Fighting digital tax fraud with digital strategies
What would you do with €193 billion? That’s the estimated loss of Value-Added Tax (VAT) revenue in the European Union due to non-compliance or non-collection.
It is just one of a number of tax loss and welfare fraud statistics that make alarming reading at a time when many of Europe’s economies are struggling with huge debt burdens.
Of course, a number of public agencies have established processes for compliance and enforcement. Nonetheless, a combination of tax avoidance and error is still costing hundreds of billions of euros in lost revenues – and therefore, services – for citizens every year.
As an example, agencies across the globe are using digital technologies to bring about a slow but steady decline in traditional fraud. These include data analytics techniques that help agencies to classify patterns and identify outliers that could indicate fraud.
In Italy, for instance, tax authorities are using a tool called ‘Redditometro’, or income meter, to spot people living above their stated means.
This meter looks at more than 100 items of spending across several categories, including luxury goods and gym memberships, to identify if the expenditures are proportionate to the individual’s income. If there are discrepancies, the investigations begin.
Social analytics are also being used to combat welfare fraud and error, notably in benefits payments. In the US, for example, the Los Angeles County has implemented an analytics solution to tackle fraud related to childcare services.
A data mining service is integrated with predictive models, social network analysis software and business intelligence tools, while risk scores have been developed to decrease the number of false positive cases assigned to investigators.
Elsewhere, we are seeing public authorities globally collaborating through digital platforms to track down cross-border tax evaders.
It’s clever stuff. But we should be mindful; as clever as these digitally-enabled techniques are, so too are the fraudsters and evaders.
Indeed, digital technologies have brought about a new type of fraud. Few of us are unaware of sophisticated spyware, phishing software and online scams that allow criminals to industrialize fraud, making it harder to detect. But this is just the tip of the iceberg.
Digital has opened the door to a rapid rise in tax fraud through identity theft. Then there are the criminals carrying out ‘zapping’, using programs that automatically and remotely skim cash from electronic cash registers (ECRs) or point of sale (POS) systems.
These are then used by businesses to under-report earnings, evade taxes, or even launder money. The list of new fraud types continues, from online payroll process tax evasion, to electronically traded currencies that are ripe for money laundering.
In the EU, tax fraud by third party online payroll processing firms is the biggest source of digital fraud. Another tax fraud previously associated with the trade of physical goods has now taken on a digital perspective.
VAT carousel fraud, where a business makes an intra-community (within EU) purchase without paying VAT, collects VAT on an onward sale, and then ‘disappears’ without remitting the tax, has expanded to digital services, such as CO2 permits.
But the very fact that I am writing about these new fraud types means the authorities are aware of them too. Action has to be taken fast.
The cost to global economies if governments fail to act on digital fraud will be overwhelming.
Using a wide range of parameters to identify the scale of digital fraud that could hit both the EU and the US by 2020 – based on identity theft, zapping, third-party payroll processing, and VAT carousel fraud – we estimate digital fraud will almost double in value if it goes unchecked.
So what is the solution for governments to deal with this upward trajectory in digital fraud? First, tax and welfare authorities must identify the fraud types and assess both their impact and the efficacy of existing anti-fraud systems.
They then need to clearly define their vision and target operating model for combating digital fraud.
Fighting digital crime with digital means is an essential preventative mode to undertake, however the agency must implement a holistic approach that also embraces policies, processes and people to successfully counter digital fraud.
Even with the right integrated strategy in place, putting it into practice will take more than a big bang approach. Pilot projects to test aspects of a potential solution will provide valuable lessons for fine-tuning the ultimate solution.
Feedback mechanisms will be required to keep pace with evolving patterns of fraud, including dynamic models that evolve in real time, and prediction and identification of new techniques for committing fraud.
There are already some compelling success stories. In the UK, HMRC’s strategic risking tool Connect is used to collate, sift and apply analytics on various data points, such as property purchases, tax returns, loans, bank accounts and employment data.
This helps to detect assets, spot and track suspicious financial transactions and highlight the connections that identify those trying to hide their income and wealth.
HMRC’s technology-driven initiative to close-in on tax evasion and fraud delivered almost £2.6 billion in additional revenues to-date.
If we refer back to the Los Angeles example mentioned earlier, within ten months of the system’s launch, 197 additional referrals for child care fraud investigations had been produced and two conspiring groups consisting of 16 cases had been detected.
So yes, the fight back is underway – and successfully in a number of cases – but the digital journey for many has only just begun.
Jerome Buvat is the Global Head of Capgemini Consulting’s Digital Transformation Research Institute. He focuses his research on the impact of digital technologies on businesses and he closely follows the emergence of disruptive technologies and business models.
Olivier Djololian is a Principal with Capgemini Consulting UK. He helps tax and welfare departments with their digital transformation agenda in the UK and internationally.
The views and opinions expressed in this article are those of the author(s) and do not necessarily reflect the official policy or position of The Information Daily, its parent company or any associated businesses.
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