Digitalising tax compliance for small businesses and individuals

The phrase “making tax digital” is the title of an initiative by HM Revenue and Customs (HMRC) in the UK to digitise tax compliance for small businesses and individuals. This initiative has resulted in some controversy, particularly in relation to the additional cost it will, at least in the short term, impose on taxpayers as they adapt to the new environment.

The move towards a purely digital economy

I am just back from India, which has hit international headlines as a result of the rapid actions of the government to “demonetise” the economy by withdrawing 500 and 1000 Rupee notes. This action is aimed at the many potential ills of the cash economy, including the fact that, despite the emergence of the middle class, a very small proportion of the population of India currently pay tax (1% of the population paid taxes in 2013 (as reported in 2016). The topic of digital financial systems was a topic of conversation in Davos last month and 2 weeks ago, while attending a conference in Dublin, I was asked whether blockchain has a role in the future of tax. So clearly there is a pattern emerging.

As someone mentioned to me the other day, maybe there would be less controversy in the UK about going digital if HMRC had consulted on an initiative titled “let’s keep tax analogue”. The world is inevitably heading in a digital direction. I do virtually everything online these days yet anyone who knows me would not describe me as an early adopter. Yet the role that technology has to play in tax is of particular importance.

Tax transparency

In a digital financial system, which in my view will include blockchain, you have the possibility of complete tax transparency. By this I don’t mean that everyone knows everyone else’s business. The challenges to the legitimate right to privacy are frequently discussed. Instead I mean that those that need to know (and this includes tax authorities) can know; and in real time. Transactions can be monitored, verified and taxed as they occur. Blockchain creates the additional advantage of a permanent audit trail so that there is no possibility of money dropping down a gap. Many are enthused about the opportunity this potentially provides to eliminate corruption, fraud and tax evasion. In an ideal world it would also help the compliant taxpayer meet their obligations with less effort or risk of error. This is an opportunity for the developed world, but in the developing world, where FinTech is leapfrogging the “bricks and mortar” payment systems and the resources of tax authorities are limited, the attraction is also huge.

How do we get there?

So in my mind the question is not whether this is a good direction of travel, but what we need to do, collectively, to get there. My observation on technology is that we all simultaneously seem to both under and over estimate what it can achieve. People who say that digital labour and cognitive technologies will not take away jobs from their businesses in their lifetime are probably forgetting just how much the world of work has changed in their lifetimes, especially as we are in an era where the pace of change is accelerating.

One size fits all?

However, on the other hand, there is a tendency to think, especially at the level of governments, that there is a quick fix technology solution to many problems which require a more complex response. The technology may be adequate but systems still have to deal with people who may not have access to technology or the ability or propensity to use it.

As ever, there is unlikely to be a “one size fits all” approach. Different countries are in different stages of development and face different challenges. Saying that, here are some general thoughts:

  • Although it might be tempting for governments to “push” taxpayers into a digital environment, we are likely to get a better response if the business sector is encouraged in their efforts to pull people in. This could, perhaps, involve governments financially supporting the creation or improvement of digital payment systems of banks which would not otherwise be financially viable.
  • We shouldn’t underestimate the strain that asking banks and payment systems to become tax collectors or reporters puts on them. Implementation of CRS, registers of beneficial ownership and of various sanctions on banks, and the consequent financial and reputational risks this puts on them is causing some banks to “de-bank” their customers. Clearly, financial institutions must be a part of the system that ensure tax transparency but expectations have to be realistic.
  • What is the role of tax advisors? Even in a digital world businesses may still want to appoint advisors to deal with their tax affairs rather than do it themselves. Could advisors be the source of digital solutions, providing the link between taxpayers and tax authorities and possibly providing assurance to both? Some early versions of this already exist.
  • Some taxes are easier to deal with digitally than others – specifically taxes on profits (i.e. corporation taxes) are more difficult than indirect taxes. Could this be taken into account as tax policy is made?
  • On the subject of indirect taxes, is there a way in a digital world to make indirect taxes more progressive. For example, if VAT/GST is being calculated on a real time basis as transactions are processed, could there be a different rate, or no rate, for someone who is registered as a non-taxpayer (presumably based on income assessment)?

Conclusion

To conclude, there has, and will continue to be, significant developments in making tax digital. For the many reasons above, we are going in the right direction. However, while change should be embraced, tax has never been more complex and such complexity requires a considered, and well-thought out system to ensure a digital tax system works for all tax payers.