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THE COST OF TAX COMPLIANCE

FOR PROFESSIONALS AND THE


SELF-EMPLOYED

Alvin Ang
Rachel Follosco

August 2007
DISCLAIMER

“The views expressed in this report are strictly those of the authors and do not necessarily reflect those of
the United States Agency for International Development (USAID) and the Ateneo de Manila University”.
MAIN REPORT

DETERMINING THE COSTS OF REGISTRATION AND


COMPLIANCE FOR SOLE PROPRIETORSHIPS
AND PROFESSIONALS IN THE PHILIPPINES

By Alvin Ang and Rachel Follosco

I. Introduction

Despite undergoing two major tax reform programs, one in 1986 and another
in 1997, the Philippines revenue efforts remain low. While there are various concerns
that contributed to this low revenue effort, low tax compliance and the inability to
expand the tax base continue to be the major causes of this drawback. In general, tax
base can be expanded if the registration process is simplified as not to constitute a
barrier to entry into the tax system. Low tax compliance can similarly be addressed
by simplifying the requirements. In both cases, the present difficulty can be
summarized into time and monetary costs.

In this paper, we consider the professional and self-employed taxpayer


segments which were specifically identified by the National Tax Research Center
(NTRC) as exhibiting large under-reporting of income. We attempt to develop a basis
for estimating the time and monetary costs involved and suggest ways to improve the
process of compliance both for registration and periodic requirements.

This report consists of four (4) parts: the main report, a comprehensive review
of literature, a detailed process of tracking the registration and compliance
requirements and a summary of a short key informant interview. This paper is
organized into six (6) parts: introduction and objectives, summary of major findings
from the review of literature, framework, unbundling and counting the costs,
summary of the short key informant interview, the last part recommends and
concludes.

II. Framework of Analysis

To facilitate our analysis, we have drawn in Chart 1 the approach that we took
in preparing this report. It is a general conceptual flowchart and what we had
expected in each part of the task we have identified. It should be noted that in the
course of the study, a number of assumptions have to be made in order to arrive at the
objective of determining the costs and their attendant concerns. Difficulties were
mainly in reconciling standards as there is no one official publicised procedures for
the registration and compliance processes. This is due to the number of agencies
involved and specific requirements in each local government.

III. Review of Literature

Concerns on how to improve revenue collections have been the focus of a


number of studies both locally and internationally. Though most of these studies
consider improvement in tax collections in general, there are lessons to be learned that
may apply specifically to income tax gap. The review considered the processes where
lesson drawing is possible. Initially, we found that the identified areas of possible
improvements have been traced to a number of factors that differs from country to
country. What may be considered as common to all countries is the understanding
that the process of increasing revenue is affected by the behaviour of existing
taxpayers in regard to complying with their tax requirements and the need to expand
the tax base of payers. In this section, we consider how the Philippine tax system has
been improved along the issues raised. We compare it with best methods used in
other countries and trace the theoretical basis on how to further refine the process.

a) Philippine tax studies

The extent of the income tax gap had been studied by the NTRC. In two studies
covering the period 1995-97 and 2001-06, the NTRC used different approaches in
estimating the tax gap. The collection rate was 13% during the study period 1995-
97 and this improved to 29% in 2004. Though not directly comparable due to
differing approaches used in estimation, these numbers nonetheless show that a
large potential income tax remains to be collected both from compensation and
from business/professional income segments. Similarly, in both cases, latter
segment is often claimed to account for a higher percentage of the uncollected
income taxes. Part of the source of the income tax gap had been identified in a
number of other studies, notably that of the International Monetary Fund (IMF),
World Bank, and the Philippine Institute of Development Studies (PIDS).

The IMF, in a 2005 paper, suggested that the issue of revenue collection in the
Philippines can be improved by rationalizing tax incentives and improving tax
administration especially on the personal income side, among others. It suggested
that even if statutory tax rates on personal income are increased, it will have no
significant effect on revenue because of the low compliance rate. It therefore
recommended that, instead of a rate adjustment, it would be better to improve tax
administration. Another study of the IMF and the World Bank in 2006 pointed
out that one of the weaknesses of tax administration in the Philippines is the focus
of the Bureau of Internal Revenue (“BIR”) on voluntary compliance of existing
taxpayers, instead of strict compliance enforcement.

These recent findings are not new because these have been considered in previous
efforts to improve the overall taxation system in the country. The 1986 Tax
Reform and the 1997 Comprehensive Tax Reform Program attempted to identify
distinct segments/classes within the category of individual taxpayers. Thus, the
classification of individual taxpayers into compensation income earners, taxpayers
engaged in the practice of profession, and individuals engaged in business. While
both initially improved collection in the individual income tax segment, the
improvements under both tax reform efforts were not sustained. This led experts
like Dr. Rosario Manasan of the PIDS to suggest that it is not the revision of the
tax structure that could sustain revenue growth, but sustained improvement in tax
administration. She suggested some administrative solutions to capture evasion
and non-compliance, among which are: a) improved monitoring of stop-filers, b)
installation of selective audit policy and procedures, and c) use of third party
information. Likewise, suggestions have been made to improve personnel image
Main Report: Determining the Costs of Registration 2
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and capacities of the BIR which include performance evaluation system for
revenue officers, training of personnel for computerization, and the creation of
data centers. Most of these recommendations are already being implemented
through the Tax Administration Strategic Plan (TASP), though possibly lacking in
depth and in breadth.

b) Improving Registration and Compliance

Expanding the tax base requires a significant improvement of the registration


process to encourage existing and potential entrepreneurs and professionals to
enter the tax net. Meanwhile, to ensure that those who are already registered will
pay the correct amount, taxpayers need facilitative processes. These general
findings come from the annual Doing Business Study being conducted by the
International Finance Corporation (IFC) and the World Bank. The latest survey
results of the Doing Business Study showed that the Philippines lowered its rank
from 121 in 2005 to 126 in 2006 from a field of 175 countries that were studied.
Compared to peer economies in ASEAN, this is a far cry from Thailand (18),
Malaysia (25) and Vietnam (98). Much of the weakness in the ranking comes
from the number of procedures and number of days required in registering a
business. In general, the Philippines registered 11 procedures that take 48 days to
complete.

In regard to compliance, the Doing Business Study suggests that there are certain
countries that have generally lowered their tax rates but still managed to improve
their tax revenues significantly. This can be explained by the entry of more
businesses into the formal sector. Ease of collections is explained by ease of
compliance and less complications for those entering and those already in the
system. The overarching lesson for the Philippines from the study is the
importance of streamlining and simplifying procedures, thus: a) procedures
should be cut down to only the basic steps required; b) one-stop shops for
registration should be created as much as possible; c) standard application forms
and a single business application process should be adopted; and d) the number of
filings and returns required to be made during the year and the time spent to
comply with such requirements should be reduced.

c) International Studies on Compliance

Two groups of studies have shown the link between revenue generation and the
need for a sustained compliance. This is not without theoretical basis and neither
is this finding unique to the Philippines. In a seminal paper by Nagin in 1990, he
already pointed out that there are major policy instruments available to the
government to curb non-compliance. In general, these are consistent with the
recommendations on tax administration improvement and focused on decreasing
the cost of compliance because increases in compliance cost reduce the incentive
to file a tax return. Another paper by Feige in 1998 focused on the problems of
accurately defining the informal sector. He cautions that a large and growing
informal sector will dilute information on the actual state of development of a
country based on official statistics and more importantly, it shifts the burden of
taxation from the dishonest to the honest, increasing the cost of compliance to any
Main Report: Determining the Costs of Registration 3
and Compliance For Sole Proprietorships
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system of rules and regulations, especially those concerning taxes. Thus, it is
equally important to expand the tax base by improving the registration process of
businesses and professionals while finding ways to improve the compliance
processes for those already within the formal system.

Meanwhile in studies on tax compliance made in developed countries, it was


found that different industries, different regions and localities, and size of firms
affect the cost of compliance. It is basically found that there are three (3) major
sources of compliance costs, namely: a) record-keeping requirements; b)
complexity of information that are required; and c) lack of coordination among
government agencies. It can be noted that these same factors are the drivers of
compliance cost in the Philippines.

It may likewise be worthwhile to note that the respondents in Erard’s 1999 study
in Canada on the tax compliance of firms, were mostly firms that have been in
operation for about 20 years and employing at least 15 employees. This suggests
that small firms are most likely having difficulty complying. In policy-setting
therefore, some focus will have to be given to the compliance concerns and
challenges of smaller businesses.

In the US, this finding is consistent and showed that smaller firms are paying 30%
more on the average cost to comply and this is believed to have caused the failure
of about 40% of small firms to comply with regulations. In the UK, the same is
true with small firms having to spend five (5) hours more a month to complying
with taxation requirements than larger firms. These same small firms list taxation
as causing more work. These findings were also found to be the same in Australia
and New Zealand.

Lastly, the latest US Internal Revenue Service (“IRS”) study in 2003 showed that
the average time and cost burden on a taxpayer to comply with taxation
requirements is 25.5 hours and US$149, respectively. This increases significantly
for those in the self-employed sector where compliance time increases to 59.5
hours and US$163.

However, it must be noted that international comparisons can neither be simplified


nor standardized due to differences in time coverage of study, quality of data,
definitions used, methods used to estimate compliance costs, and baseline of
measurement. This is particularly true in developing countries where data is
difficult to collect. Nonetheless, from these studies, one can still draw the
following generalizations:

a) Issues being faced by small businesses in relation to compliance costs are


comparable; and

b) A major alternative to reduce burden of small firms is to simplify procedures


specifically for small firms.

The details of this section are in Attachment A.

Main Report: Determining the Costs of Registration 4


and Compliance For Sole Proprietorships
and Professionals in the Philippines
CHART 1 - OPERATIONAL FRAMEWORK FOR
DETERMINING THE COST OF TAX COMPLIANCE

TASK OUTCOMES

REVIEW OF LITERATURE Drawing approaches from theoretical and


actual experiences of other countries in
IN PUBLIC FINANCE
implementing income tax compliance
programs

a) Identify the general processes of


DOCUMENTING THE registration and compliance applicable to all
REGISTRATION AND localities for both
COMPLIANCE (including professionals and self-employed
audit) PROCESSES b) Gather and document the registration and
compliance processes through representative
local governments in Metro Manila

Steamline commonalities in the processes of


STANDARDIZING THE different government agencies/local
COMPLIANCE governments and arrive at a
PROCEDURES AND FEES standard/baseline registration and
compliance procedures and fees. Use local
government standards if available.

a) Validate the registration process through


VALIDATING an actual registration of business in one of
DOCUMENTED the local government units.
PROCEDURES AND COSTS b) Validate the registration process through
AGAINST ACTUAL AND observations and on-the-spot interviews of
PERCEIVED COSTS OF actual registrants
REGISTRATION AND c) Conduct a survey each for the self-
COMPLIANCE employed and the professionals in regard to
their view on the registration and
compliances processes

a) Compile information from the baseline


COSTING THE compliance procedures and validation from
PROCEDURES the actual registration, observations and on-
the-spot interviews and survey results
b) Summarize the fees and costs of time
across representative local governments
spread over monthly, quarterly and annually

IDENTIFY OPTIONS ON a) Use gathered information to pinpoint parts


REDUCING COSTS (in terms of the procedures that can be improved so as
of time and fees) AND PARTS to reduce cost of time and fees.
b) Recommend a set of policy intervention
OF THE PROCESSES
to encourage potential registrants to enter the
tax net and for those in the tax net to comply
accurately
Main Report: Determining the Costs of Registration 5
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IV. Unbundling the Costs of Registration and Compliance

In this section, we summarize the processes and steps required to register a


sole proprietorship/professional and the periodic requirements that sole
proprietorships/professionals need to comply with. Relatedly, we herewith take the
composition of professionals and self-employed to mean those engaged in business
activity and not pure compensation earners. Note that instead of flowcharting the
processes/steps, we have summarized them into tables comparable across different
local governments. The details of this section are in Attachment B, including the step
by step process, Annexes and Forms for registration and periodic compliance
procedures. We separate this section into registration and periodic compliance. We
first consider registration.

A. The Registration Process and Related Costs

The registration process will be discussed in general and thereafter a sample of the
process involved in four major cities in Metro Manila, namely, Quezon City,
Manila, Makati and Pasig, will be compared to give a clearer distinction of how
the process differs from one locality to another. Three (3) main sub-processes are
involved in registration, these are: business name registration, local government
business permit, and registration with the BIR. A fourth sub-process may be
included which is the registrations in compliance with social welfare laws,
specifically with the Social Security System (“SSS”), Home Development Mutual
Fund (“Pag-IBIG”), and PhilHealth (hereinafter collectively referred to as “Social
Welfare/Insurance Agencies”).

1. Business Name Registration

In general, the registration process requires the business applicant to transact


with several government entities requiring time, effort and other resources.
The initial registration is with the Department of Trade and Industry (“DTI”)
for sole proprietorship for the business name registration. On the other hand,
professionals that choose to practice in the form of general professional
partnership (“GPP”) need to register with the Securities and Exchange
Commission (“SEC”).

To simplify our discussion, we will limit our scenario to those who register at
the DTI whether as a business or a professional. DTI registration is a rather
simple process and can be completed with the issuance of the certificate of
registration within a day. The registration fee is Php300.00 and the
documentary stamp tax on the certificate that will be issued is Php15.00.

2. Local Government Business Permit

The detailed procedures and relevant fees differ across cities and
municipalities but the general requirements are almost the same and they are
as follows:

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Fees Time

a. Barangay clearance Php100-P500 1 hour – 1day


b. Community Tax Certificate Php5.00 – P5,000 1 hour
c. Mayor’s Permit

- barangay clearance;
- lease agreement/TCT of place of business;
- application form;
- DTI Certificate of Registration; and
- payment of fees.

For the application for the Mayor’s permit, the following are usually required:

- locational clearance/zoning permit;


- fire safety inspection certificate;
- various clearances related to the place of business; and
- proof of payment for public liability insurance.

Each of the items listed above may require separate fees and the time needed
to secure each item varies. For the cities of Manila, Quezon City, Makati, and
Pasig, these processes may differ slightly. The summary of the registration
process and related costs in each of these LGUs is presented in Annexes “H-
1”, “I-2”, “J-1”, and “K-3” of Attachment B, respectively.

The differences among the local governments are likewise subject to other
factors that cannot be standardized. These may include the quality and
attitude of service providers and the location of each of the different offices
with which a registrant needs to get clearances.

One of the objectives of this paper is to determine the cost of registration.


This, however, is not easy to establish as there is no standard case that can be
used. Moreover, the different requirements of local government units
(‘LGUs”), their internal processes, the nature of the business to be pursued,
and the familiarity of the person applying for registration with the registration
process, among others, all affect the cost and time needed to register.

We attempt to count the costs using some assumptions to establish a baseline.


Considering the difficulties mentioned above, the following are the
assumptions we used for purposes of establishing the baseline costs:

a. The registrant is a single proprietor with at least two (2) employees;

b. Place of business has no locational/building issues (such as those arising


from renovation of the premises);

c. Transportation and food costs are at Php200.00/day;


d. Fees assessed together with the Mayor’s Permit fee (e.g., garbage fee,
zoning fee, and locational fees) assumed to be at a minimum of
Main Report: Determining the Costs of Registration 7
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Php2,500.00 and public liability insurance, if applicable, is assumed to be
at the minimum cost of Php1,300.00;

e. Other fees payable in the course of processing the requirements for


Mayor’s Permit application such as Locational Clearance and Fire Safety
Inspections Certificate fee, while not uniformly applicable or imposed at
the same rates, is assumed to aggregate Php400.00;

g. Other post-registration compliance costs which may be applicable such as


the cost of physical/health examination of personnel, purchase of fire
extinguishers to comply with requirements of the Bureau of Fire
Protection, were not factored in;

f. There are no lags in processing (registrant diligently pursuing the


registration); and

g. Conversion of time costs is based on the minimum wage in Metro Manila


of Php350.00 per day. The minimum wage is used since it represents a
standard that is applicable to any locality in Metro Manila. Similarly, most
start-up businesses are likely to consider their costs at the minimum level.

Using these, we apply it to the four (4) different cities to arrive at the cost
estimates below. Table 1-A indicates the estimated number of days to
complete the new business registration process, with the waiting time on the
part of the applicant separately indicated while Table 1-B details the cost
items. For purposes of costing, only the man days needed to actually complete
the registration/Mayor’s Permit requirements of the LGU concerned were
included. Waiting time was not assigned any corresponding cost/value.

TABLE 1-A – Comparative Registration Processing Time


(based on Annexes Annexes “H-1”, “I-2”, “J-1”, and “K-3” of Attachment B)
Manila Quezon Makati City Pasig City
City
1. Business Name 1 day 1 day 1 day 1 day
Registration
2. Business Permit
A. Estimated days to 4 days 3 days 3 days 4 days
process
B. Waiting Time: At 3 days + 3 3 days + 3 3-days (no 3-days (no
least 1 inspection days days waiting time waiting time for
plus period to for the the release of
release Mayor’s release of Mayor’s Permit)
Permit Mayor’s
Permit)
C. Total Estimated 10 days 9 days 6 days 7 days
Period to Secure
Release of
Mayor's Permit
3. BIR Registration 2 days 2 days 2days 2 days
TOTAL DAYS 13 DAYS 11 DAYS 9 DAYS 10 DAYS

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and Compliance For Sole Proprietorships
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TABLE 1-B – Comparative Registration Costs and Expenses (excluding Post-
registration)
Manila Quezon Makati City Pasig City
City
1. Cost of Man Days to Php2,200 Php 1,650 Php 1,650 Php1,650
Process
(Php350/day) +
Transportation and
Food (Php200/day) x
Col. A above
2. Barangay Clearance 100 100 100 100
3. CTC 100 100 100
100
4. Public Liability
Insurance 1,300 -NA- 1,300 1,300
(minimum)
5. Separate fees
payable prior to 400 400 400 400
submission of
Mayor's Permit
Application
6. Total fees assessed
with the Mayor's 3,200 2,100 3,500 2,700
Permit Fee

TOTAL Php7,300 Php4,350 Php7,050 Php4,050

The amounts indicated in Row 6 above were based on actual assessments paid
in connection with an initial registration involving different businesses but
with comparable area of office premises (see Annexes “H-1”, “I-2”, “J-1”, and
“K-3” of Attachment B). It is observed that size of the office may affect the
amount of garbage fee assessed, public liability insurance (although for
purposes of the table above, only the minimum premium for such insurance is
assumed), among other minor fees.

The foregoing simply establishes benchmarks for estimating the costs of


registration. As mentioned earlier, this may go higher or lower depending on
factors specific to the business being registered, the LGU where it seeks to be
registered, as well as the know-how/level of experience on the registration
process of the person processing the Mayor’s Permit. For a comparison of
estimates of registration processing time and costs reported in this Study with
some other similar estimates to be meaningful, the underlying assumptions for
each set of estimates will necessarily have to be considered.

The Quezon City government recently had a press release (July 21, 2007,
Philippine Star) indicating that the number of days to register a business in
Quezon City government is at a minimum of two (2) days during slack periods
and up to a maximum of seven (7) days during peak periods. It is not clear if
this includes the time needed to secure the barangay clearance, but it certainly
excludes registrations with the DTI, BIR, and Social Welfare/Insurance
Agencies. Moreover, while it appears that the 2-day registration period that it
has indicated still appears to be quite optimistic, it is evident that their
estimates are based on only the actual number of days that the applicant has to
Main Report: Determining the Costs of Registration 9
and Compliance For Sole Proprietorships
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be in the Quezon City Hall to process the required documents and excludes the
waiting periods for the issuance of the required permits, conduct of inspection,
and the release of the Mayor’s Permit and registration tin plate. If these
assumptions for their estimates are correct, then the findings of our Study
would be fairly consistent with what is in the press release in certain LGUs
such as Quezon City.

It may also be worthy of mention that it is difficult to generalize if there is a


peak or lean period of business registration except a definite peak during
renewal of registrations in January. Similarly, it is difficult to ascertain the
type of business that is being registered that would require only 2 to 7 days.
Thus, our case for a baseline cost with a number of assumptions. The factor
that is certain to dictate the actual time needed to secure a Mayor’s Permit in
Quezon City or any other LGU is the requirement for inspections to be
conducted. For businesses which are required to undergo one or more
inspections, the processing time will necessarily be longer while those
businesses which are exempt from any inspection (usually a function of the
nature of its business and the size of its proposed place of business) can
eliminate waiting time to be able to file the Mayor’s Permit application. This
will not, however, exempt such registrants from the waiting to have the
Mayor’s Permit and registration tin plate released.

a. The experience of Marikina

Though not included in our representative cities, we tried to validate the good
reviews we have heard from the experience of Marikina. Based on our field
visit, we found that business permit will be released in Marikina at a
maximum of five (5) working days. This is at least one day faster than our
estimate of the process in Makati. Similarly, they have simplified the process
for renewal by establishing a Barangay One-stop shop window within the
Business Permits office. This could be a process that can be emulated by
other cities in the National Capital Region (NCR).

3. Bureau of Internal Revenue (BIR) Registration

After the business permit, the registrant has to go to the BIR to register his
business and for the appropriate taxes that his business/profession is subject.
This process requires that the registrant must have the proof of payment of the
registration fee amounting to Php500.00, copy of the business permit, and
proof of attendance of the tax briefing. After this, the registrant will be issued
a BIR Certificate of Registration (“COR”). This process is usually completed
within two (2) days.

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and Compliance For Sole Proprietorships
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4. Registration with Social Welfare/Insurance Agencies

A sole proprietorship or a professional employing at least an employee must


register with the Social Welfare/Insurance Agencies. If the proprietor of the
business himself is not yet registered with these agencies, he also needs to
register as a self-employed individual.

As these agencies may be located in different areas and possibly even outside
the municipality, the registration with these agencies may take more than a
day to complete.

B. Estimating the Administrative Costs Related to Compliance

Once a sole proprietorship/professional is registered, there are existing rules and


regulations requiring periodic compliance. These requirements are to be complied
with at least in three (3) regular intervals: monthly, quarterly, and annually.
There are also changes in the circumstances of the registered business that require
additional one-time compliance or what are referred to as “unprogrammed
compliance requirements” in Attachment B.

For purposes of estimating compliance costs, this Study focuses only on a general
estimated baseline that we assume will be widely similar among
businesses/professionals, without taking into account some cost differentials
attributable to the fact that service/labor costs outside Metro Manila are relatively
lower since the difference is not projected to be materially significant.

Assumptions
Similar to the registration costs, we have to build on a number of assumptions as
the same difficulties of differing nature of business and different registration
options taken will lead to different results.

In general, we will limit the periodic compliance to the following:

Monthly - BIR, Social Welfare/Insurance Agencies


Quarterly - BIR, LGU, Social Welfare/Insurance Agencies
Annual - BIR, LGU, Social Welfare/Insurance Agencies

Towards this end, the following assumptions were considered:

a. Baseline Cost is applicable to any city;

b. Complying entity is a small business with at least two (2) employees;

c. The sole proprietor/professional is registered with the BIR for the following
minimum tax types:

- VAT or percentage tax;


- Withholding tax-compensation;
- Withholding tax-expanded;
Main Report: Determining the Costs of Registration 11
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- Registration fee; and
- Income tax.

d. Compliance includes those pertaining to Social Welfare/Insurance Agencies;

e. Bookkeeping fee per month is Php2,500 for minimal/basic compliance with


bookkeeping requirements, although the cost of alternatively using one of the
employees or staff of the business is also presented for comparison but with
the assumption however that the employee is not an accountant or does not
have ample accounting-related experience since the employee’s assumed pay
is only the daily minimum wage;

f. The cost of preparation and filing of tax returns is estimated to cost Php500 for
the simpler and more routine returns but more complicated returns such as the
quarterly income tax return and the annual income tax return (which require
the preparation of additional forms and schedules), were given higher costs;

g. Cost of transportation is not separately indicated and is deemed included


because the amount should be very minimal because payment can be made
with the bank within the same revenue district as the taxpayer and nearest to
the registered place of business;

h. Official fees are only deemed included if specifically stated; in general, taxes
are excluded from the estimates as taxes are generally computed on the basis
of either taxable income or gross receipts, but the applicable tax rate, tax base,
and whether or not the taxes are borne by the taxpayer or simply remitted in
his capacity as withholding agent are indicated on the last column;

i. Assessed renewal fee of the local government business permit will increase by
P1,000 from a minimum of P2,500 paid on initial registration due to expected
increase in business activity since local business tax is imposed at a rate
depending on the nature of the business and the gross receipts of the business
during the immediately preceding year; and

j. Monthly (Table 2), quarterly (Table 3), and annual compliance costs (Table 4)
are accumulated in computing the aggregate annual compliance cost (Table 5).

With these assumptions, the different tables below show the estimated costs
broken down into monthly, quarterly and annual. The approximations we arrived
at should serve only as a guide and for a more accurate estimate, we believe that a
survey for existing firms needs to be accomplished. This will be able to show
how significant or not are the fees and compliance cost in relation to the total
revenues and performance of firms.

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and Compliance For Sole Proprietorships
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Table 2 – Monthly Cost of Compliance
Cost of Compliance
Outsourced
(Deemed Internal
Description Government Fees
gross, (Not a CPA or
exclusive of Experienced
VAT) Bookkeeper)
1. Bookkeeping Php2,500 Php1,400 (estd None
(recording in the as 4 days x
accounting journals Php350/day)
and ledgers)
2. Periodic Filings
a. Percentage Tax or 500 500 (approx. >1 3% in case of
VAT Return day's wage and percentage tax; 12% of
transportation) Gross Revenue but
actual payable may be
less if there is available
allowable Input VAT
b. Withholding Tax on 500 500 (approx. >1 5% to 32% of gross
Compensation day's wage and income of employee but
transportation) this is not borne by the
business
c. Withholding Tax - 500 500 (approx. >1 Depends on applicable
Expanded day's wage and rate under RR 2-98, as
transportation) amended; tax not borne
by the business
d. SSS/Pag- 500 500 (approx. >1 Depends on the salary
IBIG/Philhealth day's wage and level and the prescribed
transportation) contribution rates; only
employer's share is
borne by the business
Monthly Total Php 4,500 Php 3,400

As mentioned above, the time estimated for an employee of the business to


prepare the returns indicated in the tables takes into account the assumption that
the employee is not particularly qualified or experienced to do this kind of work,
given the rate he is receiving. On the other hand, an external service provider may
have a higher hourly rate but the time he would need to do the same work can be
significantly shorter given the service provider’s expertise in the preparation of
tax returns.

Table 3 – Quarterly Cost of Compliance


Cost of Compliance
Outsourced
Description (Deemed Internal Government Fees
gross, (Not a CPA or
exclusive of Experienced
VAT) Bookkeeper)
1. Income Tax Return Php 1,000 Php 1,200 (based 5-32% of taxable
on an estimated 3 income less any
days preparation taxes already paid in
and filing time) the previous quarter
of the year
2. SSS 500 500 None
Quarterly Total Php 1,500 Php 1,700

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and Compliance For Sole Proprietorships
and Professionals in the Philippines
For quarterly costs, we assumed that only the quarterly income tax and a quarterly
filing for SSS is required. While there is a VAT return that is required to be
submitted quarterly, we have considered the quarterly VAT to be similar or
comparable to the monthly VAT declaration that is filed for each of the first two
(2) months of the quarter to simplify the computation. Thus, the cost of filing the
quarterly VAT return is reflected in Table 2. No separate costing was provided
for the payment of quarterly business taxes since quarterly payment is only an
alternative to the annual payment scheme.

Table 4 – Annual Cost of Compliance


Cost of Compliance Actual Government
Fees/Fees to Third
Description Outsourced Internal Parties
Php7,500
1. Annual Audit Php 7,500 (external)
2. Registration of Books 750 500 (inclusive of
(inclusive of cost of manual
cost of accounting
manual books, 1/2day
accounting wage and
books) transportation)
3. Renewal of 1,000 750 Renewal fee of
Registration (inclusive Php500.00
of renewal fee &
costs)
4. Preparation and 2,500 2,500 (external) Any remaining unpaid
Filing of Annual Tax income tax computed at
Return and related 5%-32% of taxable
forms income
5. Preparation of Annual
Alphalists
a. Withholding Tax 1,000 800 (2 days wage
on Compensation + transpo)
b. Withholding Tax - 1,000 800 (2 days wage
Expanded + transpo)
Annual Total Before
LGU-related costs and
expenses Php13,750 Php12,850
Estimated Mayor's
Permit renewal-related
costs and expenses:
Amount indicated is
a. Barangay Clearance 100 100 official fee
CTC is official fee;
amount indicated is
b. CTC 100 100 estimate
c. Public Liability Actual premium
Insurance (20sq.m, charged by insurer for
whc is the min. area) 1,300 1,300 20sqm area
Amount indicated is
estimated official fee
inclusive of Php1,000
additional local business
tax. Threshold business
tax rates provided under
d. Mayor's Permit and the Local Government
related fees 3,500 3,500 Code are attached in
Main Report: Determining the Costs of Registration 14
and Compliance For Sole Proprietorships
and Professionals in the Philippines
Attachment B
e. Labor Cost of
Php350/day +
Transportation and
food of Php200/day to
process 2,200 2,200
Total LGU Annual
Compliance Cost Php7,200 Php7,200
Total Annual Cost Php20,950 Php20,050

For annual cost estimates, there are still additional filings that the entity needs to
submit and it also needs to renew its Mayor’s Permit with its LGU and its
registration with the BIR. Thus, these activities are considered separate from the
monthly and quarterly compliance requirements that the business
entity/professional has to accomplish. In addition, there is also an annual audit of
books that needs to be complied with and per current market standards this is
estimated to cost Php7,500, usually quoted net of withholding tax and exclusive of
VAT. There remains to be independent auditors who can charge as low as
Php5,000, exclusive of VAT and net of withholding tax, but such auditors would
normally qualify their engagement to be without the conduct of an actual audit.
Thus, they would just sign off on the financial statement prepared internally as
long as they are satisfied with the apparent consistency of the financial statements
with generally accepted accounting principles.

The estimate of compliance cost for the entire year is summarized below.

Table 5 –Administrative Cost of Compliance per Annum


Cost of Compliance
Outsourced Internal
Description (Deemed gross, (Not a CPA or
exclusive of VAT) Experienced
Bookkeeper)
Monthly Total (x 12) 54,000 40,800
Quarterly Total ( x 4) 6,000 6,800
Annual Total 20,950 20,050
TOTAL COMPLIANCE COST – PER
ANNUM Php 80,950 Php67,650

The costs presented above are baseline and, as previously mentioned, there is
some degree of arbitrariness/reliance on assumptions in arriving at these numbers.
The information presented above support the following conclusions: (1) while it
is true that registration costs serve as barriers to entry, specifically, into the tax
net, all told, the estimated registration costs for all the four cities appear to be
acceptable and the time involved is not as long as generally perceived; and (2) the
estimated cost for compliance seems to be quite high for a multitude of small
business.

While it may be true that the administrative cost of compliance diminishes or even
becomes negligible as the size of the business increases, the full cost of
compliance does not necessarily follow the same trend. It should not be
overlooked that compliance requires the payment of taxes, both to the national and

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and Compliance For Sole Proprietorships
and Professionals in the Philippines
the local governments. Given the way taxes are computed, i.e., generally based on
taxable income, gross revenue or gross income, the amount of taxes that are paid
in the course of compliance would track any increases or decreases in the tax base,
although the administrative cost of compliance remains constant. This point is
further articulated below.

C. Actual Full Cost of Compliance

It has to be emphasized that the full cost of compliance is still not yet fully
captured in the amount of Php80,950 indicated above, since the said amount
basically captures only the administrative cost of compliance. To the
businessman/professional, the cost of compliance will definitely have to include
the taxes that he will in fact be paying in the course of his compliance. The
amount of taxes payable were no longer estimated for purposes of this Study as it
will require us to over simplify the illustration by assuming a fixed amount of
income; nonetheless, the applicable tax rates and tax base are indicated where
applicable.

Hence, in real cases, this estimation may prove to be on the high side for small
and medium firms, but may be low for large ones. Since most new entrants to
business start small, this could serve as a barrier to entry. Therefore on the whole,
it is not only the registration process that can serve as barrier to entry but equal
resistance to formalize one’s business and bring it within the tax net can be traced
to the fact that aside from the administrative cost of compliance, there are
significant amount of taxes that will become due and demandable from the
business once it is in the tax net. Between the difficulty and cost of registration
as barrier to entry into the tax net and the cost of full compliance once in the tax
net, it is the latter which may in fact be the source of resistance to get one’s self
into the tax net. Thus, if enforcement of the requirement to register and comply
with all continuing requirements is weak, whether it is an individual or a juridical
entity that is conducting business, there is definitely a lot of cost savings and
financial incentive to remain outside the tax net for as long as the system allows
them to get away with non-registration.

Lastly, the cost of defective compliance once the business is already in the tax net
is likewise potentially prohibitive. Given that for smaller businesses competent
professional services are rather costly and inaccessible and the fact that
proprietors of smaller businesses are also generally less sophisticated, there is
increased chance of defective (late, incomplete or erroneous) compliance and the
need to incur its related costs. When such is the case, their cost of compliance
can be greatly increased and can even be doubly prejudicial on their part since
such incremental cost would constitute unanticipated or unprogrammed costs
unlike the periodic taxes that are due which are arbitrarily factored into the pricing
scheme of the business.

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and Compliance For Sole Proprietorships
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V. Validation through Short Key Informant Interview

To validate the findings above, we tried to elicit ideas and find concerns of
self-employed and professionals in complying with the initial registration and periodic
compliance requirements of local government units and the Bureau of Internal
Revenue (BIR). Taking into consideration the limited timeframe and the possibility
of a high level of non-response, we employed a purposive/convenience sampling
method. Thus, we caution that there is no general scientific generalization that can be
arrived at. We tried to get a mixed group of 30 respondents, equally divided into self-
employed and professionals and was conducted in the Quezon City area. The
questionnaire employed was non-structured type and solicited open-ended responses
and was implemented through face-to-face interviews.

The survey questions asked were as follows:

1. What can you say in general about the business/professional registration process
for the self-employed and professionals
2. If your business/practice of profession is registered,
a. Did you personally apply for your business permit/professional license
b. In your estimate, how long did it take to complete the registration process?
c. How much did you spend?
d. In the course of registration did you encounter any difficulty?
e. Can you specifically identify the part of the process where you encountered
difficulties?
f. What can you recommend to improve the process?
3. As regards your periodic compliance requirements with the LGU and BIR, do you
encounter any difficulty in meeting them?
4. Did you personally take care of your periodic requirements
5. If No, did you hire any professional to assist you?
6. Can you identify the problems with the periodic compliance process?
7. Could you suggest ways of improving it?
8. If you business is not registered,
a. What is the reason why you did not register?
b. Do you know that the process takes only 4 weeks and that the cost depends on
the type of business?
c. What can you recommend to improve the process?

Analysis of the responses

The survey summary shown in Table 6 below reveals that majority of


professionals and self-employed small business owners do register their
businesses and comply with the requirements. It is important to consider however
that the researcher had difficulty getting non-registered businesses to formally
respond to the questionnaire. Only 2 respondents were willing to be interviewed
and explained that the reason for their non-registration and non-compliance is due
to their perception that there are too many requirements, too many fees to pay, and
the long waiting time to get the business permit and all the necessary business
authorizations. This point is crucial, because it gives the impression that people

Main Report: Determining the Costs of Registration 17


and Compliance For Sole Proprietorships
and Professionals in the Philippines
do dodge formalities not because they do not want to pay taxes initially, but that
they are turned off by the documentation and time requirements.

Hence following this perspective, what we can pick from this result will help
identify the parts of the compliance process which registered businesses and
professionals are finding difficult to comply with or cumbersome. Hopefully,
policy changes will be able to simplify and correct the same to make compliance
easier.

Table 6 – SUMMARY OF KEY INFORMANTS INTERVIEW


QUESTION RESPONSE
1 a. Necessary
b. Long process
c. Tedious, but necessary
d. Difficult because of the long queue and plenty requirements
e. Difficult especially if you have no contacts
f. The process of registration is easy, it is the process of
acquiring the requirements that is difficult
g. It is a slow process and the waiting time is long
h. An efficient way of regulating the practice of profession
2a Except for one who engaged a staff, all responses were in the
affirmative
2b The responses ranged from one week to two months.
2c The amount spent ranged from P3,000 to P15,000
2d a. long queue
b. Centralized processing
c. Too many processes and requirements
d. Prevalence of fixers
e. Offices are located away from each other
f. Inefficient staff of processing office
2e a. application and assessment
b. processing and evaluation
2f a. Computerization and on-line processing
b. Compel the use of e-filing and e-payment schemes
c. Decentralization
d. More counters for registration and application
e. Provide a schedule for processing
f. Introduce One-stop shop
g. Make payments staggered
h. Separate the requirements of tax registration and social
security with that of Business Permit
3. Responses were similar to the issues in the initial registration
process
4. Most respondents declared that they personally take care of their
periodic requirements
5. Same as above
6. The process of renewal and periodic compliance encounter the
same problems as that of new registration. It is noted that
periodic compliance is too demanding with respect to time and
Main Report: Determining the Costs of Registration 18
and Compliance For Sole Proprietorships
and Professionals in the Philippines
documentation, forcing some to hire accountants while those
who cannot afford simply do not comply.
7. Similar recommendations on improving registration
8a The perception that there is a lot of requirements and expenses
involved
8b Most are aware, but still find the fees expensive
8c Remove red tape

The following are our assessment of the information that can be culled from the
survey:

a) On the business registration process in general

There seems to be a consensus that the process of applying for a business and
professional registration is a long, difficult, and tedious process. Nonetheless,
majority comply with it because they believe it is necessary for regulation of
business and profession. It is also noted that due to the differences in the
operational set-up of local governments, there seems to be a perception that
some LGUs are more organized than the others.

b) Length of time to complete registration process

The time involved in the process is one of the reasons that turn off registrants.
It should be noted that the range of time involved goes to a low of five (5)
working days or one (1) week to a high of eight (8) weeks. However,
considering that this survey was done in one city, findings here may not
necessarily be consistent with those in the other cities. To have an average
viewpoint, we can assume that not all registrants diligently pursued their
registration from day 1. It is possible that some deferred the instruction on
when to return thus leaving their process hanging. Thus, those that diligently
waited for their papers completed the process within a week’s time.
Nonetheless, this gives us a clear idea that registration should be facilitated
and possibly be completed within a day. There are transaction costs involved
and these differ from person to person and from the type of business being
applied.

c) Monetary Cost of Registration

Most respondents gave the minimum amount spent for registration as around
Php3,000 and the highest to approximately Php15,000. Respondents tried to
recall the total amount they had spent for registration as some of them had
been in operation for some time now. There are many factors to consider in
aggregating the actual cost incurred by the respondents. For instance, some
impliedly considered in their cost – facilitation expense and early release
through fixers, though they did not specify how much they gave. But,
considering that a number of the respondents gave their expenses to be around
Php5,000, it is possible that the facilitation fee of fixers could have gone as
high as PhpP10,000. Similarly, it is important to note that the cost we

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and Compliance For Sole Proprietorships
and Professionals in the Philippines
consider here are the out-of-pocket direct costs incurred and therefore if linked
with the previous item on time, the total cost is definitely higher.

d) Difficulties encountered during registration and periodic compliance

There are numerous difficulties encountered during the registration and


periodic compliance. Most common difficulty is the long queue of registrants.
This discourages first time applicants and irritates those that are doing their
periodic compliance. It can be considered that the reason for the long queue is
the centralized processing of LGUs and other government offices. The
concept of centralization here, mean that there is a very limited area for getting
the registration and periodic compliance done. These results to overflowing of
registrants and renewal applicants combined. Likewise, the completion of
both processes require the visit to at least two different area offices, LGUs and
BIR, making it inconvenient as registrants have to go to two different areas or
even more within the LGU office. This is because offices may be located
away from each other. Another complaint is that some LGU/BIR staff are
inefficient. This may mean that respondents observed that these staff are not
working fast or are not facilitative and may actually be slowing down the
process. As to the part of the process where these difficulties are actually
encountered, most respondents replied during application, assessment and
evaluation parts. For practical purposes, these form the general parts of
registration and therefore we can safely conclude that there is a general sense
of difficulty being encountered in every step of the registration.

e) Suggestions to ease difficulties

In general, most of the respondents have access to computers and therefore


have strongly recommended the full computerization of the process. Though
part of the process can be done on-line, the most part still require applicants to
go through physical process. It is the view that computerization will help open
the possibilities of decentralizing the process and reduce the queue.
Additional windows for processing can also fast-track procedures. Likewise,
it was suggested by some that it would be good to establish instead a one-stop
shop for all the requirements required to be processed, avoiding the need to
transfer from one office to another. Here we see a two-stage workable option:
first, the opening of satellite registration offices in the major sub-areas of the
city/municipality to the extent that the volume of transactions would justify
and second, making such extension offices one-stop shops for all the different
agency requirements to be completed. Similarly, an alternate on-line
registration, renewal, and releasing system can be put into place to further
facilitate the process for those who have on-line access.

Main Report: Determining the Costs of Registration 20


and Compliance For Sole Proprietorships
and Professionals in the Philippines
VI. Some Policy Suggestions

This Study has generally shown the need to simplify registration and
compliance procedures. Our baseline estimates show that compliance requirements
are the same regardless of the size of business, profit or even nature of business or
profession. This uniformity of requirements seems to be one area where the difficulty
arises particularly for the small and/or start-up businesses. Consistent with the
findings of studies in the US, Canada, and other developed countries, it is the small
businesses or start up professional services that are severely affected by compliance
processes in terms of time and costs. In relation to this, we similarly support the need
for further simplification of the registration and compliance requirements as well as
more intensive efforts to disseminate basic information regarding compliance
requirements and procedures to small businesses to reduce and possibly eliminate the
risk of costly defective compliance.

In particular, we would like to recommend the following:

1. Creation of one-stop shops by LGUs which will allow the applicant to just
proceed to one office window, submit one (1) set of requirements (instead of one
(1) set of documents for every office where a permit or clearances is required to
be obtained), and pick up the Mayor’s Permit upon payment, after the lapse of a
definite period of time. Barangays, at least during the month of January when all
renewals are scheduled to be completed, should likewise already send
representatives to the LGU’s one-stop shop to issue the requisite barangay
clearance. This practice is already being implemented in Marikina.

2. Make the forms simple and make available instructions in the vernacular. In the
LGUs, if the applicant is simply renewing its Mayor’s Permit, the application
form, requirements, and procedures should be substantially simplified or reduced,
particularly if the applicant will not be transferring its place of business or there is
no material change in its business and/or place of business. In particular, LGUs
which have computerized data base of applicants’ information should be able to
reduce information/documentary requirements from the applicants to the extent
that the applicant represents that there are no changes in its circumstances. At the
least, an applicant for Mayor’s Permit renewal only needs to disclose the gross
revenue of the business during the preceding year as the same serves as basis for
the local business tax assessment.

3. Uniformity of requirements actually discriminates against small


business/professionals. We strongly recommend the establishment of a threshold
for small business and professionals based on their cost of capital, initially and
thereafter, based on their gross revenue. For example, the following variations
may be implemented to simplify procedures and minimize cost for small
businesses:

a. Exemption from routine fees, particularly those specifically assessed for


permits/clearances where there is in fact no cost involved for their issuance,
such as when there is no inspection required. Some LGUs, for example,
impose a fee for the issuance of a locational clearance. LGU could be
Main Report: Determining the Costs of Registration 21
and Compliance For Sole Proprietorships
and Professionals in the Philippines
encouraged to waive the payment of such fee if the business applicant is a
business whose capital/gross revenue does not exceed the set threshold.

b. Allow less frequent periodic compliance for small businesses, for example,
monthly periodic requirements should be submitted quarterly instead. SSS,
Philhealth, and Pag-IBIG should likewise issue guidelines allowing quarterly
instead of monthly remittance for employees’ and employers’ contribution if
the number of employees is ten (10) or less. Percentage tax return for
businesses that do not meet the threshold of Php1,500,000 for purposes of
VAT coverage should be allowed to file and pay their percentage tax on a
quarterly basis instead of filing and paying monthly.

In the same way that the BIR has special rules for taxpayers which it has
determined to be “Large Taxpayers”, it is may also be worthwhile for the
BIR to consider creating a new class of taxpayers, “Small Taxpayers”,
which will be subject to more reasonable periodic compliance
requirements.

A Small Taxpayers Section will primarily focus on assisting and encouraging


small businesses to register and comply with at least the minimum
requirements instead of being made to comply with the same number/volume
of compliance requirements as big businesses. They should be properly
guided rather than subjected to strict enforcement. More lenient rules should
be applied to them and technical rules should be explained to them, the
assumption being that, they have no accountants and lawyers to rely on. In the
long term, this should encourage voluntary compliance and registration, and
ultimately expand the number of taxpayers in the tax net.

c. Evaluate the possibility of increasing the revenue threshold for purposes of


imposing the requirement for the audit of financial statements of the business.
At present, all businesses with gross revenue of at least Php150,000 are
required to have their financial statements audited. Considering that a good
estimate of the cost for such an audit is Php7,500, or 5% of the gross revenue
threshold, the requirement should only be imposed on those earning at least
Php500,000 in annual gross revenue. This may, however, require statutory
amendment as the threshold amount of Php150,000 is prescribed in the
National Internal Revenue Code of 1997.

d. Waiver of compromise penalties for failure to file tax returns where no tax is
due from the business particularly if there is no fiscal prejudice on the part of
the government. They should, as much as possible, except on the grounds of
wilful, fraudulent or repeated violations, be shielded as much as possible from
fear of tax audits and assessments for each and every violation that they
commit.

e. Intensive information dissemination, particularly of new rules and


regulations/issuances and regular free and more intensive briefing
particularly for small businesses. This is important so as not to make small
business suffer considerable additional costs due to defective compliance
Main Report: Determining the Costs of Registration 22
and Compliance For Sole Proprietorships
and Professionals in the Philippines
arising from their lack of information of changes in the rules and regulations
of the BIR.

The present means of information dissemination of the BIR appears to be


inadequate. At least flyers should be given to notify taxpayers of changes in
important tax requirements/regulations. These flyers can be conveniently
distributed at the BIR offices or through authorized agent banks which receive
tax payments from taxpayers. It is particularly upsetting for taxpayers to find
out about a change in the regulations, including the imposition of new
requirements, only at the time when penalties are already being assessed
against them for failing to observe the new regulations.

A recent example is the imposition of the requirement that for VAT-registered


taxpayers to be able to subject their sales of services prior to 1 February 2006
but collected after 1 February 2000 to VAT at the old rate of 10% instead of
12%, they should have submitted an inventory of their receivables from
services rendered prior to 1 February 2006 to the BIR, otherwise, they will
have to compute VAT thereon at 12%. This requirement was not likewise
specifically made clear and discussed in the tax briefings which were
conducted in connection with the increase of the VAT from 10% to 12%.
Thus, taxpayers had to unnecessarily subject revenue otherwise subject to 10%
VAT to 12% VAT.

This range of recommendations focuses primarily on facilitation and easing the


registration and compliance procedures. We believe that they are administrative in
nature and thus can be unilaterally accomplished by each agency or local government
unit. They do involve significant costs in terms of time and money that affect
potential and existing taxpayers. Government agencies however need to work
together in order to standardize the basic registration and compliance procedures in
the country in order to make it predictable and transparent.

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and Compliance For Sole Proprietorships
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