Level and determinants of corporate tax non-compliance: Evidence from tax experts

The Institute of Chartered Accountants of Sri Lanka (CA Sri Lanka) presents findings from the tax research paper titled “Level and determinants of corporate tax non-compliance: Evidence from tax experts in Sri Lanka” which was published in the latest research journal of CA Sri Lanka

By Nipuni Senanayake 

and Isuru Manawadu

The objective of this study is to ascertain the level and the determinants of tax non-compliance in Sri Lanka. Taxes are the main source of revenue for a government. The government would take decisions on current and capital expenditure and then decide on the amount of tax to be collected from the residents. Tax non-compliance is a serious and growing problem in almost all countries especially in developing countries (Waidyasekara, 2016). According to Schneider and Enste (2000), tax non-compliance is a universal problem and may have unpleasant effects on the economy. 

There are two types of tax non-compliance: tax avoidance and tax evasion. In tax avoidance, the taxpayer lawfully under reports his tax obligations whereas, in evasion, he illegally understates his tax obligations (Lipatov, 2011). Previous statistical evidence (Waidyasekara 2016, Performance Report of the Commissioner-General of Inland Revenue 2017, Central Bank of Sri Lanka Annual Report, 2017) indicates that corporate tax revenue has been continuously declining over a long period in Sri Lanka. 

Tax non-compliance can have various ramifications. However, this study attempts to establish the extent to which the variables affect corporate tax non-compliance in Sri Lanka using the economic deterrence theory to analyse the data collected through a structured questionnaire distributed among the tax experts of the Big Four firms in Sri Lanka. The study uses a deductive approach as evidence is gathered from the extant literature to establish hypotheses and arrive at conclusions. The population of this study is the tax experts of reputed audit firms in Sri Lanka. The reason for selecting them is that they understand all the tax rules and regulations and have practical experience of the tax compliance issues of tax-payers. 

This study is expected to help the tax authorities of the IRD to address the issue of corporate tax non-compliance and to develop an effective and user-friendly tax system in Sri Lanka. Further, it will help the policymakers to formulate policies, rules, laws, and regulations and enhance voluntary compliance. 

The economic deterrence theory suggests that the marginal tax rate may influence tax payer’s compliance behavior. (Allingham & Sandmo, 1972). Furthermore, Rice (1992) and Joulfaian (2000) found that the marginal tax rate is negatively associated with tax compliance behaviour. In addition, Tedds (2010), Nur-Tegin (2008), and Yusof, Ling, and Wah (2014) found a negative relationship between tax non-compliance and company size. 

Kamdar (2000) discovered that the marginal tax rate and profit performance have a significant impact on tax compliance. Further, Sapiei, Kasipillai, and Eze (2014) found that greater audit coverage could act as an effective deterrent to corporate tax non-compliance. Joulafaian (2000) also found that the audit rate influences non-compliance behaviour. 

In light of the above, the first research objective of the study is to determine the level of corporate tax non-compliance in Sri Lanka. The second research objective of this study is to explore the determinants of corporate tax non-compliance in Sri Lanka. 

The present research focuses on identifying the level and determinants of corporate tax non-compliance in the Sri Lankan context. This section explains the research approach, the population and study sample, the conceptual diagram, hypothesis development, sources of data, data collection, and data analysis strategies used. 

This study used a quantitative approach to collecting and analysing the data. In tax compliance-related empirical studies, researchers have followed three approaches: experimental, survey, and tax audit approach. In this research, the survey approach was used since the experimental approach is more suitable for individual taxpayers’ related studies and the tax audit approach is not possible because of the confidentiality of data. 

Prior studies have adopted a similar quantitative approach in order to identify the determinants of tax non-compliance (Abdul Jabbar 2009, Sapiei, Kasipillai & Eze 2014). The target population for this study was managers or managers above and assistant managers in the Big Four Firms (KPMG, EY, PwC, and Deloitte) of Sri Lanka. The sample was selected according to Krejcie and Morgan (1970). The questionnaire by Jouflian (2000) was used to develop the questionnaire. The questions were modified to account for the specific characteristics of the Sri Lankan taxation system. 

This study aimed to discern the level and the determinants of tax non-compliance in Sri Lanka. In Sri Lanka, the percentage of total income tax contribution to government revenue and GDP has shown a declining trend for a long time. Data was collected through a questionnaire distributed among the tax experts of the Big Four Firms in Sri Lanka, namely, KPMG, EY, PwC, and Deloitte in Sri Lanka. 

This study provides an empirical evaluation of the level and determinants of corporate tax non-compliance, namely, tax complexity, marginal tax rate, penalty rate, company size, and audit probability. The completed questionnaires were analysed using SPSS and Smart PLS software. According to this study, tax non-compliance is at a moderate level in Sri Lanka and confirms tax complexity and marginal tax rate influence on tax non-compliance in the corporate sector. Further, this study is consistent with the literature review. 

The findings of this study will help policymakers in formulating policies, rules, laws, and regulation execution. Such formulations can simplify the tax system and the marginal tax rate. Moreover, this will help the tax authorities in the IRD to develop an effective and efficient tax system in Sri Lanka. Apart from simplifying the tax system, IRD should consider improving its public relations strategies and developing a more comprehensive taxpayer bond, as practiced in most developed countries. Further, this study presents directions for future studies in order to enhance tax compliance. Dealing with taxation matters, administrative flaws and a lack of government commitment to enforcing tax law are some of the concerns. 

This study has certain limitations. One is that it is limited to corporate sector taxation. Therefore, the results of this study may only apply to the corporate sector and not to individuals and small and medium corporates since they have different characteristics. The most apparent limitation of this study is that it relies on tax experts’ opinions to collect data which will lead to inaccuracies in the data and the conclusions. Further, this study is limited to the Sri Lankan context and the opinions of other stakeholders could be considered in future studies. 

(Nipuni Senanayake is attached to the School of Accounting and Business, Institute of Chartered Accountants of Sri Lanka. Isuru Manawadu is attached to the Department of Interdisciplinary Studies, University of Moratuwa.)