By Nemitari Ajienka, Associate, Blockchain.
The blockchain technology enables parties who would not ordinarily trust each other to reach a consensus by means of a decentralised ledger providing each party with a single and shared source of truth.
At its core, it is a web of computers, that must all agree that a valid transaction has occurred before it is appended in a chain of transactions that is corruption-free and difficult to destroy as it is replicated across the network. According to Sam Cassatt at New-York based Consensys, a software company building decentralised applications and development tools for blockchain with a focus on Ethereum: “Wherever trust is a problem, the blockchain could offer a solution”
Tax Fraud and Blockchain
We might not be seeing a full-blown revolution to taxpaying in 2017, but notwithstanding we can envisage the full automation of tax remittance and easier compliance by means of the blockchain technology.
In addition to use cases such as voting, asset and land registries, tax authorities around the world are beginning to foresee the benefits of the blockchain in areas such as welfare and tax payments, as well as tax evasion reduction. This is because of the ability this technology has to mitigate the probability of fraud and error. The United Arab Emirates is implementing a new tax system which will ease compliance and reduce double tax payments. The HMRC (UK tax authority) is also making plans to roll out a digital tax system by 2020.
Tax departments are facing challenges with delivering the quality of data required by tax authorities as a result of not setting up compliance focused systems for tax collection, but systems based on the needs of each department. A blockchain system will allow all parties to capture the same tax data from different angles – data that is verified by every computer on a blockchain network.
According to the European Commission, there was a 160 billion euros VAT gap in 2014. This gap between VAT revenues expected vs. those actually collected can be linked to fraud and evasion. The blockchain will allow tax authorities to make concrete plans for future remitted taxes in advance because smart contracts will offer a high degree of guaranteed and error-free tax remittance. Blockchain makes fraud and errors easier to detect because it provides an open view of the information about transactions and items in the network.
According to PWC UK, the blockchain could change the behaviour of taxpayers because of the dangers and consequences of non-compliance. The chance of getting caught and excluded from the blockchain network for non-compliance is high. As a result, it is likely blockchain could help reduce the tax gap to some extent.
Envisaging the future of tax remittance, one can imagine a scenario whereby salary payments are tied to self-executing smart contracts (a feature of the Ethereum blockchain protocol, which automates business logic without the need for intermediaries). Taxes will be automatically extracted upon payment when due by the smart contract, time stamped and remitted to authorities. This payment information will be permanently stored on the blockchain leading to error reduction and permanent proof of tax payments. Authorities will have the technological aid to prove by means of cryptography if someone has paid their taxes or not.
The remittance process will not stop there as taxpayers will also have the chance to keep an eye on what their taxes are used for. Tax authorities alike, will also have an audit trail of where VAT has been paid and the related timestamps.
In summary, the blockchain technology is still in its infancy, however a single shared source of truth for tax tracking and collection will provide more insights which will go a long way in improving economic policies, tax data analytics and budget planning. Governments will have to identify the benefits of migrating the tax system onto the blockchain with tough decisions to be made. For example, controlling tax remittances by means of smart contracts could require the representation of fiat currencies as tokens on a blockchain network. Also, the privacy of the details of tax transactions and the categories of users who will be allowed to see them is another decision that will need to be made.
For now, it is essential for governments to increase their levels of understanding through research and the implementation of proofs of concept in order to be aware of the benefits that can be derived from the blockchain in the tax world. Amongst the benefits include a reduction of the administrative burden and the cost of tax collection and compliance.