When Errors are Made

Tax compliance can be complex, and there is often a lot to manage and get right. It is therefore inevitable that from time-to-time mistakes will happen. When these moments occur the question then becomes “what do we do?”. 

Inland Revenue requires taxpayers to make a correct assessment of their tax liability when a tax return is filed. If an error has given rise to an underpayment, taxpayers are obligated to submit a voluntary disclosure to Inland Revenue to have the tax return amended, thereby ensuring the assessment is correct. 

To make a disclosure, details of the error need to be provided. Inland Revenue will then review the information and decide if they agree that an adjustment is required.

Where an adjustment is required that gives rise to an increase in the amount of tax payable, Inland Revenue will consider whether a shortfall penalty should be charged. Shortfall penalties also apply if the adjustment reduces the amount of a tax loss.

There are five different categories of penalty which can apply. These penalties range from 20% for taking an unacceptable tax position or exercising a lack of reasonable care, right up to 150% for tax evasion. 

The nature of the error and the facts surrounding how it occurred determine what type of penalty should apply. There are various concessionary provisions which can apply to reduce a shortfall penalty. For example, if a voluntary disclosure is made prior to being notified of an audit or investigation a shortfall penalty can be reduced by 75% or even 100% in certain scenarios. Where the taxpayer has already been notified of an audit or investigation shortfall penalties are only able to be reduced by 40%.

Some taxpayers will choose not to make a disclosure. This comes with the risk that Inland Revenue may themselves identify the error and if it becomes clear the taxpayer knew about the error and chose not to disclose it, the shortfall penalty implications could be worse. In addition, the perception on Inland Revenue’s part that the taxpayer is ‘non-compliant’ could give rise to increased scrutiny in the future.

The reduction in shortfall penalties for making a voluntary disclosure provides a material benefit to do so and should be the default option. Inland Revenue practice in the context of a voluntary disclosure is also typically a positive experience, given the circumstances. 

Therefore, if a “what do we do” moment does occur, making a disclosure may come with some short-term pain, but will likely be better in the long run.