Why taxpayers risk losing input VAT in automated audits

As a way of curbing fraud, recovering revenue and increasing Value Added Tax (VAT) compliance, the Kenya Revenue Authority introduced a VAT Automated Audit module in iTax in October 2018.

The module seeks to reconcile input tax claimed by purchasers with the output tax declared by sellers. This is one of the recent efforts by the Kenya Revenue Authority (KRA) to make use of data analytics, in tandem with the global trend aimed at enhancing tax compliance by using digital technology. Indeed, KRA is increasingly moving away from traditional audits and has been carrying out more targeted desktop audits.

The VAT Automated Audit (VAA) module generates what is referred to as an inconsistency report which is sent via email to the affected purchaser and seller. The two taxpayers are given 15 days to amend the affected returns. An additional 15 days are granted in instances where they are unable to resolve the inconsistencies within the period. Thereafter, if there is no resolution an automated VAT assessment is issued as is the case for the current auto assessments.

Undoubtedly, the process has been marred by a myriad of challenges ranging from technical hitches in uploading the amended returns, insufficient response time given the volume of the data for most of the taxpayers, among other hurdles. To its credit, taking note of these challenges and concerns by taxpayers especially with regards to lack of stakeholder engagement, the KRA retreated for some time to resolve some of the issues raised.

Most of the affected responded to KRA offering the necessary explanation for the various inconsistencies identified by the module. It is, however, notable that KRA did not exhaustively take into account some of the challenges raised and proceeded to issue assessment orders for the affected taxpayers.

Basis of VAT Automated Assessments

Contrary to the impression created, inconsistency between the input tax claimed by the purchaser and the output tax declared by the seller does not necessarily imply non-compliance or tax leakage. Other reasons for inconsistency may include human error in capturing details of the invoice, for instance invoice number, partial exemption, foreign exchange differences or declaration of output tax as a lumpsum. Under all the aforementioned reasons, more often than not, the correct VAT amount was declared and the taxman paid the rightful share.

Issuance of VAT Automated assessments

To the surprise of many taxpayers, the KRA issued VAT Automated Assessments on Friday, 15 November 2019 (two workings days to the VAT filing deadline). The automated assessments covered the period January 2018 to May 2018. The taxpayers were either issued with a VAT Automated Assessment Order (for those who are currently in a payable position) or VAT Debit Adjustment Vouchers (DAV) (for those who are currently in a credit position).

While the auto assessments showed the incremental tax payable arising from the inconsistency, they lacked requisite details such as names, Personal Identification Numbers (PIN), reason for the inconsistency, date of the invoice among others. This has left taxpayers with a difficult task of trying to decipher and reconcile the various inconsistencies leading up to the overall assessment.

Legal basis

Unequivocally, a buyer of goods and services has no obligation, whatsoever, to ensure that the seller declares output VAT and remits the same to KRA under the prevailing VAT law. It is notable that most of the inconsistencies are as a result of the sellers failing to declare their sales invoices to individual customers as distinct and separate line items when filling their VAT returns. This ultimately leads to a mismatch between purchasers who correctly declare their purchase invoices and the corresponding input tax as distinct and separate line items vis-à-vis the sellers who fail to declare their sales invoices as such.

From the foregoing VAA is imposing an additional burden - which is almost if not entirely impossible to implement - on purchasers. This begs the question, given that the assessments are premised on this additional obligation, are they then extra-legal? I think yes.

Though KRA is empowered to collect taxes, it must exercise its powers in line with the law and not contravene the legal procedures set out in the relevant tax law.

To the extent that a taxpayer has claimed input tax within the confines of the VAT Act as read together with any other subsidiary legislation, the additional obligation of forcing the taxpayer to reconcile any data with the seller is unnecessary and a disruption to the affected businesses.

Objection to the VAA

Under the KRA approved guidelines on VAA assessments issued in September 2018, taxpayers who are not in agreement of the assessment are expected to object through iTax objection application which, when approved, will reverse the assessment by issuing Credit Adjustment Voucher (CAV). Where a taxpayer fails to object within 30 days, the guidelines (consistent with the Tax Procedures Act) provide that the debt arising therefrom will automatically be referred to debt department for collection. It is worth noting that for an objection to be considered valid, the laid-down conditions stipulated under the Tax Procedures Act must be met or else the objection may be considered to be like just any other letter leading to confirmation of assessment.

The above notwithstanding, KRA has gone ahead and forced taxpayers with VAT credits to declare the DAVs while filing the October VAT returns. Effectively, this reduces the taxpayers VAT credit by the amount assessed ahead of the objection process. Why then subject the taxpayers to an objection process if the credit has already been recovered from them? Isn’t this against the legal principle that one is considered innocent until proven guilty? When a taxpayer is called upon to pay Sh100, such a person should be afforded all the opportunities to have all his doubts and queries attended to in a very clear manner prior to the Sh100 becoming due and payable. This is the very reason why those dissatisfied with assessments such as VAAs can pursue appeals up to the Court of Appeal.

A practical example is where a taxpayer who has a credit of Sh100 is forced to declare a DAV of Sh90. This means that the taxpayer will only have a credit carried forward of Sh10. In effect, this implies that if KRA will not have issued the taxpayer with a CAV (which is most probable since the agency has 60 days to respond - not to forget the upcoming festive season) the taxpayer may be forced to pay part of the assessment in the subsequent return else their tax ledger will be loaded with additional assessments, penalties and interest which can only be removed at the discretion of the Commissioner, upon lodging an application for waiver of penalties and interest. Ultimately, taxpayers will have to invest valuable time resolving unnecessary and in some instances baseless problems created by the VAA process.

Way forward

To the taxpayer, whether good, bad or in between you have no option but to comply with the taxman – object if not in agreement or concede and pay if in agreement. Going forward, to minimize wastage of useful time in carrying out reconciliations and objecting to avoidable assessments it might be worthwhile to thoroughly vet and align with suppliers to ensure that information is captured correctly. To minimise human errors in data capture, it is time to consider deploying robots and in instances where the technology might be inaccessible to ensure that there are various levels of review prior to filing of returns.

To the taxman, I am almost sure that he has received a myriad of objections even way ahead of the 30 days deadline. We can only hope that KRA will have a chance to thoroughly review and respond within the 60-day window (assuming the Authority will not require additional information) provided for under the law. This could be the opportune time to review the approach of curbing VAT non-compliance. Without watering down KRA’s efforts, initiatives such as withholding VAT are already working albeit plunging taxpayers into cash flow issues. The VAA tool could also come in handy if re-looked at taking into account all taxpayers concerns and the VAT legal provisions.

How about using the VAA reports to go after specific taxpayers who are prevalent in most of the inconsistency reports instead of casting the net far too wide and causing disruption to taxpayers who have rightfully claimed their input tax? Or better still ensure that the Tax Information Management System (TIMS) which is at final stages of being rolled out remedies most, if not all the practical challenges experienced by the stakeholders?

The VAT law does not transfer the obligation of ensuring compliance of sellers to the buyers therefore if the VAA approach is not changed then the implementation will continuously be challenged. I rest my case.

The views expressed represent those of the author and do not necessarily represent those of Deloitte.