Opening Statement to the Standing Committee on Public Accounts

Enforcing the Goods and Services Tax

19 March 2003

Sheila Fraser, FCA
Auditor General of Canada

Mr. Chairman, thank you for the invitation to appear before the Committee to discuss the issue of GST fraud. Joining me are Jamie Hood and Andrew Lennox, the principals responsible for auditing the Canada Customs and Revenue Agency.

We have produced two reports that looked at the capacity of the Agency to detect and deter GST errors, fraud and abuse. In Chapter 16 of our 1999 Report, we reviewed the processing of GST returns and the auditing of GST registrants (Appendix A). In 2001 we reported on our follow-up of that audit (Appendix B). We have not done any work since then in this area.

In these reports we noted certain controls related to GST fraud which might be of interest to the Committee.

Registration review

In our 2001 follow-up, we noted that the Agency had initiated an enhanced registration review pilot project. The purpose of the project was to identify high-risk registrants early in the process. Ensuring that new GST registrants are legitimate would help to prevent cheques being issued on fraudulent claims.

Pre-payment audit

Normally, GST registrants charge GST on their domestic sales and pay GST on their purchases. If the GST charged to customers during the month exceeds the GST paid on purchases, the registrant owes the difference to the Agency. If the GST paid on purchases exceeds the GST charged to customers, the Agency pays the difference to the registrant. These are called credit returns.

The Agency's pre-payment audit program, which includes computerized validity checks of all credit returns, is designed to prevent registrants from receiving payments when fraud or gross error is suspected. In 1999 we noted that the validity checks rejected about 30 percent of the credit returns. However, only 3 percent of those returns were examined in-depth.

We were concerned about the effectiveness of the validity checks in detecting non-compliance and fraud. During our follow-up, we noted that the Agency had revised some of its automated validity checks and that additional changes were expected in 2003 and 2004. As well, the Agency drafted new guidelines for managing pre-payment audits, including plans to establish dedicated GST audit teams. The Committee may wish to explore progress in this area with the Agency.

Post-payment audit

The Agency also conducts post-payment audits on registrants that represent a high risk of non-compliance. Our work revealed that the Agency needed to do a better job of selecting registrants for audit. We also found that many audits took too long. At the time of our follow-up, the Agency was working to address these deficiencies.

Reporting GST fraud

Let me turn now to the question of reporting GST fraud. Information on losses due to fraud are reported in Volume II of the Public Accounts. As we indicate in our observations, we do not audit this section of the Public Accounts. It appears to us that all types of GST fraud were initially reported in the Public Accounts. However, in 1993-94 Revenue Canada-Taxation said that its systems could not provide information on revenue losses due to fraud. Since 1994-95, Revenue Canada and then the Agency have reported only employee fraud in Volume II of the Public Accounts.

The Chair of the Committee asked me to comment on the reporting of GST fraud in the Public Accounts. In my response of January 24, 2003, I said that although the government has not reported all types of GST fraud in the Public Accounts, we do not believe that it has contravened the provisions of the Financial Administration Act. At the same time, Treasury Board policy and the Public Accounts Instructions Manual require the reporting of such losses in the Public Accounts.

In a one-page document provided to the Clerk of the Committee, the Agency said that GST fraud does not meet the intent for reporting in the Public Accounts because losses due to fraud cannot normally be reported in the year in which they are detected. Court decisions confirming fraud are not made until months or years later.

While we agree that GST fraud cases can take years to settle, we note that the Treasury Board policy and the Public Accounts Instructions Manual provide guidance for these types of situations. The guidance states that such losses should be reported as soon as possible, but can be reported in a year subsequent to the one in which they were first discovered. Therefore, we believe that cases of fraud being pursued through the court system could be reported in the Public Accounts in accordance with this guidance.

However, there is a cost to producing this information. Members may wish to discuss with the Agency the ease with which they can produce this information from existing systems and what modifications, if any, would be necessary. It would be up to members of Parliament to determine, in consultation with the Agency, the type and level of information they need.

Mr. Chairman, that concludes my opening statement. We would be pleased to answer your Committee's questions.

Appendix A

REPORT OF THE AUDITOR GENERAL OF CANADA—1999
CHAPTER 16
Revenue Canada
Goods and Services Tax: Returns Processing and Audit

Main Points

16.1 We found that Revenue Canada's Summerside Tax Centre, until recently its sole GST processing centre, has steadily become more efficient. It has streamlined several processes, enhanced its error correction procedures, reduced unit costs and improved the timeliness of its processing operations. As a prelude to decentralizing the processing of GST returns, Revenue Canada further simplified its processing procedures. The results of a pilot test point to further efficiency gains.

16.2 At present, standards for returns processing tend to place insufficient emphasis on quality, accuracy, timeliness and unit cost, and the use of performance information is hampered by problems with the availability and reliability of data. Better performance measures would help to manage interest costs and improve service to registrants.

16.3 Revenue Canada can do more to improve the performance of its set of automated validity checks. These checks are the cornerstone of its pre-payment audit program. However, they are not particularly discriminating in their initial targeting of inappropriate refund claims. Revenue Canada also needs to consider reviewing and auditing returns on which refunds are not requested at the same time as it conducts pre-payment audits of refund requests.

16.4 Many of Revenue Canada's post-payment audits consume too many staff hours and go on for too long. Revenue Canada needs to help its auditors shorten their audit times by providing closer supervision and by encouraging better planning, execution and control of audit work. Audit performance may also be improved by better selection of registrants for audit.

Background and other observations

16.5 The introduction of the Goods and Services Tax (GST) in 1991 had a huge impact on Revenue Canada's activities. The Department had to develop a completely new processing operation and techniques to verify the accuracy of the returns submitted by almost 2 million registrants, ranging from small entrepreneurs to multinational corporations.

16.6 In 1993, Revenue Canada opened a new tax centre in Summerside, Prince Edward Island to process all GST returns and rebate forms from non-Quebec registrants. (The ministère du Revenu du Québec administers GST processing and audit of Quebec registrants.) The Summerside Tax Centre employs the equivalent of about 660 employees and has an annual operating budget of about $28 million.

16.7 Revenue Canada now processes about 5.5 million GST returns each year, as well as 200,000 domestic rebate forms and 3 million remittances from GST registrants.

16.8 The Department has begun to decentralize a portion of its GST processing activities to tax centres across the country. The processing of rebate forms will continue to be done in Summerside.

16.9 While, in general, GST returns processing is a tax centre activity, Revenue Canada's audit programs are performed by auditors in tax services offices across the country. There are two major audit programs. The first is the pre-payment audit program, which accounts for about 25 percent of auditor time. After the data have been processed but before refunds are issued, Revenue Canada applies a variety of automated validity checks to ensure that requests for refunds are appropriate. The checks are designed to capture the requests with the highest risks of non-compliance. The captured refund claims are sent electronically to tax services offices across Canada for review and, in some cases, for audit. In 1997-98, the GST pre-payment audit program resulted in assessments of about $165 million.

16.10 Revenue Canada also performs post-payment audits. These audits account for about 75 percent of auditor time and focus not only on particular returns but also on registrants with the highest risk of non-compliance. In 1997-98, this work resulted in assessments of about $355 million.

16.11 We examined the efficiency and effectiveness of the GST returns processing and audit functions. The efficient and effective use of resources is important because it has a direct impact on protecting the public purse and improving service to registrants.

Revenue Canada's responses to our recommendations are included in this chapter. The Department is in agreement with the seven recommendations, and its responses describe a number of actions that have been completed or are in progress to deal with them.

Appendix B

REPORT OF THE AUDITOR GENERAL OF CANADA—2001, CHAPTER 12
FOLLOW-UP OF RECOMMENDATIONS IN PREVIOUS REPORT
1999 Report, Chapter 16
Revenue Canada—Goods and Services Tax: Returns Processing and Audit

Background

12.297 The Goods and Services Tax (GST) is a multi-stage sales tax levied on taxable goods and services. The GST applies on each exchange of taxable goods and services, from the initial producer or supplier through intermediate producer or supplier to consumers. To ensure that the value added at each stage of the supply chain is taxed only once, producers and suppliers are able to recover the GST paid on their purchases of business inputs through "input tax credits." The Harmonized Sales Tax (HST) is collected in three of the Atlantic provinces and is an integral part of the GST program. The objective of the 1999 audit was to assess the efficiency and effectiveness of Revenue Canada's GST returns processing and audit activities.

12.298 In 1999 we noted that Revenue Canada, now the Canada Customs and Revenue Agency (CCRA), had streamlined its GST processing operations at its Summerside Tax Centre and improved their timeliness. However, we were concerned that the standards for processing returns did not place enough emphasis on quality, accuracy, timeliness, and unit cost. Furthermore, we noted that better performance measures would help to manage interest costs and improve the service to registrants. At the time of our audit, these operations were being redistributed among other processing centres and we were concerned that efficiency gains could be lost.

12.299 We also noted that the automated procedures used to identify higher-risk GST refund requests for pre-payment review needed to be more discriminating. We recommended that Revenue Canada review its preliminary processing procedures and consider reviewing those returns that included payments. We also found that GST post-payment audits could be better planned and executed, that they took too long to complete, that audit staff were not adequately trained, and that performance could be improved with a better selection of registrants for audit. Despite the enhancements made to various systems, we were concerned about the accuracy of the analyses done to evaluate the pre- and post-payment audit processes.

Focus of the follow-up

12.300 Our follow-up consisted of reviewing the status report prepared by the Canada Customs and Revenue Agency on its progress to implement our 1999 recommendations, reviewing supporting documentation, and holding discussions with its officials.

Conclusion

12.301 The Agency has made satisfactory progress in addressing all of our recommendations, except in the GST audit program support area where much of the effort to completely address our recommendation lies in the future.

Observations

12.302 The processing of GST return and rebate claims consists of opening and sorting the mail, validating the claims for completeness, batching them by type of document, entering the relevant document information into a central processing system, and correcting errors. If the total GST charged by a registrant to its customers exceeds the input tax credits claimed, the registrant is expected to remit the difference to the Agency. This is known as a "debit return." If the input tax credits exceed the GST charged, the registrant can claim a refund from the Agency. This is called a "credit return." CCRA pays interest on claims that take more than 21 days to process. The Agency also receives claims for rebates of GST paid from, for example, visitors to Canada.

12.303 A number of automated validity checks are applied to GST credit returns and rebate claims to detect those that may not comply with legislation or that may warrant investigation for some other reason. Selected returns are electronically forwarded to local Tax Services Offices (TSOs). As part of the pre-payment audit process, an officer examines each item and decides whether to pay the amount claimed or to refer the claim to an auditor who conducts a more in-depth examination.

12.304 The Agency also does post-payment audits to find other kinds of noncompliance with the many requirements of the Excise Tax Act, and to find problems with refunds that have already been paid. Using computerized support systems, auditors in TSOs select, plan, and do GST audits that represent a high risk of non-compliance. Results of audits are reported in Agency systems.

Progress made in processing GST returns

12.305 In 1999 we were concerned that management was not taking full advantage of available information and that Revenue Canada had not updated its processing standards to include quality, accuracy, timeliness, and unit cost. We were also concerned that it had not done benchmarking activities with other large processing centres of other similar organizations to assess its performance standards, its service delivery options, and its technologies.

12.306 In the follow-up, we found that the Agency has taken steps to monitor its returns processing activities and has developed reports on its data capture and error correction activities. It also compares the efficiency and quality of those activities among Tax Centres. Standards have been established for the new GST Telefile service. Managers recognized the need for official performance indicators related to other aspects of processing such as unit cost, but these have not been developed yet. Processing activities have been benchmarked to compare efficiencies among Tax Centres, but benchmarking has not yet been broadened to include other similar organizations.

12.307 We were also concerned in 1999 that Revenue Canada was not monitoring and controlling the amount of its portion of interest charges. The amount of interest cost that has been avoided could be a valid performance indicator of processing efficiency and service to registrants.

12.308 During the follow-up, we found that the Agency has directed its managers to pay particular attention to transactions that need to be corrected and to process, as a priority, those credit returns that stand to earn interest. The Agency is promoting the Direct Deposit of refunds to reduce the time it takes for a payment to reach a registrant. The Telefile option that was introduced in April 2001 to enhance service to registrants was also put in place to reduce interest costs. The Agency is developing a new report that will differentiate between interest amounts due to slow processing and those paid as a result of audit activities. When completed, this report is expected to provide managers with the necessary information to help them monitor and control the amount of interest that they are responsible for.

Progress made in GST pre-payment audit program; debit returns continue to be examined in post-payment audit

12.309 In our 1999 audit, we were concerned about several aspects of Revenue Canada's pre-payment audit programs:

• Automated validity checks were inefficient because they were not particularly discriminating, and many returns chosen by the checks did not need to be reviewed.
• Debit returns were not being considered as part of the pre-payment audit process.
• Procedures in TSOs to allocate resources and manage the review and audit of refund claims were out of date.

12.310 In the follow-up, we found the following:

• The Agency has reviewed and revised its automated validity checks for credit returns. More changes for credit return validity checks are to be implemented in 2003 and 2004.
• The Agency is currently analyzing validity checks for rebates and changes should be implemented in phases between 2003 and 2005.
• The Agency has considered reviewing and auditing debit returns at the same time as it conducts pre-payment audits of credit returns. It has concluded that its audit selection procedures for post-payment audits are appropriate to select high-risk debit returns. These selection procedures are reviewed periodically.
• The Agency has established a new model for allocating resources to the audit program. The model identifies GST pre-payment audits as a program priority. New guidelines for managing GST pre-payment audits that require establishing dedicated GST/HST audit teams have been drafted and were being released at the completion of the follow-up.

Agency improved its GST post-payment audit

12.311 In 1999 we were concerned that Revenue Canada needed to continue to improve its audit selection systems and provide additional training to those people that use them to select post-payment audits. It also needed to enhance its efforts to reduce the duration of audits.

12.312 Our follow-up work revealed that the Agency had recently revised its Workload Development Guide to assist staff in the use of audit selection systems. The Agency was also working with Statistics Canada to improve standard industry classification codes to reflect more detailed and accurate descriptions of the major business activity. The GST/HST Enhanced Registration Review pilot project was initiated to improve the criteria used to identify potentially high-risk registrants early on in the process. The results of the project will be reviewed to ensure that the criteria are acceptable to all regions.

12.313 We also found that the Agency had reduced team sizes and had put in place specific accountabilities for TSOs to report every six months on their progress in meeting audit objectives. This report includes status reports on audits outstanding for more than six months. A focus group was also held and it made recommendations that were implemented in field offices. These included recommendations for better-defined goals and objectives, more auditor accountability, more attention to file selection, and auditor training matched to audit responsibilities. A pamphlet informing taxpayers and registrants of their responsibilities during audits was distributed to help reduce the time taken to complete them.

Change in approach to support GST audit programs

12.314 In 1999 we were concerned that timely information was not available to effectively manage the pre-payment and post-payment audit programs. It was hard to determine which activities were working well and which ones needed improvement. It was also difficult to analyze variances in audit projects.

12.315 We found that the Agency had abandoned the "power play cubes" prototype it was hoping to use to track audits as a replacement to the 1999 systems. More recently, the older reporting systems have been enhanced to include more pre- and post-payment audits. In addition, several ad hoc reports are generated by the Agency to aid in managing the credit return workload. Although Agency management thinks that the current reports are adequate for decision making, the Agency is designing a replacement reporting facility to be implemented in 2001-02. The Agency also plans to implement report card monitoring in 2001-02 to improve the reporting of actual performance results against plan. Progress has been achieved, but much of the effort to completely address our recommendation lies in the future.