ARMENIA REGULATORY SIMPLIFICATION-DOING BUSINESS REFORM PROJECT THE COSTS OF TAX COMPLIANCE IN ARMENIA Yerevan,2011 Not for quotation or distribution

About the Project World Bank Group has allocated funding to carry out the Armenia Regulatory Simplification-Doing Business Reform project. The goal of the project is to improve the business environment in Armenia through reduction of the administrative burden and regulatory barriers in the selected areas, including Paying Taxes. Tax Compliance Cost Survey The survey was conducted by IFC (World Bank Group) upon request from the Government of Armenia (Ministry of Economy, State Revenue Committee) Survey objectives:  To assess costs of paying taxes  To identify most costly and complex procedures and taxes  To prepare recommendations to simplify taxation and procedures of paying taxes 2

Survey details Target population: Private businesses active during reference period (excluding political parties, religious, professional associations, NGO’s, state non commercial organizations ) Reference period: 2009 Sample size: 750 companies and 250 sole proprietors Methodology: face to face interviews Coverage: All regions of Armenia Respondents: CEO, finance directors and chief accountants 3

Comparison of indicators for paying taxes Doing business 2011 IndicatorsArmenia** Eastern Europe&Central Asia OECD average Payments * (number per year) Time (hour per year) Total tax rate (% profit) * Social security payment-12 ** Manufacturing company in Yerevan Corporate income tax – 13 Turnover -780mln AMD Value added tax- 12 Number of employees - 60 Land tax – 4 Property tax on building- 4 Vehicle tax -4 Environmental pollution charge for vehicles-1 4

Criteria for sample design Upon request from the IFC the list of 750 enterprises and 250 sole proprietors was provided by SRC according to the following criteria:  By turnover size /million AMD/ (0-5, , , more than 58.35). Taxpayers registered in the large taxpayers unit, were considered as separate group.  By type of activity (production,trade, service and other activities, dominated by the construction companies)  By region (All regions) According to the above mentioned criteria, the share of enterprises and sole proprietors in the sample, corresponds to real structure of 2009 active business in the Republic of Armenia. 5

Other details Survey Company Armenian Marketing Association Structure of the questionnaire -7 sections (Accounting practice, submission of reports, payments, inspections, consultations,VAT refund, etc.) -92 questions The questionnaire was prepared by the international and local experts of the IFC. 6

Survey represents opinions of 750 private enterprises* of Armenia By company income (AMD): By sector: The weighted sample reflects the structure of Armenian’s economy By region: * Based on official data of SRC 7

Survey represents opinions of 250 sole proprietors* of Armenia By sole proprietors’ Income (AMD): By sector: The weighted sample reflects the structure of Armenian’s economy By region: * Based on official data of SRC 8

What do tax compliance costs embrace? Tax compliance costs – are NOT the actual amounts of taxes paid, but costs comprised of:  Time spent by accountants (or sole proprietors) and other staff on tax accounting, preparing all tax reports, visits to tax and local authorities, time related to inspections  Procurement and update of software for tax accounting, cost of tax related workshops and trainings, as well as printed or electronic tax related media  Payments for purchasing all necessary tax reporting templates, etc.  Payments for outsourced tax consulting services 9

Time spent on complying with taxes per average enterprise depending on turnover (hours per year) 10 * There was LESS of a distinction between different sectors, but trade sector had highest time burden and services had lowest.

Tax Compliance Costs incurred by an average Enterprise in 2009 In person-hours: Total time spent on tax compliance of all staff In money: Time cost X labor costs (salary and wages) 400 person-hours (50 business days), which is AMD * (~$1,363**) 11 * Calculations based on reported time and salary costs of survey respondents. ** Average exchange rate in 2009 was AMD. Source: Armenian social-economic situation in 2009.

Annual cost of tax compliance per an average enterprise depending on annual turnover 12

Time spent on complying with taxes per average sole proprietor depending on annual turnover 13

Tax Compliance Costs incurred by an average Sole proprietor in 2009 In person-hours: Total time spent on tax compliance of all staff In money: Time cost X labor costs (salary and wages) and/or average salary in the economy in 2009* 118 person-hours (15 business days), which is AMD (~$213**) 14 * average salary in the economy was used only to calculate the costs of working time of sole proprietors **average exchange rate in 2009 was AMD. Source: Armenian social-economic situation in 2009.

Annual cost of tax compliance per average sole proprietor depending on annual turnover 15

Smallest enterprises carry the heaviest burden in complying with taxes Relative costs (cost/turnover) of tax compliance per average enterprise depending on annual turnover 16

Smallest sole proprietors carry the heaviest burden in complying with taxes Relative costs (cost/turnover) of tax compliance per average sole proprietor depending on annual turnover 17

Total tax compliance costs incurred by all active private businesses Direct costs (labor costs and additional cost) incurred by all Enterprises and Sole Proprietors on complying with taxes in 2009 amounted to: AMD 10.3 bln, (USD 28.4 mln) which is about 0.3% of Armenia’s GDP in 2009 Enterprises spent: AMD 9.0 bln (USD 24.8mln) Sole Proprietors spent: AMD 1.3 bln (USD 3.6mln) 18

Structure of Tax Compliance Work (Enterprises) * Time spent for filling these books among companies that filled these books is 256 hours (56% of all companies) ** Calculated among companies that were inspected (44%) *** Calculated among companies that submitted additional info (19%) **** There are not enough answers for VAT refund. This is not included in the table. 19 TIME (hours)COST (AMD) Tax accounting and filling all forms of all taxes that company paid, researching and studying tax legislation ,667 Filling book of registration of revenues and filing book of shipment of inventory holdings (among all enterprises) * ,676 Submitting tax reports to tax authority and local authority and payment of taxes in ,232 All inspections including unofficial visits and filing appeals** 3235,185 Prepare all additional information requested by the SRC request*** 54,800

Structure of Tax Compliance Work (Sole Proprietors) * Time spent for filling these books among sole proprietors that filled these books is 103 hours( 36%) ** Calculated among sole proprietors who were inspected in 2009 (34%) *** Calculated among sole proprietors who submitted additional information in 2009 (8 %) 20 TIME (hours)COST (AMD) Tax accounting and filling all forms all taxes that IE paid including annual declaration on personal income tax and social payments, researching and studying tax legislation 4126,643 Time spent on filling book of registration and shipment *3822,191 Submitting tax reports to tax authority and local authority and payment of taxes 3621,152 All inspections including unofficial visits and filing appeals** (58.8%) 62,961 Prepare all additional information requested by the SRC request ***(8.2%) 3915

Time spent on tax accounting and filling reporting forms of all taxes by enterprises 21

Time spent on accounting and filling reporting forms of all taxes by sole proprietors 22

Time spent on filling book of registration of revenues and book of shipment of inventory holdings by enterprises* 23 * Calculated among enterprises who fill these books (56%).

Time spent on filling books of registration of revenues and book of shipment of inventory holdings by sole proprietors* 24 * Calculated among sole proprietors, who fill these books (36 %)

Visits to supervisory bodies – submission of reports and for other reasons 25 Submission of reports Tax AuthorityLocal Authority Percent of enterprises who made visits (%) Number of visits among those who made any visits105 Total time on visiting in 2009 (hours)155 Enterprises Other Reasons Tax AuthorityLocal Authority Percent of enterprises who made visits (%) Number of visits among those who made any visits 74 Total time on visiting in 2009 (hours)94 Face to face visits are also opportunities for conclusion between taxpayers and tax officials

Visits to supervisory bodies – submission of reports and for other reasons 26 Submission of reports Tax AuthorityLocal Authority Percent of sole proprietors who made visits (%) 9230 Number of visits among those who made any visits62 Total time on visiting in 2009 (hours)92 Sole Proprietors Other Reasons Tax AuthorityLocal Authority Percent of sole proprietors who made visits (%) 448 Number of visits among those who made any visits 55 Total time on visiting in 2009 (hours) 86

Inspections of enterprises 27 44% of enterprises had any inspections in 2009

Inspections of sole proprietors 28 34% of sole proprietors had any inspections in 2009

Cost of Outsourcing vs. Internal tax compliance work (enterprises) 2.1% of enterprises outsourced tax compliance related work partly, 4.9% of enterprises outsourced all tax compliance related work 29

Accounting software is not commonly used at small and medium enterprises 30

Most of sole proprietors did not use accounting software 31

Using computers and Internet for business purposes 32

Ways of submitting tax reports 33 The most popular answer among those who submitted tax reports on paper in person is – “it was the most reliable way” Enterprises Sole proprietors

Call-center of the Tax authority 34

Center of Accounting Services 35

General data regarding respondents’ answers on question regarding underreported turnover and unofficial salaries. 36 TurnoverSalary Percent of respondents who indicated figures from “1” to “100” 30 Percent of respondents who indicated “0” (zero)31 Percent of respondents who refused to answer66 Percent of respondents who did not know33 Enterprises TurnoverSalary Percent of respondents who indicated figures from “1” to “100” 30 Percent of respondents who indicated “0” (zero)37 Percent of respondents who refused to answer44 Percent of respondents who did not know29 Sole Proprietors

Tax evasion * The share of underreported turnover/salary was calculated as a mean among companies/individual entrepreneurs who indicated the share of underreported turnover/salary including “zero” answers (indicated figures from “0” to 100”). 37 Enterprises Turnover (%)Salary (%) Officially reported 84 Underreported16 Sole Proprietors Turnover (%)Salary (%) Officially reported 8588 Underreported1512 Share of officially reported and underreported turnover /salary*

Tax evasion The main popular ways of tax evasion for enterprises and sole proprietors* * The share of respondents who reported at least one way of tax evasion 38

Tax evasion Allows evading of taxes* * The share of respondents who reported at least one reason 39

Recent Reforms During 2010 and 2011, the Government of Armenia implemented a number of reforms aimed at simplifying and improving tax administration and taxpayer services. Some of the reforms were implemented based on IFC recommendations that had resulted from initial survey findings. These reforms include: The Profit Tax advance payments will be made on a quarterly basis instead of the monthly as previously, thus the number of tax payments will be reduced by 8, i.e. from 13 to 5; Employers will submit a quarterly report on Social Security payments instead of the monthly as previously, thus the number of reports will be reduced by 8, i.e. 4 instead of 12; Taxpayers will file Excise Tax calculations quarterly (before it was monthly), i.e. 4 instead of 12; 40

Recent Reforms VAT payers have a right to issue electronic tax invoices. In addition, it is defined that those VAT payers who issue only electronic tax invoices are exempted from filling in the Book of Shipment; Adoption of the new Law on Patent fee, according to which IEs also may choose the Patent fee taxation regime, and the Patent fee taxation regime threshold was increased from AMD 2,5 million (USD 6750) to AMD 6,0 million. (USD 16210); Approval of the procedure of calculation, set off and/or payment of fines by the GoA for delays in paying back of overpayments or amounts other than overpayments; Approval of criteria for considering tax payer as a risky taxpayer in relation to offsetting or refunding VAT and Excise Tax without study or inspection; 41

Recent Reforms Approval of the procedure on providing commenatry related to implementation of the tax legislation; Publication of the Guidelines on Tax Inspections in several areas (construction, transportation, health, education, tourism, fixed payments, maintaining books of shipment of inventory holding and registration of revenues, real estate transactions, and use of cash registers); Establishment of the Interdepartmental Board of Appeal and the procedure of discussing decisions of appeal (both tax and customs) committees of the SRC. 42

Recent Reforms Regulatory and administrative measures to improve taxpayer service (e.g. to exclude cases when taxpayers are required to submit documents or data not envisaged in the tax legislation and procedures, to promote the submission of tax reports (calculations, statements, data) by taxpayers via postal services and especially electronically (by encouraging them through trainings and explanatory activities), to exclude unnecessary contacts with taxpayers visiting the tax officials, to invite taxpayers to the tax authority exclusively within the scope of jurisdictions provided by the Law on Inspections and tax legislation); Launch of three special taxpayer service centers (two in Yerevan and one in Vanadzor), which are designed to minimize taxpayers’ contacts with tax officers. It is anticipated that in 2011, three additional service centers will be established; Introduction of 27 types of tax reports out of around 40 that can be submitted electronically starting Jan. 1,

Top 5 of short term recommendations 1.Simplification of tax accounting, including special simplified accounting schemes for SME’s; 2.Elimination of requirements for maintaining special tax books (registration of revenues and of shipments); 3.Improvement of services for taxpayers; 4.Eliminate practice of requesting additional information/data/advance payments to submit reports; 5.Introduction of advance ruling practice. 44 [A1] change

Top 5 of midterm recommendations 1.Appeal system further improvement: creating a tax Ombudsman’s office; 2. RBA needs to be implemented; 3.Streamlining VAT invoices system; 4.Improvement of e-filing system and promotion of online banking; 5.Improvement of VAT refund system. 45