Notification of a pending audit or investigation (Feb 00) (WITHDRAWN)

Introduction

This Standard Practice Statement (SPS) considers the application of Section 141G of the Tax Administration Act 1994. It defines what Inland Revenue actions constitute an audit or investigation.

This SPS also outlines the Commissioner's practice when notifying a taxpayer that an audit or investigation is pending in accordance with section 141G. All legislative references are to the Tax Administration Act 1994 unless otherwise stated.

Application

This SPS applies for the period from 1 March 2000 to 1 March 2002

Background

Although the compliance and penalties regime is no longer new, Inland Revenue is required to constantly review and refine its procedures to ensure that its operational practices are in line with the legislation.

In some situations taxpayers have been uncertain whether contact from Inland Revenue has been notification of a pending tax audit. These cases have highlighted problems that may arise in relation to Inland Revenue's approach to giving notification of an audit in accordance with section 141G.

For example, a taxpayer may be told over the phone that Inland Revenue intends to review or check their tax affairs and, not realising the conversation to be notification of an audit, may make a voluntary disclosure expecting the full 75% pre-notification reduction in penalty. However, Inland Revenue considers the disclosure to be a post notification voluntary disclosure and grants only a 40 % reduction in penalty.

Summary

Any Inland Revenue examination of a taxpayer's financial affairs verifying compliance with the tax laws is an audit.

However, not all Inland Revenue contact with a taxpayer merely regarding their tax affairs will necessarily lead to an audit. Therefore when Inland Revenue is notifying a taxpayer that a tax audit or investigation is pending this fact will be clearly brought to the attention of the taxpayer.

Legislation

A shortfall penalty payable by a taxpayer, under any of sections 141A to 141E, may be reduced in accordance with section 141G where the taxpayer makes a full voluntary disclosure to Inland Revenue regarding the details of the shortfall. If the disclosure is made before the taxpayer is first notified of a pending tax audit or investigation the penalty is reduced by 75%.

Where a taxpayer makes a full voluntary disclosure after the taxpayer is notified of a pending tax audit or investigation, but before the Commissioner starts the audit or investigation, the penalty is reduced by 40%.

141G. REDUCTION IN PENALTY FOR VOLUNTARY DISCLOSURE OF TAX SHORTFALL

141G(1) A shortfall penalty payable by a taxpayer under any of sections 141A to 141E may be reduced if, in the Commissioner's opinion, the taxpayer makes a full voluntary disclosure to the Commissioner of all the details of the tax shortfall, either:

(a) Before the taxpayer is first notified of a pending tax audit or investigation (referred to in this section as "pre-notification disclosure"); or

(b) After the taxpayer is notified of a pending tax audit or investigation, but before the Commissioner starts the audit or investigation (referred to in this section as "post-notification disclosure").

141G (2) The Commissioner may from time to time:

(a) Specify the information required for a full voluntary disclosure; and

(b) The form in which it must be provided.

141G (3) The level by which the shortfall penalty is reduced:

(a) For pre-notification disclosure is 75%:

(b) For post-notification disclosure is 40%.

141G (4) A taxpayer is deemed to have been notified of a pending tax audit or investigation, or that the tax audit or investigation has started, if:

(a) The taxpayer; or

(b) An officer of the taxpayer; or

(c) A shareholder of the taxpayer, if the taxpayer is a close company; or

(d) A tax adviser acting for the taxpayer; or

(e) A partner in partnership with the taxpayer; or

(f) A person acting for or on behalf of or as a fiduciary of the taxpayer, is notified of the pending tax audit or investigation, or that the tax audit or investigation has started.

141G (5) An audit or investigation starts at the earlier of

(a) The end of the first interview an officer of the Department has with the taxpayer or the taxpayer's representative after the taxpayer receives the notice referred to in subsection (4); and

(b) The time when-

1. An officer of the Department inspects information (including books or records) of the taxpayer after the taxpayer receives the notice referred to in subsection (4); and
2. The taxpayer is notified of the inspection.

Standard Practice

What is an Audit?

An audit is any examination of a taxpayer's financial affairs that checks that the taxpayer has paid the correct amount of tax and is complying with the tax laws. An audit may simply be a check of a GST registration, or it may be a full examination of business records.

Various types of audit activity are undertaken by Inland Revenue. These include all activities: for example income tax audits, investigations, payroll audits, GST refund checks, payroll and GST registration checks and any other type of review.

Each type of audit is done differently, although the basic procedures are the same. For example, a payroll audit may take only one visit, while an investigation often takes longer and needs more work at the taxpayer's place of business.

Therefore, any Inland Revenue examination of a taxpayer's financial affairs verifying compliance with the tax laws is an audit.

For further information about audits please see the Inland Revenue pamphlet IR 297, "Inland Revenue audits, information taxpayers need about audits"

Notification of an audit

Not all Inland Revenue contact with a taxpayer merely regarding their tax affairs will necessarily lead to an audit. Therefore when Inland Revenue is notifying a taxpayer that a tax audit or investigation is pending this fact will be brought clearly to the attention of the taxpayer.

Inland Revenue may give verbal or written notification to a taxpayer of a pending audit or investigation. Only Inland Revenue can give a taxpayer notification of Inland Revenue's intention to carry out an audit.

The time of notification of an audit or investigation will be at the earlier of the date of receipt by the taxpayer or agent of the written advice or the time of a telephone call or visit from Inland Revenue advising that an audit is pending.

Terms used when notifying a taxpayer of a pending audit or investigation

Inland Revenue is not restricted by section 141G to the use of prescribed terms or phrases when notifying taxpayers that an audit or investigation is pending. While the use of the words "audit" or "investigation" when notifying a taxpayer of a pending audit is strongly recommended they are not essential.

Numerous terms may be used, including, but not limited to: review, verify, check, inspection, audit or investigation, i.e. any activity that suggests that Inland Revenue intends to verify that the taxpayer has complied with their tax obligations. However, no matter what terms are used it must be clear on the face or tenor of the communication that an audit or investigation is being commenced into the affairs of the taxpayer.

An audit is "pending" if Inland Revenue has decided that it will audit a taxpayer and has notified the taxpayer of that intention but that audit has not yet commenced. Notification of a pending audit is when Inland Revenue tells a taxpayer that they are definitely going to be audited.

Inland Revenue may contact a taxpayer to make inquiries where it does not yet intend to audit, such as transfer pricing questionnaires or requesting information to carry out a tax "risk analysis" of a corporate. This is not notification of a pending audit, as Inland Revenue has not made a definite decision to audit that taxpayer and it is not notifying the taxpayer that an audit will be commenced.

Problems may arise where verbal notification has been given but the taxpayer disputes what they were told during the phone call or meeting. To avoid these situations Inland Revenue staff will record when notification was given.

Standard Practice Statement INV-250, Voluntary Disclosures, published in the Tax Information Bulletin: Volume ten, No.3, contains further information about the making of voluntary disclosures. Also available is the Inland Revenue booklet IR282, "Putting your tax affairs right".

Details of audit required

Standard Practice Statement INV-250 considers the situation where a taxpayer has been notified that a particular tax type or period of their affairs is to be audited and then makes a voluntary disclosure regarding another tax type or period for which notification of an audit has not been given. In this case the taxpayer will qualify for the pre-notification voluntary disclosure reduction in penalty for that other tax type or period.

Therefore, notification of an audit will inform the taxpayer, firstly, that they are being audited and, secondly, which areas of their tax affairs are to be audited. This also means that taxpayers will be informed as to the direction and focus of an audit as it progresses. If the focus of the audit widens during the audit and other issues and periods are to be reviewed, the taxpayer will be notified of this change in scope of the audit.

If Inland Revenue intends to audit all areas of a taxpayer's tax affairs, the taxpayer will be notified accordingly. This means that any subsequent voluntary disclosure for any period or tax type would be a post-notification disclosure and a 40% reduction in penalty allowed.

Making a voluntary disclosure where Inland Revenue already knows of the shortfall.

There are some circumstances where Inland Revenue will know that a taxpayer has not fulfilled their tax obligations therefore the taxpayer can not make a voluntary disclosure of this shortfall, as they are not telling the Department anything that it does not already know.

There will not be a reduction in shortfall penalty where the taxpayer tries to make a voluntary disclosure but Inland Revenue already knows that there has been a tax shortfall and they have verification of that shortfall.

For example: a registered employer has filed for the year but fails to account for PAYE. In this case the Inland Revenue system will show that the employer was meant to pay ‘x' amount by the due date. If the employer fails to account they can not then disclose the failure to account and expect to get a reduction in penalty. Inland Revenue knows when the employer was meant to pay and how much was owed. The taxpayer can not disclose something to Inland Revenue that it already knows.

Examples

When a taxpayer is first notified of a pending audit:

• "I intend to conduct an audit on. …. I will telephone you shortly to arrange a suitable time for the initial meeting."
  
  
• "I am ringing to advise that Inland Revenue intends to audit your…and I will be writing to you shortly about the audit."
  
  
• "I am ringing in relation to your recently filed GST return and your claim for a refund, Inland Revenue wishes to check this return before the refund is paid."
  
  
• "I am writing to inquire about a claim made in your… return"
  
  
• I am from Inland Revenue… I am a Payroll Investigator and I would like to examine your payroll records to see if you are complying."

Where taxpayer is not "notified".

• "Inland Revenue would like to visit you to discuss any issues you may wish to raise"
  
  
• "Inland Revenue is likely to audit you some time in the next year as we have a high audit coverage in your industry"
  
  
• "Inland Revenue would like to visit you and examine your records as part of our large company risk analysis programmes. Following the analysis this may, or may not, result in an audit. If an audit is to commence following this risk analysis I will advise you".
  
  
• Scenario - Inland Revenue makes inquiries of a head contractor and suspects an audit is needed on a subcontractor. Prior to Inland Revenue notifying the sub-contractor they are to be investigated the sub-contractor advises Inland Revenue that they intend to make a full voluntary disclosure.

This Standard Practice Statement was signed by me on 10 February 2000.

Margaret Cotton
Manager
Technical Standards