Voluntary disclosures

Traddies have been under the watchful eye of Inland Revenue (IRD) for the last few years since being identified as a cash-dominated industry in 2012. A media campaign has recently been launched to warn tradespeople that doing ‘cash jobs’ may comprise tax evasion, and that every cash job leaves a trail (or lack of a trail) that can be tracked by IRD.  

Tradespeople risk substantial financial consequences if they are caught understating taxable income in their tax returns. Fines, penalties, use of money interest, and potential prosecution are all within the IRD’s power. 

This begs the question, if a business identifies an error and the correct amount of tax has not been paid, what should be done? Contrary to some views, it does not comprise a windfall gain. If a business has underpaid its tax by more than $1,000 it must be disclosed to IRD. No business owner will take joy in having to pro-actively contact IRD, so here are a few points to keep in mind which will help smooth the process. The best way to proceed is by making a written voluntary disclosure. With any re-assessment to increase a person’s tax liability, IRD will consider whether shortfall penalties should be charged. If charged, the amount is based on a percentage of the tax shortfall and the percentage varies depending on the nature of the error and the taxpayer’s culpability. The taxpayer should therefore use their written disclosure to clearly set out what the error is, how it arose and what actions have been taken to ensure it will not happen again. The disclosure provides an opportunity to explain the facts in the most favourable way possible. It reassures IRD of the taxpayers willingness to comply with the tax rules and demonstrates that the matter is being taken seriously.

The disclosure should also set out how the relevant tax return should be amended, with reference to the actual box numbers in the tax return. Broad statements regarding how the mistake should be fixed run the risk of IRD amending the return incorrectly, which will only give rise to more contact with IRD – the taxpayer should make it extremely easy for the person processing the change to get it right. 

In most cases, if a voluntary disclosure is made no shortfall penalty should be charged. 

In a small number of cases, the IRD may receive the disclosure and commence an investigation. IRD could potentially take the view that if one error was made, something else might be wrong. This reinforces the need to word the initial disclosure carefully to ensure there is an appearance of ‘there is nothing to see here, move along’.

If a voluntary disclosure is not made, and IRD find the error themselves the situation could be much worse. Shortfall penalties, that may not otherwise have been applied, could be charged and the IRD may undertake a more comprehensive investigation. So we would always recommend full disclosure at the earliest opportunity. Being able to sleep at night is worth some temporary discomfort.