Return of the BIR benchmarking program
Some taxpayers have reported receiving Benchmarking Notices from the Bureau of Internal Revenue (BIR). As in most cases, any letter or notice from the BIR is received with great trepidation and uncertainty. Generally, taxpayers should keep calm and not be unnecessarily anxious about the benchmarking notice.
Industry benchmarking is not a new program. This was originally instituted in 2006 through the issuance of Revenue Memorandum Order No. (RMO) 4-2006. However, it was not fully implemented at that time. Six year after, RMO 5-2012 was released to prescribe the revised guidelines and procedures in the conduct of industry performance benchmarking but on limited scale.
In January, the BIR issued Revenue Memorandum Circular No. 5-2017 prescribing the 2017 BIR Priority Programs. One of its main aims is the nationwide implementation of a Comprehensive Taxpayer Profiling and Industry Benchmarking. The return of the program is expected to contribute to this year’s target revenue collection of P1.829 trillion. Hence, it is not surprising if taxpayers are now receiving Benchmarking Notices from the BIR.
The program seeks to implement, on a nationwide basis, comprehensive taxpayer profiling and industry benchmarking activities to cover an expanded list of industries for all type of taxes and to monitor inputs as prescribed in RMO No.5-2012. Under the program, if a taxpayer is found to be below the industry benchmark, he is susceptible to receive a Benchmarking Notice from the BIR.
Let us revisit the program and assess how the taxpayer should handle the benchmarking notice.
WHAT IS BENCHMARKING?
Benchmarking of taxpayers refers to the process of setting standards to determine the performance level of taxpayers in a given industry or sector.
The BIR adopts the Performance Benchmarking Method as one of the modes of enhancing voluntary compliance pursuant to Section 5(E) in relation to Section (C) of the National Internal Revenue Code. Under this method, taxpayer data are captured in the Integrated Tax System (ITS). Such data are profiled and analyzed to determine the standard performance or tax compliance during the taxable period.
The objective is to measure and detect tax leakages and improve collections specifically on particular tax types such as VAT and income tax. It is also believed that the program can increase the voluntary compliance of the taxpayers.
HOW IS THE BENCHMARKING PROCESS IMPLEMENTED?
Benchmarking starts with the gathering of the taxpayers’ VAT returns, income tax return, and financial statements. The tax returns are sorted according to the specific industries or based on the Philippine Standard Industry Code (PSIC). PSIC is commonly used to identify and classify the specific business categories in business. From the chosen industry, a number of taxpayer are chosen to represent the industry population and their gross profit rate are computed. Computation of the gross profit is derived as follows:
Income Tax ratio = Income Tax Due divided by Total Sales or Revenue
VAT ratio = VAT Payment / VATable Gross Sales
Once the benchmark figures are established, a taxpayer will be tested based on its actual gross profit rate. The taxpayers who are more than 30% below the industry average ratio are classified as high risk taxpayers. Hence, they are prioritized to receive the Benchmarking Notices from BIR.
WHAT SHOULD THE TAXPAYER DO UPON RECEIVING A BENCHMARKING NOTICE?
Stay calm. The Notice is not automatically a tax audit. It is a request to explain fully in writing the reason for the taxpayer’s failure to measure up with set industry benchmark. Hence, the taxpayer must never ignore the Notice as failure to properly explain the difference may lead to a tax audit investigation or other enforcement activities.
In replying to the Notice, the taxpayer may either refute the findings or amend his tax returns and pay the correct taxes.
If the taxpayer chooses to refute the findings, he is given 15 days from receipt of the Notice to explain why his actual performance ratio falls below the benchmark. Note that the results of the findings on the Benchmarking Notice are not conclusive. The taxpayer can explain that even if the company belongs to the same industry, there are bound to be differences in terms of gross profit for various reasons such as business model, lifecycle, differences in functions or differences in risks assumed. For example, a taxpayer with a captive market will have different cost and pricing models as compared to a taxpayer without. Differences in business lifecycles can also influence the gross profit ratio. A start-up may use a lower gross profit ratio to penetrate the market while an established player may have the luxury of a higher gross profit ratio.
Considering that the benchmarking notice is not an audit notice, the taxpayer is not precluded from amending his tax returns. Hence, another alternative for the taxpayer is to amend the tax return and pay the VAT and/or Income Tax due if there were corresponding omissions or errors in the tax reporting.
The benchmarking notice is also designed to allow the taxpayer to realize its earning potential within the industry range. Hence, the result of the industry benchmark may possibly raise red flags on various operational issues such as cost models, inefficiencies in operations or transfer pricing issues on interrelated party transactions.
There are two sides to every coin and a benchmarking notice is no exception. On the one hand, it alerts the taxpayer that the BIR is probing as to its tax reporting. On the other hand, the taxpayer is also given precious information about gross profit ratios in his industry. He can use such information in improving his business and hopefully, reach if not surpass such gross profit ratio in the future.
Richard R. Ibarra is a tax manager with the Tax Advisory and Compliance division of P&A Grant Thornton.