Taxpayers’ rights vs. taxing rights of a state

This article describes the complex and contentious relationship between taxpayers’ rights and the taxing rights of a state. Taxation is not only the second-oldest profession in the world but is also a fundamental part of modern governance and provides states with the revenue they need to provide essential services to the public, including taxpayers.

 Taxes and public services are intertwined and essential for the functioning and well-being of a society. Taxes provide the financial resources necessary for states to deliver vital public services, promote economic stability, reduce inequality, and address various social and environmental challenges. An effective and equitable tax system is crucial for supporting the common good and achieving societal goals. 

Obligations of a taxpayer

 A tax system should be cohesive, fair, simple, and transparent so that it can harness the robust relationship between taxpayers and the state.

It is not a secret that no one is willing to share his hard-earned income with others unless a return on it is guaranteed. The return on payment of tax should not necessarily be a monetary or tangible one, but it could be a feeling of fairness and satisfaction that the tax is fairly collected and disbursed.

In the absence of such prerequisites, ensuring the voluntary self-compliance of the taxpayers and of the potential taxpayers would be a formidable task. If only for the tax statutes passed by the legislatures, the collection of taxes would have been considered a robbery and fought tooth and nail.

Taxpayers have a legal and ethical and a social obligation to pay taxes to the state. This obligation is an integral part of citizenship and is based on several key principles.

The dynamic interplay between taxpayers’ rights and the obligations of tax officials forms the cornerstone of a just and efficient tax system

Failure to fulfil one’s tax obligations can result in legal consequences, such as fines, penalties, interest on unpaid taxes, and even criminal charges in cases of tax evasion. Tax authorities have the legal authority to audit taxpayers. 

Rights of the taxpayer

 It’s important to note that tax laws and regulations alone will not guarantee the collection of tax revenue for the state. Ensuring the rights of the taxpayers and solemn attempts by tax officials to uphold them would play a decisive role in safeguarding voluntary tax compliance by the taxpayers.

Taxpayer rights serve as a safeguard against state overreach and abuses within the tax system. While the state has a legitimate right to collect taxes to fund essential services, this authority is not absolute and must be exercised in a manner that respects the fundamental rights of taxpayers. When taxpayer rights are violated or infringed upon, it can override the state’s right to tax, leading to legal challenges, refunds, or the invalidation of tax assessments.

Considering this complex and controversial nature of the tax issue, almost all the states have enacted laws safeguarding the rights of the taxpayers, giving them prominence so that none could infringe on them. Once the taxpayer’s right is infringed upon by the state official, the state’s right to tax will be denied. There are several decided tax cases that will be later cited.

Taxpayers have several inalienable rights, including the following:

• right to access information about the tax obligations, procedures, and deadlines,
• right to know reasons for the decisions of tax officials,
• right to privacy and confidentiality of their financial data, subject legal justification,
• right to challenge tax assessments and decisions of tax officials,
• right to be represented by legal counsel or tax professionals,
• right to be treated fairly, impartially, and without discrimination,
• right to know the time bar periods within which actions must be taken to assess the returns.

 It’s important to note that these taxpayer rights are often enshrined in tax laws and regulations, and they are intended to protect individuals and entities from unfair treatment by tax authorities. Taxpayers are encouraged to be aware of their rights and seek legal counsel or assistance if they believe their rights have been violated or if they have concerns about their tax situation.

 Discretionary power Vs. Absolute power.

It is a matter of concern that the misuse of the discretionary powers given by the provisions of tax statutes, leads to a violation of the taxpayers’ rights guaranteed by the Constitution and the tax statutes. Absolute power corrupts absolutely.

The fuller bench of the Supreme Court in the case of SC/FR/551 -561/ 2018 mentioned in its judgment as follows with regard to use of discretionary powers given to public officials.

“As Fernando J emphasised in DE SILVA vs. ATUKORALE [1993 1 SLR 283 at p. 296- 297], “The powers of public authorities are therefore essentially different from those of private persons. A man making his will may, subject to any rights of his dependents, dispose of his property just as he may wish. He may act out of malice or a spirit of revenge, but in law this does not affect his exercise of his power. In the same way a private person has an absolute power to release a debtor, or, where the law permits, to evict a tenant, regardless of his motives. This is unfettered discretion. But a public authority may do neither unless it acts reasonably and in good faith and upon the lawful and relevant grounds of public interest. Unfettered discretion is wholly inappropriate to a public authority, which possesses powers solely in order that it may use them for the public good.”

“On similar lines. Eva Wanasundera, PC J stated in PREMALAL PERERA vs. TISSA KARALIYADDA [SC FR No. 891/2009 decided on 31st March 2016 at p.5], “The said authorities have specifically rejected the notion of unfettered discretion given to those who are empowered to act in such capacity and held that discretions are conferred on public functionaries in trust for the public, to be used for the good of the public, and propriety of the exercise of such discretions is to be judged by reference to the purposes for which they were so entrusted.”.

One such misuse of the discretionary power given by the Inland Revenue Act, No. 24 of 2017 (the Act) is section 135, which allows a tax official to amend the original return furnished by a taxpayer. (Separate article would be published on “Rejection of Return: Absolute Power or Restricted Power”). 

Taxpayers’ rights vs. the state’s taxing rights

 Taxpayers’ rights and obligations are clearly laid down in the Tax Statutes, Case Laws, and Publications of the Inland Revenue Department (IRD).

Article 148 of the Constitution guarantees that no person can be subject to any tax except by or under the authority of a law passed by Parliament. So any tax imposed on a person should be transparent, explicit, and unambiguous.

“Parliament shall have full control over public finance. No tax, rate, or any other levy shall be imposed by any local authority or any other public authority, except by or under the authority of a law passed by Parliament or of any existing law.”

For example, Section 135(2)(b) of the Act can be cited as an assurance and a legitimate expectation given to a taxpayer that the return of income furnished by him will not be subject to audit or rejection (except for fraud or wilful neglect) after a lapse of 30 months (time bar) from the date of furnishing of the return, even if the issue was bona fide and the liability was very clear. Any assessment issued after the time bar is unlawful and legally not valid, even if the fact is correct.

There are several case laws establishing that the taxpayers’ rights prevail and override the taxing rights of the state in the event of conflict with each other. For a few illustrations, 

D.M.S. Fernando and another vs. Mohideen Ismail (SC 22 of 1981)

 This is a landmark judgment delivered by the Supreme Court, confirming and establishing that the right of a taxpayer prevails over the right of the state to tax.

The facts of the case were that the tax official had issued the additional assessment without communicating the reason for the rejection of the return to the taxpayer concerned. The taxpayer filed an application for writ of certiorari from the Court of Appeal to countermand the execution of the notice of assessment on the basis that, inter alia, the reason for the rejection of the return was not communicated, and therefore, the assessment was unlawful and not legally valid.

The Court of Appeal accepted the argument of the appellant and quashed the assessment. IRD appealed to the Supreme Court against the judgment of the Court of Appeal. The Supreme Court too upheld the judgment of the Court of Appeal by declaring that the notice of assessment in question was “null and void as the assessor failed to obey a mandatory order to give his reasons in writing to the taxpayer for the rejection of the return.”

This landmark judgment has now become a case law, and based on it, several judgments have been delivered annulling the assessments issued by IRD in the event of a contradiction between the right of a taxpayer and the taxing right of the state. 

Lanka Marine Services Private Ltd. vs. CGIR (Case No. CA/TAX/0004/2018)

 Facts of the case: Whether the sale of bunker fuel or lubricants by the appellant to foreign vessels for which consideration was received in foreign currency can be treated as an export, and therefore, the appellant is entitled to concessionary tax rates under sections 52 or 42 of the Inland Revenue Act, No. 10 of 2006 (IRA).

The Court of Appeal, confirming the position of the CGIR, determined the appellant company was not engaged in the export of bunker fuel and, accordingly, not entitled to a lower tax rate of 10% under either section 52 or 42 of the IRA. However, the Court of Appeal ordered the CGIR to annul the assessment as the tax official had violated the right of the appellant by issuing the assessment after the statutory time limitation imposed by the legislature in terms of Section 163(5) of the IRA.

Similarly, several judgments of the Court of Appeal and Supreme Court can be cited to the effect that the assessments were annulled by the courts on the basis (of preliminary objections) that the rights of taxpayers had been violated even though the substantive facts of the assessments were correct.

Few such decided cases are: D.M.S. Fernando and another v. A.M. Ismail (1982), SriLankan Airlines Ltd. v. CGIR (CA/TAX/0002/2010), Seylan Bank v. CGIR (SC Appeal No. 46 of 2016), Stafford Motor Company Ltd. v. CGIR (CA/TAX/0021/2018), and Mclarens Lubricants Ltd. v. CGIR (CA/TAX/0026/2019).

Hence, it is a legally well-established norm that a violation of the right of a taxpayer by the state would deny the taxing right of the state, as earlier overrides the later. 

Recent proactive measures taken by IRD

 In this backdrop, it is heartening to note that the retired CGIR, D.R.S. Hapuarachchi, who is known for the zero tolerance on corruption, had issued following documents, to address these concerns so as to strengthen and ensure the rights of taxpayers.

1.Taxpayers’ Charter;

2.Prevention of Corruptions in the Inland Revenue Department (Ref No. PN/OT/2023-01, dated August 24, 2023);

3.Instructions to issue amended or additional assessments (Ref No.: CGIR 2023/ 3–1 (Ins&Cir) 15, dated 22.06.2023) and

4.Scope of the Administrative Review (Ref No.: CGIR 2023/3-1 (Ins&Cir) I4, dated 22.06.2023)

The worthy feature of this bold step taken by the CGIR was to upload those publications to the IRD portal so as to ensure transparency and accountability, which are the cornerstones of good governance. This action was taken in response to the collective request made by the representatives of the chambers of commerce led by Duminda Hulangamuwa.

The “Prevention of Corruptions in the Inland Revenue Department,” which is available at the IRD web portal, also states the rationality of such a decision as follows:

• Transparency and Accountability: As a way forward in combating corruption and ensuring transparency and accountability, all the instructions, circulars, and guidelines of the CGIR that are related to the affairs of taxpayers, such as assessments, administrative reviews, rights, and obligations, shall be made available on the website of the IRD. (www.ird.gov.lk)

Accordingly, the first two documents, the Taxpayers’ Charter and the Prevention of Corruptions in the Inland Revenue Department, have been published in the IRD web portal, and the other two documents, Instructions to issue amended or additional assessments and the Scope of the Administrative Review, are yet to be uploaded to the IRD web portal, despite the fact that the two documents are now in the hands of the public.

It is not a secret that the root cause for more than 80% of the additional assessments issued by the tax officials ending up in the Appeals of Dispute Resolution mechanism is the non-compliance with the above-mentioned four circulars issued by the CGIR and/or denial of the taxpayers’ rights. As a result, IRD is castigated by the Parliament Select Committees and subject to public ridicule for its inefficiency and huge accumulated outstanding tax defaults of Rs. 904 billion. Even though the circular says that it was issued as a part of the Extended Fund Facility (EFF) of the IMF and its Short-Term Tax Administration Reform Measures- Technical Report January 2023”, it was a step forward, aiming at ensuring the rights of taxpayers, minimising corruption, limiting unnecessary additional assessments, and enhancing the efficiency of tax officials.

Some of the important features of the said circular are:

• A detailed audit of a return is not a rule but an exception. Accordingly, without evidence, an audit should not be initiated. This is in accordance with Section 135(1) of the Act.
• Prior approval from the head of the unit concerned is to be obtained for the initiation of the audit on submission of a report based on the evidence found.
• The audit should be initiated and completed before specified periods of the assessment getting time barred.
• A fair hearing should be provided to taxpayers before the finalisation of the audit.

Another circular, “Scope of the Administrative Review (Ref No.: CGIR 2023/3-1 (Ins & Cir) I4, dated 22.06.2023)” had been issued, limiting the scope of appeal and Administrative Review process to examining of “Instructions to issue amended or additional assessments”. 

Ensuring the rights of taxpayers guaranteed by the tax statutes, case laws, and circulars of the IRD would ultimately result in an increase in tax revenue for the state coffer while the personal income of tax practitioners and tax consultants may decrease.

 Ultimately, in conclusion, IRD has taken several proactive steps so as to ensure the harmonious relationship between taxpayers and tax officials is not just a legal necessity but a moral imperative. It is a testament to the maturity and fairness of a society, reflecting its commitment to justice, equality, and the well-being of all its members. By respecting taxpayers’ rights and fulfilling the obligations of tax officials, we pave the way for a stronger, more equitable society where collective prosperity is built on the foundations of trust, fairness, and shared responsibility.

 

(The writer is a retired Deputy Commissioner General – Inland Revenue Department for Tax Policy and International Affairs. He can be reached via [email protected].)