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Alaska’s production tax auditing faulted Inadequate management controls could shortchange state, legislative report says; Department of Revenue struggles with tax reforms Wesley Loy For Petroleum News
The Alaska Department of Revenue’s Tax Division needs to tighten up management controls over audits of oil and gas severance tax revenue, a new report on state finances says.
The severance tax, also known as production tax, is a major source of state revenue, generating nearly $2.9 billion in fiscal year 2010.
But improvements are needed in the Tax Division to make sure tax collections are correct, the state Division of Legislative Audit says in its report to legislators and the governor. The report was released publicly on March 29.
“Insufficient internal controls over the auditing of severance tax revenue may result in the loss of revenue and increase the risk that tax revenue assessments will not hold upon appeal,” the report said. Or that audit results won’t withstand litigation.
The Department of Revenue agreed with some of the report’s findings. The department said a big part of the problem has been coping with two overhauls of the state’s production tax regime.
The Legislature passed the first of these, known as the Petroleum Profits Tax or PPT, in 2006. The second overhaul, called Alaska’s Clear and Equitable Share or ACES, came the following year.
Tax overhauls cause strain The Division of Legislative Audit conducts an annual audit of state finances, in part to satisfy compliance requirements associated with receiving federal dollars. The audit makes findings and recommendations by department.
The 356-page audit report released on March 29 covers fiscal year 2010, which ended June 30. The report is online at www.legaudit.state.ak.us.
The report notes that “significant deficiencies” in the Tax Division’s management controls over severance tax auditing first appeared in fiscal years 2008 and 2009. The controls had “deteriorated” with the passage of PPT and ACES.
“The new laws are more complex to audit,” the report says. “The hiring and retention of experienced, competent audit staff has proven challenging. Delays in drafting PPT and ACES regulations have further disrupted the audit process.”
Among deficiencies the report cites in the Department of Revenue:
• The Tax Division continues to conduct audits without developing standard processes including audit plans and procedures.
• A significant portion of an audit’s methodology and results were insufficiently documented.
• Audit supervisors did not review and approve audit methodology prior to audits being conducted.
• Audit supervisory reviews were limited, sporadically documented and only conducted at the end of the audit.
Revenue responds With respect to the first deficiency, the Department of Revenue said its Tax Division has been in the process of developing standard processes including audit plans and procedures, while trying to cope with PPT and ACES.
“These two major pieces of legislation completely overhauled the production tax scheme and instituted a new tax credit program,” the department said. “The Division has worked diligently over the last four years to implement the changes while continuing to work on audits of tax returns filed under the previous tax structure. Implementation includes not only developing standard processes, but also drafting regulations, hiring and training new auditors, developing tax return forms, establishing tax credit audit and examination procedures, educating taxpayers, and various other duties that accompany the implementation of what is basically a new tax program.”
The Department of Revenue agreed with the finding that one audit’s methodology and results were insufficiently documented.
“The audit in question was started by a highly experienced individual who retired a few months after the audit was opened,” the department said, noting the audit involved more than 2 million documents. “The audit was then transferred to another senior auditor who resigned his position before the audit was completed. The audit was transferred yet again to another senior auditor who had to quickly familiarize himself with all issues within the audit and complete the audit within a short period of time.”
In the end, the Tax Division “took the position that it was in the best interest of the state to issue the audit with insufficient documentation and with a less detailed audit report than to miss the statute of limitations and, in effect, issue no audit at all. The auditor was instructed to issue the audit, but continue to document audit findings and complete the audit report after the fact. The taxpayer was informed that it would receive a more comprehensive explanation of our adjustments at a later date.”
The Department of Revenue also agreed that “supervisory reviews were limited and sporadically documented in some of the audits closed during the fiscal year. Again, this was due to the continual implementation of PPT, ACES and the new credit program. Implementation has put a strain on audit resources.”
The department said its problems include staff turnover; an inability to recruit senior auditors at current pay levels; and a lack of “automated tax processing systems” to reduce time-consuming manual audit work.
The Division of Legislative Audit concluded: “We reviewed DOR’s response and nothing in the response persuades us to revise the recommendation.”
That recommendation is for the state revenue commissioner to make sure Tax Division staff “implement controls to improve the auditing of oil and gas severance tax revenues.”
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