We are honoured to have VAT expert Charles de Wet joining us on this episode of our VAT Talks. Charles has almost 30 years of experience in VAT across South Africa and Africa, which he gained in the South African Revenue Service, numerous positions within PwC and most recently at ENSafrica, Africa’s biggest law firm. We are excited to hear more about his fascination regarding VAT and being taken on a journey of his favourite experiences in three decades. He is a big proponent of real-time reporting as a sophisticated measure to limit VAT fraud and to enhance compliance, and monitors related developments in authorities closely.
Could you tell a bit more about yourself and the current work that you are doing at ENS-Africa?
“I got involved in VAT before it was introduced in South Africa from 30 September 1991. I joined the VAT team of the South African Revenue Service in January 1991, nine months before VAT was introduced. I was based in the head office in Pretoria and there were a lot of decisions around the implementation that needed to be taken and also to interpret the law. This set up my whole career as a VAT specialist.
I spent the majority of it at PwC, eventually as leader of the African Indirect Tax Practice, which includes VAT. Nine months ago I joined ENSafrica as an executive consultant in VAT. It is interesting to be in a law firm because it is different from a big four accounting firm. There are two main things which are different, the first is that a large portion of the work comes from within the firm on transactions and advice relating to contracts and work done in other divisions. This means that you are involved earlier on in the process and often get to assist in planning aspects. Secondly, with revenue authorities under significant pressure to collect additional revenue, there are more disputes and the opportunity to challenge the authorities on their thinking and approach they take. Having legal expertise in the firm makes it easier in the dispute process and you are involved in the details until the matter gets into court. I am finding VAT-litigation very interesting and I am also learning new things in that space.”
How long have you been working in VAT, how did you end up in this field and what makes VAT interesting to you?
“In 1991, VAT was a new type of taxation. In fact, I was interested about how the introduction of VAT would work in South Africa. That is why I put up my hand and got involved in VAT and joined the VAT team at the revenue authority.
What makes VAT interesting to me, and especially when compared to other taxes, is that it applies on a transactional level. When you are advising in this field, you really need to understand in detail the transactions, the supply chains and how business works. From an income tax perspective you seldom get involved in that level of detail, and a VAT adviser always has a more detailed knowledge of the business and how it works.
I think a lot of people underestimate VAT. Indeed, it is always much more complicated than you imagine. People think that VAT is very simple compared to the income tax and straightforward, as what gets paid across as VAT can simply be claimed by the business customer. On the contrary, the moment you get into the details, VAT is anything but straightforward. You often end up with new challenges and questions that one cannot just answer, even after working in this field for 30 years.”
You told us that you were involved in the introduction of VAT in South Africa in 1991. What kind of experience was this and how did it go?
“The implementation in South Africa went reasonably well. Prior to that, South Africa had a General Sales Tax Act but it was acknowledged that this was not a good tax. There was much fraud, the amounts collected were much lower than expected and it only included goods but not services. There were thus good reasons to introduce a broad-based VAT system that included goods and services. One of the good things was that the new VAT rate was lower than the sales tax rate. That also helped to increase its general acceptance. A lot of time was invested in training people and walking them through the whole process and how it affected transactions. Obviously, there was also some criticism from labour unions which were afraid that VAT would make everything more expensive. Nevertheless, the new tax was generally well accepted.”
Some African countries have very advanced measures, think of Zimbabwe that also requires the registration of B2C transactions with the tax authorities. Is this something that more African countries want to take up and did it significantly improve revenue collection?
“We have seen a trend towards that. Zimbabwe was at the front end of it because it already had some sort of fiscal device that was made available to reduce fraud and to ensure that tax was properly declared. Given the difficulties with electricity and internet connections, this was quite innovative. If we look at PwC’s 2021 VAT in Africa Guide, there are now a number of countries that have implemented, or are thinking about implementing, fiscal devices along these lines. Uganda and Zambia are talking about it, Ghana has already started the project, as has Tanzania.
What is interesting to me is the importance of issuing tax invoices during the process. Fiscal devices reduce the VAT gap to a certain extent but there are more aspects around VAT such as enhancing compliance and real-time VAT reporting. Using fiscal devices is just one part of the solution. It makes it obviously easier for the revenue authorities to be certain of the VAT to be collected from suppliers. However, VAT is more than just a tax on those suppliers. Real-time reporting can also help to understand the cash flow cost.
Often in Africa there are problems about the affordability of refunds that taxpayers are entitled to. Some countries experience cash flow issues and simply do not have the cash to refund the amounts due under the VAT system. Not actually receiving the refund amount, even if it can be set off against future VAT liabilities, is problematic for business and often has a negative effect on their cash flow as well.
There is more VAT fraud in B2C transactions, specifically where suppliers simply do not declare and pay over the VAT due to the revenue authorities. In B2B, besides not declaring the input tax, there is often VAT claimed on expenses that the taxpayer is not entitled to. My understanding of the Zimbabwe case is that it was very much focused on B2C, while real time reporting would support B2B as well and especially the legitimate claiming of VAT on expenses.”
Is VAT fraud a common issue in the jurisdictions where you operated? Is there a certain scheme of VAT fraud that occurs? Is it on the same scale or less important than corporate income tax (CIT) fraud?
“VAT fraud is certainly an issue in South Africa and other countries. Nevertheless, VAT exemptions and exceptions in Africa are more limited than in Europe. Effective legislation with limited exemptions can prevent fraud. The more complicated the legislation, the more exemptions there are, the easier it is to commit fraud. In Africa, a lot of fraud comes from taking advantage of zero rating provisions and the big problem across the continent with border controls and the movement of goods between countries. People would claim refunds, often in collusion with people working for the revenue authorities. Thus, refunds get approved either without proper documentation and/or without going through a full review process.
The incidence of fraud is quite high and often focused on getting a refund from the revenue authorities but may not be as sophisticated as in Europe. The difference between VAT fraud and corporate income tax fraud is that in VAT fraud, fraudsters end up with real cash. This makes you more successful in VAT fraud. Also, returns for VAT happen more regularly, monthly or two-monthly, so VAT fraud is more common than corporate income tax fraud here.”
You also told us about the annual PwC Africa VAT Guide you initiated a few years ago. What is the predominant trend in Africa in VAT that you observed in the latest edition (2021)?
“Forty-six countries have now participated in this publication, which provides a good representation of the African situation. This report indicates that African countries are looking towards enhancing compliance and plugging tax leakages. They have highlighted real-time VAT reporting and the adoption of data analysis for better visibility and comprehensive insights into tax collections. Every African country is under pressure to develop systems to limit fraud. But at the end of the day it is about collecting more revenue, which you do by extending the tax base, getting rid of zero ratings, and limiting fraud. The other big focus this year is on the COVID-19 pandemic and the way that people respond. The challenge is often the affordability of the system and how many concessions can be made. I think these are the challenges African governments face today.”
The recent PwC Guide is named “Moving towards a united Africa”. Can you tell us a bit about the convergence in terms of VAT laws on the African continent?
“We have seen both a modernization of the legislation and a new style VAT that followed the example of New Zealand, Australia and South Africa. We have also seen difficulties concerning the taxation of electronic services. Some countries, including South Africa, have forced foreign electronic services suppliers to register as VAT vendors in the country, but that is complicated to enforce. On the other hand, there is a lot more cooperation and information sharing between governments concerning this issue.
In South Africa for instance, we have a reconciliation called an IT 14 SD. This is a mechanism to reconcile your income tax return with your VAT returns and payroll records. I am not sure that it really adds a significant amount of value because there are too many exceptions. I think that new technologies and real-time reporting are the best way to deal with VAT and would significantly improve the level of reporting. We must see a significant move to more sophisticated systems and real-time reporting, as these have proven successful in limiting VAT fraud.
Revenue authorities are not there yet, even though there are a lot of discussions concerning these matters. In South Africa, the discussions are focusing on proper data analysis before the submission of the VAT return but there have been limited developments in this regard. We have an e-filing system which allows you to file your return online. There is a trend across Africa to filing electronically as opposed to paper returns.
Tax authorities are digitalising also in other areas than VAT. For instance, South Africa is using third party verification for individual income tax and linking it with information that banks are supplying to verify relevant information. Today, it is easier to fill in your income tax return, simply because most of the information required on the tax form is pre populated: Your employer submits details of your payroll taxes, banks submit information on your interest earned, investment managers provide information on your investment returns and all this information automatically ends up on your personal income tax return.
For companies in South Africa, the tax returns are not pre-populated and neither are VAT returns. The VAT report is generated within the company’s accounting system and the information is then typed into the return on e-filing. Errors do occur, and even though there have been efforts to integrate systems to automatically populate returns, at the moment none are operational.
The South Africa Revenue Service runs a “risk engine” that recognises trends and does comparisons to other previous returns. Where there are variances, a verification letter is issued which acknowledges receipt of the return but requests further information on the amounts that have been declared in the return. Unfortunately, we do not know what parameters the risk engine uses and what the extent of the allowable variance is.”
Latin American countries have pioneered with introducing real-time reporting systems (Brazil, Mexico, Chile). Now more and more EU countries are moving towards real-time reporting. What do you think of these developments?
“This is a positive development and something that we will see expanding across the VAT world. It is important that VAT is a transactional tax and that each and every transaction has specific VAT consequences. The only way to assess whether VAT has been correctly applied to a transaction is by using data analytics to interrogate the data and the correctness of the VAT accounting.
While it is understood that what is disclosed in VAT returns is the summary of the underlying data, there is not yet general acceptance that it is critical to perform data analytics to validate the VAT accounting. Real-time reporting systems are the next step in this development as the effective reporting on the underlying data becomes necessary on a more timely basis and also for revenue authorities to link transactions between suppliers and customers.
Now the decision on whether VAT is declared on sales transactions or claimed on expenditure transactions is determined by the system and the VAT rules or configurations that are mapped into the system. While this should result in accurate VAT accounting, reconciliations and data analytics often demonstrate that the VAT accounting is not completely correct, often following from posting or coding errors.
Prior to these systems the VAT decision was taken by relatively low level employees in an organisation, such as sales or creditors clerks. I remember that when VAT was introduced in South Africa in 1991, the cashiers at the supermarket had to make the VAT decision. For example, for a standard rate sale of white bread, the cashier had to ring up the sale on the cash register by pushing the standard rated button while for brown bread, which is zero-rated, the zero-rated button had to be used. There was no accurate VAT accounting in these circumstances and the only thing that we knew was that this system wasn’t working as there were a lot of errors. In an attempt to manage this risk, a decision was taken to place differently coloured stickers on products for the different VAT rates. The effect was that the VAT decision was delegated to the packer, and now instead of there being errors on individual products, the VAT treatment of whole shipments was incorrect.
Real-time reporting would clearly have identified this incorrect VAT treatment and made it possible to make the necessary corrections, thereby effectively mitigating the VAT risk. The only way to maintain the integrity of a good VAT system is to get to the point where you run data analytics on transactions and identify errors immediately. If you have proper systems in place and know what you are looking for, then there is no reason why you cannot run analytics based on transactions and then process any corrections during the course of the same day. As reporting deadlines get shorter and people understand the value of data-analytics, we will see a bigger move towards real-time reporting. This will increase the quality of VAT compliance, not only through reducing fraud but also through getting the VAT declarations right for companies.”
Do you think open source is a solution for Africa?
“I am a tax person and not a specialist on the technological side. But there are two good reasons for open source. First, it is cost-efficient as opposed to proprietary software. Second, systems are becoming more and more integrated, and should also be more integrated to get better data.
Open source is a good solution for Africa where there is encryption of the underlying data as it would also facilitate the better sharing of information between revenue authorities.”
What would you say to the readers to make them more enthusiastic about VAT?
“I really believe that indirect taxes like VAT will increase in the future with more revenue being collected from VAT than other taxes. More countries are increasing VAT rates to collect more revenue which makes VAT a more important tax for revenue authorities and business. The other aspect is that VAT is intellectually challenging and an area where you can add a significant amount of value. I would encourage people to specialise in VAT. There is also the opportunity to link technology and VAT which is a new field where you can add value.”
We would like to thank Charles again for his time and for giving his perspective on VAT. The opinions expressed in this article are personal. If you have any questions, suggestions or if you want to be our next interviewee, do not hesitate to contact us via firstname.lastname@example.org