MAPping the Future

In my previous article, I discussed the concept of pre-populated tax return and how it can make paying taxes as easy as 1-2-3 using behavioral science. To recall, a pre-populated tax return is a tax return that the government fills in on behalf of the taxpayer and the taxpayer’s only role is to pay the tax due or to inform the tax collection agency if any correction is needed.

In essence, it reduces the process of filing tax returns into something like paying a credit card bill. When you pay your credit card bill, you don’t fill in how much you have to pay; the credit card agency does it for you and your job is only to pay the bill or to correct it. This intervention will influence taxpayers to make better decisions, i.e., filing and paying their taxes correctly and on time, without taking away their ability to choose since they can amend or change their return before filing it.

But what exactly does the proposal to include pre-populated tax returns entail?

Professor Joe Bankman, a professor of tax law at Stanford University, has explained how pre-populated tax returns or “pro-forma” returns work.

The government gathers data from third party reports and data already in its possession, which would then be downloadable into the correct electronic tax forms. The taxpayer could then review the forms, add any other data needed and then file the forms. For example, in the United States, Prof. Bankman explains that almost all taxpayers just need to enter the amount of charitable contributions.

In a pre-populated tax returns system, the government uses all those data, as well as historical taxpayer information, to provide a tentative return for the taxpayer to review, change and file.

There are many compelling reasons as to why we should implement pre-populated tax returns. The primary benefit, as noted in the previous article, is that it significantly reduces the compliance burden for taxpayers and there would be greater certainty that the taxpayers have fully reported their income.

By adopting pre-populated tax returns, tax agencies would also be able to provide more targeted tax returns. In the Philippines, the Bureau of Internal Revenue (BIR) has adopted an all-in-one approach in creating its tax forms. But taxpayers should only be concerned with the information that is particularly relevant to them. Why does a taxpayer using optional standard deductions have to use the same BIR form as a taxpayer using itemized deductions?

The government should not be afraid of creating tax forms specifically tailored for each type of taxpayer. It should not matter how many forms there are, since the taxpayers would be provided the applicable form based on their registration and source of income. This will benefit the more than 26 million individual taxpayers.

For employees or compensation income earners, instead of a substituted tax return through BIR Form 2316, which the employers prepare in behalf of the employees, the BIR will send a one-page pre-filled income tax return either via mail, email or text for confirmation;

It will also benefit self-employed and professionals (SEPs) who are qualified for optional 8-percent tax or who may avail of optional standard deduction.

SEPs who availed of itemized deductions in the previous period will be subject to a presumptive tax in arriving at an estimated income tax due. The same will apply if SEPs declare a loss or lower income.

Further, to address the registration gap, SEPs who register with any government agency and professional board will automatically be registered with the BIR (e.g., upon issuance of a business permit, professional license or registration of a business name).

Feasibility in PH

However, the proposal is not without criticisms. One is whether this is actually possible in the Philippines, a developing country that may not have the resources to adequately implement pre-populated tax returns. Countries that have adopted pre-populated tax systems tend to have strong institutions already in place, such as Singapore, Australia, Taiwan and South Korea. Even the United States has only implemented pre-populated tax returns in California.

The Organization for Economic Cooperation and Development (OECD) has laid down several factors that are critical to the successful implementation of pre-populated returns.

First, there must be accurate withholding at source. Otherwise, the tax agency would just be bogged down by the number of applications for tax refunds.

Second, there must be high-integrity taxpayer identifiers. To properly implement pre-populated tax returns, the revenue agency must be able to quickly and accurately match third-party data with the relevant taxpayer’s data.

Third, there must be a comprehensive system of third-party reporting to the revenue body. In other words, the revenue agency must be able to collect all the necessary information from third parties, such as major sources of income, important deduction items and other information relevant to determining liabilities.

Fourth, there must be a compatible legislative framework. If a country’s tax laws allow deductions, rebates or credits that are unpredictable through third-party reports, then there will be difficulty in successfully implementing pre-populated tax returns.

Fifth, there must be a high degree of automation among information suppliers. The use of automated systems in reporting relevant data would greatly facilitate the processing of third-party reports to the revenue agency.

Sixth, there must be large-scale information processing. Tax agencies need to be able to capture, validate and prepare all the relevant data, and generate pre-populated returns within a short period of time.

Seventh, and finally, there must be automated and minimal interactions with taxpayers. There must be provisions that allow the tax agency to minimize interactions with taxpayers. Otherwise, the tax agency would just be examining already completed pre-populated returns, which can be costly.

The OECD notes that all of these seven factors are critical to the success of pre-populated return systems. A major weakness in even one of the above-mentioned factors would significantly reduce the potential benefits of pre-populated returns.

In discussing how to improve the ease of paying taxes, we also need to include pre-populated tax returns. While there will certainly be difficulties, the hurdles are not impossible to overcome. Implementing pre-populated tax returns through a law that addresses the seven critical success factors outlined by the OECD would be a crucial step. Moreover, the benefits of pre-populated tax returns outweigh the costs and would greatly help tax administration in the Philippines.

This article reflects the personal opinion of the author and not the official stand of the Management Association of the Philippines or MAP. The author is a MPA/Mason Fellow at Harvard Kennedy School. He is a member of MAP Tax Committee and Ease of Doing Business Committee, and chief tax advisor of Asian Consulting Group. Feedback at map@map.org.ph and mon@acg.ph