Improvement of Corporate Tax Audit: Factor of Increasing Tax Compliance in Malaysia

Table of Contents

Executive Summary 3

Introduction.....................................................................................................4

Tax Compliance, Tax Evasion and Tax Audit.............................................................4

Tax Audit in Malaysia........................................................................................6

Organization Structure........................................................................................8

Tax Audit Process.............................................................................................9

Tax Audit: Constraints and Problems.....................................................................11

Recommendations............................................................................................16

Conclusion....................................................................................................18

References....................................................................................................19

Appendix......................................................................................................20

Executive Summary

The Malaysian tax system follows the concept of self-assessment system (SAS). Under the SAS, the government trusts and gives taxpayers full responsibility to calculate, to pay and to report their tax due on their own. The success of SAS not only depends on the good tax administration but also depends on the taxpayer awareness, which is indicated by the taxpayer compliance in fulfilling his obligation. In order to enhance the level of tax compliance, the Inland Revenue Board of Malaysia (IRBM) considers that it can be achieved by law enforcement besides tax consultation and tax service. Law enforcement comprises of tax audit, tax investigation and tax collection.

Tax audit becomes important since it can cause a deterrent effect to increase taxpayer compliance. Tax audit plays an important role in determining the extent to which taxpayers can be made to comply with the laws and regulations. Tax audits are particularly useful in checking the most subtle forms of non-compliance i.e. evasion and avoidance.

However, the low audit coverage of the IRBM, especially on field audit, has been below 5% and complaints from taxpayers and tax agents have been raised on the field audit approach. What kind of constraints and problems does the IRBM have in conducting tax audit?

The research paper purposes are to identify constraints and problems in conducting tax audit in Malaysia and to give possible recommendations to overcome constraints and problems. The concluding remark of research paper is that in conducting tax audit, the IRBM has internal constraints which are categorized under audit coverage and audit technique. The low of audit coverage and lack of qualified officers are two main factors which affect the level of tax compliance. Through the observation and inquiry on Japanese Tax System, some possible recommendations has been suggested to increase the effectiveness and efficiency of tax audit.

Introduction

In the era of Self-Assessment System (SAS), tax audit is a routine activity. The introduction of SAS could increase noncompliance risk because of its voluntary nature, but tax authorities will be able to enhance voluntary compliance through tax audit. Since the introduction of SAS for corporation in 2001, Malaysian tax authority has emphasized tax audit in order to ensure the compliance at optimum level. However, there are still challenges for tax authority to need further improvement i.e. audit coverage is still at lower level (below 5%), human resource development and short term versus long term target/goal dilemma. What is the best audit approach that leads to higher tax-compliance? Tax authorities have internal and external constraints to tackle with. We will look into the current audit approach/practice of the Inland Revenue Board of Malaysia (IRBM) on corporate taxpayer, which has contributed more than 70% of total direct tax revenue collection.

Tax Compliance, Tax Evasion and Tax Audit

According to Andreoni, Erard & Feinstein, tax-compliance should be defined as taxpayer's willingness to obey tax laws in order to obtain economy equilibrium of a country. While Kirchler states it as the most neutral term to describe taxpayers' willingness to pay their taxes. McBarnet suggested that tax-compliance should be perceived in three different ways: i) committed compliance - taxpayers' willingness to pay tax without complaint; ii) capitulative compliance - reluctantly giving in and paying taxes; and iii) creative compliance - engagement to reduce taxes by taking advantages within the bracket of the law. While OECD stated that tax- compliance relates to the extent to which a taxpayer meet obligations such as register in the tax system, timely or lodgment of requisite taxation information, reporting of complete and accurate information on actual income and finally paying the tax indicated in the return form in the stipulated time. Therefore, taxpayer is considered to be compliant with the tax law when the annual tax liability is reported and right tax liability is paid. Otherwise, noncompliance with tax law will arise when taxpayers fail to meet those obligations.

Tax noncompliance has been an important issue for IRBM, as its impacts on both equity and efficiency of Malaysia economy. According to Elfers, Weigel and Hessing, noncompliance- can be defined as filing a tax return which deviates from what the law requires, given the situation of the taxpayer. Noncompliance with tax laws includes failure to declare actual taxable income and failure to claim the rightful deductions. Meanwhile tax evasion can be defined as willful noncompliance. It is preplanned and is committed to promote economic gain or occupational success for the perpetrator.

Tax audit plays a significant role in curbing the tax evasion and also aims to promote voluntary tax compliance in SAS. If taxpayers play a bigger role through SAS, tax audit will compel them to do their tax return honestly and properly. Asian Development Bank Tax Conference suggested audit as one of several instruments to improve tax compliance. IRBM also suggests that one way to assess and to