The financial year 2005-06 has been an eventful one for tax administration and for the role of my Office. As at 30 June 2006, I have completed two reviews during the year and reported on them to the Minister, and I have another five reviews underway as follows:
- review into Tax Office audit timeframes (Report to Minister, 19 July 2005);
- review into aspects of the Tax Office management of litigation (Report to Minister 18 May 2006);
- review of the potential revenue bias in private binding rulings involving large complex matters (commenced August 2005);
- reviews into the Tax Office’s ability to identify and deal with major, complex issues within reasonable timeframes. These reviews comprise three ‘case study’ reviews (commenced October 2005) with potential for a fourth, summary report. The three case studies comprise:
– a review into the Tax Office’s handling of living away from home allowances (LAFHAs), – a review into the Tax Office’s handling of service entity arrangements, and – a review into the Tax Office’s handling of research and development syndication arrangements;
- follow up review into the Tax Office’s implementation of recommendations included in reports prepared by my Office (commenced 29 June 2006).
A full list of all reviews completed since my Office was established is on my website, www.igt.gov.au. How long particular reviews take can be a reflection of their breadth, the extent to which they raise issues which are challenging for the Tax Office, and also the level of cooperation afforded. The review of the Tax Office's management of litigation, for example, was a particularly long review and absorbed more than a third of my total resources for more than a year. Relationships with the Tax Office during the year have been considerably strained in respect of some reviews, with several legal opinions being sought on either issues identified in a review or on the scope of my powers to obtain information generally. The Treasury, as coordinator of the Treasury portfolio, has also been involved in some of these matters. Obtaining legal opinions on my information gathering powers has been undertaken jointly and cooperatively across the three Treasury portfolio agencies. The review into aspects of the Tax Office’s litigation management, in particular, could have proceeded more smoothly and quickly had the Tax Office shared information with me earlier than it did, especially legal opinions it sought in connection with the review. However, these difficulties have not been the universal experience. Tax Office cooperation and responsiveness has been satisfactory in other instances. The impact on my Office’s productivity has been frustrating; but I believe that these experiences will generally turn out to be positive and provide a new platform for relationships into the future. The legal opinion on my information gathering powers both uphold the strength of my ability to undertake reviews as intended by the Parliament and clarify the approaches which should be followed by all concerned. In 2004 the Commissioner and I agreed a protocol aimed at promoting a cooperative working relationship between us and our agencies. It should have enabled a partnership to develop around the mutual aim of improving tax administration. As a result of the difficulties experienced this year and with the clarifying legal opinion we have jointly sought, I expect that we will undertake a joint review of the protocol and that this will enhance my ability to undertake my role into the future in a timely, efficient and cooperative way. The opinion sought by the Tax Office from the Solicitor-General and Chief General Counsel of the Australian Government Solicitor, in connection with the review of the Tax Office litigation management will also, I believe, have a significant positive influence on future tax administration and perhaps even more broadly. The opinion, together with a supplementary opinion, is included in my report on the Tax Office Management of Litigation (which was released in August 2006). Aside from formal reviews I have continued to have regular correspondence and discussions with the Commissioner and other senior tax officials which have resulted in improved administration in a number of areas. Examples include the withdrawal of a misleading Draft Public Ruling and Tax Office consideration of improvements to applications for private binding ruling proformas. The Aggressive Tax Planning (ATP) area has been particularly open to discussion and suggestions for change, and has made improvements to the way the Tax Office has communicated with and reached resolution with some employee benefit arrangements (EBA) taxpayers.
Public sector stakeholders
The Commonwealth Auditor-General and the Commonwealth (and Taxation) Ombudsman also scrutinise the Tax Office from their perspectives. My office is in regular contact with these agencies. The roles of each agency are different and we have sought to communicate with each other regularly to ensure that there is no unnecessary duplication of the reviews we conduct.
Community and private sector stakeholders
I am pleased to report that community and private sector stakeholders continue to maintain a strong interest in my role and contribute to my work programme. I meet with all key private sector stakeholders at least twice a year to consult with them in formulating my ongoing work programme. In 2005-06, I have found that establishing specific stakeholder reference groups for some particular reviews has provided valuable insights into taxpayers’ direct experiences of Tax Office approaches. While my role is to identify systemic improvements in tax administration, I welcome the opportunity to obtain information from individual taxpayers, tax agents, and community leaders, including parliamentarians. I have also found that the ongoing development of relationships with tax administrators and my equivalents in other countries has enabled an invaluable sharing of experience and comparison of ideas and approaches to both generic issues in tax administration, and as input to particular reviews.
Issues and changes in tax administration
As indicated earlier, 2005-06 has been another eventful year in tax administration including:
- the change of Commissioner (from 1 January 2006) and other senior leadership changes at the Tax Office;
- the implementation of key recommendations included in the Report on aspects of income tax self assessment (ROSA);
- the implementation of promoter penalty laws;
- the commencement of a comprehensive inquiry into tax administration by the Joint Committee on Public Accounts and Audit (JCPAA); and
- the Government’s reiteration of its intention to introduce a new regulatory framework for tax agents.
These are all important and influential developments. The full impact of some of these events is yet to be understood. As a keen observer of these events and processes, and through undertaking an ongoing programme of reviews during the year, I am in a position to identify issues of both concern and optimism for the future of tax administration in Australia.
The Tax Office’s administration of the law
I am concerned about how the Tax Office approaches interpretation and administration of the law in some significant cases and the potential for this issue to be systemic. The Treasury has recently summarised the role of the Tax Office as being ‘… through a statutorily independent commissioner, responsible for the general administration of (tax) laws, which includes their enforcement and providing advice on the Commissioner's interpretation of them as well as the day-to-day collection of revenue.’ I would only add that the community expects this role to be undertaken objectively and without fear or favour from any quarter. In this respect, I notice that the Tax Office from time to time seems to blur the gap between tax policy and administration. I note that the Commissioner has recently said that the role of the Tax Office ‘... is that of implementing the policy objectives of tax legislation through the management of administration systems.’ I have noted signs that the Tax Office is willing to interpret and administer the law in line with its view of policy even if the letter of the law does not adequately support it. There are also examples of the Tax Office being prepared to challenge court decisions because the law does not deliver policy intent (even though legal advice from the Solicitor-General says that the correct path in that situation is to seek changes to the law). The policy intent behind the law is an important input to interpretation; but in the final analysis it cannot supplant the law itself. Propping up deficient tax law because it does not deliver policy intent should not be part of the Tax Office’s approach. It is important for the Commissioner to reaffirm to his staff and to the community that his role is that of administration and enforcement of the laws as enacted by Parliament and interpreted by the courts. The Commissioner notes his role of bringing to the Government’s attention matters where the tax laws are not operating in accordance with their policy intent. That is as it should be; but the extent to which it is done and is effective depends largely upon a strong commitment to the rule of law on behalf of the Tax Office. To again quote the Commissioner, ‘This requires a high level of integrity and courage where the proper application of the law produces an inconvenient result.’ I am concerned that achieving necessary fixes to tax laws can be a long and sometimes fruitless path for the Tax Office. The Treasury has recently noted that necessary tax law amendments are tacked on to other tax Bills and that regular Bills dedicated to tax amendments are therefore not required. In my view, the current ad hoc process is an unsure and inadequate means of addressing in a timely manner all the fixes that need to be made.
Tax Office culture and values
The new Commissioner’s emphasis on living out values as a mission for his administration is to be welcomed. Aims of improving fairness and transparency in tax administration are also part of my role as intended by the Parliament. I note that being a fair administrator involves being free from bias, and being honest and just. There is a strong community expectation that the Tax Office will live out these values in particular in its administration. During the year I have observed examples of the Tax Office behaving in ways that could undermine community confidence in the ability of the Tax Office to be fair, transparent and to act in accordance with the principles of the rule of law. While I acknowledge that the Tax Office has a different view of this, its refusal over an extended period to apply decisions of the court in Essenbourne, now ratified by the courts in five other cases (including most recently in the test case of Indooroopilly), are a poor reflection on its values and culture. More importantly, the practical ramifications of maintaining multiple (income tax and FBT) assessments in employee benefit arrangement (EBA) cases has been damaging to the taxpayers involved notwithstanding the Tax Office's poorly communicated stance of only collecting on one type of assessment only. In its current letters to remaining EBA taxpayers who have not yet reached a settlement with the Tax Office, the Tax Office is finally acknowledging this damage. The Tax Office’s write-up of this situation in its recent Moving on — Aggressive Tax Planning document is disingenuous. It fails to mention the number of other cases where the courts have applied the Essenbourne principle. It also implies that it is acting as a good administrator in bringing a test case to decide the matter, but fails to mention that it has taken four years to do so (Indooroopilly, which has again agreed with Essenbourne, but that at time of writing is under appeal by the Tax Office). The document also infers that improvements to its approaches have been made at its own volition rather than from external pressures on the Tax office to modify its treatment of cases not yet settled and finalised. Taken as a whole, the Moving on document is a good example of how the Tax Office is prepared to put a positive emphasis on a relatively complex matter to avoid external criticism. For an office claiming to be transparent and accountable, it seems to me that the Tax Office too often will not acknowledge that it has done things incorrectly or could have done things better. The Tax Office does acknowledge the obvious point that it is not perfect and on occasion admits to being acutely aware of past criticisms; but these general concessions fall well short of openly considering (and if necessary, admitting) if it contributed to some specific things going wrong. During the year I have also noted indications that the Tax Office continues to place consistent (one size fits all) treatment of taxpayers and getting closure in their cases above foundational values such as fairness even where it acknowledges that taxpayer circumstances vary materially within the group. When dealing with large or significant groups of taxpayers, more attention seems to be given to managing the risk that consistency of process has been followed in finalising a similar issue than ensuring every case in the group is finalised fairly on its own merits. Even where the Tax Office seeks to differentiate, I have noted a need for more explanation to help the community understand how Tax Office decisions on differing compliance treatments for different entities are relevant in the circumstances, and how overall they reflect a consistent compliance approach. This need appears strongest in comparing the way that the Tax Office dealt with all individuals caught up in the mass marketed tax effective investments (MMTEIs) and all businesses involved in EBA arrangements as against the relatively concessional treatment afforded to most companies (some 80 per cent in respect of Research and Development syndication arrangements and most (smaller) entities involved in service entities. Essentially, all 42,000 MMTEI individual taxpayers and all 9,000 EBA taxpayers were pursued by the Tax Office including those who had relatively small amounts involved. By contrast, the Tax Office has effectively let off the majority (around 200 of a total of 245) of R & D Syndicates, only pursuing those with deduction claims greater than $3 million. Those with claims below $3 million appear never even to have been told there was an issue. With Service Entities, the Tax Office adopted a highly selective audit approach and eventually announced that it would not audit prior year returns of entities that met certain tests, one of which is that the amount of fees paid to its service entity was less than $1 million. In its Compliance Model the Tax Office has a well-regarded and sophisticated framework to guide it towards a full understanding of a taxpayer’s circumstances, and from there to decide appropriate and tailored compliance treatments. However, Tax Office culture tends to result in by-passing the full Model in favour of making premature and simplistic judgments. This appears particularly to be the case where the Tax Office considers that tax avoidance might be involved and that Part IVA anti-avoidance provisions might apply. I have observed a pattern of long delays and switching from one compliance strategy to another when this culture prevails. The Tax Office has also become extremely adept at managing issues in the media and protecting its public image, ostensibly as part of maintaining community and Government confidence in its administration. This approach is not always consistent with being transparent; and there are signs that a habitual use of ‘spin’ is an obstacle to honest reflection, and to learning from mistakes and constructive criticism. My work in 2005-06 leads me to conclude that there are real challenges for the Tax Office to advance beyond the culture of pre-judgment and sugar-coated public communication that currently characterises parts of its administration, towards the value–driven administration that the new Commissioner envisages.
Viability of tax agents
The self assessment system relies heavily on tax agents. Almost all business tax returns and some 74 per cent of personal tax returns are lodged through tax agents — some nearly 10 million returns in all. As well, almost 50 per cent of Business Activity Statements are lodged by tax agents. Tax agents are a crucial interface between taxpayers and the Tax Office. Taxpayers confronted with complex laws in a self assessment system put substantial trust in their tax agent to meet their obligations in a timely way. In my submission to the JCPAA, I raised a number of concerns about the long-term sustainability of the tax agent industry given their ageing profile, uncompetitive position for recruiting new blood, the difficulties of maintaining professional knowledge, and a range of other reasons. The Tax Office has itself noted that some 24 per cent of tax agents are expected to leave the industry within the next three years. The Commissioner has also acknowledged that the tax system is complex and that there is a heavy reliance by both the Tax Office and ordinary taxpayers on well-regulated advisers to cope with this complexity. Without tax agents, the system would not function. In my submission to the JCPAA I expressed the view that the system cannot have it both ways — on the one hand to accept that people cannot cope without going to tax practitioners; but on the other, not accept that they should be unequivocally protected when they do. I have therefore welcomed the Government’s re-commitment to introducing the new regulatory regime for tax agents which was originally announced as policy in 1998 and the provision of substantial additional funding to the Tax Office to put it in place. If implemented as originally announced, the safe harbour provisions will provide protection for taxpayers from penalty where taxpayers have taken reasonable care by going to a tax agent and providing them with all the information needed to comply. Implementation of the regulatory aspects of the new regime will need to avoid compounding the already significant risks to the long term viability of the tax agent industry.
Certainty for taxpayers
In my JCPAA submission, I also expressed concern that more could be done to provide taxpayers with certainty and protection where they had taken reasonable care to get things right. This was in spite of significant improvements resulting from the implementation of the recommendations included in ROSA. Regarding a need for more certainty, I noted that while a predominantly post-issue approach is taken to compliance, there is no reason why the Tax Office could not do more to identify and examine particular issues before finalising a tax assessment (at time of lodgment) in areas where taxpayers’ self assessment of the law is known to be problematic or in areas of income tax that the Tax Office perceives as being high risk.
Forward work programme
Tax Office approaches to settling and finalising issues with taxpayers
Recent public debate and representations to me during the year have focused on a range of aspects of the settlement and finalisation of tax matters, including:
- the Tax Office’s consistency, transparency and conduct regarding settlements/finalisation of matters with taxpayers, including those negotiations taking place during audits and before amended assessments are issued;
- the quality of Tax Office audit and objection resolution procedures and the administrative framework that governs these areas, in the context of potentially unnecessary litigation; and
- the application of prosecution policies in the context of settling and finalising issues.
This will be a significant and wide-ranging review and may result in several separate reports to the Minister.
Non-lodgment of income tax returns
In my Annual Report last year, I noted that the Tax Office has to make risk management choices that result in some compliance work not being done. I observed that, as a result large numbers of lower risk cases can accumulate in areas such as debt and lodgment. Information supplied by the Tax Office shows that many millions of non-lodged individual income tax returns appear to have accumulated over recent years and that large amounts of revenue (outstanding unpaid tax and refunds) may be involved. This review would examine how well Tax Office lodgment strategies are dealing with non-lodgments and explore a potential undue reliance on tax agents. It would also examine the adequacy of support and flexibility that the Tax Office provides to tax agents and if the framework and rules for lodgment provide the Tax Office with adequate flexibility in a risk management environment. A substantial amount of initial fact-finding, scoping and planning for this review has already been undertaken in 2005-06.
Follow up review of completed reviews and their recommendations
I announced in June 2006 an intention to formalise a process of monitoring the implementation by the Tax Office of recommendations arising from completed reviews conducted by my Office. I see a need to undertake a review in a visible and accountable way to ensure an open process. I will seek to obtain evidence of a commitment to timely implementation of agreed recommendations and Tax Office policies and procedures in respect of implementing these recommendations. The review will also examine processes adopted by the Tax Office, where relevant, to communicate to taxpayers changes brought about by the implementation of the recommendations. I will also determine whether the Tax Office has addressed systemic issues identified in the various completed reports.
I announced in February 2006 my intention to add to my future work programme a potential review of Tax Office approaches to GST audits.
Pursuant to subsection 41(2) of the Inspector-General of Taxation Act 2003 there were no directions to undertake reviews given by the Treasurer or the Minister for Revenue and Assistant Treasurer to the Inspector-General under subsection 8(2) of the Inspector-General of Taxation Act 2003 during the year. In setting my work programme, I have taken into account the requirements of subsection 9(2) of the Inspector-General of Taxation Act 2003 and have consulted with the Commonwealth Ombudsman and the Commonwealth Auditor-General.
The Office of the Inspector-General has enjoyed ongoing consistent staff retention. Towards the end of the year I recruited a new adviser to the Office, Mr Peter Glass. Peter has a Master of Laws (Tax) from the University of Sydney and is admitted as a legal practitioner. Peter has experience in the ATO and as a tax practitioner, and has worked as an advocate for the Institute of Chartered Accountants in Australia (ICAA). I am pleased to have been able to attract and recruit high calibre staff, especially in today’s competitive market. I am grateful for very competent and loyal staff who are keen to work with me in seeking to improve tax administration for the benefit of all taxpayers in an environment where we have very limited resources at our disposal. My staff and I will continue to bring together an empathy with taxpayers and an understanding of Tax Office operational issues to ensure that significant and workable improvements in tax administration are achieved. David Vos AM Inspector-General of Taxation
The Inspector-General of Taxation Act 2003 established an independent statutory agency to review:
- systems established by the Australian Taxation Office to administer the tax laws; and
- systems established by tax laws in relation to administrative matters.
The Inspector-General seeks to improve the administration of the tax laws for the benefit of all taxpayers. This is to be achieved by identifying systemic issues in the administration of the tax laws and providing independent advice to the government on the administration of the tax laws. To ensure that reviews undertaken reflect areas of key concern to the Australian community, the Inspector-General develops a work programme following broad-based consultation with other stakeholders including taxpayers and their representatives, the Commonwealth Ombudsman, the Commonwealth Auditor-General and the Commissioner of Taxation.
Inspector-General of Taxation services
The Inspector-General is an independent adviser to the Government on systemic issues in the administration of the tax laws. All reports by the Inspector-General to the Government are required to be either tabled in both Houses of Parliament or to be made otherwise public by the Government.
The Inspector-General and his Office need a range of skills to deliver to the Government the services required. These include:
- a broad understanding of the tax laws;
- a broad understanding of the business environment;
- investigative and analysis skills to identify and understand systemic issues in tax administration;
- a capacity to conceptualise and analyse systemic issues within the broad tax context;
- relationship skills to develop and maintain excellent relationships with both public sector and private sector stakeholders; and
- writing skills — the ability to present facts, argument and suggested solutions in a cogent form on systemic tax administration issues.
For the Inspector-General to be effective in his role, he and his Office must foster productive working relationships across government, public sector stakeholders (particularly the Commissioner of Taxation and his Office) and private sector stakeholders. Although independent of both the Government and the Commissioner of Taxation, the Inspector-General must have an understanding of overall government policies and the role and activity of the Commissioner of Taxation. The main public sector stakeholders are the Commonwealth Auditor-General, the Commonwealth and Taxation Ombudsman, the Commissioner of Taxation, the Treasury and the Board of Taxation. Private sector stakeholders include those set out in Table 3. Table 1: Resources for Inspector-General of Taxation outcomes