Audit and criminal tax proceedings

Audit and criminal tax proceedings

The majority of criminal tax proceedings have their starting point in a tax audit. If, during an external audit, there are sufficient factual indications that the taxpayer has committed a criminal offense, investigations into the facts of the case may not be continued until the taxpayer has been notified of the initiation of criminal proceedings (Section 10 of the Tax Audit Regulations [BpO]). Therefore, there is reason for concern if the tax audit is canceled or the auditor cancels the audit for the next day. A so-called "red report", in which the auditor communicates the findings relevant under criminal law in his opinion, will then be forwarded to the Bußgeld- und Strafsachenstelle (BuStra) (cf. Hütt, AO-StB 2004, 321 et seq.).

Initiation of criminal tax proceedings

Pursuant to Section 397 (3) of the German Fiscal Code (AO), the accused must be notified of the initiation of criminal proceedings at the latest when he is requested to state facts or submit documents that are related to the criminal offense of which he is suspected. In principle, the taxpayer is obliged to cooperate. However, according to Section 393 (1) sentence 2 of the German Fiscal Code (AO), coercive measures against the taxpayer are inadmissible if this would force him to incriminate himself for a tax offense or tax misdemeanor committed by him. If further findings are obtained in the external audit by taking advantage of the tax cooperation obligations, although the taxpayer was not informed of his status as a defendant, this leads to a prohibition of utilization under criminal law.

The audit order is a blocking reason for a self-disclosure exempting from punishment

Pursuant to Section 371 (2) no. 1 lit. a) of the German Fiscal Code (AO), the announcement of an audit order is a blocking reason with regard to a voluntary disclosure that exempts the taxpayer from prosecution. It is therefore too late to make a voluntary disclosure for the assessment periods to which the audit order relates. However, it must be checked whether a voluntary disclosure is still possible in the case of tax evasion for other periods. However, this option is usually not available for companies that have been subsequently audited (Sec. 4 (2) BpO).

When must an external audit be expected?

In general, there are no indications that an external audit is imminent. However, it can be assumed that, in the course of an external audit of a business partner, control notices will be issued which may affect the company itself. In this situation, an external audit must be expected. This applies all the more if irregularities have occurred at the business partner. If it is to be feared that the comparison of the control material will reveal indications of tax evasion, a house search may already have to be expected.

The following criteria, among others, may also indicate that the tax authorities assume that the company needs to be audited:

• Considerable deviations of the declared gross profit from the official guideline rates of the guideline rate collection,
• unusual contractual arrangements with related parties,
• pension commitments,
• suspicion of private use of loans taken out by the business for lack of investment,
• unusually high provisions,
• surprisingly low private withdrawals,
• withdrawals and contributions in kind at doubtful partial values,
• realization of hidden reserves in connection with the closure of a business or
• a lack of adjustment to a pre-tax audit.

VAT audit

The VAT audit pursuant to Section 27b of the German Turnover Tax Act (Umsatzsteuergesetz, UStG) is not an external audit; however, if there is reason to do so pursuant to Section 27b (3) of the German Turnover Tax Act (UStG), an external audit may be carried out without a prior audit order. In particular, officers of the tax authorities may, without prior notice and outside of an external audit, enter the properties and premises of persons who carry out a commercial or professional activity on a self-employed basis during business and working hours in order to ascertain facts that may be relevant to taxation. Cause for a VAT inspection can be, in particular:

• exceptionally high input tax amounts
• substantial input tax surpluses in connection with the establishment of a new company,
• input tax adjustments in accordance with § 15a UStG in connection with real estate,
• differences after reconciliation of the tax return with the stored data of the recapitulative statements in the case of intra-Community deliveries (check using the USLO procedure), and
• e-commerce as an industry with increased risk potential (cf. BMF letter dated 07.11.2002, BStBl. I 2002, 1366).

Legal remedies

The audit order, the determination of the start of the audit, the determination of the audit location and the other orders associated with the audit order are independently contestable administrative acts. Although the appointment of the examiner is not an administrative act, legal action can be taken against the appointment of the examiner in exceptional cases that go beyond a concern of bias. However, the objection to the examination order does not have a suspensive effect. Therefore, an application for suspension of execution must first be filed with the tax authority and, in the event of rejection, with the tax court pursuant to Section 69 (3) sentence 2 of the German Fiscal Court Code (FGO).

Tax assessments that are based on an unlawful audit order must be revoked. In this case, the audit findings are generally not usable. However, the prerequisite is that the audit order has been successfully challenged, unless the audit order is invalid (§§ 124 f. AO). According to the case law of the Federal Fiscal Court (Bundesfinanzhof, BFH), however, the prohibition of utilization due to formal deficiencies in the audit order does not apply, among other things, if taxes are assessed for the first time on the basis of findings from the external audit or if the assessment is made subject to review (§ 164 AO) (cf. Vogelsang/Stahl, Bp-Handbuch, D marginal no. 220 with further references).

Methods of the tax audit

Methods of the tax audit include the internal and external comparison of operations, in particular on the basis of the gross profit and the gross profit mark-up rate, the cash flow calculation (if the funds spent exceed the funds available to the taxpayer from taxed income or other known sources, it can be assumed that there has been a corresponding reduction in sales) and the chi-square test. In this test, the frequency distribution of digits is determined, in particular, in the taxpayer's cash book or cash report. Deviations from the statistically expected frequency distribution indicate the entry of incorrect numbers in the computer system, because the person making the entry uses them more frequently than others due to an unconscious preference for certain numbers.

When accessing data on the computer, the tax authorities use the IDEA audit software. This allows selected individual matters to be traced through all areas of accounting. The auditor is therefore no longer reliant on spot checks. With IDEA, for example, it is easy to display all bookings that were made outside of normal working hours. In addition, IDEA naturally offers the possibility of checking figures for manipulation by means of the "Benford Law" method or the chi-square test. It is also possible to automatically compare the account details of suppliers and employees. If there are matches, it may be possible to identify hidden wage payments. Suppliers for whom only a cell phone number is stored also attract the attention of the auditor.