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Chapter - 1
Overview

1.    Introduction

1.1    Government revenues : the conceptual framework:

1.1.1    Government revenues are derived from two sources: tax receipts and non-tax receipts, the major source of national revenues being tax receipts raised through fiscal statutes. Non-tax receipts (fees, cess, etc.) are generally raised through non-statutory mandates and usually a reciprocal benefit accrues to the citizens from whom such receipts are collected, unlike tax receipts where the element of quid pro quo is absent According to one classic definition " taxes proceed upon the theory that existence of government is a necessity, that it cannot continue without means to pay its expenses, that for those means it has the right to compel all the citizens and property within its limits to contribute, and that for such contribution it renders no return of special benefit to any property but only secures to the citizen that general benefit which results from protection to his person and property, and the promotion of those various schemes which have for their object the welfare of all...". This definition finds an echo in Justice Holmes's rhetoric: "Taxes are what we pay for civilised society".

1.1.2.    Taxation policy of a government generally seeks to apply the following desirable fiscal principles :-

1. The subjects of every State ought to contribute to the support of the Government as nearly as possible in proportion to their respective abilities; that is, in proportion to the revenue which they respectively enjoy under the protection of the State. The observation or neglect of this maxim reflects what is called the equality or inequality of taxation.
2. The tax which each individual is bound to pay ought to be certain and not arbitrary. The time of payment, the manner of payment, the quantity to be paid, ought all to be clear and plain to the contributor, and to every other person.
3. Every tax ought to be levied at the time, or in the manner, in which it is most likely to be convenient-for the contributor to pay it.
4. Every tax ought to be so contrived as both to take out and keep out of the pockets of the people as little as possible over and above what it brings into the public treasury of the State. (Wharton's Law Lexicon-Fourteenth Edition 1993 (Published by Universal Book Traders New Delhi under special arrangement with Sweet & Maxwell Ltd. London) - page 978),(Public Finance in Theory and Practice by R.A. Musgrave and P.B. Musgrave (Published by McGraw Hill Kogakusha Ltd. Second Edition Chap. 9))

1.2    Audit of government revenues : INTOSAI declarations on revenue audit

1.2.1    In recognition of the importance of an efficient revenue collection system for mobilising the budgetary resources of the government, the need to establish revenue audit as a specialised and independent domain has been engaging the attention of the Supreme Audit Institutions for quite some time. The International Congress of International Organisation of Supreme Audit Institutions (INTOSAI) held at Rio de Janeiro, Brazil in May, 1959 recommended that:

• Supreme Audit Institutions (SAI) ought to exercise the broadest possible supervision of revenues.
• Supervision should not be limited to the checking of collection of revenues in line with the accounts rendered by the collectors but, wherever possible, a check should be made to see whether or not tax payments were in line with legislation.
• SAIs should ascertain whether there has been negligence in the matter of collections or exaggeration in the estimates.
• The observations of the Audit Court on the management of the budget, as presented to the legislative assemblies, should contain the maximum of information in regard to revenues.
• The SAIs ought to be equipped to carry out their duties, especially as regards supervision of revenues, with mechanised accounting and statistical services.

1.2.2    The subject of revenue audit was again a matter of concern for the INTOS AI in the International Congress held at Madrid, Spain in 1974. The Congress recommended inter alia that:

• SAIs exercise the most extensive control feasible over the collection of fiscal revenue and consider this of equal significance with the control over expenditure
• This control should cover both assessment and collection and the SAIs should be granted access to all fiscal documents, including the individual files of tax payers
• The control of fiscal revenue should be primarily concerned with legality and regularity

1.2.3.    Section 20 of the Lima Declaration of INTOSAI (October 1977) again featured tax audit as an area of concern. The declarations on tax audit covered the same grounds as Brazil and Spain recommendations.

1 3    Bali Declaration of ASOSAI on revenue audit

1.3.1    The concept of tax audit was a sub-theme in the Third International Seminar of ASOSAI held at Bali, Indonesia in June 1988. The following guidelines were recommended in the area of tax audit.

1. Audit mandate: SAIs should seek clear and specific legal authority for undertaking comprehensive tax audits in conformity with the relevant provisions of the Lima Declarations on Auditing Precepts.
2. Audit of individual tax assessments: It is important that individual tax files are examined to evaluate the adequacy of the system and procedures of tax assessment and collection. As the examination of all tax files is neither feasible nor necessary, best results may be obtained while concentrating on high value and risk areas. Selective auditing of business income cases rather than salary assessment, investigations of reported evasions and use of suitable statistical sampling techniques in the review of files are preferred practices. Data and information on tax payers collected by the tax authority may be verified against other independent sources available.
3. Interpretation of tax laws: SAIs should scrutinise the rules, regulations and notifications issued by the executive agencies under the tax statutes.
4. Scrutiny of decisions of tax authorities. Where quasi-judicial and discretionary powers are vested in the tax officials, any decisions taken in the exercise of such powers should be scrutinised in audit.
5. Audit methodology. Audit should be mainly system based and the objective should be to discover loopholes, lacunae and deficiencies not only in tax administration but also in tax laws. Adequate procedures for identifying and dealing with tax avoidance rising from deficiencies in laws could be considered so that remedial action including amendments to the laws could be taken promptly.
6. Socio-Economic implication of taxation: The social and economic goals proposed to be achieved through tax concession and relief should be reviewed in audit.
7. Reporting on the results of tax audit: Having regard to personal privacy considerations, it is imperative that confidentiality be maintained in reporting individual assessments in the audit reports.
8. Training of tax auditors: Tax audit is a specialisation which requires thorough knowledge of the relevant laws and regulations. SAIs should provide intensive and frequent training for tax auditors taking advantage of the training facilities available in their lot^al tax department's training institutions as well as those in other SAIs.

1.4    Objective of the fourth ASOSAI Research Project on "Government Revenues-Accountability and Audit"

1.4.1.    The ASOSAI governing Board which met in Sydney, Australia in May 1993 decided that the fourth ASOSAI Research Project would be on the topic "Government Revenues - Accountability and Audit".

Accordingly this research project was undertaken to study the system of revenue administration in ASOSAI member countries and prevailing auditing practices in this area. Relevant aspects such as sources of government revenues through tax and non-tax measures, different fiscal statutes governing tax collection in the member countries, the extent of government revenues under the audit domain, audit methodologies for revenue audit and impact of revenue audit on tax administration etc. were examined. Papers have been contributed by the following twenty six member countries of ASOSAI:

1.4.2.    (i) Australia, (ii) Bangladesh, (iii) Brunei Darussalem, (iv) China, (v) Cyprus, (vi) India, (vii) Indonesia, (viii) Iraq, (ix) Japan, (x) Jordan, (xi) Korea, (xii) Kuwait, (xiii) Kyrghyztan, (xiv) Malaysia, (xv) Myanmar, (xvi) Nepal, (xvii) New Zealand, (xviii) Pakistan, (xix) Papua New Guinea, (xx) Philippines, (xxi) Russia, (xxii) Saudi Arabia, (xxiii) Thailand, (xxiv) Turkey, (xxv) United Arab Emirates and (xxvi) Yemen

1.5    Methodology of the research project

1.5.1    The research team for the project, consisting of senior officers of SAIs of Australia, India and Malaysia, under the leadership of Deputy Comptroller and Auditor General of India, framed the guidelines for the project which were circulated to thirty member countries of ASOSAI. Twenty six countries sent the country papers based on the guidelines. Each member of the research team was co-ordinator for a group of country papers. The papers were edited by the co-ordinators and the edited texts were sent to the contributing countries for their comments/acceptance. The research team had three meetings to finalise the guidelines and the research output. The country papers printed in the book are the final versions of the texts which have been accepted by the contributing countries.

2.    Government Revenues: scope and extent

2.1.    Sources of government revenues

2.1.1    As mentioned earlier, government revenues are sourced from various tax and non-tax receipts. The country papers bring out the dimensions of these two sources which in turn influence the areas of audit priority.

2.2.    Tax and non-tax revenues

2.2.1.    Government revenues are largely dependent on taxes legislated through various tax statutes. However, the spread of the two sources, viz. tax and non-tax revenues, varies between countries.

2.2.2.    The table below indicates the figures for these two sources for which the SA1 has tax responsibility.

Table - 1
Spread of tax and non-tax revenues

2 3    Direct and indirect taxes

2.3.1.    An interesting feature of taxation scheme is the degree of dependence of the countries on the two forms of taxes, i.e. direct (on income/wealth/receipt) and indirect (on manufacture/transaction).

Table - 2
Share of direct and indirect taxes

(note: local taxes have been excluded)

2.4.    Tax-Gross Domestic Product (GDP) ratio.

2.4.1.    Tax-GDP ratio is an accepted macro-economic indicator to measure tax buoyancy.

Table - 3
Tax-GDP Ratio

2.5.    Revenue-GDP ratio

2.5.1.    Revenue-GDP ratio is an extension of tax-GDP ratio covering both tax and non-tax receipts.

Table - 4
Revenue-GDP ratio

2.5.2    (Many countries have a three-tier system of raising revenues: (a) federal taxes and non-tax sources (b) state/provincial taxes and non-tax sources and (c) revenues raised by and for local bodies. The ratios given in the above tables are indicative only, due to possible differences in the classification between countries.

2.5.3.    Since containing the level of fiscal deficit is an area of concern for any government, an efficient system of revenue collection is a very vital component for a country's fiscal stability and economic growth. Revenue audit has an important role to play in supporting the tax effort of the government by suggesting improvements in existing revenue assessment and collection systems. Widening the tax base through legislative and other measures is, however, within the purview of the executive and outside the audit domain.

3.    Role of Revenue Audit: Audit Mandate

3.1    The member countries of ASOSAI derive their mandate for revenue audit from the respective constitutions and/or audit acts.

3.2    The audit legislation of Australia sets out the mandate of the Auditor General and provides that the Auditor General has access to all federal agencies' accounts and records. In Bangladesh the Auditor General derives his mandate from the Constitution and the Comptroller and Auditor General, Additional Functions Act 1974 which give the Auditor General access to all records in possession of any person in the service of the Republic. However, a controversy has arisen between the National Board of Revenue (NBR) and the Auditor General regarding the Auditor General's access to the individual assessment records for direct taxes which, according to the NBR, are confidential documents as per the Income Tax Ordinance 1984. The Ministry of Law and Justice has upheld the rights of the Auditor General in its latest opinion. Hence audit of income tax assessments have not yet truly begun there. A similar situation prevails in the Philippines where the Commission on Audit (COA) promulgated a resolution authorising the auditors to evaluate the internal controls of the revenue administration system and to review the assessment records, collection records and other accounting records. This resolution has been opposed by the Board of Internal Revenue (BIR) considering it an encroachment by COA on the authority of BIR and a petition has been filed in the Supreme Court to set aside the COA resolution. The COA is optimistic that the court will finally resolve the case in its favour. In India the CAG has unfettered right of access to any assessment or other records of revenue. Since individual assessment records in income tax are confidential documents, a provision has been made under the Indian Income Tax Act endorsing the CAG's right of 'access to any individual assessment record. In Malaysia various revenue laws contain provisions allowing the Auditor General unimpeded access to all financial records. The Malaysian Income Tax Act provides for disclosure of all classified materials to the Auditor General. In Brunei Darussalem the SAI audits all revenues from services, utilities and indirect taxes but does not audit revenues derived from corporate tax and oil and gas extraction. In Cyprus, the audit teams visit the factories and bonded warehouses jointly with the departmental representatives for audit of excise and customs. In Japan the Board of Audit audits State taxes only and does not audit the local taxes collected by local governments i.e. Municipalities and Prefectures. In Jordan the SAI has sought an amendment of Audit Bureau's Law No. 28 for 1952 which will secure constitutional immunity for the President of the Audit Bureau and ensure his financial and administrative independence. In Korea the SAI has the power to seal warehouses, safes, documents and articles and can examine any person who is concerned with the subject matter of audit. In Russia the refusal or evasion of an audtitee to supply information/records to the SAI is tantamount to an offence under the Criminal Code of the Russian Federation. The Russian SAI (Accounts Chamber of the Russian Federation) has a mandate to do expert examination of federal draft laws as well as of the standard legal acts of the federal bodies of state governments which bear on the federal budget and budgets of federal extra-budgetary funds. It has done an expert study of the draft Tax Code, which will introduce an integrated taxation system in the country, and its recommendations have been presented to the Federal Council, the State Duma and the Government of the Russian Federation. In New Zealand the auditing standards prescribed by the SAI have adopted the standards of the Institute of Chartered Accountant of New Zealand as the minimum but has enlarged it to include inter alia the area of non-financial performance measures which provide a gauge on how well the Inland Revenue Department has performed in carrying out its functions on behalf of the Crown.

3.3    The audit mandates of most of the countries are quite comprehensive and exhaustive allowing the SAIs access to all revenue records, confidential or otherwise. Wherever controversies have arisen regarding the jurisdiction of audit, the issues have been generally settled in favour of the SAIs. The constitutions and/or the audit acts have provided for the independence of audit vis-a-vis the executive.

4.    Audit Methodology

4.1    The methodologies and techniques of revenue audit have evolved over time in member countries depending on the local circumstances. The methodologies have been designed to achieve the audit objectives provided in the audit mandates. The object of receipt audit is to seek evidence that revenue is assessed and collected according to law and errors of omission and commission are avoided in assessment. It also seeks assurance that pre and post control systems operate efficiently and in accordance with the stated objectives in the sovereign and subordinate legislations. It is the duty of audit to identify the lacunae in the Acts/Rules leading to non-fulfilment of stated policy objectives of the Government regarding revenues and to suggest remedies to overcome the legal infirmities. Since correct interpretation of tax laws is a prerequisite for quality audit, a proper understanding of the "settled law" is an absolute necessity for an auditor. Where clear judicial pronouncement exists the problem is easily solved. But in grey areas where the revenue and audit do not see eye to eye or there are conflicting judicial opinions, a machinery/system like bi-partite/tri-partite discussions involving the Law Department or reference to the Attorney General should be available whose opinion should be acceptable to both Audit and revenue department. Such systems are already in operation in countries like India, Bangladesh, Cyprus, Pakistan etc.

4.2    The collection and accounting system of Government revenues are checked in audit to assess whether internal procedures and controls adequately provide for regular accounting of collection and allocation and credit of the collections to the Government account

4.3    The Australian National Audit Office produces four main audit products: (a) Financial Statement Audits, (b) Performance Audits, (c) Financial Control and Administration Audit and (d) Assurance and Control Assessment Audits each with particular methodologies. Tax auditing in China involves the audit of state tax plan implementation and measurement of the growth in tax collection with reference to the growth in economy and analysis of the causes of variance, if any. In Japan the Board of Audit is entitled to present its opinion on the improvement of tax laws and regulations. In Korea mobile inspection is carried out by the auditors in secret to check corrupt practices in tax assessment and collection. In Customs audit in Myanmar, the SAI ensures that rules and regulations have been framed in accordance with laws and policies of the government and they provide an effective internal control system. In Pakistan the audit of SAI is divided into two main functions: (a) compliance audit and (b) "subject studies". In the Philippines a system based approach is adopted in audit of government revenues. In Saudi Arabia the SAI applies statistical sampling techniques for selection of auditable documents. In the United Arab Emirates the SAI audits the government revenues in three phases: assessment phase, collection phase and "deposit phase". In Yemen the SAI checks the various factors affecting the tax estimation.

4.4    Proper audit process presupposes careful audit planning to achieve the desired audit output. The SAIs have developed audit planning systems with reference to audit parameters and audit resources.

4.5    At the strategic planning level, Australia prepares annually audit strategies for each major Commonwealth agency. These strategic documents are the basis for all audit work programmes. Operationally the audit work plan identifies:

• The task to be completed
• The resources to be used
• The timing of key milestones in the project
• The expected outcome and impact of the audit

4.6.    In Bangladesh, depending on the budget size, revenue collection and risk, the auditee units are categorised as 'A', 'B' or 'C, the 'A' category units being audited annually. In Indonesia the SATs revenue audit includes evaluation of the internal controls and verification and monitoring of periodic and annual tax reports. In Japan the audit planning is two-fold i.e. top-down and bottom-up. The Board of Audit Management establishes overall audit policies and the Audit Divisions shifts priorities for tax audit, points of emphasis etc. In Korea the Annual Corporate Plan of the SAI is drawn up before the end of the previous year. Based on the Annual Audit Plan, the Quarterly Plans are prepared to suit available audit resources and the environment of auditees. In the Philippines the audit plan is dependent inter alia on the size and complexity of the agency's operations and quality of the internal control system. In India the strategic audit plan identifies the order of priority of the assessment units based on risk perception. The risk parameters are :

• Level of revenue realisation of each assessment unit
• Nature of audit findings in each assessment units
• The nature of the assessment unit etc.

4.7.    In Saudi Arabia the SAI lays down the annual plans and quarterly work programmes using computer systems to maximise output. In Malaysia the Audit Planning Memoranda are prepared by the Revenue Audit Branch for review by senior management in the National Audit Department before comprehensive audits are conducted. Sampling techniques are extensively used in Malaysia to select transactions for audit scrutiny. In Pakistan the auditee formations are classified according to their workload.

4.8    The strategic and operational planning of revenue audit are a component part of the corporate audit planning with individual audit risk parameters of revenue provided suitably with due weightages.

5.    Information Technology (IT) Audit

5.1    Many member countries of ASOSAI have developed sophisticated Information technology (IT) audit systems for effective use in audit process.

5.2    In Australia the SATs audit approach integrates the impact of information technology systems and the associated internal control structure and recognises that IT systems are vital to the operation of agencies and to the development of their financial statements. The SAI of Brunei Darussalem has a small IT audit section with officers having IT audit experience. In India a computerised audit planning system has been developed to facilitate the audit process. In Japan, the SATs computerised audit process involves unloading tax files' data from audtiees' mainframe computers to the personal computers of auditors for audit analysis. In Korea the SAI uses three techniques for IT audit : (a) the relevant data comparison method, (b) the program checking method and (c) the parallel simulation method. The SAI in Malaysia is using propriety software i.e. "Audit Command Language" for conducting audits. The Revenue Audit Branch uses computer software in its sample selection procedure. In New Zealand the SAI uses Computer Assisted Audit Techniques (CAAT) during audit. The SAI of Pakistan proposes to introduce the monitoring of audit observations through computer and establishing a computer link with the Central Board of Revenue. The SAI of the Philippines proposes to conduct an evaluation of the computerised tax system in the revenue departments when the same becomes fully operational. The SAI of Saudi Arabia has established an Information Centre with the object of developing an accurate automated system.

5.3.    IT audit is an area which is showing varying degrees of growth in the member countries. While some countries have developed fairly sophisticated systems, others are in the process of development in response to the increasing level of computerisation in the audit environment.

6.    Audit Reporting: standards and systems:

6.1    The Audit Report is one of the instruments to ensure legislative accountability of the revenue administration. The Audit Reports are placed in the Parliament where there is a parliamentary system or reported to the highest executive of the country where the parliamentary system does not exist. In many countries there is a select committee of legislature/parliament which discusses the Audit Reports, takes evidence on the issues raised by Audit and gives its final recommendations. The initial audit findings arising during the course of field audit typically are communicated to the revenue administration in the form of a management letter/inspection report and the views of the department are obtained before finalising an observation. Significant audit findings involving large transactions, leakages and fraud are reported to the Parliament/legislature/chief executive through Audit Reports. An active and meaningful debate in the Parliament and public media helps in plugging the loopholes in the system if the report is timely and follows good reporting standards.

6.2    The system of examination of audit reports by legislative committees of the legislature, exists in all the countries with a parliamentary form of government like Australia, Bangladesh, Cyprus, India, Japan, Korea, Malaysia, Myanmar, Pakistan, Papua New Guinea and Russia. In other countries the major audit findings are reported to the head of the state.

7.    Human Resource Management

7.1     Revenue audit has been accepted as a specialised area requiring adequate skill formation and skill improvement. Most of the SAI members are responsive to the training needs in this area and are trying to develop or have developed strong task forces to carry out an effective mission in this branch of audit. Various internal and external training courses and workshops are organised by the SAIs to equip the work force with the necessary technical inputs. Since revenue audit is largely a legalistic audit, the complexities and nuances of the tax laws and case laws have to be clearly understood and appreciated by revenue auditors for any meaningful audit analysis. Maintenance of a properly documented and accessible system of case laws, national and international, is necessary to keep the knowledge and information up to date.

7.2    Many of the member countries of ASOSAI have in-house training facilities in specialised areas like revenue audit. Some countries have the system of utilising the training facilities of the revenue departments to update the skill and knowledge of the revenue auditors. However, some SAIs feel that existing training facilities need improvement, especially in revenue audit and computer systems.

8.    Impact of Audit: systemic and legislative changes

8.1    As stated in the Bali Declaration, one of the objectives of the receipt audit is to point out loopholes, deficiencies and lacunae not only in the tax administration but also in tax laws. Many SAIs. have brought about important procedural/legislative changes through their audit reports.

8.2    In Australia the SAI has succeeded in producing systemic changes through their performance audit across the Australian Tax Office and other agencies. The SAI of Japan has brought about important amendments in Income Tax discount system. In India significant legislative and procedural changes have been brought about in tax laws of the Union and the States as well as in non-tax receipts through the audit findings. These have helped in streamlining the revenue administration. In Malaysia audit studies have brought about several amendments to the Income tax Act and Customs Act as well as important system changes in revenue administration. In Korea audit findings have institutionalised the widening of the database of revenue departments. In Jordan, as a result of audit findings, rent charges were included within the scope of business income.

9.    Conclusion : future trends

9.1    Revenue audit has been recognised by all the member countries as an important area which requires greater attention and more specialisation. In this era of trade globalisation and shift to market economy, every country will be opening avenues of investment. Government's fiscal policies and laws will in turn tend to change according to the new economic environment. Consequently audit will have to adapt itself to the changed pattern of government revenues and define its auditing standards accordingly. For example, Value Added Tax (VAT) may replace the existing indirect taxes in many countries and a liberalised tax regime may reduce the tax rates to attract investments without reducing the share of Government Revenues. Audit will have a role to play in ensuring that appropriate tax laws are in position to translate the changes, and that laws are implemented properly to safeguard government revenues in an era of liberalisation and that "what is Caesar's is rendered unto Caesar". As mentioned earlier, IT audit is another area of challenge which will have its own momentum of development in the member countries of the ASOSAI.