Quantifying risks via statistical sampling


A due diligence investigation not only serves the purpose of mapping the material risks, but quantification of these risks is also essential. A traditional due diligence investigation normally involves completion of standard questionnaires and retrieval of standard information, which is provided by the vendor via a specially designed data room.

When possible incorrect VAT determination is detected, a rough estimation of the magnitude of the VAT risks is made on the basis of turnover and sales figures. This is not ideal for both vendor and purchaser, as it concerns much guesswork and thus usually provides an insufficient framework in price negotiations.

The question is whether there is a method of determining the exact additional tax assessment in an efficient and effective way. It should first be noted that the starting point is always the identification and recognition of material indirect tax risks.

Every industry has its own specific risks and further differentiation is necessary due to the complexity of the implemented business model, and the risks arising therefrom with respect to indirect tax.

Roughly speaking, the largest VAT risks in the following areas are:

  • Cross-border transactions: legitimate application of the 0% rate
  • Intercompany transactions: correct application of the VAT determination in the chain
  • Input VAT: justified input VAT deduction

Incoming and outgoing invoices provide important information about the scale of indirect tax risks within a company.  By selecting just a limited number of transactions via a statistical sample a quick insight can be gained into the level of tax risks with minimal human effort needed.

The advantages of statistical sampling

In order to quickly gain insight into the level of tax risks (i.e. calculation of the potential assessment), statistical sampling can be used.

By selecting a few elements (euros), the reliability of the composition of tax items can be determined to a high degree of certainty, and on the basis of identified errors in the sample, the exact amount of additional tax assessment can be calculated.

The strength of this method lies in the fact that statistical sampling is the tax audit method used by the Dutch Tax Authorities. Calculation is done on the basis of the parameters that the Tax Authorities apply themselves in their tax audit. This method is explicitly approved by the highest Dutch court.

For the tax function, statistical sampling is an efficient and effective way to test the effectiveness of its Tax Control Framework. The results could also be used to get indirect taxes higher on the priority list, since managing of material risks that are quantified fall within the KPIs of senior management.

Our approach

In our working method, we use the same parameters as the Dutch tax authority during a tax audit.

  1. Delivery
    The client provides data files following the instructions of the KEY Group
  2. Sampling
    The KEY Group conducts the sampling using audit software. The client is instructed to gather the selected (physical) invoices, declarations, receipts or other documents
  3. Assessment
    The KEY Group evaluates the delivered material and determines the correctness of the VAT entries
  4. Quantify
    In case of incorrect VAT entries and errors, we calculate the potential VAT assessment
  5. Remediation
    The KEY Group could provide support remediating findings

See for further detailed information 'Quantification of tax risks via statistical sampling' and 'Statistical sampling: ‘single audit

Take aways 

We combine technical knowledge with industry understanding and knowhow of technologically advanced tools and methodologies available in the market or developed by ourselves.

  • Focus on tax processes that could be improved
    • Manual process: same data requests are made by different stakeholders
  • As Is assessment
  • Anticipate future changes and the data needed
    • What are tax trends?
    • What is happening locally and what should be considered across jurisdictions where you operate?
    • Anticipate new stakeholders and their data needs or requests (internal and external)
  • Define scope and actions for short, mid and long term
  • Write business case for change
  • Realize sponsorship for implementation
  • What tax data is requested and by whom?
  • What tax process can be improved and what can be automated?
    • CIT, VAT, tax data warehouse
  • What is the Return on Investment?
    • Hard saving: process improvement
    • Meeting (new) tax requirement
  • What systems are in use: SAP, Oracle, etc
    • By which entities?
  • How many end-use computing tools (e.g. excel spreadsheet) do we have?
  • How do we avoid an ad-hoc solution?
    • Understand the bigger picture
    • Real problem and not the symptom

Technology-related tax risk: understand and address the potential harms and benefits of (new) technology.

Ascertaining proper IT support for ensuring efficient, timely and reliable reporting.

VAT should be considered in every aspect of the process, from concept through completion and beyond. Managing by design — looking at any process or transaction from end to end and factoring in all the requirements and controls essential to designing and optimizing a compliant VAT process.

We speak the language of the business and IT and no translation is needed.

  • Set up a project charter that will take effect preferable during feasibility but ultimately during design
  • Write a business case and problem statement
  • Define scope of the project
  • Define objectives and goals of the project
  • Involve stakeholders and define priorities
  • Set measurable milestones
  • Ensure that the right sponsors provide buy-in.
  • Identify (project) risks and how to manage them
  • Jointly validate and refine the project plan and develop a roadmap to success
  • Hold regular meeting to track progress of the various work streams

VAT should be considered in every aspect of the process, from concept through completion and beyond.

Looking at any process or transaction from end to end and factoring in all the requirements and controls essential to designing and optimizing a compliant VAT process.

The key to success in the management is the ability to translate tax knowledge into workable business processes.