Revenue Tax Briefing Issue 49, August 2002
A revised Code of Practice is being introduced for Revenue Audits. This article provides an overview of the provisions in the new Code and highlights some of the differences between the revised Code and the Code which has been in operation for the last number of years.
Before finalising the revised Code, a wide consultative process was carried out with members of staff and representatives of the accountancy and tax practitioner professions. The revised Code is Revenue’s considered response to the issues raised. We are confident, that like its predecessor, the revised Code will lead to further benefits for both Revenue and practitioners alike and contribute significantly to an improved culture of tax compliance.
The key changes in the revised Code are outlined in this article. They are as follows:
The original Code covered Income Tax (including inter alia PAYE/PRSI and RCT), Corporation Tax, Capital Gains Tax and VAT. The scope of the Code is being extended to cover audits of Capital Acquisitions Tax and Stamp Duties. This reflects the major restructuring taking place within Revenue and an objective within Revenue that all audits will operate under one general code. (Modifications apply in respect of some individual taxes and duties). The Code will be extended, in due course, to cover audits of Customs and Excise.
One of the major changes in the revised Code concerns the Revenue approach to the mitigation of penalties. In the original Code, penalties were mitigated based on Co-operation, Voluntary Disclosure, and Scale and Gravity. A “one size fits all” approach resulted and, in general, the only factors, which influenced the mitigation of penalties, were factors which took place after the default had occurred. The new code addresses this issue by introducing a level of mitigation based on the category of the default which gave rise to the penalty.
The other major change in the Code is to stipulate that, to avail of the substantial levels of mitigation, which arises from the making of a disclosure, such a disclosure must be made in writing and be signed.
■ Innocent Error
The revised Code specifically recognises that not every type of an adjustment, which arises during the course of a Revenue audit, will result in a penalty. Fraud or negligence must be present before a penalty can arise.
■ Technical Adjustments
These are adjustments that arise from differences in the interpretation or application of legislation. The revised Code sets out the conditions to be met for a technical adjustment not to attract a penalty. The auditor must be satisfied that
The treatment of the position taken by a taxpayer in relation to a particular item depends on a number of factors such as:
The new table for the mitigation of penalties in the revised Code is set out across. The mitigation of a penalty will depend on the following factors:
Category of Tax Default
Net Penalty after mitigation where there is:
Co-operation and a Prompted Qualifying Disclosure
Co-operation and an Unprompted Qualifying Disclosure
■ Fixed Penalties
The Tax Acts include many provisions where fixed penalties (normally relatively small) can be applied. The tax-geared penalty collected under the provisions of the revised Code is deemed to include any fixed penalty due.
■ De Minimis Exclusion
Penalties will be mitigated to nil where relatively minor shortfalls in the Insufficient Care category occur. If, as a result of an audit, the total tax shortfall in respect of which penalties are computed does not exceed €3,000 and the shortfall is exclusively within the Insufficient Care category, no penalty will be applied.
For this exclusion to apply, all of the tax defaults which attract a penalty and which arise during the course of the audit must be in the Insufficient Care category. If a tax default arises in any of the other two categories, the exclusion does not apply.
For example, an audit is carried out and there are tax shortfalls in a number of categories of default totalling €10,000, of which €3,000 falls within the Insufficient Care category. In this case, the penalty will be computed by reference to the total shortfall of €10,000.
The Finance Act 2002 contains changes to the publication provisions. Any settlement where the penalty element in the settlement does not exceed 15% of the amount of the tax included in the settlement will not in future be published. This effectively means that publication of the name of the taxpayer will not apply to any tax shortfall in the category of Insufficient Care, provided full co-operation is received from the taxpayer during the course of the audit.
There are three categories of tax default, by which penalties are mitigated in the revised Code. They are as follows:
The following paragraphs outline how the new mitigation scheme will operate in practice.
■ Insufficient Care
At the core of the revised Code is an emphasis on the obligation on taxpayers to take the appropriate amount of care to ensure that correct returns for tax purposes have been made. The table shows that the taxpayer who takes insufficient care in making a declaration or return is liable to pay a penalty.
To fall within the category of Insufficient Care, the test to be applied is whether the taxpayer has taken the care that a reasonable person should take to meet his/her tax obligations.
For example, a taxpayer whose only explanation for omitting an amount of income from a tax return was that he/she forgot, would not, in the absence of any other relevant factors be accepted as having taken reasonable care.
The following are among the factors that are taken into account in determining whether a penalty in the category of Insufficient Care is to be applied.
This list is not exhaustive and does not replace the need to make a decision on the facts of each case.
The penalties applicable to a tax shortfall in the category of Insufficient Care are outlined in the table above. The shortfall penalty is initially mitigated to 20%. This can be mitigated further to a penalty of 15% if the taxpayer co-operates during the course of the audit. Greater mitigation is available if the taxpayer makes either a prompted or unprompted qualifying disclosure.
■ Gross Carelessness
A taxpayer does not have to act dishonestly to find that he/she has acted with gross carelessness. Rather it is sufficient that the taxpayer’s behaviour displayed a high degree of carelessness and indifference to the consequences.
A taxpayer would be seen to behave with gross carelessness if:
Indicators consistent with gross carelessness on the part of the taxpayer would include the following, to the extent that they lead to significant tax shortfalls:
Gross Carelessness is distinguished from the higher category of default, i.e. Deliberate Default by the absence of indicators in the facts and circumstances of the case that are consistent with intent on the part of the taxpayer to disregard his/her tax obligations.
Gross Carelessness is distinguished from Insufficient Care primarily by reference to the size of the tax shortfall relative to the correct tax liability concerned.
For general guidance the revised Code provides that if a tax shortfall arises from lack of due care on behalf of the taxpayer and the shortfall for the particular tax type exceeds 15% of the tax finally due for that tax type, then a penalty in the category of gross carelessness applies.
The 15% guidance is used only for distinguishing defaults in the category of Insufficient Care from those in the category of Gross Carelessness. It has absolutely no relevance whatsoever in determining whether a default in the category of Deliberate Default has taken place.
The 15% guidance is to be applied separately to each tax type and period in respect of which a return is due to be made by the taxpayer. Tax for this purpose includes Income Tax, Corporation Tax, Capital Gains Tax, VAT, Relevant Contracts Tax, Employers’ PAYE/PRSI and levies, Capital Acquisitions Tax and Stamp Duties.
Audits can give rise to tax shortfalls in one or more of the default categories.
For example, a comprehensive audit is carried out for the year 2000/2001. The adjustments that arise as a result of the audit are outlined in the following table.
Assuming these defaults do not fall within the Deliberate Default category, the category of tax default appropriate to each element of the settlement is as follows:
The penalties applicable to a tax shortfall in the category of Gross Carelessness are outlined in the table above. The shortfall penalty is initially mitigated to 40%. This can be mitigated further to a penalty of 30% if the taxpayer co-operates during the course of the audit. Greater mitigation is available if the taxpayer makes either a prompted or unprompted qualifying disclosure.
■ Deliberate Default
This is the most serious category of tax default and involves a deliberate attempt to deprive Revenue of taxes that are lawfully due. This may include a taxpayer failing to return all the income of a business or obtaining refunds knowing that he or she is not legally entitled to them.
It arises where:
Examples of indicators consistent with deliberate default would include:
An example of deliberate default discovered during an audit is where sales were significantly understated over a number of years and the proceeds were lodged to a bank account not previously disclosed to Revenue.
The facts of this case indicate intent on the part of the taxpayer to deprive Revenue of taxes which are lawfully due. The appropriate category of tax default in this case is Deliberate Default.
The penalties applicable to a tax shortfall in the category of Deliberate Default are outlined in the table over. The initial shortfall penalty is 100%. This can be mitigated to a penalty of 75% if the taxpayer co-operates during the course of the audit. Greater mitigation is available if the taxpayer makes either a prompted or unprompted qualifying disclosure.
As can be seen from the mitigation table over, there is a substantial degree of mitigation available to a taxpayer who co-operates throughout the course of the audit. In order to avail of this mitigation the Code sets out the following conditions:
Examples of a lack of co-operation include:
In the previous Code, there was no requirement that disclosures made must be in writing.
The revised Code introduces a new concept called a “qualifying disclosure”. There are three main benefits which will arise if a qualifying disclosure is made. These are:
The conditions attaching to a disclosure for non-publication purposes are contained in Section 1086 (4) TCA 1997 and do not include the stipulation that the disclosure be in writing. The term Qualifying Disclosure has been introduced to draw a distinction between the conditions attaching to non-publication and those attaching to the other benefits. The main difference is that a qualifying disclosure must be made in writing while a disclosure for non-publication purposes need not be made in writing.
An unprompted qualifying disclosure is a disclosure made before the taxpayer is notified of an audit or contacted by the Revenue regarding an enquiry into his/her tax affairs.
A prompted qualifying disclosure is a disclosure made after a taxpayer is notified that an audit is to be conducted, but before an examination of the books and records or other documentation has begun.
The mitigation table sets out the mitigation benefits available for both types of qualifying disclosure. The level of mitigation available for an unprompted qualifying disclosure is substantially greater than that which applies to a prompted qualifying disclosure. This reflects the importance that Revenue places on such disclosures and the benefits which are available to taxpayers who regularly review their tax compliance position.
The following conditions must be satisfied for a disclosure to be a qualifying disclosure for the purpose of mitigation of penalties:
■ Qualifying Disclosure – Exclusions
A disclosure will not be a qualifying disclosure if any of the following circumstances apply:
■ Time to prepare Qualifying Disclosure
It is obviously important that a qualifying disclosure is comprehensive and fulfils the conditions as set out above. Revenue recognise that a substantial amount of work may be necessary to prepare such a disclosure. Therefore, Revenue will allow a period of time, not exceeding 60 days, to prepare such a disclosure. To avail of this timeframe, Revenue will need to be informed of the taxpayer’s intention to make a qualifying disclosure.
To avail of the 60-day period in the case of an unprompted qualifying disclosure, the taxpayer must notify the Audit District of the intention to make a disclosure before:
In the case of a prompted qualifying disclosure the Audit District must be notified of the intention to make the disclosure:
During the 60-day period the taxpayer/agent can contact the Audit District to discuss the appropriate tax default category, if any, for the tax shortfall, or any other matter. The period of 60 days will begin on the day notification was given to Revenue of the intention to make a disclosure. The taxpayer will be informed in writing of this time period.
As already mentioned, the qualifying disclosure arrangements do not affect the entitlement of the taxpayer, who has been notified of an audit to make a disclosure, for the purpose of avoiding publication, at any time before an examination of the books and records or other documentation begins.
All qualifying disclosures should include the following:
The revised Code provides that the taxpayer need not describe the portion of the payment which refers to penalties as penalties but may instead describe it as a payment on account without prejudice.
■ Examination of Disclosure
Revenue recognise that taxpayers are entitled to know if the qualifying disclosures made are being accepted or are going to be examined. The policy, set out in the revised Code, is as follows:
A selection of unprompted qualifying disclosures will be examined for accuracy. If such a disclosure is not selected for examination, the taxpayer is informed that on the information to hand Revenue do not propose to make further enquiries
All prompted qualifying disclosures will be examined to verify the details disclosed. Additional underpayments arising from this inspection will not negate the benefits from the disclosure if such underpayments are not significant.
Where a qualifying disclosure is made, Revenue will not initiate an investigation with a view to prosecution of the taxpayer.
A taxpayer may be investigated with a view to prosecution where:
Having considered such cases Revenue may decide to proceed on the basis of investigating with a view to prosecution or on the basis of seeking a monetary settlement.
To encourage compliance and deter evasion the level of mitigation of penalties associated with qualifying disclosures is restricted in respect of second and subsequent disclosures which relate to defaults in the categories of Deliberate Default and Gross Carelessness.
This effectively gives a taxpayer a once only chance to avail of the full benefits attaching to a qualifying disclosure if the default is in either of these categories.
The restricted mitigation is as follows:
The revised Code introduces a new concept of self-correction of tax returns. Revenue wishes to encourage taxpayers to regularly review their compliance position and is introducing a timeframe within which corrections can be made to tax returns without any penalty arising. Taxpayers will be allowed to self-correct tax returns, without penalty, subject to the following conditions:
The following time limits will apply in respect of self-correction:
The benefit of self- correction will not apply after Revenue has notified a taxpayer of an audit or contacted the taxpayer regarding an enquiry or investigation relating to his or her tax affairs.
Self- correction in accordance with this section will not result in an audit. However, an audit of the return may arise based on normal selection procedures.
Once the time limits listed above have elapsed the taxpayer will still be entitled to benefit from a qualifying disclosure.
Examples of self-correction are as follows:
Revenue has reviewed its position in respect of what came to be known as “No Loss of VAT” cases. The resultant policy is set out in the revised Code.
The new procedures are as follows:
Interest and penalties will not be pursued in respect of VAT on transactions, other than supplies to exempt or partially exempt companies:
The “group” is a group of companies satisfying the following conditions:
Revenue is introducing a separate basis for mitigating penalties in circumstances where the issue involved concerns a difference between the valuation originally submitted with the return and the valuation eventually agreed. This is a concept which already exists in Capital Acquisitions Tax and Stamp Duty. The basis is set out in the revised Code. Where reliable evidence has not been supplied in support of a taxpayer’s valuation, penalties are to be mitigated by reference to the following criteria:
Ascertain the difference between the valuation figure finally agreed and the original valuation.
The revised Code will come into effect from 1 September 2002 as regards audits which are notified on or after that date. As regards audits which had been notified but which have not been settled before 1 September 2002, the taxpayer may chose whether the settlement is to be made under the terms of the revised Code or the original Code.
The revised Code will come into effect as regards qualifying disclosures or self-corrections where the qualifying disclosure or self-correction is made from now on.
The revised Code will be available shortly in hardcopy from any Tax Office. It will be published on the Revenue Website on 16 August, under the heading publications. You can access the Revenue Website at www.revenue.ie.