Report to the Treasurer and Minister of revenue - by a committee of experts on tax compliance

Bill Birch Treasurer

Report to the Treasurer and Minister of revenue

By a committee of experts on tax compliance


18.1 The Commissioner of Inland Revenue exercises independent statutory functions under the revenue Acts. Thus the Inland Revenue Department's existence could be said to spring from those Acts. The Inland Revenue Department is, in fact, a department of state. The Commissioner is its Chief Executive under the State Sector Act 1988.

18.2 Funding of the department's operations is, therefore, governed by the Public Finance Act 1989. Under that Act, the Minister of Revenue, on behalf of the Crown, purchases outputs from the Commissioner in return for sums appropriated by Parliament. These outputs are the visible operations of the department: audits, return processing, policy advice and so on.

18.3 The total level of appropriations in Vote: Revenue is set each year in the annual Estimates legislation, which also sets out in broad terms (referred to as output classes) the outputs to be purchased by the Minister. More details of the outputs purchased are set out in the annual purchase agreement between the Minister and the Commissioner. This agreement sets out, in significant detail, the individual outputs to be supplied and specifies the quantity, quality and timelines of each output. The agreement also specifies the amount the Minister will pay for each output.

18.4 This approach finds expression in section 6A of the Tax Administration Act 1994, where the Commissioner is charged with the duty of raising the 'highest net revenue' that is practicable under the law, having regard to, among other things, the level of resources available to the Commissioner. For a deeper description of the rationale underlying section 6A, see the report of the Organisational Review of Inland Revenue.276

18.5 The committee reviewed the basis for the output class structure of the Inland Revenue Department to ascertain whether the current structure impinged upon the efficiency of tax administration. In particular, the committee questioned why departmental outputs were divided by functions rather than by customer segments, and whether this classification interfered with internal management, which is based on customer segments. The functional approach for defining output classes is consistent with the fundamental principles of public sector financial management in New Zealand, and with the Public Finance Act 1989 in particular.

Provisions of the Public Finance Act 1989
18.6 Section 4(1) of the Public Finance Act 1989 provides that:

No expenditure of public money shall be made other than in accordance with an appropriation by an Act of Parliament.

Section 4(3) requires that a separate appropriation shall be made for each class of outputs contained in the Estimates in accordance with section 9(2A)(c) or section 9(2A)(d) of the Act.

18.7 Section 9(2A) of the Act provides that the Estimates shall, in relation to each Vote, identify a range of information. For the purposes of the current discussion, the most important are:

Identify, for each class of outputs to be supplied by the department or Office of Parliament, the proposed costs or expenses to be incurred.
Include a description of each class of outputs to be purchased by the Crown.
Identify the link between the classes of outputs to be purchased by the Crown and the Government's desired outcomes.
Comparative figures for each of the five financial years before the financial year to which the Estimates relate for total expenses incurred in relation to classes of outputs.

18.8 Section 2 of the Act defines 'class of outputs' to mean 'a grouping of similar outputs' and 'outputs' as 'the goods or services that are produced by a department, Crown entity, Office of Parliament, or other person or body'.

18.9 The Public Finance Act 1989 does not go further in terms of providing a legal basis for defining output classes. The development of the principles of public sector financial management was undertaken in the reports of the Working Party on Output Definition in 1992. Cabinet subsequently adopted the recommendations of the reports of the Working Party on Output Definition. That decision confirmed the basis for the functional approach for defining output classes. The functional approach for defining output classes was intended to enable effective parliamentary scrutiny while retaining internal management flexibility.

18.10 An output class structure based on customer segments or business lines within a department would require a fundamental reassessment of the principles of public sector financial management over the whole public sector. It would also not comply with Cabinet's decision of 1992. The committee was advised by Treasury that the government has no plans to carry out such a reassessment or a review of the Act. As a result, it is not feasible to suggest that Inland Revenue outputs should be redefined in terms of its current customer segments: business direct, business link, corporates and so on.

18.11 The definition of output classes 277 was predicated on grouping similar activities that can be subject to common performance measures, in a sensible way from the purchaser's perspective. The idea was that Parliament could then evaluate the purchase of and retain control over the specific services being delivered. Output classes which were structured in this functional-based way would provide a degree of comparability between departments and over time. It was thought a segment-based structure would contain dissimilar activities, hindering parliamentary scrutiny, and would need to change in line with internal structures, losing comparability.

18.12 There can be some tension between effective parliamentary control and flexibility of management. The priority is the former under a Westminster parliamentary system. If departmental managers were to have effective decision-making authority for both inputs and outputs, then it could be more difficult to hold departments accountable. The primary intent of the Public Finance Act 1989 in aggregating outputs by nature was to ensure that decision rights as to output mix rested with Ministers rather than with managers. The objective is that Parliament should make its appropriations on a basis that is transparent and enforceable.

18.13 In principle, flexibility of management is not seriously compromised because departmental managers have flexibility in what inputs they purchase and in how they structure their operations. They can also regroup outputs within internal accounting systems to create internal reporting structures that match their changing business organisation, while simultaneously meeting parliamentary scrutiny. Departmental management in the public sector is also normally focused at the more detailed output level.

18.14 In practice, the need to seek approval for changing a department's mix of outputs appears to be a constraint on management, albeit that there are procedures for urgent approvals when the situation demands an immediate response.

18.15 Ministers seek appropriation from Parliament to deliver classes of outputs. Ministers are responsible to Parliament for the overall performance of departments, but are not involved in day-to-day management of their departments. Parliamentary Select committees report to Parliament on each Vote within two months of the presentation of the Budget and again following the tabling of the Supplementary Estimates. Select committees also carry out financial reviews of departments before the first sitting day in each financial year. Parliamentary scrutiny is based on reviewing classes of similar outputs using common performance measures.

18.16 Departmental chief executives are responsible for the delivery of the outputs that Ministers have agreed to purchase from them. Purchase agreements specify what outputs Ministers are buying and how delivery will be measured. The committee notes that, generally, there is some scope within the system of Parliamentary appropriations to redirect resources during the course of a year. However, it would be desirable to look for ways to improve the flexibility available to departmental managers to respond to variations in demands for outputs within a financial year, consistent with requirements of accountability. The committee understands that the budget processes are intended to facilitate such changes, within the overall level of funding, and that proposals to do this are rarely declined. The committee did not have the time or resources to inquire into whether this flexibility within the government's budget processes is fully utilised.

18.17 The public is often heard to say 'Why can't the Inland Revenue Department behave more like a company in the commercial world?' Also, one hears statements like 'Surely common sense dictates that one just direct resources from area A to area B' or other such observations founded in commercial responses.

18.18 The Inland Revenue Department is not a private sector firm, with the management flexibilities available to such firms, seeking to maximise profits. It is a department of state, carrying out a range of functions. It is appropriate, therefore, that it should be subject to the same budgeting and accountability arrangements that apply to other departments.

18.19 In the private sector, managers typically have some discretion to vary outputs to reflect market demand. Managers' accountability is measured by profitability. In the public sector, where profit is not available as a measure, there must be other ways of holding managers to account. In New Zealand, as the committee has explained, public sector accountability is by control over outputs exercised by Ministers, on behalf of Parliament.

18.20 Nevertheless, the public sector experiences changes in demands that are analogous to changes of market demand in the private sector. Under New Zealand's system, if managers wish to change outputs in the order to meet changed demand they must seek ministerial approval. Parliament later analyses this approval by the supplementary estimates process. The need to seek these approvals means that public sector managers ordinarily cannot respond to changes in demand as quickly as managers in the private sector. The committee does not criticise the system. It is a function of the democratic process and of parliamentary accountability. In short, the public should not expect government departments to operate with the flexibility of the private sector.

18.21 There is merit in keeping this issue under review. In short, there is scope within the system of parliamentary appropriations to redirect resources during the course of a year. However, it is desirable to look for ways to improve the flexibility available to departmental managers to respond to variations in demands for outputs within a financial year.

18.22 The committee recommends that the government should encourage the Commissioner fully to utilise the scope for flexibility within the government's budget processes. The government should also keep the whole issue of management flexibility under review.


  1. Organisational Review Committee, Report on the Organisational Review of the Inland Revenue Department, April 1994. For some details of the review, see appendix 2.
  2. Such as taxpayer information services, taxpayer audit, management of overdue tax and returns.