The power of paper: Documenting tax compliance

As the Halloween season ends, the Philippines continues to be haunted by “ghosts,” manifested in the form of ghost projects or ghost receipts. While these issues may seem unrelated, they share a common challenge in en-suring that transactions are properly documented. Adequate documentation is crucial in preserving an audit trail that validates the construction of infrastructure and the payment of taxes, establishing transparency and ac-countability that are imperative for economic stability and governance.

The Bureau of Internal Revenue (BIR) has taken significant steps against ghost receipts through its Run After Fake Transactions (RAFT) program. This initiative has resulted in the filing of multiple criminal and civil cases against those who have allegedly bought and sold fake receipts to illegitimately inflate their expenses or claim undue input VAT credits. The proliferation of fake receipts unjustly reduces the income tax and VAT liabilities of those who use them. While cracking down on fake receipts addresses tax leakages caused by overstated expenses, it may not be as effective in tackling leakages through understated revenue.

There are multiple ways to fight understated revenue. Tax auditors usually compare the differences between financial statements and tax returns to help identify misstatements and underreporting. Since financial statements are presumed to fairly present the financial position of the taxpayer, any irreconcilable discrepancies in the revenue reported in the financial statements with that reported in tax returns are indications of possible understatement.

The BIR may also resort to using third-party information under the BIR’s Reconciliation of Listings for Enforcement (RELIEF) System, where any inconsistencies reported by the taxpayer and those by third parties are as-sumed to indicate possible under-declaration of revenue. Theoretically, every transaction results in revenue on the part of the seller and expenses on the part of the buyer. While buyers have the option to claim a lower ex-pense, more often than not, buyers are likely to report their expenses in full to offset against revenue and reduce tax liabilities. This information may then be compared against the revenue reported by the seller. In such cas-es, the seller is usually left with the burden of reconciling differences based on the disclosures of other taxpayers.

In theory, the RELIEF system is a valuable tool in ascertaining a taxpayer’s tax liabilities. However, it is not without downsides. Since the taxpayer is often not privy to the facts behind the third-party information, it is gen-erally unable to accurately address the discrepancies identified. Moreover, RELIEF effectively assumes that the third-party information is accurate while the disclosures of the taxpayer being audited are not. As repeatedly held by our courts, tax assessments should not be based on mere presumptions no matter how reasonable or logical such presumptions may be. The presumption of correctness cannot be made to rest on another presump-tion. Thus, findings primarily based on RELIEF can be refuted solely on this ground, unless further supplemented by other information which will give the taxpayer sufficient information to provide a reconciliation.

Intense enforcement operations have been implemented by the BIR through its Oplan Kandado program, which imposes administrative sanctions for non-compliance with essential requirements such as the issuance of receipts, filing of returns, declaration of taxable transactions, among others. This is primarily implemented through covert surveillance, overt surveillance, or short-duration surveillance. In case the taxpayer is found with certain violations, such as the non-issuance of receipts of a VAT registered taxpayer, the BIR may ultimately order the closure of the establishment for not less than five days, to remain in force until the violation is rectified.

Aside from the usual audit, technological innovations like the Electronic Invoicing/Receipting System (EIS) aim to ensure the reliability of sales and purchase data, which may further reduce opportunities for tax evasion. Un-der the EIS, taxpayers engaged in the export of goods and services, electronic commerce, and large taxpayers are required to issue electronic receipts and invoices, which allow the transmission of sales data directly to the BIR. Strengthening the integrity and reliability of sales data should provide a more accurate way of investigating tax liabilities. However, implementation of the EIS has been a bit slow.

More interesting measures have been implemented in other countries such as Taiwan’s receipt lottery system. Instead of imposing penalties and empowering the tax agency with broader audit functions, Taiwan has approached the issue more positively. The receipts issued by establishments contain lottery numbers. This encourages consumers to ask for receipts, ensuring that a paper trail is available for tax purposes. The lottery ticket embedded within the receipt is claimed to incentivize tax compliance passively, by embedding it in consumer behavior. Similar campaigns have been launched by the BIR in the past which require the registration of the receipt through Short Mes-saging System (SMS) to qualify as a valid entry. Given the success of the previous campaigns, it may be worthwhile to consider incorporating a similar program during the development of the Electronic Invoicing System.

Ideally, there should be no need to coerce or incentivize people to pay their taxes. However, it is equally understandable why some hesitate when trust in the system is compromised. The power of paper is clear; it can either be a conduit of corruption or a catalyst for progress. When taxpayers truly feel the benefits of their contributions, compliance feels less like an obligation and more like a civic duty.

The views or opinions expressed in this article are solely those of the author and do not necessarily represent those of Isla Lipana & Co. The content is for general information purposes only and should not be used as a sub-stitute for specific advice.

Marvin Joseph Manuel is a senior manager at the Tax Services department of Isla Lipana & Co., the Philippine member firm of the PwC network.

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manuel.marvin.joseph@pwc.com