Estimation in taxation and criminal tax proceedings

Estimation in criminal tax proceedings

Estimation is an important tool used by the tax authorities to determine the basis for taxation. The basis for this is Section 162 of the German Fiscal Code (AO). Estimation is also used in criminal tax proceedings to determine the basis for taxation and thus indirectly to determine the highest evasion amounts relevant for the imposition of penalties.

The goal of an estimate is ostensibly to find a result that has the greatest probability of correctness. It is to be assumed from the facts which come closest to the reality. The estimate should be consistent in itself, its results should be economically reasonable and possible. All circumstances that are of significance for the estimate are to be taken into account in the estimate § 162 Para. 1 S. 2 AO. Existing documents are to be taken into account insofar as there are no reservations about their probative value.

The term taxable base within the meaning of Section 162 (1) sentence 1 AO includes, in accordance with the legal definition of Section 199 (1) AO, the factual and legal circumstances that are decisive for the tax liability and for the assessment of the tax. Accordingly, the bases for taxation that may be estimated under Section 162 (1) sentence 1 are primarily facts. In addition, the concept of the basis for taxation, not unlike in Section 199 (1) AO, also covers legal conclusions, because in the case of an estimate, factual and legal conclusions are closely linked.

Full estimation

Full estimation is the comprehensive estimation of all parts of the taxable base within the meaning of Section 157(2) AO of a particular tax for a specific assessment period or a specific date. In the case of income tax and corporate income tax, the full estimate relates to income under § 2 I- II EStG, § 8 I- II KStG and, in the case of turnover tax, to turnover as defined in § 1 UStG. A full estimation is indicated if partial estimation or supplementary estimation are not sufficient. As a result, in the case of income tax or corporate income tax, a full estimate is made if all income in an assessment period cannot be determined or calculated. The scope of the area that can be estimated is determined by the scope of the facts that cannot or cannot reasonably be clarified. The tax office must therefore start from the existing documents and, in case of doubt, is required to supplement them by estimating the basis of taxation on a point-by-point basis. Full estimates, which as a rule are completely free and are issued "on a case-by-case basis", are only possible as an exception if the indications of the tax office are inconsistent or implausible. Even in the case of a full estimate, the individual elements of the respective tax base must first be determined, such as sales, income, expenses, goods received, goods issued or inventories. In order to come as close as possible to the actual result, the final result must not be estimated immediately. The gross profit estimate is regularly preferable to the net profit estimate if suitable documentation is available and the expenses and costs are properly accounted for. If the documents suitable for the gross profit estimate are not available and a proper accounting of expenses and costs is not apparent, a net profit estimate is not objectionable.

Partial, supplementary estimate

Partial estimation only includes the estimation of parts of the assessment basis within the meaning of Section 157 (2) AO of a specific tax within a specific recording period or at a specific point in time. With the partial estimate, the tax office can, in particular, complete incomplete accounting records. This can be considered if the factually incorrectly recorded transactions make up a definable part of the profit as a whole, i.e. in the case of selective inaccuracies. For example, operating income, such as cash receipts after cash shortages, operating expenses or parts thereof, as well as the use of goods or the turnover of goods can be estimated.

The so-called supplementary estimate also belongs to the area of partial estimation. The supplementary estimate serves to eliminate specific uncertainties with regard to individual taxation features. In general, it does not affect the correctness of the accounting. It covers, for example, the estimation of the useful life of depreciable assets and the purchase price allocation by way of estimation, as well as the estimation of telephone and motor vehicle costs.

A distinction must be made between the estimation pursuant to Section 162 of the German Fiscal Code (AO) and the lump-sum taxation provided for by law. In the case of some lump-sum accounting, the legislator deliberately refrains from a precise clarification of the facts for reasons of administrative economy due to investigative difficulties. Lump-sum bookings do not affect the correctness of the bookkeeping; this includes, for example, the booking of the private share of car costs. These are made on the basis of lump-sum accounting that has been worked out in the law, in guidelines, administrative directives or by case law for a large number of similar cases.

The scope of application of Section 162 AO also includes questions of valuation, since in these cases it is regularly not possible to determine an exact value with probability bordering on certainty. In this case, it is referred to as an individual estimate if the value, income or consumption of individual assets is estimated separately and the estimated amounts are added to the tax base.

Estimation and verification

Estimation is to be distinguished from verification. It is not used to determine the tax base, as is the case with estimation. The purpose of a check is to verify the accuracy of the taxpayer's accounting and other records in order to refute the taxpayer's statements. Estimation and verification have in common that the verification is to be carried out partly according to the same methods as the estimation.

Comparison with the previous year

According to the previous year's comparison, the tax bases are determined on the basis of the taxpayer's corresponding data for previous assessment periods and, if necessary, adjusted to the changed circumstances of the taxable period to be estimated by means of uncertainty additions and uncertainty deductions. If the taxpayer does not file a tax return, the tax office is not obliged to evaluate the supporting documents collected from the taxpayer when estimating the tax base. Rather, it may base its estimate on the fact that the taxpayer either accepted estimates in the corresponding amount in previous years or the authority assumed correctness and completeness based on the previous year's tax return filed. The rather rough estimation method of the comparison with the previous year is regularly used by the assessment offices of the tax authorities when tax returns are not submitted.

Internal comparison of operations by means of post-calculation

In a post-calculation, the audit relates internal company data such as cost of sales, revenues, gross and net profit and specified sales prices and extrapolates them. Based on this data, development trends of the business become visible, which can be utilized in the estimation process. Certain characteristics of an assessment period may be transferred to other assessment periods. In the case of recalculation, the sales and profit are reconstructed according to the calculation data of the respective business. The tax authority may rely on the taxpayer's data or conduct its own investigations. The tax authority determines the overall result of the assessment period to be estimated by developing the existing internal company data. If a business calculates using different markup rates, the cost of goods must be broken down accordingly as part of the estimation process. The recalculation leads to large inaccuracies, if a company works with different markup rates, has many different product groups in the assortment or provides very different services, since the individual calculations and the wage input vary and cannot be seen easily from the goods and material receipt invoices. In the case of up to ten product groups, it is considered reasonable to take these special features into account in a recalculation. Not all plants are therefore suitable for a post-calculation. In practice, it can be helpful if the taxpayer also prepares and keeps documents and evidence that do not fall under the recording obligations under tax law, such as records of discount promotions, recipes in the catering sector, component changes in the manufacturing industry, so that the operational peculiarities can also be documented, so that the auditor does not come to the conclusion on the basis of a post-calculation that the accounting must be rejected due to factual inaccuracies.

Serious accounting deficiencies justify a relatively rough estimate, since the requirements for the accuracy of an estimate are reduced in the case of accounting deficiencies from which factual irregularities can be inferred. In such cases, appropriate uncertainty surcharges may be justified. The taxpayer is not obliged to prepare a recalculation himself. He only has to answer specific questions of the tax office and, if necessary, submit further relevant documents.

Internal comparison of operations through time series comparison

Since the post-calculation is subject to numerous uncertainties, the tax authorities have developed further verification procedures such as the graphical series comparison and the time series comparison in the course of the last few years using data processing programs. In the case of the time series comparison, the gross profit markup achieved is determined separately for each calendar week of a year from the posted operating income and purchases of goods, in order to determine whether a week-by-week or month-by-month examination of the gross profit markup of a business also leads to the average gross profit markup declared for the calendar year. If there are major deviations or other anomalies, the accounting may not be factually correct. The time series comparison is also only suitable to a limited extent, since fluctuations, as they regularly occur in practice, as well as seasonal differences, are not taken into account. The time series comparison is used particularly frequently by the tax audit in the catering industry. The time series comparison assumes that new goods are always purchased when the old ones have been consumed and no stock is kept. This can be justified by the relatively short shelf life of food. Thus, discrepancies may indicate unrecorded revenues.

Internal comparison of operations by chi-square test

The chi-square test is used to compare the observed absolute frequencies with the expected absolute frequencies.

This test is used to determine whether digits are used disproportionately often, which indicates manipulation of the figures if the data are correspondingly clustered. The individual digits and the daily balances in the cash book are statistically random in nature. The daily receipts result as random products from the combination of different business transactions, the number of customers as well as different sales quantities and sales prices. The result of these daily revenues minus cash expenditures is made up of figures that are statistically characteristics of a population about whose distribution one can make a so-called null hypothesis based on empirical or theoretical derivation, the correctness of which is checked with the help of statistical test procedures such as the chi-square test. However, the chi-square test only provides a certain probability of the incorrectness of the accounting result and requires further validation.

Benford's Law

Benford's law describes a regularity in the distribution of digit structures of numbers in empirical data sets, for example, their first digits. The lower the numerical value of a sequence of digits of a certain length at a certain position of a number, the more probable its occurrence. For the initial digits in numbers of the decimal system, for example, it is true that numbers with the initial digit 1 occur about 6.5 times as often as those with the initial digit 9. Benford's law can be used to detect irregularities in accounting, balance sheets, etc., because those who manipulate a balance sheet often pay attention to an even distribution of digits. Since manipulated figures do not follow the law, computer-aided analysis can be used to cast doubt on the validity of proper accounting.

Monetary accounting

The money transactions account is an asset growth account limited to the money sector. It is based on the consideration that a taxpayer cannot spend more money in a given period than he receives from his income and other sources. The cash flow statement is based on a comprehensive comparison of all income and expenses in the business and non-business areas in a given period of time and focuses mainly on payment transactions. It therefore compares the use of funds with the available funds. The use of funds must be understood as an outflow of money, even if assets have been formed with it. Since the purpose of the cash flow statement is to demonstrate a reduction in profits, irrespective of the means of accounting, it must meet strict requirements: A clear comparison period, the use of opening and closing balances, no consideration of circumstances outside the comparison period, distinction between the overall account and the partial account, and completeness. The monetary account may relate to the taxpayer's business, private, individual subsections or the entire monetary transactions. The taxpayer's monetary transactions include both cash transactions and movements in the bank account. For the purpose of the monetary calculation, the declared income must be adjusted for changes in assets and tax approaches that do not affect the monetary calculation (e.g. addition of depreciation amounts or tax exemption).

If there is an unexplained surplus of spent funds, this justifies the assumption that these funds originate from untaxed income. However, the money transfer calculation can only be considered in the case of manageable circumstances and provides less reliable results than the capital gains calculation, since it only includes a part of the influencing factors. As a rule, the cash flow statement covers the audit period, i.e. 3 to 4 years. The longer the period of comparison, the less accurate will be at least the distribution of taxable income among the years of assessment.

However, the taxpayer is not obliged to provide self-contained proof of the origin of his private assets, but he must present the facts he has presented in a credible manner. In particular, the amount of expenses for private living can be estimated. If the taxpayer does not keep any private bank records and other private receipts and has not paid any private expenses out of the business, which could be clear indications of increased private consumption, the auditor can only estimate the minimum private expenses within the scope of an estimate pursuant to Section 162 (1) AO. However, if the taxpayer does not cooperate in the preparation of the monetary transactions and assets statement, this is to his detriment.

The private monetary transactions statement is based on the assumption that all taxable and taxable income after deduction of business expenses or income-related expenses, i.e. profits and surpluses, are immediately consumed privately or invested privately. Conversely, after deducting private money inflows, it can thus be concluded what profits or surpluses the taxpayer must have earned. The private cash flow calculation is particularly applicable if the taxpayer does not provide any records or if the circumstances are easily manageable.

Capital gains statement

The net worth growth calculation (total net worth comparison) estimates taxable income for a longer period of time from net worth growth plus living expenses and less tax-exempt allowances. The capital gains account differs from the monetary account only in that greater emphasis is placed on the use of funds for capital investments. Cash withdrawals and deposits are not recognized. Both accounts trace the flow of funds and can be reconciled. Operating assets can be recognized at the capital account value, provided that the account is adjusted for in-kind withdrawals and contributions. In the capital account, the taxpayer's total assets are recorded within two reference dates. It is assumed that increases in assets result only from taxed income, tax-exempt income and non-recurring asset accumulations, e.g. inheritance, gifts, gambling winnings. According to case law, if there are differences here, this is an indication that income has not been fully recognized. In principle, the calculation of capital gains is recognized by the courts as a permissible method of estimation and can lead to overestimates even in the case of formally correct accounting, since in the opinion of the BFH it provides sufficiently reliable evidence of a factual inaccuracy in the accounting.

However, the capital gains calculation has weaknesses. For example, it is often based on collected data and partial estimates, since there are often no documents available in the private sector and the tax office has no legal basis for collecting the net worth since the abolition of wealth tax on January 1, 1997. In addition, it is prone to error, because the longer the period for a capital gains calculation, the more prone to error the calculation becomes. Case law recognizes three years, whereas periods of seven to twelve years are questionable. This results in the following sphere-oriented distribution of evidentiary risk: As long as the taxpayer enjoys a benefit of the doubt pursuant to Sec. 158 AO on the basis of formally proper accounting, strict requirements are to be placed on the monetary transaction or capital gain calculation. Only when an unexplained increase in assets can be determined with certainty does the tax office have to estimate. Until then, the objective burden of proof lies with the tax authority. However, if the presumption of § 158 AO is refuted by an unexplained increase in assets, the standard of proof is reduced in accordance with § 162 AO. Again, if the taxpayer does not cooperate in the clarification, this is to his detriment. It also applies that if the tax office has no source of knowledge of the cost of living, it may fall back on statistical average values.

External comparison of operations

The tax authority may also determine the basis of taxation by means of an external comparison of operations, in particular by means of a comparison of reference rates. In an external comparison, the tax base is determined by comparing the results of other similar businesses. The comparable businesses must belong to the same industry and must also be similar to the business in question in terms of size, location, organization and customer base. In practice, this estimation method often fails because of the equivalence. In order to determine the comparative data, the tax authorities may also set up and use databases that are not generally accessible.

External comparison of operations according to official reference rates

A special form of external business comparison is the guideline rate estimate. In the annually published official reference rate collections, key figures are compiled for various branches of trade (gross profit markup on the cost of goods, gross profit rate, half-profit rate, net profit rate), which enable the declared tax base to be checked and, in the absence or complete rejection of an accounting system, its estimation in accordance with § 162 AO. The ratios are regularly obtained from the operating results of companies of up to medium size and are based on the conditions of a "normal" standard rate business. They are not binding, but merely serve as a guide for the tax authorities. Of course, the standard rates cannot be applied if the taxpayer's business has a different turnover size than the standard rate business or its business size significantly exceeds that of the standard rate businesses. In addition, special features of the audited business, such as particularly low prices due to strong competition in the neighborhood, low revenues due to unfavorable location, loss of sales due to weather conditions, etc., must be taken into account when determining the applicable gross profit markup.

The taxpayer must accept the guideline rate estimate if his accounting does not comply with the principles of proper accounting. In the case of formally correct accounting, the tax authority may not base its estimate solely on the standard rates if the declared profits or sales deviate from the standard rates. The profit according to the guideline rate estimate corresponds to the profit determined by inventory comparison according to Section 4 (1) EStG. If the taxpayer determines the profit in accordance with Section 4 (3) EStG (income statement), additions and deductions are therefore required. If the taxpayer cannot give reasons for deviating from the standard rates, the tax audit may consider the accounting to be improper. If, on the other hand, the taxpayer is able to provide sufficient reasons for the deviation, the tax authority must attempt to establish proof of factual incorrectness using other methods, such as a capital gains calculation. In the case of formally correct accounting, estimates in the amount of the gross profit markups customary in the tax audit district are not permissible, although the tax audit frequently argues this in practice.

Statutory estimation rules

When estimating income within the meaning of Sec. 1 (1) of the German Income Tax Act (AStG) pursuant to Sec. 162 of the German Tax Code (AO), Sec. 1 (3) of the AStG requires that a normal return on capital employed or a normal return on sales be used as a point of reference. The fair market value of shares in corporations within the meaning of Sec. 11 (2) Sentence 1 BewG must be estimated, if necessary, in accordance with Sec. 11 (2) Sentence 2 BewG, taking into account the assets and the earnings prospects of the corporation.

Estimation and doubt rate

Ultimately, only probability considerations remain decisive for an estimate in the taxation procedure. Forensic truth, on the other hand, is what the judge is fully convinced of on the basis of the main hearing, conducted according to the principles of immediacy. This means that in criminal proceedings it must be established to the conviction of the court that taxes in a certain amount were actually evaded. Thus, the judge of fact must independently determine the basis of taxation. Estimation in criminal tax proceedings must be strictly separated from estimation in taxation proceedings, because in criminal tax proceedings, only estimates that comply with the principles of evidence in criminal proceedings pursuant to Section 261 of the Code of Criminal Procedure are admissible. As a rule, the estimate under criminal law is significantly lower than the estimate under tax law. In order to achieve the probability level required by criminal law, corrections or safety deductions can be made from the result of the tax estimate. It should be noted that violations, e.g. of the duty to cooperate, may not be held against the defendant in criminal tax proceedings. This also applies to the extended duties to cooperate within the meaning of Section 90 (2) AO.

In any case, the judge of fact must explain in the reasons for the judgment in a manner that is comprehensible to the appellate court how he arrived at the result of the estimate. For the possible application of the principle of doubt (in dubio pro reo), it should be noted that this is not a rule of evidence. In fact, the principle of doubt merely states that the legal consequence most favorable to the defendant must occur only in the event that the court is not fully convinced of the defendant's culpability or of the existence of facts directly relevant to the decision.

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