Implementing VAT: Problems and Experiences

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Implementing VAT Problems and Experiences
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First Global ITD Conference on VAT 15-16 March
2005 Rome, Italy

• Juan Toro
• Commissioner
• Internal Revenue Service of Chile
• (Servicio de Impuestos Internos de Chile, SII)

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Agenda
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OF WHAT?
OF PROBLEMS OF COURSE, SO MANY WHAT

• What is the VAT to administer?
• What organization is needed to administer VAT?
• What does VAT compliance mean?
• Is there any self-assessment system to administer
  VAT compliance?
• What are the critical VAT liabilities in a
  self-assessment system?
• What are the critical areas of non-compliance?
• What are the strategies to control VAT
  compliance?
• How to measure the effectiveness of VAT
  compliance?
• Some final comments

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1. What is the VAT to administer?
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VAT design implies several policy options to be
taken

• Type of VAT consumption product - or income -
  type?
• Origin or destination principle?
• VAT tax base
• Definition of activities or agents liable for VAT
• Exempt activities
• Stages to be taxed manufacture - retail
  multistage?
• Thresholds to be liable for VAT or simplified
  (presumptive) regimes for small taxpayers?
• Rate differentiation single rate or multiple
  rates?
• Method to determine VAT liability invoice- or
  subtraction- or addition method? Cash or accrual
  basis?
• Treatment of excess VAT credits (input VAT)
• Refunds - carry forward - offsetting?
• Exporters - capital goods - exempt activities?

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VAT in Chile
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• In 1975 a consumption-type (destination
  principle) VAT was introduced.
• Multistage tax on imports, sales of goods and
  services, VAT on input credited against VAT on
  output.
• Exemptions professional services, financial
  interests, life insurance, house rental without
  furniture, sale of used cars (partial), tickets
  for cultural and sport events, providers of
  public transportation, education and health
  services (partial).
• No threshold for VAT small taxpayers could apply
  to a special regime output VAT is fixed by the
  SII and real input VAT could be credited for
  temporary activities the SII assesses VAT
  liability.
• 19 general rate additional consumption taxes
  (VAT-type) for some products house building has
  a special credit, in addition to real VAT on
  input also credited against VAT debit.
• Invoice method on accrual basis to determine VAT
  liability
• Exporters (g. and s.) are zero-rated, carry
  forward for excess VAT credits with refunds after
  6 months for purchases of capital goods.

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VAT in Chile,some problems
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• Since 1975, VAT has changed mainly because of
  compliance problems
• 1976 unification of sales and services, tax on
  basic and primary products.
• 1984 refunds after six months of carry forward
  (VAT credit) was eliminated.
• 1985 introduction of refunds for capital goods
  after 6 months of carry forward.
• 1987 VAT on construction sector (first sale of
  building).
• 2001 VAT on used capital goods.
• Tax base design and exemptions for service sector
  make it difficult to control VAT compliance,
  especially on export of services.
• Method of taxing construction sector induces
  re-organization of enterprises sale operations to
  reduce VAT liability.
• Partial exemptions induce mistakes (or evasion)
  by wrong treatment of exempt and taxed sales to
  recover VAT credits.
• Most public transportation providers have
  presumptive regime for Income Tax (ITax) purposes
  - no incentive to use invoices.
• Invoice method implies control of VAT documents
  is crucial (false invoices) self-enforcing
  feature is not always effective.
• Refunds are a strong incentive to commit fraud
  (false exports, or purchases of capital goods, or
  invoices to increase VAT credits).

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2. What organization is needed to administer VAT
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• VAT could be a broad-based and high-yielding tax
  to administer, so what is the best organization?
• Some alternatives by taxes/ by taxpayer
  segments/ function-based.
• Chile has a function-based organization with some
  tax-segment features.
• At National level several divisions are related
  to VAT compliance
• 2 Audit Divisions (i) VAT Operation (other
  similar for ITax), and (ii) Selective and
  International Audit (also oversees ITax and other
  txs).
• 1 Legislative Division Indirect Taxation, in
  charge of technically administrative VAT
  legislation.
• 3 Legal Divisions (i) Prosecution of False
  Invoices, (ii) Prosecution of Illegal Trade, and
  (iii) Prosecution of Tax Fraud.
• At Regional level, 3 departments oversee
  compliance with general taxes
• Compliance Control (massive checking of VAT
  liabilities)
• Audit (selective examination through an annual
  plan)
• Judicial (prosecution of tax fraud at operational
  level).
• There is also a Large Taxpayers Unit (LTU) that
  oversees LT Compliance, including VAT compliance.

Coordination, sharing practices and information,
compatible IT systems, clear orders to regional
level, unified control and audit activities, ARE
MAJOR CHALLENGES.
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3. What does VAT compliance mean?
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Model of invoice method for VAT compliance
(paper)
Original
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4. Is there any self-assessment system to
administer VAT compliance?
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• Self-assessment means taxpayers have the
  responsibility to comply with tax laws and
  regulations.

• VAT compliance is related to several liabilities
  and rights

• Registration (including update of register
  information).
• Use of VAT documents, invoices, final consumption
  receipts, goods delivery documents (guías de
  despacho) and bookkeeping.
• Filing returns and payment of VAT (including
  refund claims).
• Response to control, audit, penalty procedures
  and access to appeal process.

• Three compliance risks under self-assessment
  system
• There is not enough knowledge-education about how
  to comply.
• Self-assessment creates risk of non-compliance to
  reduce tax burden (run the risk) mistakes,
  evasion or avoidance.
• Self-assessment could be seen as a lucrative
  opportunity to commit tax frauds and cheat the
  government (e.g. fraudulent refunds claims).

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4. Is there any self-assessment system to
administer VAT compliance?
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In Chile, we have three strategic management
pillars to tackle these risks and promote tax
compliance
Facilitating Tax Compliance Permanent taxpayer
assistance to maximize voluntary compliance
Strengthening Audit and Prosecution
Capability Systematic surveillance of recurrent
tax avoiders to minimize tax evasion and fraud
Develop Tax Administration With the Vision to
Permanently Contribute to Economic Development To
improve taxpayers competitiveness by reducing
cost of compliance, encouraging productivity
increases and reducing unfair and illegal
competition based on tax evasion and fraud
is a key strategic option to
accomplish these goals
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5. Critical VAT liabilities Registration
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• Can be mandatory. Tax Administration (TaxAd) can
  register automatically un-registered taxpayers.
  VAT taxpayers could have a special tax
  identification number (TIN) or the same as for
  other taxes.
• In Chile, our procedures have some pros and cons
  
• Registration and update of info is mandatory but
  subject to self-compliance the SII does not have
  the power to register taxpayers
• Field detection of un-registered taxpayers is
  expensive.
• Registration procedure is oriented to register
  taxpayers for general tax purposes.
• VAT definition puts emphasis on activities to be
  taxed (in relation to ITax) instead of taxpayers
  to be liable.
• Difficult to identify VAT taxpayers, especially
  for service providers (e.g. barber shops).
• A unique TIN for all taxes and also widely used
  for other purposes.
• Good for administering and cross-checking
  compliance from different taxes and different
  sources of information.

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5. Critical VAT liabilities VAT-invoices
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• Control of VAT docs. is key for good compliance
  under invoice-method
• How to ensure invoices are correctly and
  properly used by taxpayers?
• Different options implemented by TaxAds control
  of invoice printers, invoice registration, field
  activities focus on control of VAT docs.
• In Chile, we use a combination of strategies

• The manual approach (paper invoices) the law
  establishes the SII must authorize and register
  documents to be used in a period of time and
  stamping with special seal on them. Old procedure
  in retreat stage.

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• The new SII-online approach (e-invoices) from
  October 2003 we launched the E-invoice System
  through which taxpayers may register at
  www.sii.cl (our Internet Virtual Office) as
  e-taxpayers, allowing them to use electronic
  invoices in their commercial activities.

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• SIIs field work has a strong emphasis on control
  of VAT documents issuance, registration, use on
  goods delivery, declaration on VAT returns.
  Examples of penalties fines of 100 to US24.000,
  close of premises (2 to 11 days)-8.000 in 2004,
  200 of non-applicable use of VAT credit.

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5. Critical VAT liabilities filing and payment
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• Several options for filing and paying VAT How
  many forms? Where to submit returns and payments?
  What kind of penalties are associated with
  non-compliance?
• In Chile, we use a combination of strategies
• Unique VAT form (also used for other taxes
  excises, additional consumption taxes, and
  advance payments).
• Submission of returns and payments to banking
  system
• A modern e-filing system for submitting returns
  and payments. We strongly encourage this
  e-channel instead of using paper-channel.
• The system of penalties for non-compliance with
  filing and payments differentiates voluntary
  reporting of non-compliance from SIIs
  assessment 10 to 30 of non-compliance in the
  former, instead of 20 to 60 in case of the
  latter plus a penalty interest of 1.5 per month.

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6. Critical areas of non-compliance
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• Two basic tax behavior for good VAT compliance
• VAT debit (output VAT) declared must reflect all
  liable sales made by all liable and properly
  registered taxpayers, NO LESS.
• VAT credit (input VAT) declared and applied must
  reflect all liable purchases related to the
  liable sales, made to liable and properly
  registered taxpayers, NO MORE.
• However, there are several challenges for TaxAd

• Under-declaration of sales
• Sales without VAT documents or to informal buyers
  or consumers (no self-enforce feature)
• VAT debit registered at purchases/sales book
  lower than invoices issued
• VAT debit declared lower than sales registered
  and invoices issued
• Issue of VAT documents modifying figures on
  original and copies

• Over-declaration of purchases
• VAT credit registered at purchases/sales book
  higher than invoices received
• VAT credit declared higher than purchases
  registered and invoices received
• Modification of VAT documents received to
  increase VAT credit
• Register invoices for unreal purchases (false
  invoices)
• Accounting personal purchases as business
  purchases

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7. Strategies to control VAT compliance
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• In Chile, we have three main approaches
• Massive control of regular VAT liabilities
• Selective audit of non-compliance
• Prosecution of VAT fraud
• Massive control of regular VAT liabilities
  Permanent control of basic VAT liabilities by
  carrying out different strategies to all VAT
  population.
• Computerized control of VAT returns
• Un-registered taxpayers and Stop-filers.
• Accuracy of VAT returns (legal/mathematic/inter-te
  mporal checks).
• Cross-check of information (sales and purchases
  of LT, credit-card).
• Control of debit/credit indicator (economic
  approach).
• Non-responders of SII VAT notices.
• Field control of registration and use of VAT
  documents
• Detection of un-registered taxpayers
• Proper issue and registration of VAT documents
• Use of VAT documents for transportation and
  delivery of goods
• Administrative ruling
• Selective VAT withholding regimes to some
  products and sector.
• Verification of compliance at www.ChileCompra.cl
  (government procurement Web site) as a condition
  to be a government provider.

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7. Strategies to control VAT compliance
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• Selective audit of non-compliance In-depth
  surveys of compliance from different perspectives
  (tax-economic relationship, taxpayers segment
  behavior, and VAT related issues) to detect
  non-compliance and create control strategies to
  be carried at regional level. Several tasks
• Preparation and supervision of the Selective
  Annual Audit Plan.
• Issuance of administrative rulings - join work
  with taxpayers association.
• Agreements with state agencies to include
  verification of compliance as a condition for
  private business participation.
• Design strategies to control non-profit
  organizations, VAT tax expenditure budget
  (control of exemptions) and complex VAT issues.
• Prosecution of VAT fraud a strong legal action
  focus on punishing fraudulent VAT behavior -
  issuance and trade of false invoices claiming
  fraudulent refunds, clandestine commerce.
• Increased penalties for fraud based on false
  invoices and special units at Audit and Legal
  Department to prosecute crimes based on false
  invoice documents and illegal trade. A
  false-invoice fraud could have a penalty of 541
  days to 5 years of prison.
• Since 2001 more than 1.000 criminal demands for
  false-invoice and illegal-trade frauds.
  Prosecution of these crimes have improve with the
  new legal system.

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8. How to measure the effectiveness VAT
compliance?
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• There are several methods and indicators to
  measure VAT compliance.
• In Chile, we regularly measure VAT collection and
  VAT Evasion. The latter by using the national
  accounts to build several VAT compliance
  indicators.
• We also applied the fixed-point control method
  to measure evasion when final consumption
  receipts are issued.

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8. Measurement of the effectiveness of VAT
compliance in Chile
Table 1
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8. Measurement of the effectiveness of VAT
compliance in Chile
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8. Measurement of the effectiveness of VAT
compliance in Chile
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8. Measurement of the effectiveness of VAT
compliance in Chile
Table 2 VAT Productivity Indexes (thousand of
millions Chilean nominal currency)
Source SII Survey and Planning Department based
on Central Bank information Input-Output
Matrix 1996 of National Account
System. Notes 1 Provisional figures. 2
Average rate (9 months 18 and 3 months 19).
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8. Measurement of the effectiveness of VAT
compliance in Chile
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8. Measurement of the effectiveness of VAT
compliance in Chile
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9. Some final comments
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• VAT design determines VAT administration problems
  and vice versa.
• Strategy to administer VAT impacts business
  efficiency, with a positive correlation.
• Good VAT compliance behavior is very profitable
  for taxpayers to keep their business in order
  (especially small and medium companies).
• Self-enforcement feature of VAT is not always
  true, TaxAd must have a strong control of
  compliance, but same efforts must be put on
  facilitating tax compliance.
• On-Line TaxAd is a strong option to correctly
  deal with a false dilemma between facilitating
  and controlling tax compliance both could be
  harmonized with the e-government approach, our
• Finally, modernizing VAT administration could
  have a big impact in economic development by
  encouraging global business efficiency e.g.
  e-invoice system instead of manual system

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Thanks for your attention
and visit
The Virtual Office of the SII at Internet
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SII On-Line (www.sii.cl) the Virtual Office of
the SII at Internet
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SII On-Line (www.sii.cl) the Virtual Office of
the SII at Internet
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• Under this concept, we are committed to provide
  e-government tax compliance solutions for all
  stages of taxpayers life cycle

• From taxpayers registration to taxpayers
  termination of business

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5. Critical VAT liabilities to administer
VAT-invoices
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Paper model of invoice method for VAT compliance
SII
Original
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5. Critical VAT liabilities to administer
VAT-invoices
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electronic model of invoice method for VAT
compliance
E -
E -
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5. Critical VAT liabilities to administerfiling
and payment
Declaration of VAT through Paper Form
Total Time (step 3 to 9) 25 days
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5. Critical VAT liabilities to administer filing
and payment
Declaration of VAT through Internet at www.sii.cl
Total Time just minutes
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5. Critical VAT liabilities to administerfiling
and payment
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Declaration of VAT through Paper Form vs. Internet
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5. Critical VAT liabilities to administerfiling
and payment
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Declaration of VAT through Paper Form vs. Internet
Monthly tax returns for VAT and advance payment
for income tax (VAT is about 50 of tax
collection and )
Payment of taxes through www.sii.cl (VAT, Income
tax, excises, property tax, etc.)
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5. Critical VAT liabilities to administerfiling
and payment
Declaration of VAT through Paper Form vs. Internet
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9. Some final comments
Manual invoice cycle
Print of invoices
SII-seal Stamp
Storage of Invoices to be issued
Issue of invoices
Sending invoices Manually
Manual mailing
Invoices system to auto-print
Storage of Invoices to be issued
Storage of Invoices received
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Paper invoice flow at a enterprise an extreme
but not unreal example
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9. Some final comments
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9. Some final comments
Changingbusiness-cyclefrommanual-invoicetoele
ctronic-invoice
Imprenta
Timbraje SII
Bodega Facturas Disponibles
E-Invoice
Invoices system to auto-print
Impresión Factura
Despacho
Correo
VAT IT system
Bodega Facturas Emitidas
Bodega Facturas Recibidas
However, payment is still mostly made by checks
(paper), should change to e-payment to make more
efficient the business cycle
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5. Critical VAT liabilities to administerfiling
and payment
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