Addressing the challenges of tax audits

LAHORE: The inability to establish a credible fear of audits is a significant shortcoming in Pakistan’s tax system. A fair and transparent audit process deters tax evaders by increasing the perceived risk of being caught and penalised. However, fear alone should not be the primary strategy. The system must also build trust by ensuring that audits are impartial and non-discriminatory.

In Pakistan, tax audits are overseen by an agency with limited independence, and the credibility of these audits is often questioned due to perceptions of corruption, inefficiency, and selective targeting. In neighbouring countries, tax audits are semi-independent, which has led to better tax-to-GDP ratios. For instance, in India, the Comptroller and Auditor General (CAG) oversees government revenues, including taxation, although direct tax audits are primarily managed by the Central Board of Direct Taxes (CBDT). Similarly, in Bangladesh, the Office of the Comptroller and Auditor General reviews tax operations, but it does not have full independence in conducting direct audits.

Developed economies typically have high tax-to-GDP ratios, partly due to fully independent tax audits. In the US, the Government Accountability Office (GAO) and the Internal Revenue Service (IRS) keep checks to ensure impartial audits. In Canada, the Office of the Auditor General operates independently to assess revenue collection, while in the UK, Her Majesty’s Revenue and Customs (HMRC) is reviewed by independent auditing bodies.

Independent tax audits are perceived as credible and trustworthy by taxpayers, who are more likely to comply when audits are seen as unbiased. Independence minimises undue influence within the tax collection agency, thus reducing corruption. When people are convinced that audits are free of favouritism, the chances of voluntary tax compliance increase significantly.

Improving the certainty of tax collection in Pakistan requires systemic reforms to enhance efficiency, fairness, and public trust in the tax system. To strengthen the credibility of tax audits, experts have advocated for the establishment of an autonomous body to conduct audits and mitigate biases. The state should also leverage artificial intelligence and data analytics to identify discrepancies, reduce human intervention, and minimize potential corruption. However, this technological integration faces opposition from vested interests within the bureaucracy, who benefit financially from conducting audits. Technology alone could establish clear, publicly disclosed criteria for audit selection, ensuring greater transparency. There is a shortage of trained professional auditors in Pakistan. It is essential to invest in training auditors to handle complex cases effectively and build their auditing capacities. Additionally, whistleblower protection is weak in Pakistan due to corruption. The identities of whistleblowers are often leaked, leading to harassment and retaliation, which discourages reporting misconduct within the tax system.

Benjamin Franklin’s famous quote, “In this world, nothing can be said to be certain, except death and taxes,” holds true universally, but with nuances in developing economies. Tax evasion and informal economies often make taxes seem avoidable, undermining fairness and compliance. Weak enforcement and corruption allow many to evade their tax obligations, making taxes less certain compared to developed economies.