Tax non compliance due to ignorance

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Tax non-compliance due to ignorance

Extracted from The Star, 5^th July 1999, by Dr Jeyapalan Kasipillai

It is generally accepted that tax evasion exists in every country.

Although methods for measuring evasion and estimating the determinants of taxpayer compliance have been the subject of research in several developed and developing countries very few studies have been carried out in the specific area of non-compliance in Malaysia.

Measuring tax evasion provides an important tool to detect and evaluate the effectiveness of compliance enforcement policies, and to gauge the efficiency of tax administration within the limits of available human and material resources. In this respect it may be prudent to develop systematic programmes aimed at both measuring tax evasion and interpreting the results of these measurements.

A knowledge of the amount and pattern of non-compliance permits more effective management of administrative resources devoted to tax enforcement programmes and for controlling evasion.

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Compliance defined

Tax non-compliance can occur due to deliberate connivance or ignorance. Evasion of income tax involves intentional non-compliance. Within the framework of tax laws, non-compliance has been defined as the failure, intentional or unintentional, of taxpayers to meet their tax obligations.

The key to identifying non-compliance is to know the taxpayers most likely to be non-compliant; income or expense in which non-compliance is most likely; and most important, the reasons for or causes of the non-compliance.

In this regard, non-compliance under the Malaysian Income Tax System can take several forms. These span the entire spectrum from failure to submit a tax return when legally obliged to do so, to understatement of income and overstatement of deductions on the tax return.

To fulfil their tax obligations, taxpayers are required to:

· Register as new tax-payers;

· Further annual tax returns which disclose all assessable income of the taxpayer;

· Make a claim for deductions which are legitimate;

· Submit tax returns by the lodgement deadline; and

· Promptly settle the outstanding taxes.

Unintentional non-compliance

Tax evasion is intentional non-compliance and it means payment of less tax than the law requires on one’s true taxable income. Intentional non-compliance to reduce or eliminate the amount of tax payable requires some measure of understanding of the tax system.

While there may not be a one-to-one correlation, it may be reasonable to assume that the greater the understanding of the tax system, the greater is one’s ability to “hoodwink” the system. If so, there is a direct relationship between understanding the tax system and the probable propensity to evade the full payment of tax, given the opportunity.

At the same time, there is sufficient evidence that unintentional non-compliance is directly related to ignorance about and lack of understanding of income tax laws

Consequently, the knowledge of income tax laws is a double-edged sword in terms of compliance, implying that an increased income tax knowledge may lead to a rise in evasion but result in a decrease in unintentional non-compliance.

The term non-compliance encompasses both intentional evasion and unintentional non-compliance, which is due to memory lapses, calculation errors and inadequate understanding of tax laws.

A particular taxpayer may intentionally evade some of his or her obligations while unintentionally being non-compliant in other respects.

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Moreover, non-compliance can mean over-compliance (which is presumably always unintended) as well as under-compliance. There is evidence to indicate that unintended non-compliance is a significant problem.

A survey carried out by the author suggests that unintentional non-compliance among individual taxpayers is likely to be concentrated amount new taxpayers; taxpayers whose income does not exceed RM36,000 per year; and female taxpayers.

The concentration of unintentional non-compliance among female taxpayers in Malaysia is understandable married female taxpayers do not have a tax file of their own. They declare their annual income in their husband’s return even if the husband has no taxable income to declare.

Since male taxpayers submit the tax returns annually, it is not surprising that males generally have a higher tax knowledge than females. Single female taxpayers, however, have their own tax returns but it ceases to exist once they are married.

Opportunities to evade

Taxpayers, too, vary in terms of the opportunities available to them to understate income or claim fictitious deductions.

Greater opportunities are generally associated with self-employed businesses and income sources not subject to withholding taxes.

Surveys carried out in developed countries such as Britain and the United States have consistently shown that respondents who are self-employed are more likely to admit various forms of non-compliance with tax laws. No such survey has yet been undertaken in Malaysia.

The distinction between intentional and unintended non-compliance is extremely important in relation to enforcement strategy. Intentional evasion may be deterred by increasing penalties or audit probabilities, in line with the control strategies examined in most economic literature on tax evasion.

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Causes of unintentional non-compliance

Unintentional non-compliance may be caused by the complexity of tax laws, by the difficulty of keeping accurate records, taxpayer negligence and the inability to obtain the information needed to comply.

Generally, low-income taxpayers who cannot afford to employ tax agents and who often have lower literacy rates face problems understanding basic laws, such as child relief provisions and relief for alimony payments.

For some, even routine mathematical operations and interpreting the tax tables may present problems.

There are suggestions in the literature that if the tax laws are made understandable by all, or most taxpayers, then this encourages compliance.

While this may be true, other researchers have asserted that genuine disagreements and unintentional non-compliance by taxpayers will generally be more vulnerable to detection than deliberate, sometimes costly, manoeuvres made by taxpayers to conceal tax evasion.

Self assessment system

The problem of unintentional non-compliance becomes even more significant with the planned introduction of a self assessment system (SAS).

Under the SAS, the Inland Revenue Board (IRB) will accept information provided in a tax return as the basis for computing the tax. The onus would then be placed firmly on the taxpayer to understand the law, interpret it and apply it to his or her own situation.

Inability to do so may result in sanctions being imposed no the taxpayer by the revenue authorities.

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Conclusion

From the IRB’s perspective, the whole idea of promoting the SAS is to accelerate the rate of tax collection and, at the same time, to minimise the cost of collecting taxes and also to increase voluntary compliance.

One, should, however, also recognise the increased tax burden that self assessment may well place on honest taxpayers.

For it may be the honest but ignorant taxpayer who may innocently fall foul of a newly introduced tax system and whose compliance costs are expected to increase

Greater efforts should, therefore, be made to simplify tax laws and to educate the public on the new assessment system.

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