, to assess the perform­ ance of each licensee against historical performance, and to call up duty on losses not accounted for satisfactorily. Collectors are also to establish standard losses for all licensees in their Collectorates for transit, storage and bottling. It is the practice of Inland Services to check that the documentation maintained by Inland Services accurately reflects physical quantities. Such checks are largely on the initiative of individual control officers and may be made in the course of control inspec­

tions or as part of departmental loss control initiatives. Checks by Inland Services of bulk spirit inspections revealed actual landed receipts in excess of invoiced quantities. This suggests there is scope for potential revenue erosion. A survey in 1979 in NSW of 58 bulk tanks revealed actual quantities 0.7 per cent in excess of invoiced quantities;

similiarly a survey of SA in 1980 revealed actual receipts 0.95 per cent in excess of invoiced quantities. Audit considers that systematic departmental procedures for moni­ toring the performance of licensees in assessing quantities and strengths are required. Checks should pay particular attention to the measurement of bulk receipts, and to bulk quantities for bottling.

There are 2 issues concerning the practice of accepting commercial measurement practices:

• whether commercial practices meet sufficiently stringent tolerances and assess­ ment procedures, and • whether the Department would be able to detect biases in reported quantities. Inland Services uses cask and bottling tolerances. Audit considers that appropriate monitoring would be needed for confirmation that licensees meet these tolerances. Checks of physical measurements by the Department are limited and the checks perfor­

med by State Health, and Weights and Measures Authorities were not sufficiently strin­ gent to meet the Department’s requirements. On standards for vats a 1968 review recommended a tolerance of 0.2% but this was not taken up and General Orders do not provide tolerances for the measurement of re­

ceipts in bulk containers or for internal stock transfers. It is understood the decision to not set standards for vats was made because of the industry expense involved, the indus­ try capability to work within the tolerance, and uncertainty as to the Department s power to set calibration standards. The quantity of spirit which would be subject to

flow meter or vat calibration measurement far exceeds the quantity subject to cask measurement. Audit considers that standards would need to be set in General Orders for vats and for flow meters should they be introduced and that Inland Services should

49

ensure that it can assess the capability and performance of licensees in meeting stan­ dards. The Department’s powers in this area may need to be clarified.

Losses Losses of spirit in the 6 months ending 31 December 1977, the most recent compre­ hensive data available at the time of audit, represented about 3% of customable and ex­ cisable clearances, or $6 million annually. Losses submitted by licensees on returns were almost always accepted (0.2% losses disallowed in 6 months ending 31 December

1977). Inland Services was aware of the major factors affecting losses but had only lim­ ited data on the quantitative impact of some of these factors (e.g., evaporation losses over time). Consolidated data on factors affecting losses were generally not held by premise and loss standards were applied in only one State. Inland Services controls over spirit losses were deficient in that losses were accepted based on the historical perform­ ance of individual licensees, without independent technical analysis. The Department advised:

In brief (for Collectors) the general approach to determine the acceptability of losses is to compare the historical performance of activities peculiar to each segment of an operation in the warehouse . .. This does not mean that as long as a particular operation performs within a consistant loss pattern no investigative action is taken. Audit considers that the data base available does not permit Inland Services to effectively monitor spirit losses and supports current initiatives to upgrade controls. These initiatives, begun following the findings of the 1977-78 departmental review, broadly involve establishing data by premises on factors affecting losses. Audit further considers that national loss standards should be developed on the basis of analysis and data and promulgated as a guide to control officers. The Department advised that bot­ tlers might make full use of the standard and incorporate it in the operation as an acceptable loss. The significance of this effect would depend on the standard. If it con­ formed to the lowest loss rate, the situation would require those manufacturers claim­ ing high losses to review and, if necessary, tighten up their processes. In any event, the Department would need to continuously review the standard with an eye to reducing allowable losses in line with improving processing techniques, and the standards should be used only as guides taking account of each firm’s particular performance capability.

In view of the potential risk through extension by out of bond bottlers of duty-paid stocks with duty-free spirit, Audit considers that the Department should try to deter­ mine the extent of actual erosion. The Department would need to examine the scope for using State Licensing Board data and its own ADP system to establish and monitor production of these bottlers. Extension could be detected by a systematic chemical sam­ pling program. Departmental suggestions for the labelling of bottles to identify individ­ ual bottling runs and bottlers from bottles, and for the incorporation of a statistical key in the ADP system to enable bulk releases to be monitored independently of bottled re­ leases, would assist.

Inland Services needs to maintain its control over spirit through the storage oper­ ation and Audit recommends that consideration be given to requiring licensees to sub­ mit data on bottled and excisable bulk stocks for the Department’s ADP system. Con­ sideration should also be given to accounting for underbond removals.

Control over product substitution The production of substitutes is a major revenue risk for spirits. This has 2 aspects, the production of potable products not subject to duty as substitutes for dutiable items (changes in public consumption patterns); and the addition or substitution of duty-free

50

spirit to or for spirit subject to duty in the production of dutiable items. The second aspect is discussed in the following paragraphs. In relation to a component of the first, in response to a question by Audit on the steps taken to monitor and measure the poss­ ible loss of revenue from the production of duty-exempt substitutes for products which

are subject to duty, the Department advised that no formal monitoring occurred as such, although the level of representation from industry would suggest that such prod­ ucts do not provide serious competition to dutiable items. Audit considers that reliance on industry complaints is insufficient and that steps should be taken to collect more in­

formation on quantities of alcoholic beverages produced, such that the Department is better placed to provide policy input on these matters. In relation to the addition or substitution of duty-free spirit the following factors affect the risk:

• the similarity in appearance of dutiable and duty-free spirit • the high proportion of the sales price represented by the duty component

• the large duty value per potable unit volume

• the many and widely spread producers or sources of potential production, and

• the likely market for duty-evading sales. Prima facie, the probability of revenue erosion is high. This potential for erosion is evidenced by the finds of Inland Services’ control officers. During the 13 months ending December 1979, revenue resulting from Inland Services’ checks—revenue which would

otherwise not have been received—as reported to the Department’s Bureau of Com­ mercial Intelligence totalled $244 000 from 59 investigations.

2M, 2P, 2Q spirit In brief, the following controls apply to the production and sale of undenatured and specially methylated spirit (2M, 2P, 2Q): • a small number of licensed major distillers (2 companies only) clear spirit under

the appropriate Tariff Item to approved purchasers

• purchasers are registered with the Department to receive spirit for specified pur­ poses, and provide securities

• purchasers maintain records of receipts, use and stocks

• purchasers may be subject to periodic inspections to verify use, and

• where spirit cannot be accounted for satisfactorily, duty may be called up and per­ mits to receive spirit cancelled. The controls are based on restricting the use of undenatured and specially methyl­ ated spirit, obtaining data on the intended use and monitoring use. The Department advised that there is no hard evidence upon which a working estimate can be made of

the amount of potable spirit produced using either extension or substitution of the spirit content of potable spirit. The Department also advised that recent advances allowing the use of scientific analysis to distinguish various types of spirit have the potential to provide relevant data.

Surveys by Inland Services of users of spirit for uses other than the production of beverages revealed significant deficiencies including: • end-users failing to keep records (previously not detected as inspections of users were not performed)

® users failing to verify the quantity and strength of spirit received from suppliers, meaning that diversions in transit would not be detected

• users receiving spirit from non-authorised suppliers

• receipt or despatch of spirit under Tariff Items other than those under which the user/seller is authorised to receive/despatch (e.g. 2P or 2Q when authorised to receive 2M), the consequences being that end-user securities would not be enforceable

• 4 of the 6 N.S.W. companies surveyed “showed an almost complete lack of con­ trol of the spirit”, one company, e.g., was unable to account for over 4000 kilograms, or almost $80 000 (if dutiable), and

• 40 (18%) of premises visited in Victoria had one or more of such errors as records not up to date, available, or in correct form; errors in records; stock not accounted for and spirit not used in conformity with permit (samples drawn).

Another consideration is whether revenue erosion could occur despite apparently complete records. The resources used to assess applications for spirit use and hence to control spirit use were limited, e.g. in South Australia over 400 permit holders were notified and 185 approved by 2 persons in less than 6 months. Visits to the premises of applicants prior to approval were rare except for N.S.W. The difficulty of verifying spirit use by permit holders for approved purposes represents a fundamental control problem. Technical data on the use of spirit for various processes and detailed pro­ duction data from users are required to assess the validity of the quantities of spirit recorded as used for various processes. This capability was not evident. Moreover, field inspections were insufficiently frequent, detailed and comprehensive to detect situ­ ations where user records failed to validly and reliably reflect the actual use of spirit by

users.

The main techniques for control of industrial spirit are chemical analysis, monitor­ ing the use of spirit in production and effectiveness monitoring of finds versus controls applied. Central guidance on precisely what should be checked, why and how fre­ quently, are required along the lines of the risk management principles outlined in Appendix 1. Control is currently exercised through planned random checks, both physical and documentary, and by the analysis of product samples. The concentration of users favours a selective application of controls.

2 J spirit Controls over wine fortifiers and producers of fortifying spirit are in principle anal­ ogous to the controls over users of industrial spirit but are more intense. Control is, however, complicated by the greater scope for substituting 2J spirit (spirit for fortifying wine) for potable spirit subject to duty. Not only are there more producers, but there is greater scope for producers to divert product as grape stocks are used for many pur­

poses, most products not being under Inland Services’ control and stocks cannot be reconciled with 2J production. For example, grape stocks may be used for wine pro­ duction or for distillation as brandy or high strength spirit and only some of the latter may subsequently be cleared as 2J spirit (see figure below). 2J spirit is chemically closely similar to brandy, and is a ready base for liqueurs.

52

Grapes

r Dutiable production Non-dutiable production r ΛBrandyDistilled grape spiritWine r ΛExtension of potable spiritSpirit for fortifying wine(2J)Other uses (e.g. vinegar production)Producers and users are geographically dispersed and are generally under the super­vision of officers in outports or sub-collectorates. The major control checks are based on visits to distilleries and fortifiers to check the accuracy of records. However, these checks do not verify the physical addition of spirit and there is therefore scope for diver­sion. Inland Services has found instances of lessened control, including:• extension of whisky and vodka with grape spirite unrecorded production (25 000 litres of alcohol, or almost $0.5 million duty in one instance)• Departmental listings of approved fortifiers not kept up-to-date, and• movements of fortifying spirit without entry and clearance under 2J.On the basis of the controls applying at the time of audit fieldwork, Audit assessed 2J spirit as requiring more effective control. The basic problem is that an essentially free product can physically substitute for one costing $19.25 per litre. Supply of spirit for extension/substitution is facilitated because the spirit is produced from raw materials (grapes) which may produce many alternative products, only some of which are subject to Inland Services’ control. The Department proposed in March 1980 the establishment of a Working Party to examine existing controls over 2J spirit, and to report upon the efficiency of controls with recommendations for appropriate and feasible changes, in­cluding an implementation program. Subsequent to the completion of audit fieldwork. Audit was advised by the Department that enhanced control procedures had been introduced.Illicit productionDepartmental controls over illicit production vary among collectorates. The most successful programs in terms of numbers of prosecutions involve development of an in­telligence and information base primarily through the cultivation of informants, the in­vestigation of likely sources having regard to cultural influences and seasonal factors and selective investigation. From the figures available to Audit, controls are not cost effective on the basis of additional duty recovered although data are not available on53

the deterrent effect of controls. Eight and a half man-years (salary cost over $110 000) were invested in 1977-78 in search of illicit production leading to the recovery of duty of $19 000 representing 1900 litres of spirit. Almost 4000 litres of spirit and over 4000 litres of wash were seized in 1977-78 and 1978-79 (excise revenue of about $50 000) at costs of almost $250 000 for the 2 years. The Department advised:

There is no data available on the total production of illicit alcohol in Australia. The members of the spirit industry have a vested interest in preventing illicit activity and the lack of information from that source despite constant and direct requests tend to confirm the view that the production of illicit spirit is not significant.

Audit cannot disagree with this view. However, given that the duty liability from the daily production of an average still is about $700 there is sufficient risk for the Department to invest some effort in assessing the size and scope of illicit production based on extrapolating from finds.

Subject to substantial erosion not being evidenced, a deterrent approach based on cultivation of informants and wide publicity for seizures and fines, could be adopted as the most cost-effective approach.

4.4 Summary and Recommendations There is no question that a large and intricate control network is required to manage the risk for spirits given the incentives and many avenues for revenue evasion. The con­ trol task is faced with two conflicting requirements:

• receipt of duty payments late in the production/distribution chain close to the point of entry to the market thus affording minimum scope for extension or sale of illicitly produced spirit (however, achievement of control is made difficult by the release and use of a large proportion—over 90%—of alcohol production for non dutiable purposes), and

• assessment of duty liability early in the production/distribution chain to minimise losses or diversion prior to market entry.

Inland Services currently may be seen as trying to meet both of these requirements for both imported and Australian-produced spirit. It has attempted to meet these requirements by a co-ordinated series of checks from the point of production/importa­ tion, through maturation, transformation and bottling until home consumption release. The full process may be spread over several companies and several years.

The commodity control of dutiable spirit is clearly a difficult control problem. The difficulty originates in the relatively small proportion of total ethyl alcohol that is dutiable—in round terms customs and excise duty collections represent about $300 million per annum compared to the amount of over $ 1 billion that would be collected if all alcohol were liable to duty at the rate applied to the dutiable product. The difficulty is further increased by the high rate of duty per unit volume, together with the super­ ficial identity of appearance between the dutiable and over one third of the non- dutiable—that is, the proportion of the latter that is not denatured.

In Audit’s view, the major risk in this commodity area is the use of what need only be a small proportion of duty free production, be it alcohol produced by the major dis­ tilleries or spirit produced by wine fortifiers or vignerons, to extend or make up potable liquor of various kinds. In this regard out-of-bond bottlers, in Audit’s view, constitute a high risk of revenue erosion. These bottlers cannot be subject to licensing and the only controls available to the Department over extension of duty-paid alcohol with duty­

free are the general record-keeping systems required for duty-free alcohol production and distribution. An additional control over extension would be chemical detection of

54

the extender by State authorities. The interests of these authorities would be restricted to ensuring conformity with requirements relating to weights and measures and potability—not necessarily coincident with Excise requirements. Another area of control which is proportionately more important in the case of

spirits is that of losses accepted as an offset against excise charges. In terms of revenue foregone, this runs into several million dollars a year. Audit findings indicate that the Department’s control of losses is generally based on precedent rather than an objective assessment of the processes involved.

Within the framework of the current commodity control system, it is recommended that the approach suggested in Appendix 1 be applied. If the resources applied to the control task are to be kept within bounds and the integrity of the commodity control system is to be sustained, then a discriminatory application of effort to the areas of

highest risk is essential. Audit noted some information was collected by the Depart­ ment, comparing the wage costs of investigation with the revenue recouped. However, the approach was not applied sufficiently generally to the control of spirits. Further­ more, given that there may be opportunities for control to be tightened by more com­

prehensive and accurate measurements of production, the magnitude of the field in­ spection task could be reduced by applying such controls wherever it would be useful and feasible to do so. Audit did not explore in detail the operational options available to the Department

in striking a balance between investigative effort and revenue collected. However, given the difficulties of the control task it is conceivable that a sufficient level of control could never be achieved within the present framework without a disproportionate commit­ ment of control resources. Audit therefore recommends that, as part of a more system­

atic examination of current control procedures, the Department investigate other ways in which the revenue could be collected. An option which could be considered is an extension of Sales Tax levied at the wholesale level. Another available control instrument which could supplement the current or future

system is high resolution chemical analysis. Given that different beverages are derived from different raw materials e.g, rum from molasses, whisky from grain and brandy from grapes, techniques of analysis are available that distinguish alcohols fermented from different raw materials. Thus, whisky extended with sugar alcohol can be dis­

tinguished from the unadulterated product. Clearly, the feasibility of this control would depend on the uniqueness of the constituents of the product being adulterated and, fur­ thermore, on the stability of this uniqueness. That is, the datum provided by the pure product should not be subject to such variation as to mask the effects of adulteration.

Audit recommends that the Department investigate the feasibility and cost of chemical analysis as a control tool.

Appendix 5 Excise on Tobacco Products

5.1 Description of Process

Tobacco Products covered under the Excise Tariff 1901-1973 include manufactured tobacco, cigarettes, and cigars which attract excise duty at the rate of $12.58, $24.75 and $21.12 per kilogram respectively. Net excise revenue from tobacco products totalled $704 million in 1980-81 of which approximately 96% was in respect of cigarettes. This section of the report therefore concentrates on cigarette production.

Cigarettes are produced in Australia by a small number of major companies (3 in 1980). After the blending of imported and local tobacco the cigarette manufacturing process flow is continuous through to packaging. Local tobacco is held in dealers’ stores under Inland Services’ control in containers coded to identify the grade of tobacco and origin. Imported tobacco, similarly identified, is held in licensed warehouses under In­ land Services’ control. Local and imported tobacco is withdrawn from the stores prior to production and weighed. A customs entry is then made out for the weights of tobacco entered into production. This weighing operation determines the quantity of bulk tobacco introduced into production.

The bulk leaf is progressively mixed, shredded and cut for use in the cigarette mak­ ing machines. On-line monitoring determines that the weight of each cigarette is within specification. The tobacco flow is varied through signals from a monitoring station to ensure that each cigarette is close to the production norm which satisfactorily approxi­ mates the weight specified by the manufacturer and declared to Inland Services as the standard weight per cigarette. Samples of loose cigarettes (500 lots) are selected ran­ domly, weighed and compared with the declared standard weight. The overall process is set out in diagrammatic form in Figure 5.1.

5.2 Establishment of Liability for Excise Duty Assessment of the excise liability is undertaken late in the production process, on the basis of the weight of cigarettes produced, derived from the number and standard weights of individual cigarettes determined by the companies and declared to Inland Services. Some deliveries are made on a duty-free basis, for export use on ships and air­ craft and duty-free sales. Duty-free releases totalled about 0.2% of total cigarette production.

Customs duty is levied on imported tobacco. The rate of duty is reduced by 1% if at least 50% of local tobacco is blended with imported leaf in the manufacturing of cigarettes. Customs duty in 1979-80 amounted to $46 million. Locally produced tobacco is compulsorily sold through State Tobacco Boards with the details of pur­ chasers and the quantities purchased being provided for inspection by Inland Services.

It would be feasible to apply rigorous material balances to the process by relating weight of raw materials to the finished product.

5.3 Risks to Revenue Manufacturers are required to be licensed in accordance with the provisions of the excise legislation and regulations. Producers of tobacco and dealers in tobacco provide securities and must maintain records and submit returns.

56

F i g u r e 5 .1 T h e p r o d u c t i o n o f c i g a r e t t e s — d i a g r a m m a t i c

Cutting and shredding

On-line sampling

Sample weighing — loose cigarettes

Cigarette production

Packaging

Production recorded in inventory

Paper and filter

Imported tobacco

Local tobacco

57

Three broad control principles are required of manufacturers of tobacco products:

• accurate declaration by companies of the weights of tobacco products liable for duty and company control over deliveries • company control over the weighing of imported tobacco and the use of at least 50% Australian tobacco, and • regular reconciliation of physical inventory stocktake results against book stocks

for raw materials and for packaged stocks.

The two areas of control over measurement are the on-line monitoring in the pro­ duction process and the test weighing of cigarettes prior to packaging. If these two sources of measurement are compared, inconsistencies may be identified. The represen­ tative of the National Measurement Laboratories who assisted the audit in a consulting capacity stated in his report:

The most important measurement function is the weighing of the batches of 500 cigarettes to ascertain that production is maintaining the declared weight. Special weights are used for this weighing operation, one for each product type, and these are verified in the laboratory against weights which are calibrated. The company should be asked to produce the relevant calibration report and if this is not accept­ able the weights should be recalibrated and issued with a certificate under the rel­ evant Weights and Measures legislation. Further, the balances in the laboratory and

those used for the final batch weighing should be regularly serviced and certified by a ΝΑΤΑ registered laboratory.

5.4 Recommendations Given that measurement devices are adequate Inland Services’ controls involve verification of company records and assessment of their consistency with one another and with physical stocks. Audit recommends that greater attention should be given to reconciliation of raw material data with production data for the various producers. Further, Central Office should examine alternative sources of data on production vol­ umes. In particular it could compare production data with ABS retail data to provide useful checks on total revenue.

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Appendix 6 Excise on Petroleum Products

6.1 Description of Process Excise duty is levied on the following petroleum products:

Gasoline (General) Gasoline (Aviation) Kerosene (Aviation Turbine)

5.155 cents per litre 4.555 cents per litre 4.19 cents per litre

Total excise duty on these products for 1980-81 was $813 million. Of this approxi­ mately 95% relates to general gasoline (motor spirit). Petroleum installations are div­ ided into refineries, and licensed Customs warehouses which are used for storage or as the distribution point for the refineries. At 30 June 1981 there were 15 refineries and

about 150 other installations in Australia. All are licensed under the Excise Act as fac­ tories or the Customs Act as warehouses.

A general flowchart for the refining of crude oil and its subsequent distribution is shown in Figure 6.1. Once refined, the product leaves the refinery by pipeline transfer to storage depots or by ship or barge for coastal or harbourside depots. For land distri­ bution, the product is released to road or rail transport, generally from storage depots

directly linked to the refinery by pipeline. Losses include factory waste, evaporation and calibration differences.

Sale takes place when the product is received from the storage depot into the re­ ceiving depot and readings confirmed by both the despatching and receiving parties. This may be at the end of a long delivery line e.g. by coastal ship.

6.2 Establishment of Liability for Excise Duty Excise is levied at the point of sale, i.e. at exit from storage depots. Inland Services must therefore guard against diversion prior to that point. Loss of product between two points in the product flow, prior to release for domestic consumption, could occur

through natural losses, errors in measurement, or diversion. The production system in­ corporates the following controls:

Production Controls— the raw materials (crude oil) entering production for pet­ roleum products is discharged from oceangoing tankers or pipe line direct from oil fields into refinery tank farms. The refinery ascertains the quantity of shipments by tank dipping before and after discharge. The refineries monitor production losses experienced during the refining of the crude oil and physical security is maintained over exit points within the refinery to prevent theft. Generally, the product is not entered for home consumption directly from the refinery. Instead, the product is

transferred through warehouses or storage depots before entry into home consumption.

Transfer Controls—in respect of coastwise removals of the product from refinery to seaboard installations (storage depots) by ships, tank level readings are taken at the refinery before and after discharge to the ships and at the installation before and after discharge from the ship. Alternatively, where available, meter readings are taken. A similar procedure is undertaken for transfers by pipeline, barge, rail tank car and road vehicle.

F i g u r e 6 .1 R e f i n i n g o f c r u d e o il a n d s u b s e q u e n t d i s t r i b u t i o n — d i a g r a m m a t i c

0.02% to 2.0% actual loss 1 % loss = $ 10m revenue

Storage

Processing

Refineries Crude oil

Imported products

Storage depots (licensed warehouses)

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Inventory Controls—inventories in storage depots, etc., are determined on at least a weekly basis using tank readings taken at least daily. The storage areas are generally physically secure, release of the product is made through limited exit points and all loading of rail tank cars and road vehicles is supervised and, in most cases, metered.

Loading Controls—delivery records, with quantities calculated by meter or tank dips, are endorsed by the supervising officer to form the basis for billing. Administrative Controls—reconciliations of receipts, issues and inventories are

made at least weekly for the purposes of the weekly settlement of excise payments, and losses, highlighted as balancing items in the reconciliation process, are moni­ tored and investigated if considered excessive. Company controls also involve rec­ onciliation of all transfers as well as refinery losses.

Measurement Controls—measurement of the product is by way of tank level or meter. Tank dips either utilise mechanical devices or are manually performed. The measuring rods in both cases are calibrated using standards by authority of e.g., the relevant State Department of Weights and Measures. Similarly, meters are

calibrated in accordance with standards and are checked by independent (in many cases) companies on a regular basis. Calibration of vessels and meters follow codes and procedures set down by the American Society for Testing Materials (ASTM), the Institute of Petroleum in England, the American Petroleum Institute and other

national standardisation bodies. Having regard for its current assessment of risk and resources capability, the Department advised that it had elected to commence its control program with rec­ onciliation checks on transfers between refineries and warehouses, and conclude with

the delivery of product through the gate into home consumption except where “end use” concessions are concerned. Checks of quantity transfers between refineries and warehouses were not standard at the time of audit field work.

6.3 Risks to Revenue Audit assessed Inland Services’ activity as operating at 3 levels: • checking the clerical accuracy of weekly returns as the basis for excise duty pay­ ments (100% check)

• observation of weekly inventory counts (tank dips), and • visiting storage depots to check the records of firms.

Customs officers examine stock control records at depots to evaluate the reliability of product flow details provided by oil companies in support of weekly entries for home consumption. In essence, the objective is to verify clerically the internal consistency of records of firms and support this with physical checks. Weekly return details are

checked with firm records of receipts and deliveries which are in turn used in the firm’s payment and billing systems. The objectives of the Inland Services’ checking revolve around substantiating the relationship between sets of company figures that should be inter-related, e.g., those

associated with product movement such as sales reflected in delivery records and inven­ tory movements. The objective is not specifically geared to ensuring that all production is accounted for, either as being still in stock, being sold and excise paid thereon or being a bona-fide production, storage or distribution loss inherent in the flow process. Neither

is the ultimate accuracy of the quantities transferred checked, notwithstanding that these are basic to the calculation of revenue liability.

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There is an implicit assumption in Inland Services’ present approach that all the product flows down the line through the measurement process, with no diversion of product prior to measurement. However, investigations are not carried out to justify this assumption. If initial production is not known, there is no way of ensuring that it is all properly accounted for. Audit is of the view that the Department has no indepen­ dent check of the total duty liability.

The Department has advised “loss” as the difference between the book balance of a particular product and the actual or physical stock in a storage tank. The actual stock is ascertained by dipping the tank. Losses can be disallowed; those that are not disallowed are termed legitimate losses, and constitute the loss which, in the opinion of the Collec­ tor, has not gone into home consumption and therefore on which duty is not payable. There is no formal definition of a legitimate loss, leaving it to individual officers to inter­ pret the legislation (Sections 35A, 99 of the Customs Act). In practice, losses declared by companies are generally accepted, (more than 99% in 1977-78 and 1978-79). Losses are generally rejected only where a clerical error appears in company records or returns supporting entries, or where, without adequate company explanation, a loss appears excessive when compared with that depot’s average loss.

Within the Refinery—Collectors are required by legislation to assess and consider for acceptance all losses occurring during production and up to the point where the product leaves bonded premises for home consumption. However, losses are not monitored for all refineries and, though accepted by Customs, there is no check per­ formed by the Department to assess their accuracy or nature.

The Department has advised that it would, in theory, be possible to institute a step by step control from receipt of feedstock (i.e. crude oil), monitoring both non-excisable and future excisable products (through the refinery), but at greater cost than the poss­ ible revenue leakage. However, in Audit’s view it would only be necessary to measure the flow of petroleum from the point it is produced. Mass balances between raw materials and all products would provide an approximate indication of losses appli­ cable to excisable petroleum. From figures provided by oil companies to Inland Ser­ vices the petroleum loss within refineries varied between .02% and .28%.

Transfer between Refinery and Depots—It has been suggested to Audit that these losses are predominantly measurement errors which will be balanced further down the line of product flow by measurement gains, but no reconciliation has been undertaken to support this assumption. Against the background of advice tendered by the National Measurement Laboratory, the gains and losses reported by companies could be considered excessive. Currently available flow measurement devices are routinely capable of an accuracy of one part per thousand (0.1%). In a random sample taken by audit from company records, losses ranged from 0.6% gain to 1.9% loss giving a weighted average of 0.4% loss. This average, if applicable to all production, would represent approximately $5 million in excise.

Within Depots—Losses and gains declared by oil companies are not subjected by the Department to detailed technical assessment and are accepted by Collectors without comprehensive reference to formalised or reviewable technical criteria. In­ land Services’ officers undertake random checks of depot records to substantiate the records supplied by companies in support of entries. The checks generally involve checking issues and receipts for particular periods, thus assessing closing balances which are carried forward as opening stocks for subsequent periods. It is considered that these purely clerical checks are of only limited usefulness, because of the ab­ sence of any reconciliation of initial production with product entered for home consumption.

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Meters have been installed within many depots by oil companies to measure prod­ uct as it leaves the depot. In some Collectorates the meters are checked for accuracy on a regular basis by State Government Weights and Measures authorities. Elsewhere, meters are checked periodically, rather than regularly, by meter provers not responsible

to State Government Weights and Measures authorities and not necessarily indepen­ dent of the oil companies involved. Such meter proving is rarely supervised by depart­ mental staff and its regularity is not closely monitored. Officers of the National Measurement Laboratory and the National Standards Commission assisted the audit in a consulting capacity to comment upon the measuring

processes for refined petroleum products in one State, the State not being one where a State Government authority checks meters. Their joint report is included as an attach­ ment to the Audit Report. While accepting as satisfactory some of the procedures fol­ lowed, they also state:

There is serious doubt about the quality of some of the standards used for cali­ bration of meters . . . The procedures and techniques used by private calibrating companies have not been the subject of any objective assessment but some cali­ bration reports ... leave a good deal to be desired. The Department's attention has been drawn to the recommendations included in the

report. At date of preparation of the Audit Report, Inland Services had drawn the attention of the oil companies to this question and discussions were taking place to de­ termine the action to be taken. The complex nature of oil refineries and long storage/distribution lines may provide

opportunities for product diversion. There was no investigative effort by the Depart­ ment to establish the possibility of such diversion by, for example, an examination of refinery layouts.

6.4 Recommendations Given the complexity of the refining industry, Audit recommends that detailed con­ sideration be given to introducing measurement of total production immediately the product assumes the characteristics of petroleum. The burden of proof for losses should

then be with the producers, but Inland Services would use a technical capability to vali­ date loss claims. The Department should initiate discussions with oil companies, as­ sisted by independent expertise in flow measurement of the kind required in complex processes, with a view to examining the cost/benefit and technical implications of in­

stalling accurate flow measurement devices immediately downstream of dutiable com­ modity production. As part of these considerations, it should also review the technical skills it would need to facilitate its assessment of company claims for losses. The inves­ tigative strategy would be reoriented toward technical assurance of the production accounting system and away from clerical confirmations of the internal consistency of

returns.

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Appendix 7 Excise on Diesel Fuel

7.1 Description of Process

Since September 1957, diesel fuel has been subject to customs and excise duties or tax when used for diesel-engined road vehicles on public roads. Excise duty payments amounted to $ 119 million in 1980-81.

About 75% of diesel fuel consumption is either off public roads or in stationary plant and exempt from duty. Duty-free releases in 1978-79 amounted to 5.73 billion litres, representing, if excisable at the current rate ($0.05155 per litre) $295 million. Over 60 Inland Services’ staff were engaged on administering diesel fuel excise through­ out Australia at 30 June 1981. In 1978-79, $710 000 in revenue resulted directly from Inland Services’ investigations at an administrative cost of $370 000. During the six months ending December 1979, revenue totalled $260 000 at a cost of $200 000.

The Customs and Excise legislation provides for:

® imposition of customs and excise duty on diesel fuel for public road vehicle usage • application for exemption certificates by persons who must satisfy the Minister that diesel fuel is required for purposes other than propelling road vehicles on public roads • the return of certificates which may be revoked for any reason • payment of rebates for persons who use duty-paid fuel for duty-free purposes • imposition of a tax on diesel fuel purchased free of duty and subsequently sold or

otherwise disposed of to persons not entitled to duty-free fuel (non-certificate holders) • imposition of a tax on diesel fuel purchased free of duty but subsequently used in propelling road vehicles on public roads • the maintenance of records enabling all fuel purchased by certificate holders to be

brought to account • the recovery of revenue due to the Commonwealth, the authority for officers to make inspections and require persons to attend and answer questions or produce documents, and • various penal clauses in relation to the above.

An overview of the diesel fuel system as provided by the legislation is presented in schematic form in Figure 7.2. At 31 December 1979 there were over 85 000 registered diesel-engined road vehicles in Australia. At this time there were 467 173 certificate holders throughout Australia. There were also about 26 500 certificate holders who had declared themselves to the Department as operating diesel engine road vehicles. The

Department terms these “dual users”.

7.2 Establishment of Liability for Excise Duty The duty payment and entry systems are designed to meet the following constraints:

• all diesel fuel is excisable and entry for home consumption is required in accord­ ance with the legislation, and • determination of the duty status of fuel is undertaken at the point of sale. The system of product flow for excise purpose is shown in Figure 7.1. Excise is lev­ ied on diesel fuel leaving the depots, i.e., on sale. Sales information is based on computer

64

F i g u r e 7 .1 D i e s e l f u e l — p r o d u c t f l o w f o r e x c i s e p u r p o s e s — A u s t r a l i a

Sales information

Duty-free sales Schedules

Agents —

Refinery

Service stations

Storage depots

Oil company h/q

Non-Certificate holders and certificate holders

purchasing duty-paid diesel

Certificate holders purchasing duty-free

diesel

----------------- Duty-paid movements

----------------- Duty-free movements

— ... — Crude oil

Product movement prior to Inland Services controls ----------------- Information flow

print-outs of sales by storage depots. Total sales are adjusted for duty-free sales based on schedules of duty-free sales submitted by agents, who are the only sellers authorised to sell diesel fuel to certificate holders at duty-free prices. At 31 December 1979 there were 4013 agents throughout Australia. The onus is placed upon agents to ensure that

duty-free sales are made only to certificate holders and to maintain records to account for all sales (duty-paid and duty-free).

Certificate holders are required to maintain records to account for the purchase and use of all fuel and to notify the Department in writing and to remit the tax owing for fuel used for road vehicles on public roads. Applications for rebates of duty on fuel pur­ chased at duty-paid prices and subsequently used for exempt purposes can be made ac­

companied by the original sales documentation.

65

F i g u r e 7 . 2 S y s t e m f o r l e v y i n g d u t y o n e n d - u s e o f d i e s e l f u e l

Fuel sold at duty- paid price (a)

End-use dutiable; adjustments not in order

End-use not dutiable; rebate in order

Fuel sold at duty-free price to certificate holders only

Yes- Used

on road

End-use dutiable; tax payable

• No

End-use not dutiable; adjustments not in order

(a) Sales are made to certificate holders and non-certificate holders. Certificate holders purchase duty-paid product if

intended for use on roads and duty-free fuel for off-road use. Non-certificate holders purchase all fuel duty-paid.

7.3 Risks to Revenue

The discriminatory nature of the excise duty on diesel fuel adds another dimension to control of revenue in that the user need not confine its use to duty-free purposes. Were it not for this discrimination, its control would be similar to that applied to petroleum. Exemptions are approximately 4 times taxed consumption. The potential revenue at risk is therefore substantial. Based on data collected by the Australian Bureau of Stat­ istics, the consumption of diesel fuel for public and private road use was 2215 million litres for the 12 months ending September 1979, yielding a possible estimated revenue of $114.2 million. The revenue actually collected in 1978-79 was $98.7 million. A lim­ ited survey of the extent of private road use (and non-dutiable), by the Department in August 1981, suggested that about 10% of the difference could be accounted for, leaving an apparent shortfall of about $4 million or 4%.

The areas of potential revenue erosion that Inland Services must guard against are therefore:

• diversion of product up-stream of the storage depots • understatement of storage depot sales, and • usage of duty-free diesel fuel for dutiable purposes through action of agents or certificate holders.

As discussed in Appendix 6, verification of refinery production requires additional measurement devices. Few oil companies submit returns showing losses and throughput of diesel products within depots. Reconciliations of sales to production or deliveries from depots to production are not performed. The Department’s knowledge of the excise liability is dependent on sales information supplied by companies. Revenue is at risk to the extent that recorded sales may not represent the total excisable production. Subsequent to audit fieldwork the Department advised that companies now provide re­ turns on statements of operations.

66

Oil companies directly control the movement and storage of diesel fuel in storage depots between its exit from refineries and despatch to agents and they supply sales de­ tails supporting duty payments. These details are reconciled with excise payments and are the prime control measure, both for detecting sales recording and general account­

ing errors affecting the revenue and for planning investigations. Audit has doubts as to the adequacy of this analysis because of:

• limited guidelines for and training of staff given the complexity of the data • lack of quality control over checks • reported inconsistencies among States in use of data, and • restricted access to oil company computer printouts outside State capitals where

printouts are held. With regard to the verification of the initial integrity of the oil company computer systems and subsequent monitoring the Department advised: At the time each oil company moved to computing processing for sales, customer

accounts and stock control purposes ... (from 1969 onwards) ... an examination had been made of the total system which is a fully integrated operation. After extensive cross-checking of the systems approval was given to Collectors to accept the result­ ant printouts as being a true account of sales.

Audit considers that there should be steps to verify the continued integrity of the sales printouts. In response to a request for comment on the reconciliation of diesel fuel sales with the production of diesel fuel the Department advised: It would not be impossible to undertake reconciliation of diesel fuel from pro­

duction to the point of sale should a Collector consider that there was revenue erosion... Such an exercise would be extremely time consuming and require experi­ enced staff which, because of the tax revenue risk, could be better utilised in more productive and higher revenue risk areas. As for other commodities, the Audit view is that the potential revenue leakages be­

tween production and payment should be systematically monitored, particularly as ac­ curate flow measurement could be largely automated. Another area subject to control is the sales by agents of duty-free fuel to certificate holders. Revenue is eroded if:

• duty-paid sales are scheduled as duty-free sales • unsubstantiated product losses are scheduled as duty-free sales • duty-free sales are made with the knowledge that the fuel was to be used for a non-exempt purpose, and

• duty-free sales are made to persons without certificates. About 10% of agents are investigated annually. The low probability of detection given the large number of agents relative to Inland Services staff and the incentive and scope for malpractice implies a high risk of revenue erosion.

The major risk associated with certificate holders is that fuel purchased on a duty­ free basis will be used for dutiable purposes without payment of duty. Certificate holders have the opportunity to use duty-free fuel in public road vehicles without pay­ ing duty. The chances of detection, given the numbers and the difficulties of establishing

an offence, are not great. The annual amount involved with a person using a single motor vehicle for normal non-business running would be of the order of $100. Audit noted that because certificates were not issued on a basis subject to renewal require­ ments, holders retained valid certificates when they no longer required them.

67

There is scope to stratify certificate holders by use. For example, in Western Australia records are kept of all users of duty-free fuel in excess of 1 million litres annu­ ally. These data show that about 70 certificate holders consume over 70% of the duty­ free fuel used in that State. This should afford the opportunity for discriminatory inves­ tigation of users enabling maximum volume coverage with minimum resources.

The Department should consider increased use of ADP, in particular, the potential for data transfer between its computers and those of the companies currently submit­ ting computer-produced returns. The ability to interrogate company printouts through the Department’s system would facilitate comprehensive, timely and economic analysis of company returns, leading to identification of major users of duty-free diesel fuel and of consumption trends over time.

Investigations of agents and certificate holders are conducted within Collectorates on an area basis. Within these areas the onus is largely placed upon individual investi­ gation officers to determine their own priorities for investigation. It is noted, however, that following the 1977-78 Inland Services review, greater emphasis has been placed upon identification of the main areas of revenue vulnerability. Computer printout analysis has been used in State capital cities (e.g., South Australia and Western Australia) to provide guidance to sub-collectorates in resource deployment. The

1977-78 Review also recommended that work programs be defined for stated purposes. However, Audit found that Collectors were not able to program investigations on an adequate basis of statistical information covering past investigations and estimates of costs, revenue and resource availability. Such investigations have not been justified in terms of net benefits.

In the Department’s 1976 survey of diesel fuel investigations it was found that some investigations returned much more revenue than others. Metropolitan based investi­ gations in oil company State offices in 1975-76 resulted in over $300 000 in revenue at a cost of under $40 000. On the other hand, investigations outside metropolitan areas yielded only about $5000 in revenue at a claimed cost of over $16 000. In between these extremes were metropolitan based more remote investigations (costs as percentage of revenue 60%), metropolitan and near metropolitan local investigations (costs as per­ centage of revenue 79%), and outport based local investigations (costs as percentage of revenue 98%).

Audit found little evidence of a systematic process of allocating investigative re­ sources along the lines suggested by the model developed for the evaluative framework proposed in Appendix 1. Given the relatively heavy investment in investigative re­ sources and the total revenue at risk, Audit considers the Department should develop such an approach.

Development of the investigation program should be linked to a parallel develop­ ment of a set of credible penalties applicable to evaders. A starting point to such an ap­ proach could be a grading of revenue risk simply on a basis of the present quantum of duty-free consumption claimed by major users; other criteria that could be applied could include:

• nature of duty-free use e.g., stationary plant having a relatively steady, predict­ able, consumption pattern or seasonal or fluctuating use • degree of dual use as between dutiable and non-dutiable • past record of errors detected in returns, and • other background information on the quality of internal management controls ap­

plied by the consumer.

68

Such an approach would need to be supported by a formal reporting system to en­ able management to:

• evaluate the validity of the approach and its cost-effectiveness, and • following such review, plan future investigations.

7.4 Recommendations Consideration should be given to verifying refinery production by the introduction of additional measurement devices. The potential for revenue leakage between diesel fuel production and duty payment

should be systematically monitored. This requires reconciliation at least on an occasional basis of diesel fuel from production to the point of sale.

Investigations should be programmed on the basis of costs and benefits. This re­ quires continuing assessment of investigations and other control tasks undertaken at the field level. Implementation of an effectiveness measurement system is central to an ad­ equate program. The data base resulting from this implementation should also include

intelligence information generated through operational audit. The risk management approach put forward in this report should be the basis of resource deployment. Cri­ teria that might be applied in this system include:

• nature of duty-free use • degree of fuel use as between dutiable and non-dutiable purposes • past record of errors detected in returns, and • information on the quality of internal management controls applied by the

consumer.

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Appendix 8 Bonded Warehouses

8.1 Description of Process and Liability for Duty

Bonded warehouses are for the purposes of deferring payment of customs or excise duty until the commodity is released for home consumption. The major justification for the bonded warehouse system, which has been in operation in Britain for several hundred years, is the facility it affords the Government for levying duty (perhaps at a rate up to several times the duty-free value of goods) without imposing heavy cash liquidity bur­ dens on importers. It is noted by Audit that the necessity for the present controls de­ rives from the policy of not levying the duty until the goods are released for home consumption.

Five types of warehouses may be distinguished:

• general warehouses to be used for warehousing goods generally • private warehouses to be used only for warehousing goods which are the property of the licensee • machinery warehouses to be used only for warehousing machinery and similar

heavy or building goods • manufacturing warehouses to be used for warehousing goods for such use under conditions prescribed, in a warehouse used in any manufactured goods trade or process or for the carrying on in such warehouse of any trade in manufactured

goods or process of goods, and • transit warehouses to be used only for the temporary warehousing of goods.

The audit concentrated on general, private and transit warehouses which involve the work of a large proportion of the Inland Services’ investigative staff responsible for warehouses. Licensed warehouses pay annual fees of $ 1300 and $5 for each entry. Based on just

over 1000 licensed warehouses, annual Commonwealth revenue would be approxi­ mately $1.3 million in licence fees and $450 000 for 90 000 entries—total annual rev­ enue of the order of $1.7 million. These charges when established in 1969, were intended to cover two-thirds of the cost of surveillance by Inland Services staff. At the time of review, Audit could not locate any recent assessment of the present rate of cost recovery. Given the inflation-induced cost increases over the past 12 years, charges should be reviewed with a view to returning at least the proportion of the cost of sur­ veillance adopted in 1969.

Following subsequent Audit enquiries, the Department advised that during Sep­ tember 1980/February 1981 fees were reviewed, and were subject to Ministerial con­ sideration as at the date of Report preparation.

Licencees maintain records of movements of under-bond goods, so that customs officers can perform documentary checks and verify physical stocks against records. Goods may be transferred between warehouses subject to the approval of Inland Ser­ vices for each movement or through use of the “Continuing Permission” facility whereby approved users may transfer goods without notifying Inland Services before­ hand. Details of entries and releases are also maintained but kept separately on the ADP system. If they were merged, they could provide details not only of the balance of inventory on hand, but also of the time goods had remained under bond. An unusually extended dwell time may suggest the possibility of items that may have been released without notification. Audit was advised that considerable ADP systems redesign is

70

required to make such data available but that studies of ADP support to full inventory control are being examined. Reliance is currently placed on examination of licensed warehouse records, an imperfect and labour intensive control.

Bond stores operations are simple “in-hold-out” operations wherein goods remain untouched during storage and the recording of movements is a basically simple inven­ tory recording system. The potential duty is known once the goods are declared on entry into Australia. However, goods may be received under-bond on single transaction permissions or continuing permissions which are not recorded through ADP facilities. ADP studies now going on into full inventory control may lead to resolution of this problem.

Control over the timing of the payment of import duty on goods moving into bond stores rests with bond store operators in that their decisions to move goods determine when duty is payable. The main control objective with licensed warehouses is to ensure that duty is paid before goods are released for home consumption.

8.2 Risks to Revenue Inland Services’ approach centres mainly on validating the details of entries submitted against warehouse records and inventory. On each visit attention is also paid to ware­ house security and licensees are advised of any shortcomings.

The extent of checking varies between officers and Collectorates but generally covers a 100% check of documentation on all items entering the warehouse (to ensure that they are taken up on inventory records) and up to 100% check of inventory records for items leaving warehouses. The goods released for home consumption are compared

with the entry documentation to ensure that the tariff classification and value for duty are correctly described and duty correctly calculated. Physical checks of stock are car­ ried out on a random basis. However, this check largely relies on case markings and is

directed at counting cases. Cases are not generally broken open at this stage.

At the time of the Audit Office’s feasibility study in 1978 the Audit team submitted a digest of its findings to BACA and commented on the fact that the systems for physi­ cal inspection of goods ex-ship in Sydney allowed goods going into bond store to by-pass physical inspection. The Department has since acted to correct this weakness.

Firms are classified as having low, medium or high risks of default in the payment of duty liabilities. The major factors which are taken into account in this assessment are the complexity of the records, the co-operation of management and the results of pre­ vious Inland Services’ examinations. This classification of risk is one factor which deter­

mines the frequency of visits which may be varied after the results of each field visit are available.

In the planning of field checks the volume of transactions is taken into account rather than their value. The ADP system will produce, on specific request, the value of duty generated by any one licensed warehouse but this information is apparently sel­ dom utilised by Inland Services staff. On Audit request, figures were compiled on ware­

house turnover and disclosed that in New South Wales 128 (42%) of the 305 ware­ houses generated 97% of the revenue for the year ended 30 April 1980. This would suggest that the field checking could be oriented towards this 42% to protect the major part of the revenue. There was no evidence that this was the case.

Detailed knowledge of operators’ control systems and turnover is critical for plan­ ning investigations. The approaches may vary for different operators. Low risk companies with high turnover may require little more than a minimum sample check whereas higher risk companies, even with low turnover, may require more extensive in-

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vestigation. Furthermore, more effective use of resources could be achieved by selec­ tively checking movements of goods which have been indicated by the ADP records as exhibiting unusually long dwell times. If, for some reason, a more comprehensive check of a store is required, discrimination in favour of those goods having the highest quan­ tum of duty liability could also be applied. Such an approach should be less demanding of investigation resources than the present check. Alternatively, a more thorough examination could be achieved within the same resources by, for example, a more com­ prehensive stocktake of selected goods.

For those stores which do not exhibit, prima facie, characteristics that would enable a rationally based discriminatory investigatory approach Audit suggests a sampling ap­ proach would be more cost-effective than a 100% check. The size of the sample would be determined by the confidence sought for estimates of the proportion of the number

(or value) of items that have been released from the store without Nature 30 entries.

The above approaches would be consistent with the model outlined in Appendix 1. Essentially, the investigation strategy should be directed at allocating resources to areas of greatest revenue risk. An essential part of such an approach would be a formal, com­ prehensive reporting system to enable management to best allocate its resources be­ tween and within the areas within its responsibility. These reports should not only de­ tail the results and cost of investigations but should also indicate other, possibly less quantifiable, factors that management should take into account.

Under “Continuing Permissions” Inland Services is notified of movements of goods only when duty is paid on them before they are released for home consumption. Up to that point the goods could have been subject to movements of which Inland Services would be unaware. Goods moving through import stations (wharves, airports, etc. under Customs control) are normally entered on a Nature 20 document, or a Nature 10 document (for goods on which duty is paid on clearance ex ship, plane, etc.), or, if little duty is involved, cleared through an informal clearance system. However, goods covered by a “Through Bill of Lading”, i.e., final destination in another port, may enter an import station and pass through without physical inspection and be moved under “Continuing Permissions” to either another import station or a bond store in the port of destination. The consignee may then clear the goods on a Nature 10 document without the goods having been subject to Customs’ physical surveillance. The Department advises that procedures have now been reviewed and that new instructions will soon be

issued to prevent movement without opportunity of physical inspection.

With this facilitation procedure, control would be compromised if:

• goods could be imported and allowed to move between ports without Customs documentation, providing ample apportunity for someone to obtain some or all of the goods before they come under Customs surveillance, and • goods imported into bond stores were not subject to physical check.

The Department has recognised these gaps in control and has been paying special attention to this area. Proposals to resolve the problem were considered at the 1978 Collectors conference and at meetings of the Board of Management in 1979. Sub­ sequently the Bureau of Customs restricted the Continuing Permission system to the prime movers or goods (e.g., international shipping and airline companies) and excluded local carriers or Customs Agents. The movement of sea or air cargo to li­ censed warehouses was not to be allowed and movements were only to be allowed to and from import stations, container depots or holding areas.

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Specifically, the main problem area, undocumented movements to licensed ware­ houses, was now to be covered by Single Transaction Permissions. This would cover undocumented import cargo which previously moved freely under Continuing Per­ missions. The new system required applicants to convince Collectors that goods would

be moved for valid reasons thus justifying the concessions sought (permission to move undocumented goods away from direct Customs control). All movements would need to be justified.

The Department has taken initiatives in attempting to close a large gap in the con­ trol system over imports. Unfortunately the system, due to commence in early 1980, met with some difficulties in implementation apparently requiring considerable adjust­ ments from commercial users to meet such a radical change. At the date of preparation of this report, the initiative had not proceeded.

The Department should expedite the corrective measures needed to close this gap in the control system.

8.3 Recommendations Audit recommends that a risk management approach in this area should include more systematic use of sampling, should concentrate on goods with particularly high risk or of particularly significant value and should consider the introduction of systems to

identify unusually long dwell times as an indicator of potential revenue risk.

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