INTERGRATED AUDIT SYSTEM UNDER INCOME & SALES TAX AND COPORATE LAWS

INTERGRATED AUDIT SYSTEM UNDER INCOME & SALES TAX AND COPORATE LAWS <!--[if gte mso 10]> INTERGRATED AUDIT SYSTEM UNDER INCOME & SALES TAX AND COPORATE LAWS By M. Iqbal Patel, F. C. A., Karachi The Finance Minister has announced investment friendly and growth oriented budget 2004‑2005. The achievement of the objectives of the budget rests with the business community. But its achievements appear doubtful in view of the fact that they almost all the time are confronted with the question that either they do their business or serve the tax collectors who keep them engage all the time to furnish information etc. under different statutes. The Income Tax Ordinance, 2001 (Ordinance) empowers under section 176 to the Commissioner to call for any information from any person, it goes beyond and it has given discretionary powers under section 177 to him to select any person for audit without giving opportunity to the taxpayer to explain his position. The Sales Tax Act, 1990 prescribes for audit of the registered person. Similarly the Company Ordinance 1984 requires every company to get certified by the auditors that proper books of accounts have been kept and the financial accounts are in agreement with them. Provision in each of the above statute regarding audit is discussed as under: 1. Income Tax Ordinance 2001 (Ordinance) was introduced with a tall claim to simplify the tax laws and minimize the discretionary powers of the tax collectors; contrary to the claim; the Ordinance bestowed the Commissioner with the unbridled powers under section 177 to select any person for an audit. This provision is against the spirit of Universal Self Assessment Scheme (USAS) provided in the Ordinance. It provides that he may select any person for an audit having regard to (i) the persons history of compliance or non compliance with the Ordinance (ii) amount of tax payable (iii) the class of business conducted (iv) any other matter which in the opinion of Commissioner is material for determination of correct income. Accordingly recently after 10 months have passed since the returns are filed the taxpayers have received letters from the Commissioner intimating them that their case has been selected for audit; but the letters did not specify the basis applied nor the ground justifying for selection of their case for audit. The aforementioned criteria prescribed in the section 177(1) are so vaguely worded that Commissioner may act according to his whim. The history of compliance or non compliance with the Ordinance transpires that the taxpayers whether has complied with or not with the provision of the Ordinance in both of the cases he may be selected for audit. Similarly amount of tax payable does not specify what amount of tax is payable or of which tax year it is payable or what is yard stick to determine tax payable which will render him liable for selection for an audit. Likewise the class of business conducted by the persons appears covers all classes of business irrespective of it's size, or nature, or on what ground is liable for selection of audit. Besides it, the Commissioner has been given extensive powers to select for audit any person considering any matter, he considers relevant which obviously cause harassment of the taxpayer and resultant will fuel corruption. There has been hue and cry by the taxpayers inquiring from the Commissioner the basis of selection of their case for audit. But no response is given by the Commissioner which justified his action to the satisfaction of the taxpayer. The Income Tax Ordinance, 1979 (repealed) had a provision whereby the Central Board of Revenue (CBR) was empowered to frame a Scheme of Self‑Assessment Scheme for each year. Following the same practice; the CBR framed four parameters for selection for audit the corporate cases and two parameters for non‑corporate return which were announced in the press by the Member Direct Tax. The parameters for selection of corporate returns included the cases (i) where GP rate has declined by 2090 or more as compared to higher GP rate declared in the past two assessment years (ii) cases of exempt units, filing return for the first time after expiry of tax holiday (iii) cases where bad debts or provisions have been claimed at Rs.10 million or more (iv) cases who have claimed refund of Rs.20 million or more in case of LTU and Rs.5 million or more in other cases. The parameters for selection of non‑corporate return for audit encompass cases (i) claimed refund of Rs.100,000 or more and (ii) cases declaring income of Rs.150,000 and above (iii) where assessment in the last four years have been completed under USAS‑. The parameters relating to refunds and declaring income of Rs.150,000 or more by individual or AOP is a food for thought for them and will obviously adversely affect to the revenue. Again the CBR has realized that its action is not legal as it has no power to frame parameters for the purpose for audit under section 177, it has rectified the error in the Finance Act, 2004 and has therefore provided for powers that the CBR may lay down criteria for selection of any person for ad audit; however .the Commissioner's powers to select any person for audit is intact. The new substituted section 177 has made the criteria framed by CBR as confidential. Thereby the most important aspect of the power assumed by the CBR is to keep the taxpayers in dark by withholding back such criteria which has been termed unethical by the Honourable High Court Lahore, in a case reported 2004 PTD 1. As a matter of fact in order to make the tax laws transparent the criteria for selection for audit should be provided in the Ordinance substituting the existing provision under section 177(4). The law concerning to issue criteria for selection of audit by the CBR after filing of a return of income is totally unjustified and is an attempt to trap the unwary the taxpayers who ought to have been informed well before of return under USAS, the issuance of criteria later on nullifies part of the USAS provided under section 120 of the Ordinance as it has been held by the High Court in the case quoted supra. Moreover the section 177(5) authorizes the Commissioner to conduct extensive examination of books of account records and conduct the inquiry into expenditures, assets and liabilities of the taxpayers. This arbitrary provision of the Ordinance is inferior than the provision of the Repealed Ordinance whereunder the assessing officer (AO) under section 61 was authorized to serve upon the taxpayer a notice requiring him to produce such accounts and documents in support of the income declared in the return filed by him. Further it was mandatory for the AO that before discarding the accounts of the taxpayers, to give a notice providing him an opportunity to explain his point of view and explain the basis of the income declared by him. Contrary to this procedure which was in line with the, judicial decisions, the Ordinance does not provide for an opportunity of being heard to be given to the taxpayer by the Commissioner, neither before selection for audit under section 177 nor thereafter which is a dark aspect of the Ordinance what is the harm if the taxpayers are required to file the information alongwith return which now has been requisitioned through IDR comprising over two dozens requirements. However, a noval procedure has now been adopted is that the AO has written letters to the taxpayers without mentioning any reference of the provision of the Ordinance under which such letters are issued asking him to spare his valuable time to share the scope of the audit and information regarding production process and accounting procedure adopted by him. Although the taxpayers are very old, hence several assessment orders are available with the tax‑department which describes the method of accounts followed and business activities carried out by turn. The AO may get all the said information from tax records available with them. Thereby an unnecessary exercise is being carried out by them. The section 177(6) has very interesting provision that the Commissioner, after the completion of audit, he may, if he considers necessary, obtain explanation from the taxpayers on the issues raised in the audit. It will be noted that the Ordinance has created a double standard between tax collectors and the taxpayers‑to the extent that on one hand it has deprived the taxpayers from their natural right and judicially decided at different appellate forms, of being heard before and during the course of audit and on the other it has armed with extensive discretionary powers with the Commissioner to amend the assessment even without being provided an opportunity to explain the audit objections. Such unbridled discretionary powers will cause harassment of the taxpayers and fuel corruption too. The selection for audit of certain cases may be desirable but the process adopted for selection for audit of taxpayer is highly objectionable; it may be brought in line with the judicial accepted system. The Commissioner under section 177(6) on the basis of finding of the auditor, will amend the assessment 'treated as issued under section 120 under Self‑Assessment Scheme (USAS) making addition or alteration in the assessment order which he considers necessary without affording an opportunity of being heard to the taxpayer to explain his position. It is to be kept in mind that the corporate or non‑corporate sector all of them have filed returns under section 114 which is treated to be an assessment order of taxable income for the tax year unless deficiency, if any, is pointed by the Commissioner under section 120(3) and which is not removed by the taxpayer. The parameters for selection of audit have, now been announced by the CBR after aver ten months have passed since the returns were filed a similar issue which has been examined by the Lahore High Court in a case Messrs Shahib Textile (Pvt.) Ltd. and Federation of Pakistan mentioned supra. The brief facts of the case is that CBR had issued guidelines/circular after filing returns specifying categories of assessee liable to be selected for total audit under SAS under section 59 of RO. The Honourable Lahore High Court held: "However withholding of the guidelines till the filing of the returns does nut appear bona fide either. The Suite does not cheat the citizens". It further held: "The issuance of the criterion for selection of cases after filing of return rather indicated complete lack of confidence in the assesses". It finally gave its verdict: "Since admittedly all the cases of petitioner were selected for process under normal law on the basis of the guidelines issued after filing of the returns these cannot be approved on any legal, moral or ethical basis. Therefore, for the reason earlier detailed in the previous paras., I will allow these petitions and hold that their selection for total audit on the basis of guidelines was improper." It shall be set at naught. The decision of the learned High Court is important because that despite the CBR had powers under section 59 of SRO to frame the SAS Scheme, the Court did not approve it being the powers were exercised after filing the returns; whereas under the S.177 the CBR has no power to frame parameters for audit; and further that the parameters framed did not in confirmation with the criteria's prescribed under section 177(1) of the Ordinance. The legal experts are to ponder upon whether they can rescue the aggrieved taxpayers challenging the provisions of old section 177 and substituted in the Finance Act, 2004‑05 too. 2. SALES TAX ACT. 1990 (Act) Since the present system of sales tax is based on self‑assessment whereunder the registered person determine their tax liability on their own, hence the CBR considers that the audit is the only effective tool to ascertain whether the registered person has correctly assessed his tax liability and has deposited due tax into the Government treasury. The CBR has therefore, been giving utmost importance to the audit process and has been issuing directives from the time on the subject. The Act empowers the CBR under section 32A of the Sales Tax Act, 1990 to appoint a firm of Chartered Accountants or Cost and Management Accountants to carry out special audit of the records of registered person. Further the section 32AA authorizes the Assistant Collector to assign an Officer of Sales Tax not below the rank of auditor or Deputy Superintendent to carry out audit of any retailer. The audit under the Act involves the verification of the tax invoices, monthly returns, taxable supplies, input‑output tax, and net amount of sale tax payable or refundable are in accordance with the provision of the Act and are duly substantiated by the records required to be maintained for the purpose under the Act. 3. COMPANIES ORDINANCE 1984 (CO). The CO requires every company to get their accounts audited and lay in annual general meeting of the company and send a copy of it together with auditors report to every member of the company. The section 27 of CO provides for maintenance of proper books of account by every company in respect of money received, expended, sales, purchases, assets, liabilities and in case of a company engaged in production, it is required to maintain particulars relating to utilization of materials, labour and other inputs of cost. Moreover S. 234 of CO prescribes the contents of balance sheet and profit and loss account which shall give a true and fair view of the affairs and the profit and loss respectively of the company. It also makes absolute necessary that every item of expenditure fairly chargeable against the ear's income shall be brought into account. Furthermore the section 255 of CO gives complete access to the auditors of the books, papers, and vouchers of the company. It requires the auditor to report to the members of the company on books of accounts, balance sheer, P&L account and on every other documents forming part thereof. He is specifically to report whether "proper books of accounts as required under the CO are kept, whether the balance sheet and P&L account are confirmative with them and are in agreement with books of account. More particularly which is directly related to the tax assessing officer in respect of assessment of a company, the auditor makes report on the issue of (i) whether the expenditure incurred during the year was for the purpose of the companies business and (ii) the business conducted, investment made and expenditure incurred during the year were in accordance with the object of the company. The AO, therefore, should rest assure and rely on the auditors opinion expressed on, the issues mentioned above. It may be mentioned that auditor report is very important document on which the assessing officer shall rely because the S.260 of CO provides for penalty to an auditor who fails to bring out material facts about the affairs of the company is otherwise untrue. Moreover the working paper of the auditors are subject to be processed by the ICAP to ensure a quality audit. "The businessmen, thereby, are engaged throughout the year one after other tax collector and auditor to feed them with the information and explanation in respect of the activities of the business conducted by them. Although the purpose or objective for this scrutiny process is to ensure that the expenditures incurred, the business conducted and investments made during the period were in accordance with the objects set by the company and is fairly chargeable against ‑the income. This issue of conducting audit by different authorities for ascertaining common objective has now become very important to be addressed and an integrated system of audit‑requires to be framed so as to spare the business community from this hussale and to facilitate them to concentrate to their business and prepare themselves to meet the challenges of the globalization and the problem to be cropped up as a result of entry of our country to WTO. The two regulators viz. The Central Board of Revenue (CBR) and Securities Exchange Commissioner of Pakistan (SEC) are engaged in monitoring the maintenance of proper account by the corporate or non‑corporate sector as provided in the respective statutes through their authorities of income tax, sales tax and join stock registrars. Following are the few suggestions or proposals to be considered by .the CBR and SEC towards integration the existing monitoring / auditing system. The CBR has already undertaken a plan for restructuring of jurisdiction of Commissioners over companies. It has already initiated an appropriate action to harmonize the jurisdiction of Income Tax & Sales Tax Department of the companies on the basis of location of their registered offices and location of the business premises / factory. In similar manner there is need to coordinate the functions of the AO and the Sales Tax Collectors in. respect of conducting verification of accounts. The turnover declared and input claimed by a registered person is verified by the sales tax department. The income tax officer or auditors also undergo the, same exercise of verification of sales and cost of sales. This duplication of work may be considered to be avoided through revising a reporting system such as the CUR in their Sales Tax General Order No. 1 of 1999 has prescribed the procedure for monitoring of Audit Reports prepared by the Auditors/Senior or Special Auditors. The Collector should endorse a copy of the auditors' report to the Regional Commissioner of Income Tax who may submit it to the Commissioner concerned who may submit it to the AO concerned under whose jurisdiction the registered person is assessed on the basis of NTN of the registered person mentioned on application made for registration. The AO should accept the Auditors or Sales Tax Collector's findings on the verification of turnover and input cost of the taxpayer declared in his return. In this manner lot of work pressure of the AO will be reduced on one hand and the taxpayer will also feel easy to feed all the relevant information at one stage to Sales Tax Auditor or Collector: The other aspect of the issue is that it has been a practice and a routine matter that AO makes certain disallowances of the deductions of operating expenses of the taxpayer in computing income chargeable to tax under the head Income From Business. Generally these disallowances are made under stock phrase non‑verifiable and for personal use, without specifying the transaction found unverifiable and for personal use. Normally the department fails on this issue in the appeal, to a greater extent. Although the AO calls for books of accounts, vouchers and supporting documents for verification of the expenditures claimed for deduction but he is not in a position to go through the whole exercise to view of lot of time and efforts involved which are genuine difficulties faced by the AO, therefore, an alternate way out of the situation needs to be looked into. In this respect the AO safely can put reliance on the audited accounts produced by the taxpayer. The auditors have already verified each expenditure shown in the trading profit and loss accounts who have stated in 'their report that the expenses incurred during the accounting year were not only for the purpose of the business but these expenses were in accordance with the object of the business too and further that these expenses were fairly chargeable against the income shown in the aforesaid accounts. However, the Ordinance under section 20/31 provides general principles, deduction allowed and disallowed in computing income chargeable under the head Income From Business, the SEC may consider to extend the scope of the audit to cover the aforesaid provisions by the auditors to ensure the compliance of these limitations by the company in their account. If this procedure is adopted, it will not only give relief to the taxpayers from botheration of verification of these expenses by different auditors on one hand and the AO on the other, who will be facilitated to finalize the assessment quickly. The above proposals are stretch views, the issue indeed requires a thorough deliberation by a Committee to be constituted comprising income and sales tax authorities, SEC, Tax Bar and ICAP. The CBR and SEC may give though on the issue to introduce an integrate system of the audits of the companies which is carried out by the different authorities under respective statutes but with a common objective. The integrated computer data system, if introduced, will go long‑way to make the integrate auk system a success story. In this respect NTN may play an important role the SEC and Sales Tax Collector should make sure that each Form filed with them must have NTN thereon. LETTER FROM MR. CHAMAN LAL OAD, EX‑CIVIL JUDGE & FCM TO EDITOR PTD, LAHORE (Re: Promotion of foreign investment‑‑advance ruling system for non‑residents rule 231A of the Income Tax Rules, 2002, fails to serve the purpose) SUBJECT.‑ PROMOTION OF FOREIGN INVESTMENT‑ADVANCE RULING SYSTEM FOR NON‑RESIDENTS RULE 231A OF THE INCOME TAX RULES, 2002, FAILS TO SERVE THE PURPOSE The innovative idea behind the subject system was to enable to foreign investors, to make investment in Pakistan with a sense of "certainty", as regards their tax liability in respect of the specific transaction/specific project which has been undertaken or is proposed to be undertaken by a non‑resident person. Sub‑rule (5) of the file 231A, prescribes that the Advance Ruling to be issued by the C.B.R. shall be binding upon the Commissioner of Income‑tax (the Department) unless "there is a change in facts or in the law" on the basis of which, the Advance Ruling was issue Firstly sub‑rule (5)' sought to have provided that the advance ruling shall be binding on the commissioner, unless the change in facts has occurred on account of non‑resident person's (N.R.) omission or commission. In the absence of the N.R.'s fault, going back from the Advance Ruling, would be unjust. Secondly since, the change in law, being beyond the control o non‑residents, it is highly unreasonable to allow the commissioner to get out of the binding effect of the Advance Ruling, issued by the Department, itself, in respect of one and the same specific transaction/specific project. This sub‑rule (5), has therefore, made the things as "uncertain", as the same originally were, and therefore the Advance ruling system in the present shape, appears to be, not a reliable document and apparently would not serve the purpose of providing sense of "tax certainty/tax security", as was/is intended because, the intention is to be inferred from the language used, which here is apparently, so defective. The C.B.R. may therefore consider to revise language of the sub‑rule (5) so as to carry into effect the desired system, for promoting Foreign investment.