How Do You Spell Relief From The Tax Gap ? C-O-T-S
You know what causes tax agency directors to lose sleep at night? Reducing their tax gap. You know how they can reduce it? Four letters: C-O-T-S.
I have been involved with Tax Authorities around the world for the past 12 years. Initially the focus and discussions with SAP was on corporate back office accounting i.e. ERP and today we have many Tax Authorities running their businesses on SAP ERP. A common trend we’re hearing from our tax agency customers worldwide over the past few years is an increasing adoption of commercial off-the-shelf (COTS) solutions to help them reduce the tax gap. In the beginning the focus was on automating the tax administration lifecycle, but recently I am seeing more and more demand for improving compliance. This area has become so important to Tax and Revenue Authorities that it has become a completely separated focus area. Today we have many examples of customers who have reduced their tax gaps significantly with the use of COTS solutions e.g. Florida State who generated $141 million in increased compliance annually or Queensland Office of State Revenue in Australia who collects additional $55 million revenue.
It is important that we understand what Compliance means and how it will support Tax and Revenue Authorities achieve their main goal – reducing the tax gap (My definition of the tax gap is simply the difference between the taxes or revenues that agencies think they should collect and what they are actually collecting). In most cases, it will also help them define & refine the magnitude of that tax gap. “Did you know the tax gap in the US alone is estimated at $345 Billion annually? (Source: http://www.treasury.gov/tigta/iereports/2009reports/2009IER001fr.html) What would your agency do if it could close your tax gap by just 5%? What government programs would you fund? Schools? Infrastructure? Health?
Compliance is, of course, a key topic for all organizations that are collecting revenues including Social Services. In some countries, this process of ensuring that no revenue is missed is called „Revenue Protection“, & applies to public transport, utilities & postal sectors. Ideally we could learn from these other sectors and see what can be applied in Public Sector.
So what is Compliance really? What types of Compliance are there?
Lately compliance is sometimes loosely coupled with fraud management or risk management where as in the past compliance related to audit and debt collection. After all, what is the biggest risk of a tax and revenue management authority – the risk of not collecting all revenues? According to Wikipedia, Compliance means conforming to a rule, such as a specification, policy, standard or law. Regulatory Compliance describes the goal that corporations or public agencies aspire to in their efforts to ensure that personnel are aware of and take steps to comply with relevant laws and regulations. This approach is used to ensure that all necessary governance requirements can be met without the unnecessary duplication of effort and activity from resources.
For me Compliance is a bigger topic than just fraud or risk management. It addresses both voluntary Compliance and enforcement. The main idea is to make it as easy as possible for the taxpayer to encourage compliant filing and payments and to take away the reasons for deliberately or un-deliberately failing to file compliantly. It is clear that the business processes that need to be in place to handle these two types of Compliance will differ significantly. Voluntary Compliance needs to be a supportive citizen (taxpayer) driven process that guides the citizen through the process up to the point where he/she complies. It can even include educational material and reward programs to encourage Compliance. Enforcement on the other hand needs to be a “we take no prisoners” type of approach. Up to very recently the entire focus was on enforcement with mainly happened after non-compliance already happened. This is one of the contributing factors to the large outstanding debt amounts still due by taxpayers to tax agencies around the world.
How will modern technologies help to address the Compliance topic? Well I am delighted to tell you that excellent technology already exists that can successfully address the Compliance topic. I am also extremely excited about how some new technology innovation topics such as will completely disrupt current Compliance technologies and thoughts. Let’s take a look at a typical Compliance business process and how technology can support this.
The first step in the Compliance process is segmentation of citizen or taxpayers. This process is quite complex as it involves the building of a model based on mathematical algorithms. This model is fed into an analytical tool that will execute the model and come up with a segmentation score. For most authorities, this end score is actually quite simple. Most authorities would go for around 7 different classifications; for others it will be as little as three e.g. will pay, might pay, will not pay. Now what solutions do you need to handle these requirements? Well the first thing you need is good quality data. You don´t want to do modeling and all of your further processing on garbage information. Technology tools such as SAP Business Objects Data Services ensure good quality data. We have recently seen an uptake of this technology at several tax authorities.
Once we have good quality in place we need a good modeling tool. Here I am very excited to mention a brand new tool that SAP recently made available called SAP Business Objects Predictive Analytics. Predictive Analytics uses a variety of statistical techniques that analyze historic data to make predictions about future events. Using it in combination with SAP HANA, our in memory database technology, will fast track the entire process to the point where modeling and segmentation can happen in near real time. This might be particularly relevant for tax registration fraud or mass, high-volume on-line fraud, where time to respond is a critical factor in risk exposure.
Once we have completed the segmentation several follow up processes could be triggered namely:
1. 1. The first follow up process would always relate to automation. If a citizen or taxpayer is in a low risk segmentation score level the intention should always be to automate the entire process completely. Most tax and revenue authorities are targeting at least 80% automation.
2. 2. The second follow up process would relate to voluntary Compliance. In voluntary Compliance we would use the segmentation score to support the citizen (taxpayer) in complying. How would we do this? Making use of the CRM Campaigns management we develop programs and support (incl. education, marketing, helpful advice) wherever applicable and compliant to local law. This would be especially useful to newly registered citizens or taxpayers, or where we are launching new revenue streams. Other use cases that I have come across are campaigns for debt management programs.
3. 3. The third follow up process would relate to the automatic selection of audit cases. Citizen and taxpayers with a high risk segmentation score would automatically trigger the creation of an audit case. Case Management is a great proven tool to be used for the assignment of audit cases to tax auditors and the management of all case management related activities.
In all of the above mentioned scenarios, rules engines are used to check the segmentation score and invoke the follow up transactions. These three scenarios are not the only potential uses of segmentation but should give you a good idea of how this relates to Compliance.
The last topic I would like to address in this blog is how new and upcoming innovation topics and solutions will start to disrupt current Compliance technology and thinking.
I 1. I get very excited when I start thinking how new in-memory solution with real time capability could be used to address the entire fraud lifecycle. This new technology will be able to improve the entire fraud lifecycle from fraud detection to prevention to alerts to real time analysis.
2. 2. Another key process that could be supported by new technology is real time investigation by tax auditors across masses of data.
3. 3. What if the information that we gathered could be used in a correction phase? Would it not be fantastic of the system itself learns which data in our model could be improved and updates it automatically.
4. 4. What if we could make audit cases mobile allowing Tax auditors to have all information available immediately regardless of where they are? Never mind not having to carry heavy case files along during a tax inspection. We are already seeing an uptake of this e.g. the UK’s Tax field force has already rolled out a mobile capability. http://www.uk.capgemini.com/services-and-solutions/technologyservices/mobile-solutions/success-stories/hm_revenue_and_customs/ + http://www.capgemini.com/insights-and-resources/by-success-story/ss_hmrc_debt_collectors_increase_visits_with_ultra_mobile_pcs/ )
I have no doubt that we will see more and more of these innovative solutions becoming reality in the future. Watch this space when it happens….