Chapter Fifth : Tax Audit
Introduction
Tax audit is the official examination or audit of the tax department to the tax return that declares by taxpayers as required by law. Different countries and different jurisdictions may have different laws and requirements and due so the tax audit process.
Tax audit can be defined as ‘an examination of financial records to assess correctness of calculation of taxable profit, to ensure compliance with the provisions of the Income-tax Act and also ensure fulfilment of conditions for claiming deductions under the Income-tax Act’.
The provisions relating to the class of taxpayers who are required to get their accounts audited under tax audit are given in Section 44 AB. The audit under section 44AB aims to ascertain the compliance of various provisions of the Income-tax Law and the fulfilment of other requirements of the Income-tax Law. The audit conducted by the chartered accountant of the accounts of the taxpayer in pursuance of the requirement of section 44AB is called tax audit.
In general, taxpayers declare their tax returns monthly and annual to the tax department; however, just because declaring tax returns to the tax department does not mean that taxpayers have completed their obligation. Taxpayers may require by the tax department to have their documents reviewed by tax officers.
Now-a-days tax audit has become very important to ascertain the accuracy of tax related documents. Tax audit mostly covers income returns, invoices, debt and credit notes and various current and fixed assets. Tax audit is an innovation of 21st century. It has added one more chapter to the procedure of auditing. Tax audit ensures the validity and credibility of tax related documents.
The financial statements are certified by the auditor for truth and fairness of operating results and financial position of the business. These are meant for general purpose being used by the owners, creditors, banks and other interested parties.
Sometimes a specific information my required by certain people which may not be available in these statements Under Income Tax Act, profits shown by profit and loss A/c have to be adjusted as per the provisions of the Act.
In this way profits for accounting and profits for taxation are not the same. These profits differ due to various reasons. Profits for accounting are ascertained As per accounting policies and standards but profits for the tax purpose are computes as per the provisions and rules of Income Tax Act.
The Income Tax Department cannot verify each and every detail of provisions compiled by the assessee. In this regard expertise of auditors is utilized, who certify the compliance of the provisions of Income Tax Act.
Objectives of tax audit
Tax audit is conducted to achieve the following objectives:
Ensure proper maintenance and correctness of books of accounts and certification of the same by a tax auditor
It is conducted to report the requirements of Forms - 3CA/3CB and 3CD, which the tax auditor has to present in front of the tax authority.
Reporting observations/discrepancies noted by tax auditor after a methodical examination of the books of account
To report prescribed information such as tax depreciation, compliance of various provisions of income tax law, etc.
To ensure that the books of account and other records are properly maintained,
To check whether the accounts truly reflect the income of the taxpayer and claims for deduction are correctly made by him.
To check and detect any fraudulent practices. d. To facilitate the administration of tax laws by a proper presentation of accounts before the tax authorities and
To save the time of Assessing Officers in carrying out routine verifications, like checking correctness of totals and verifying whether purchases and sales are properly vouched for or not. The time of the Assessing Officers saved could be utilised for attending to more important and investigational aspects of a case.
All these enable tax authorities in verifying the correctness of income tax returns filed by the taxpayer. Calculation and verification of total income, claim for deductions etc. also becomes easier.
What is the Importance of Tax Audit in your Organisation?
A Tax Audit will have the following advantageous or importance in an organization:
A Tax Audit will maintain the books of accounts and all other records regarding the revenue and expenditure properly so that the eleventh hour rush and panic can be avoided
It will ensure that the total income and the claims for deduction are correctly and accurately entered by the businessman
It restricts the chance of fraudulent practices.
Tax Audit helps proper presentation of accounts before the tax authorities. It identifies the weaknesses in the accounting system and enables to suggest the improvements.
An Audit facilitates the provision of advice that can have real financial benefits for a business.
An Audit adds credibility to published information for employees, customers, suppliers, investors and tax authorities.
An Audit provides assurance to shareholders that the figures in the accounts show a true and fair view.
An Audit builds up the reputation of the company.
Government authorities accept audited statements as true and fair for the purpose of taxation.
Auditors can give concrete suggestions regarding the improvements of business on the basis of their findings in the record.
What is the effectiveness of Tax Audit on an organization?
Since Tax Audit is the re-evaluation of a company’s role as a taxable body by the government, its efficacy on an organization is very significant.
A Tax Audit protects the rights of the tax payer. The tax payer has been granted the right to verify the professional identification cards of the tax auditors. He can obtain a copy of the tax audit notification. He can attend the auditing procedures and obtain copies of any original paper or digital documents
It maintains the professional confidentiality. The FTA employees are prohibited to disclose any information obtained if not requested by the judicial authorities.
It gives guidance to a tax payer. Its aim is to settle any questions and problems related to tax as thoroughly as possible through an open dialogue between the tax recipient and the tax payer.
A Tax Audit increases the credibility of the business and avoids loss of reputation. The true value of the business is known after the audit
What are the Advantages of Tax Audit?
Ensuring the effectiveness of tax auditing will result in effective tax administration. Any increase in total tax revenues whilst keeping the expenses made for taxation at a certain level will increase the efficiency of tax administration. The tax audit, which is mandatory for the realization of the intended purpose, will also contribute to the tax compliance of taxpayers. Voluntary compliance of taxpayers who think that they will be audited in certain periods will be strengthened.
1. Audit Helps To Detect And Prevent Errors And Frauds
An auditor's main duty is to detect errors and frauds, preventing such errors and frauds and taking care to avoid such frauds. Thus, even though all organizations do not have compulsion to audit, they make audit of all the books of accounts.
2. Audit Helps To Maintain Account Regularly
An auditor raises questions if accounts are not maintained properly. So, audit gives moral pressure on maintaining accounts regularly.
3. Audit Helps To Get Compensation
If there is any loss in the property of business, insurance company provides compensation on the basis of audited statement of valuation made my the auditor. So, it helps to get compensation.
4. Audit Helps To Obtain Loan
Specially financial institutions provide loan on the basis of audited statements. A business organization may obtain loan considering the audited statement of last five years. So, an organization should make audit compulsory to obtain loan.
5. Audit Facilitates The Sale Of Business
Valuation of assets is made by the auditor. On the basis of valuation of assets and liabilities, businessman can sell his business. It helps to determine the price of business.
6. Audit Helps To Assess Tax
Tax authorities assess taxes on the basis of profit calculated by the auditor. In the same way sales tax authority calculates sales tax on the basis of sales shown in the audited statement.
7. Audit Facilitates To Compare
An auditor instructs an accountant in the same way which helps to compare books of accounts of current year with the accounting of the previous year. So, comparing the accounts of current with previous years helps to detect errors and frauds.
8. Audit Helps To Adjust Account Of Deceased Partner
Valuation of all the assets and liabilities of the business is made by the auditor while auditing books of account. Such valuation helps to clear the amount of deceased partner.
9. Audit Helps To Present A Proof
If any case is filed against the auditor regarding negligence, auditor can present audited report as a proof to settle such case. So, it helps to present proof to settle such cases.
10. Audit Provides Information About Profit Or Loss
A businessman wants to know profit or loss of his business after a certain period of time. So, the owner of the business can get information about profit or loss after auditing the books of accounts.
11. Audit Helps To Prepare Future Plan
All the audited statements remain true and correct. Such true and correct account helps to prepare for the future plans.
12. Audit Helps To Increase Goodwill
Auditing shows the profitability and financial position of an organization which creates faith of public over the business. Thus, auditing helps to increase goodwill of an organization.
13. Audit Helps To Amalgamate The Company
Sometimes, same nature of organization may be amalgamated. Auditing makes valuation of assets and liabilities which helps to amalgamate the company. Purchaser of the company can accept such business organization on the basis of valuation made by the auditor.
The following other sections under the Income Tax Act of 1961 also lay down regulations related to an income tax audit in India:
Section 44BB: For Non-Resident Indians (NRIs) involved in the business specializing in the mineral oils industry, like exploration.
Section 44BBB: International Company that is involved in the business of civil construction etc. or in specific power projects.
Section 44AD: Any business except those businesses that are specified under Section 44AE.
Section 44ADA: This section covers the regulations with regard to the income tax audits for eligible professionals.
Section 44AE: This section focuses on businesses specializing in leasing, hiring, and plying of goods carriages.
How to conduct tax Audit
1. The tax auditor shall be guided by the auditing standards and guidance notes as issued from time to time by Institute of Chartered Accountants of India.
2. Obtaining books of accounts, financial statements and other statements of particulars duly authenticated.
3. Evaluation of internal control system on the basis of which extent of vouching and verification can be determined.
4. While conducting tax audit the provisions and objectives of sec, 44 AB shall be kept in mind. 5. The auditor shall have thorough knowledge of taxation provisions and judicial pronouncements. 6. The Central Government has notified the following ‘accounting Standards’ in respect of audit of financial statements under section 44 AB.
Disclosure of accounting policies – AS (IT) I Disclosure of prior period items, extra ordinary items and changes in accounting policies AS (IT) II Both of these standards are similar to accounting standards issued by Institute of Chartered Accountants of India i.e. AS 1 and AS 5 except the points in standard issued by central government like application of standards to the assessee following mercantile system of accounting, standards include fund flow statement instead of cash flow statement, question regarding the changes in accounting policy may be referred to Central Board of Direct Taxes etc.
Types of tax audit:
1) Mail Audit:
This is the simple tax audit that the tax officer notified and requests the taxpayer to provide additional documents or clarification on the certain tax return declaration and deductions.
For example, you or your company declare to deduct charity expenses that are subject to a tax deduction. Or example, you or your company declare to deduct charity expenses that are subject to the tax deduction.
Sometime, when the tax office review your tax deduction and they suspect sometimes might go wrong, the tax officer may request additional documents or clarification to confirm if the deduction is correctly taken into account. If the tax officer is satisfied with the documents or explanation, then they will stop their procedure here. And if they are not satisfied, then they may perform other procedures or audits like office or field audit. That means they may ask to you explain to them in person at their office or they come to visit you at your own office or home.
2) Office Audit:
It is the additional procedure to the mail audit where this kind of audit needs you to visit the local tax department. If you are invited to visit the tax department, you may need to bring additional documents as well as be ready for their questions. In practice, you already have the clue about what they are seeking because you already just got a mail audit. Before visiting them, you should make sure that the information and documents that they need are ready. You may need to ask a lawyer or accountant to accompany you.
3) Field Audit:
A field audit is the depth audit from tax departments where tax officer examines your documents and questioning you onsite.
This kind of audit is happening annually or only if there is special suspicion from the tax department on your declaration. If you never receive such an audit, it would be your benefit to have a tax professional agent to help you out.
Others types of tax audit: Tax auditing is normally performed by the government tax officers and the term used to call tax audit is different from country to country. 4) Desk audit: This kind of audit, tax officer reviews the document that taxpayers submit to them monthly or annually as per tax law requirement. For example, the entity is required to file tax returns monthly including salary tax, withholding tax, prepayment profit tax, and other related tax. These documents and tax returns will have to review by the tax office to assess if additional information, documents or payments required. In case, tax officers suspect some time with your tax return, then they will performance limited tax. A desk audit is sometimes similar to a mail tax audit. 5) Limited audit: A limited tax audit is an in-depth over desk audit. This kind of audit is normally performed at the site or office of taxpayers to examine and inquire additional information from taxpayers for the specific areas like salary tax or withholding tax. 6) Comprehensive audit: A comprehensive tax audit is the same as the field audit. Tax officers will inform taxpayers about their visit and the types of documents that they will review and they want taxpayers to be ready for their review. This is comprehensive so there are many areas that will review. The period of tax return that they will review is normally specific in their notification.
Duties / Role of an Auditor:
Duties under section 143 (1):
a. The auditor has a duty to enquire whether loans and advances made by the company have been properly secured whether the term and the conditions there of are prejudicial to the interest of the company or its members.
b. Duty to enquire whether assets of the company being shares or debentures and other securities have been sold at a price less than at which these were purchased. c. Whether any shares have been allotted for cash, whether cash actually received and whether the position in the account books and balance sheet is correct, regular and not misleading.
Duties under section 143 (2):
The auditor has the duty to report the members of the company, the accounts examined by him and every financial statement to be laid before the company in the general meeting. The auditor shall state in his report to the best of his information and knowledge, the said accounts and financial statements whether give a true and fair view or not, of the state of company’s affairs
Duties under section 143(3):
1. He has the duty to sought and obtain all information and explanation which are necessary for his audit.
2. He has a duty to ensure that the books of accounts as required by law have been kept by the company.
3. He has a duty to see whether the company has adequate internal financial control systems in place and their operative effectiveness.
4. He has a duty to ensure whether the company’s balance sheet and profit and loss account dealt within the report or in agreement with the books of account and returns
Categories of Taxpayers for Whom Tax Audit is Mandatory
Tax audit is compulsory for the following categories of taxpayers:
A business owner, who has not opted for presumptive taxation scheme, with gross receipts or turnover or total sales exceeding Rs. 1 crore.
A business owner, who has opted for presumptive taxation scheme under Section 44AD of the Income Tax Act, 1961, with gross receipts or turnover or total sales exceeding Rs. 2 crore.
A taxpayer whose business, which is eligible for presumptive taxation under Section 44AE, 44BB and 44BBB, claims profits that are lesser than the prescribed limit under respective presumptive taxation scheme.
A business owner who is not be eligible to claim presumptive taxation under Section 44AD because he or she has opted for it in a certain assessment year and not for any of the five consecutive years subsequently. This is applicable when his/her annual income is more than the maximum amount not chargeable to tax in the following 5 consecutive assessment years from the tax year.
An employee of an organisation whose gross receipts is more than Rs. 50 lakhs
An employee of an organisation that is eligible for presumptive taxation under Section 44ADA and claims profits that are lesser than the prescribed limit under presumptive taxation scheme and income is more than the maximum amount not chargeable to tax.
Tax Audit Report Filing Process
The following is the procedure for filing tax audit report:
The Chartered Accountant assigned for conducting tax audit of an individual or an organisation has to present the tax audit report online, using his/her official login credentials.
The taxpayer also has to mention the relevant information about their Chartered Accountant in their login platform.
Once the tax audit report is uploaded by the auditor, it has to be either accepted or rejected by the taxpayer on their login portal. If the taxpayer rejects the tax audit report, the entire process has to be repeated until the tax audit report is accepted by him/her.
Tax audit report has to be filed on or before the pre-determined due date of filing income return, i.e., 30th November of the subsequent assessment year for
taxpayers who have engaged in an international transaction and 30th September of the subsequent assessment year for other taxpayers.
Rules Governing Tax Audit
The following is the procedure for filing tax audit report:
The Chartered Accountant assigned for conducting tax audit of an individual or an organisation has to present the tax audit report online, using his/her official login credentials.
The taxpayer also has to mention the relevant information about their Chartered Accountant in their login platform.
Once the tax audit report is uploaded by the auditor, it has to be either accepted or rejected by the taxpayer on their login portal. If the taxpayer rejects the tax audit report, the entire process has to be repeated until the tax audit report is accepted by him/her.
Tax audit report has to be filed on or before the pre-determined due date of filing income return, i.e., 30th November of the subsequent assessment year for taxpayers who have engaged in an international transaction and 30th September of the subsequent assessment year for other taxpayers. Rules Governing Tax Audit
The following points are to be noted with regards to Tax Audit:
If you are involved in more than 1 business, you will be liable to audit your accounts if the total turnover of all your businesses is more than Rs. 1 crore.
If you operate more than 1 profession, you have to audit your account books in case the gross receipts of all the professions cumulatively cross Rs. 50 lakhs.
If you run a business as well as a profession, then tax audit is not based on total turnover from both. If your business turnover is more than Rs. 1 crore then an audit is required for the business accounts, and if the gross receipts from your profession is more than Rs. 50 lakhs then an audit of the profession accounts is needed. But if your business turnover is Rs. 90 lakhs and your profession receipts are Rs. 40 lakhs, then no audit is required for either accounts.
If the turnover of your business or profession is below Rs. 1 crore or Rs. 50 lakhs, but you have sold a fixed asset (such as vehicle or immovable property), the amount you gain from the sale will not be considered as part of your business or professional profits. Sale of the following items are excluded from
calculation into total turnover/gross receipts of a businessperson or professional:
Assets held as investment (e.g. shares, stocks, securities)
Fixed assets
Rental income
Income from interest that is not part of the business income
Any expense reimbursed by the client
Once the tax audit report is filed online, it cannot be revised. But if the accounts have been revised – for example, a company account revision after acceptance at the Annual General Meeting, change in law or change in interpretation of law – then the audit report that has been filed can also be changed. The reasons for change in audit report have to be explicitly mentioned while filing the revised report.
Penalty for Non-compliance of Tax Audit
Non-compliance of tax audit regulations by taxpayers attracts a penalty of whichever is lower from the following:
0.5% of total sales or
Turnover or
Gross receipts or
Rs. 1,50,000
A penalty is waived only when a taxpayer is able to show a reasonable cause for non-compliance. If the account books of a business or profession is not audited as per Section 44AB, then the assessee has to pay penalty as per Section 271B of the Income Tax Act. In case of a delay in completing audit and submitting the report on time (before or on September 30), then 0.5% of the turnover, a maximum of Rs. 1.5 lakh, has to be paid as penalty. If there is a genuine reason for delay or non-filing of audit report, then as per Section 273B, no penalty will be applicable. Among the permitted reasons are:
Delay caused by resignation of the tax auditor
Delay caused by death or physical inability of the partner responsible for accounts
Delay caused by labour issues such as strikes or lock-outs
Delay caused by loss of accounts due to theft or fire, or incidents that are not under the assessee’s control
Natural calamities
Forms Required for Tax Audit
Tax Audit reports can be presented in two different ways by tax auditors, differing on the basis of the laws under which the accounts have been audited.
Form 3CB and Form 3CD: For tax audit reports presented under Section 44AB of the Income Tax Act, 1961, Form 3CB and the prescribed details have to be reported in the Form 3CD.
Form 3CA and Form 3CD: When a taxpayer prefers to get the accounts audited under any law other than Section 44AB, then the relevant form is Form 3CA, while the prescribed details have to be reported in the Form 3CD.