Tax Gap in Canada: A Conceptual Study
Chapter 3
What Do Other Countries Do?
3.1 Overview
The most common estimates related to VATs, with income tax and excise tax gaps also frequently estimated. Of the countries that estimate some component of the tax gap, a total of 13, including the United States, the United Kingdom, Sweden, and Australia, reported the results publicly. However, the frequency of these estimates varies greatly, from a one-time estimate to an annual estimate.
A number of countries surveyed by the OECD also indicated that they use or intend to use random audit programs for some taxes administered. These programs serve a variety of purposes in addition to tax gap estimation, including helping to develop and/or refine risk profiling systems, monitoring compliance in specific areas of the tax system and helping identify areas for potential legislative change. Random audit programs can also act as a general deterrent to non-compliance.
A comparative table of the strategic approach for managing tax compliance of OECD countries, and in particular their use of tax gap estimation, can be found in the table on the next page.
3.2 Tax Gap Estimation Programs in Other Countries
Of those countries that do publish tax gap estimates, varying degrees of detail and experience are provided. The approaches of a number of key countries are highlighted below.
It is important to note that tax gap estimates developed by different countries are not directly comparable due to differing economies, varied tax policy and administrative contexts, as well as a range of approaches to estimating the tax gap.
| Country | Formal risk management process used | Required by MOF* | Research carried out | Results made public | Random audits for some/all taxes |
|---|---|---|---|---|---|
| Australia | Yes | No | Yes | Yes | No |
| Austria | Yes | No | No | N/A | Yes |
| Belgium | Yes | Yes | Yes | No | ? |
| Canada | Yes | No | No | N/A | Yes |
| Chile | Yes | No | Yes | Yes | No |
| Czech Republic | Yes | Yes | No | No | No |
| Denmark | Yes | Yes | Yes | Yes | Yes |
| Estonia | Yes | Yes | Yes | Yes | Yes |
| Finland | Yes | Yes | Yes | Yes | Yes |
| France | Yes | Yes | No | N/A | Yes |
| Germany | Yes | No | No | N/A | Yes |
| Greece | Yes | – | – | – | – |
| Hungary | Yes | No | No | No | Yes |
| Iceland | Yes | No | No | N/A | Yes |
| Ireland | Yes | No | No | N/A | Yes |
| Israel | Yes | No | No | N/A | Yes |
| Italy | Yes | No | No | N/A | No |
| Japan | Yes | No | No | N/A | Yes |
| Korea | Yes | No | No | No | No |
| Luxembourg | Yes | No | Yes | Yes | Yes |
| Mexico | Yes | Yes | Yes | Yes | No |
| Netherlands | Yes | No | No | N/A | Yes |
| New Zealand | Yes | No | No | N/A | No |
| Norway | Yes | No | Yes | No | Yes |
| Poland | Yes | Yes | Yes | No | No |
| Portugal | Yes | No | Yes | No | No |
| Slovak Republic | Yes | No | Yes | Yes | No |
| Slovenia | Yes | No | Yes | Yes | No |
| Spain | Yes | No | No | N/A | No |
| Sweden | Yes | No | Yes | Yes | No |
| Switzerland | Yes | No | Yes | No | Yes |
| Turkey | Yes | Yes | Yes | No | Yes |
| United Kingdom | Yes | Yes | Yes | Yes | Yes |
| United States | Yes | No | Yes | Yes | Yes |
*Ministry of Finance
Source: FTA Tax Administration 2015: Comparative Information on OECD and Other Advanced and Emerging Economic Series
a. United Kingdom
Of the countries discussed in this paper, the U.K. estimates the largest number of components of its domestic tax gap, including VAT, corporate income tax, personal income tax, excise tax, national insurance contributions, and capital gains tax. As noted above, the HMRC includes a separate estimate of its tax gap attributed to tax avoidance.4 HMRC does not publish a separate estimate of the international component.
HMRC defines the tax gap as "the difference between the amount of tax that should, in theory, be collected by HMRC, against what is actually collected."
The estimates are expressed both as an absolute figure (that is, in British pounds) and as a percentage of tax liability so to better measure compliance over time.
- For 2013-14, the total tax gap is estimated to be GBP34 billion, which is 6.4 percent of total theoretical tax liabilities, indicating that over 93 percent of tax due that year was collected.
- Income tax, National Insurance Contributions and Capital Gains Tax accounted for 41 percent of the overall tax gap or GBP 14 billion.
- The 2013-14 estimate shows that the United Kingdom tax gap estimate has slowly declined since 2005-06, both in terms of absolute value, from GBP 37 billion to GBP 34 billion, and as a percentage of liabilities, from 8.4 percent to 6.4 percent.
HMRC has indicated that "although the tax gap isn't sufficiently timely or precise enough to set performance targets, it provides important information which helps us understand our long-term performance."
The methodology used by HMRC to estimate the tax gap depends on which aspect of the domestic tax gap is being estimated (e.g. VAT, excise tax). Both top-down and bottom-up methodologies are used, with methods and data sources like: data matching, management information, random enquiries (that is, random audits), and illustrative measures.5
The top-down approach is used to estimate VAT and excise tax gaps by comparing consumption data to tax receipts. Bottom-up estimates are used for direct taxes, with components of the direct tax gaps estimated separately for each different group of taxpayers and type of non-compliance.
The United Kingdom is one of the only countries that provides information regarding the cost of its tax gap estimation program. In 2015, the United Kingdom reported that 14 full-time equivalent employees work on improving, producing assuring and explaining the domestic tax gap (not including its random audit program), along with a random audit program that has a staff cost of about GBP 2 to 4 million.
b. United States
The United States estimates all three aspects of its tax gap: the non-filing gap, the underreporting gap, and the underpayment gap. It estimates most of these components for each type of tax separately: corporation income tax, individual income tax, estate and excise tax, and employment tax. It does not explicitly identify the international component of its tax gaps.
The IRS defines the tax gap as "the amount of tax liability faced by taxpayers that is not paid on time".
In late April 2016, the IRS released new tax gap estimates for tax years 2008 to 2010.
- For this period, the IRS estimated that the gross tax gap averaged USD458 billion per year, with an average yearly net tax gap of USD406 billion. This represents a voluntary compliance rate of 81.7 percent (or 83.7 percent net voluntary compliance rate).
- Underreporting of individual income tax accounted for the largest portion of the gross tax gap – an annual average of USD264 billion for the 2008 to 2010 tax years.
- While the dollar values estimated are higher than the previous report issued for the 2006 tax year (USD450 billion gross and USD385 billion net), the new report indicates that the increase reflects improvements to the IRS' methodology which lead to a more accurate and comprehensive estimate.
The report also indicates that compliance rates are significantly higher when third-party reporting is required and even higher when amounts are subject to third-party withholding (that is where a payer of an amount of income is required to deduct an amount of tax from the payment and remit it directly to the government).
Several methods are used to estimate the tax gap, including the use of administrative and third-party data, along with a substantial random audit program (about 14,000 random audits of individual income tax returns annually).
The IRS first issued tax gap estimates in July 1983 that covered tax years 1973, 1976, 1979, and 1981. Those estimates relied heavily on information gathered from an extensive random audit program, the Taxpayer Compliance Measurement Program (TCMP). The TCMP covered a nearly 25-year period including selected tax years from 1963 through 1988. After the 1988 tax year, the TCMP was discontinued. In 1988 the IRS issued estimates of the individual and corporation income gross tax gaps that focused on tax years 1973-1992. Subsequent reports included a net income tax gap report issued in 1990, an employment tax gap report issued in 1993, and an individual income tax gap report issued in 1996 (that was based on the final TCMP studies for tax year 1988). Formal tax gap estimation recommenced in 2005 for tax year 2001 using data collected by the newly formed National Research Program. The results of these analyses were released in March of 2005 and April 2006.
Tax gap estimates published by the IRS in 2006 and 2012 related to a single tax year whereas the results released in 2016 present an average compliance rate and associated average annual tax gap for the tax years 2008 to 2010. The IRS has indicated that this shift reflects a change in methodology aimed at improving the reliability of the individual income tax underreporting gap estimates by sources of non-compliance stemming from the redesign of the NRP from larger periodic samples to smaller ones.
c. Sweden
Sweden has estimated various components of its tax gap in the past including: VAT, corporate income tax, and personal income tax.
The Swedish Tax Authority (STA) defines the tax gap as "the difference between the tax that would have been determined if all taxpayers had reported all their activities and transactions correctly and the tax that was determined in practice following the STA's compliance procedures."
In 1998, at the request of the Swedish Government, the STA made its first attempt to estimate the tax gap. Since then, tax gap estimates have been published periodically by the STA.
- In 2008, the STA produced comprehensive tax gap estimates of a number of components of its tax gap, including, as noted above, the international component. Overall, its estimates suggested a total tax gap of SEK133 billion or 10 percent of tax determined.
- However, in its most recent tax gap report, published in 2014, the STA stated that data limitations prevented estimation of the tax gap, but suggested that the tax gap had probably decreased between 2007 and 2012.
The STA has used both top-down and bottom-up methodologies, with methods and data sources including: third-party data, surveys and random checks (that is, random audits). The STA suggests that the more information the STA has on the tax base from sources other than taxpayers themselves, the smaller the scope for errors, and that an estimation of the auditable tax gap would require an increase in random audits.
The STA has not indicated publicly whether or how it intends to undertake tax gap estimation in the future. The STA indicated in its 2014 report that estimating the tax gap is a difficult task, particularly given that major parts of the tax gap are deliberately hidden. Further, the type of data that was used to develop the 2008 estimate is no longer available due to a shift in the STA's approach to auditing. More specifically, the STA now conducts fewer and more detailed audits of high-risk taxpayers rather than random files, which does not provide the type of information required to develop a reliable tax gap estimate.
d. Australia
Australia has estimated and published the tax gap since 2012 and currently estimates tax gaps related to the goods and services tax (GST) and luxury car tax and some excise taxes.6
The Australian Tax Office (ATO) defines the tax gap as "the difference between the estimated amount of tax theoretically payable assuming full compliance by all taxpayers, and the amount actually reported to the ATO, or collected by the ATO for a defined period."
- Australia's net GST gap in 2013-14 was estimated at AUD2.7 billion or 4.9 percent of revenue. (Australia does not publish an overall tax gap estimate at this time.)
- For each tax gap estimated, the ATO indicates the reliability of the estimate from low to high. For 2013-14, none of the estimates achieved a high level of reliability.
The ATO uses both top-down and bottom-up methods, and a combined approach where possible. Methods used include: audit results, risk registers, and data-matching. These estimates are considered 'compliance' gaps that arise in relation to tax obligations, employer obligations, and administered expenses. The tax gap estimates form part of the suite of high-level measures that track the integrity of the tax system. Insights gained will inform the approach to supporting willing participation in the tax system and ensure that the right amount of revenue is being collected.
The ATO has publicly committed to developing tax gap estimates for all taxes it administers in the future. Several new tax gap estimates were published in tax year 2014-15, including the excise and duty tax gaps related to petroleum and diesel, and beer. The current schedule suggests that estimates will be developed for all remaining taxes by 2017.
The ATO collaborates with an expert panel and other tax gap private sector experts, such as researchers, stakeholders, and academics, in estimating its tax gap.
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Overview of International Approaches
*Expressed in 2015 Canadian dollars. Inflation adjustments based on World Bank and Eurostat (European Union only) data.
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