FEBRUARY 2014 91191 Investment Climate IN PRACTICE NO. 21 BUSINESS TAXATION Does e-Filing reduce Tax Compliance Costs in Developing Countries? As the use of e-filing of tax returns has spread from developed to developing countries, it has been clear that this sort of reform can reduce errors and Jacqueline Coolidge Fatih Yılmaz opportunities for corruption. Also, it has been widely assumed that taxpayer compliance costs would decrease with the use of e-filing, because less time is Jacqueline Coolidge (jcoolidge@ schoolbench.com) is a consultant spent getting tax returns from the taxpayer to the revenue authority. This note with the World Bank Group and retired Lead Investment Policy summarizes findings from tax compliance cost surveys and offers a cautiously Officer in the Investment Climate positive assessment of e-filing reforms in developing countries with a number Department. of caveats. Countries should not rush to push e-filing on all taxpayers until Fatih Yılmaz (fyilmaz@ucalgary.ca) the revenue authorities, infrastructure, and taxpayers are ready. is a consultant with the World Bank Group and a PhD candidate in eco- nomics at the University of Calgary. The authors wish to thank Jan Loeprick and Blanca Moreno- over the past several years, the business taxpayers [for example, several Dodson (both of the Investment international tax community has organisation of economic Co-operation Climate Department) for their been encouraging the introduction of and Development (oeCD) countries insights about this note, and e-filing as part of technical assistance and a number of developing countries, also Richard Bird (University of programs to modernize and strengthen including Nepal, Peru, and Uganda]. Toronto), Kenneth McKenzie, and tax administrations. The World Bank Many in the international donor Herbert Emery (both of University of Calgary), who were the main peer Group’s Doing Business website community supporting tax reforms also reviewers of the research paper that documented that 74 economies had assumed that e-filing should reduce served as the basis for this note. fully implemented electronic filing tax compliance costs for taxpayers.4 and payment of taxes by 2011, and However, survey evidence from The Investment Climate Department 29 of these adopted the system in the investment climate work conducted of the World Bank Group has an previous eight years.1 It is clear that by the World Bank Group shows that extensive research and knowledge development agenda in the area e-filing can reduce errors in taxpayer this is not necessarily the case: under of business taxation. Knowledge self-assessment and the processing of the wrong circumstances, requiring products aim to capture lessons tax returns by revenue authorities; it that small businesses use e-filing can from existing advisory projects, can also provide increased convenience add substantially to their costs and conduct new analysis underpinning and flexibility for the taxpayer.2 Another difficulties with tax compliance. project operations, and engage at important advantage is the reduction the discipline’s cutting edge for The Bank Group, which has carried developing countries. Compliance in face-to-face interactions between management adapted to firm size taxpayers and tax officials, which should out more than a dozen tax compliance is one of five key themes. reduce opportunities for corruption.3 cost surveys in developing and A number of countries have adopted transition countries, has undertaken a policy of mandatory e-filing by a meta-analysis of the survey data to learn more about the relationship between e-filing and Figure 1: Percentage of firms using e-filing by turnover tax compliance costs (Yılmaz and Coolidge, 2013). The (in thousands of rands) purpose of this research has been to investigate the effect e-filers non-e-filers of electronic filing on total tax compliance costs incurred less than R70 by small and midsize businesses in developing countries. A priori, most observers expect that use of e-filing should R70 – R300 reduce tax compliance costs, but the analysis suggests R300 – R1000 that the assumption should be more nuanced. R1000 – R6000 E-Filing Policies in South Africa, R6000 – R14000 Ukraine, and Nepal more than R14000 The study first examined e-filing availability and policy Dk/Us/Re implementation details in several developing countries. The team analyzed the determinants of firms’ e-filing 0 20 40 60 80 100 decisions and then focused on how e-filing may affect tax Percent of total business taxpayers compliance costs, holding other variables (such as firm size, location, and sector) constant. Tax compliance cost Source: USAID 2008 (South Africa). surveys from South Africa, Ukraine, and Nepal were used Note: Dk/Us/Re abbreviates the responses Don’t know, Unsure, Refused to answer. in the analysis. In South Africa, firms with greater turnover reported higher levels What factors drive the decision to use e-filing? of e-filing. The surveys documented the compliance costs of a representative sample of business taxpayers in each comparison tests showed that e-filers generally spend more country. Those who used e-filing could be compared with time in tax compliance activities or incur higher compliance those that did not, taking into account differences in size, costs than non-e-filers in the jurisdictions studied. sector, location, and other attributes of businesses that used e-filing versus those that did not. When one compares e-filers with non-e-filers in terms of average compliance costs, e-filers seem to face significantly The descriptive analysis showed, as expected, that higher costs. This may be explained in part by the fact that businesses with certain characteristics are more likely to e-filers are usually larger firms; they have a larger volume use e-filing. These businesses tend to be relatively large in of transactions, pay more different types of taxes, and size, located in urban areas, operating in capital-intensive therefore face higher total compliance costs regardless sectors, and paying multiple taxes [such as income tax, of their e-filing status. To further explore this issue, the value-added tax (VAT), payroll taxes, and excise taxes]. The team conducted a regression analysis on the determinants data from South Africa regarding e-filing use by company of e-filing, controlling for the factors associated with the size (measured by annual turnover) are illustrative (see decision to use e-filing as described above.6 Figure 1).5 What features of policy implementation influence The reliable availability of Internet access and electricity, tax compliance costs? capability in computer usage, awareness of e-filing, and knowledge about the process are important not only for The results show that policy implementation plays a major firms’ e-filing decisions but also for their effective use of role in the potential effectiveness of e-filing in reducing tax the system. According to the survey responses, firms rank compliance costs. Among the three countries considered issues in these areas as their main reasons for not signing in the analysis, only South Africa managed the policy up for e-filing. Moreover, other variables are found to be effectively, and only this country’s results provide evidence important in e-filing decisions. Firms reporting payment that e-filing may be associated with a statistically significant of numerous types of taxes or severe political instability decrease in compliance costs. In contrast, e-filers in Ukraine are generally more likely to e-file, while firms experiencing and Nepal experienced an increase in total costs, due difficulties in access to electricity are less likely to e-file. largely to requirements for double reporting (paper filing and e-filing) or complicated filing processes. Firms that perceive more corruption or informal treatment by government officials also appear more likely to file their Reduction in total tax compliance costs may not be tax returns electronically (which allows them to avoid face- realized in the short-run. The empirical evidence suggests to-face contact with bureaucrats). However, simple mean there is a clear “learning by doing” process; the more firms 2 Investment Climate In Practice l World Bank Group have had a chance to experience the system, the greater the Large Taxpayer Unit) to submit additional hard-copy the reduction in costs they enjoy. In addition, the upfront returns or other documentation as a general requirement. investment (in capital, learning, and educating tax staff on the system) is sunk in the medium- to long-run and is thus Ensure reliable, fast Internet connections. irrelevant for e-filing decisions after it has been incurred. Pilot systems to identify and remove “bugs.” Respond Success in policy implementation is certainly critical. In promptly and effectively to complaints about hardware or countries where e-filing fully replaces paper filing (such as software problems, Internet connectivity, or slow Internet South Africa), firms may enjoy a reduction in compliance speed. Taxpayers should not be required to e-file if they costs, while this effect is reversed in countries (such as do not have ready access to electrical power, computers, Ukraine and Nepal) where e-filing is implemented in or the Internet. addition to a continued requirement for paper submissions (hard copies of the tax returns or required supporting Ensure taxpayer awareness of e-filing documentation). These results are statistically significant options and benefits. and economically important: On average, e-filing usage in South Africa is associated with a 22.4-percent reduction If there seems to be a lack of awareness about e-filing in tax compliance costs. E-filers in South Africa also spend among the public, launch a communications campaign to about 21.8 percent fewer hours in VAT compliance than explain the existence and benefits of e-filing, along with non-e-filers, when all other factors are held constant. In simple instructions on how to access and use it. Provide contrast, Nepalese firms face a 33-percent increase in tax simple, concrete examples. compliance costs associated with e-filing usage in terms of If taxpayers have difficulty accessing computers or the time and money, and Ukrainian firms face about a 20- to Internet, consider creating or encouraging “kiosks” (Internet 25-percent increase in compliance costs, probably due portals providing access to e-filing, preferably staffed with to the poor design or implementation of the countries’ knowledgeable people) in many towns and villages. e-filing procedures. Phase in e-filing. Implications and Recommendations Consider which types of taxes yield the greatest benefits Evidence from the field suggests that a number of revenue authorities in developing countries have implemented from e-filing. VAT and corporate income tax may be most e-filing in ways that unnecessarily add to tax compliance appropriate for introducing e-filing of returns, because costs, and some have tried to force all businesses (including the businesses that pay these taxes are the most likely to small businesses and those in rural areas) to use e-filing. have the capacity for e-filing (in terms of hardware and There is ample reason to believe that e-filing can reduce software as well as computer skills). errors in tax returns, facilitate data analysis and capacity for “risk-based audit” selection,7 and mitigate opportunities Offer training in how to e-file. for corruption in interactions between taxpayers and tax Revenue authorities should not push e-filing on small officials. However, the benefits of reduced compliance business owners who lack familiarity with computers. costs for small business taxpayers can only be realized Offer a variety of forms of instruction (such as simple through an efficient, well-designed e-filing regime that pamphlets, demonstrations, and short courses available at avoids unnecessary duplication of effort and, in particular, various times, including evenings and weekends). eliminates the need for taxpayers to physically deliver materials to tax offices or rely on uncertain postal service. Consider small, non-monetary incentives for e-filing. The findings from the survey data suggest six key The OECD (2008, 31) highlights ways to incentivize the use recommendations for public revenue authorities in of e-filing in ways that ease the tax compliance burden: implementing an e-filing policy for tax returns: A number of revenue bodies are also known to have Design a simple, user-friendly system, and keep it introduced incentives for the use of electronic services that go some way to alleviating the administrative burden in taxpayers. voluntary for small business taxpayers, at least initially. For example, the [Australian Tax Office] provides an extended Small business taxpayers should not be forced to use e-filing filing period of two weeks for businesses that file and pay until a majority have ready access to computer and Internet electronically whether directly or through their tax agent, while services and have had a chance to become familiar with the the Irish revenue body provides taxpayers an additional 15 e-filing system on a voluntary basis.8 Governments should days to file returns and pay taxes where this is done using their not require most taxpayers (particularly those outside electronic on-line service facility. Does E-Filing Reduce Tax Compliance Costs in Developing Countries? 3 Conclusion self-selecting for use of e-filing). There is still the possibility of an omitted variables bias E-filing can be a tremendous boon in that firms with better management are to revenue authorities in developing more likely to be large in size and face more countries, reducing their administrative complexity in tax compliance and also more likely to choose e-filing than are firms with costs and error rates and improving lower quality management. their efficiency. However, e-filing 7. Risk-based audit selection targets taxpayers does not necessarily reduce the tax with the highest risk of evasion, based on compliance burden for small business statistical analysis of objective data. taxpayers and can even exacerbate it 8. The time needed for micro and small firms without careful attention to proper to learn to use e-filing also suggests that design and implementation. A recent positive outcomes from the introduction of World Bank Group analysis suggests e-filing may take more than a couple years that compliance cost savings are often to be realized. undermined by inefficient procedures About Investment associated with e-filing, which in Climate In Practice References turn drive up the time and cost of This note series is published tax compliance for many businesses, by the Investment Climate Che Azmi, Anna, and Yusniza Kamarulzaman. especially small ones. In addition, the 2010. “Adoption of Tax E-filing: A Department of the World Bank evidence suggests that small businesses Conceptual Paper.” African Journal of Group. It discusses practical often need more than a year or two Business Management 4 (5): 599–603. considerations and approaches to climb the learning curve for e-filing Coolidge, Jacqueline. 2012. “Findings of Tax for implementing reforms that before they can expect to enjoy the Compliance Cost Surveys in Developing aim to improve the business benefits of lower tax compliance costs. Countries,” e-Journal of Tax Research, environment. The findings and Vol. 10, no. 2, Oct. 2012, 250–79. views published are those of http://www.asb.unsw.edu.au/research/ the authors and should not be publications/ejournaloftaxresearch/ attributed to IFC, the World Notes Documents/paper3_v10n2_Coolidge.pdf Bank, MIGA or any other Doing Business Indicators (database). World affiliated organizations. Nor do 1. http://www.doingbusiness.org/data/ Bank and IFC, Washington, DC. http:// any of the conclusions represent exploretopics/paying-taxes/good%20 www.doingbusiness.org practices#Offering official policy of the World Bank IFC (International Finance Corporation). 2009a. or of its Executive Directors or 2. See Che Azmi and Kamarulzaman The Costs of Tax Compliance in Ukraine. the countries they represent. (2010). Report. Washington, DC. 3. See IFC (2009b). ———. 2009b. A Handbook for Tax About the 4. For example, the Doing Business 2008 Simplification. Washington, DC. Investment Climate section on “paying taxes” asked “What to Department of the reform? [in order to reduce the burden of ———. 2012. Nepal Tax Compliance Cost Survey Report – 2012. Washington, DC. World Bank Group tax compliance]” and answered, among others, “Introduce online filing” (p. 42). In OECD (Organisation for Economic Co-operation The Investment Climate later years, the Doing Business report was and Development). 2008. Programs to Department of the World Bank more nuanced and made note of several Reduce the Administrative Burden of Group helps governments important caveats. Tax Regulations in Selected Countries. implement reforms to improve Information note. Forum on Tax Admin- 5. It is important to note that, aside from their business environments South Africa, the jurisdictions that requested istration: Taxpayer Services Sub-Group. and encourage and retain a tax compliance cost survey from the USAID (United States Agency for International investment, thus fostering World Bank Group were more likely to Development). 2008. Formal SMME Tax competitive markets, growth, have concerns about the issue than other Compliance Survey Report: Prepared for and job creation. Funding is jurisdictions. National Treasury Republic of South Africa. provided by the World Bank 6. In the second set of estimates (addressing World Bank and IFC. 2007. Doing Business 2008. Group (IFC, the World Bank, the association between e-filing and Report. Washington, DC. and MIGA) and over 15 donor tax compliance costs), the methodology controlled for all the main determinants Yılmaz, Fatih, and Jacqueline Coolidge. 2013. partners working through the driving e-filing decisions and tax compliance “Can E-filing Reduce Tax Compliance multidonor FIAS platform. costs to minimize potential endogeneity Costs for Small Businesses in Developing problems (for example, firms with certain Countries?” World Bank Policy Research unobserved, but non-random, characteristics Working Paper 6647. Washington, DC. Investment Climate l World Bank Group World Bank Group