- Audit report reveals significant portion of VAT charged from public not transferred to State coffers
- IRD has not worked efficiently in pursuing tax defaulters, initiating legal action: NAO
The Government has warned all businesses – large, medium, and small – as well as individuals, to settle any outstanding tax payments. Those who fail to fulfil their tax obligations will face serious legal consequences.
A senior Government official, speaking on the condition of anonymity, told The Sunday Morning that no entity – whether a State or private institution, or an individual – would be exempt from the tax structure. The official reiterated that all taxpayers were required to comply with their responsibilities to avoid facing strict legal action.
This warning comes against the backdrop of alarming figures revealed in audit reports released by the National Audit Office (NAO), highlighting a significant backlog of unpaid taxes. Notably, these arrears include some of Sri Lanka’s leading private companies, as learnt by The Sunday Morning.
VAT issues
The latest audit report from the NAO revealed a staggering total of Rs. 904 billion in outstanding tax arrears and penalties as of 31 December 2022. It has exposed severe failures in tax collection, legal enforcement, and administrative oversight.
At a time when the country is struggling with economic instability, a heavy debt burden, and an urgent need for revenue, these revelations have raised critical concerns about the Government’s ability to manage its tax system effectively.
As highlighted in the audit report, one of the most troubling aspects of the crisis is the Rs. 369 billion in unpaid Value-Added Tax (VAT), which has become a major black hole in Sri Lanka’s taxation framework. VAT is a key source of revenue for the Government, collected from consumers by businesses and institutions that are legally required to remit it to the State.
However, the audit report indicated that while businesses had been charging VAT from the public, a significant portion of these funds had never been transferred to Government accounts. This means that money intended for the State has instead remained in the possession of private businesses, raising serious questions about tax enforcement and accountability.
Breaking down the VAT arrears, the report shows that Rs. 255 billion has been temporarily suspended due to legal and administrative reasons, while Rs. 114 billion remains recoverable.
Shockingly, the recoverable amount has been outstanding for over 13 years, stuck within the Legacy and RAMIS computer systems used by the Inland Revenue Department (IRD). The inability to retrieve these long-standing tax dues within the legally stipulated timeframe has resulted in massive financial losses for the Government.
The audit report warned that Sri Lanka’s failure to efficiently collect these taxes has not only placed an additional financial strain on the State but has also enabled potential misuse of public money.
VAT is a tax paid by the public on goods and services, meaning that a portion of what the public has already contributed to Government revenue has never actually reached State funds. This situation suggests that businesses have effectively withheld tax revenue that should have been used to finance public services and economic recovery efforts.
IRD inefficiencies and legal loopholes
Furthermore, the NAO report highlights that the IRD has not functioned efficiently in pursuing tax defaulters or in utilising the full extent of its legal powers to recover outstanding amounts. A major example of this inefficiency is the large backlog of unresolved tax appeals.
According to the report, 1,603 appeals worth Rs. 9 billion have remained unresolved for more than two years. Under Sri Lanka’s tax laws, if an appeal is not decided within this timeframe, it is automatically considered to be ruled in favour of the taxpayer, meaning the Government loses its ability to recover the disputed tax amount.
This failure to resolve cases in time has led to further revenue losses, demonstrating the serious administrative weaknesses within the IRD.
The audit also exposed significant legal loopholes that have allowed tax defaulters to avoid payments.
The VAT Act grants the Commissioner General of the IRD broad authority to recover unpaid taxes, including issuing legal notices, seizing assets, and freezing the bank accounts of defaulters.
However, the report has suggested that these enforcement measures have not been consistently applied, leading to a situation where businesses and individuals can withhold billions in taxes without facing serious consequences.
One of the most damaging legal barriers to tax recovery was introduced through a 2003 amendment to the VAT Act, which imposed a strict five-year limit on initiating legal proceedings for tax collection.
If the Government fails to act within this period, the tax liability is permanently written off, making it impossible to recover the amount due. Although a 2008 amendment revised some of these provisions, many older tax cases had already expired, allowing businesses to escape their tax obligations without penalty.
The failure to act on tax arrears within the legal timeframe has already resulted in significant revenue losses.
The audit report revealed that due to these delays, the Government has already lost the opportunity to recover Rs. 22 billion. This means that funds that could have been used to pay public sector salaries, finance infrastructure projects, or support essential services have instead been lost due to administrative inaction.
In addition to the staggering tax arrears, the audit uncovered serious gaps in legal enforcement related to tax collection cases. The report found that despite the existence of 46 active court cases for the recovery of Rs. 296 million in tax arrears, some of these cases were not even properly recorded in the tax department’s system.
This raises concerns about potential corruption, mismanagement, or administrative neglect within the IRD.
IRD response
According to the Government’s fiscal position report for 2025, Sri Lanka had introduced several key tax reforms aimed at boosting revenue in 2024, including raising the VAT rate from 15% to 18%, reducing the VAT registration threshold to Rs. 60 million, and removing most VAT exemptions.
The Government had also increased excise duties on liquor by 14%, and established a High Net Worth Individuals (HNWI) Unit at the IRD to enhance tax compliance and digital administration.
Tax revenue collection exceeded targets under the International Monetary Fund (IMF) Extended Fund Facility (EFF) programme, with significant improvements in the first 10 months of 2024. Total Government revenue, including grants, increased by 34.2% to Rs. 3,266.9 billion, with income tax revenue rising by 9.5% and revenue from goods and services increasing by 55.1%.
VAT revenue surged by 86.8%, exceeding the previous year’s total, and excise duties saw a 29.6% increase. Revenue from taxes on external trade also grew by 25.3%, reflecting a strong performance in trade.
However, when contacted, Treasury Deputy Secretary Ajith Abeysekera stated that the IRD was currently in the process of clearing the outstanding tax payments. “We are currently analysing all relevant tax-related acts. However, we are yet to make a decision on whether to amend these acts or not,” he added.
When The Sunday Morning contacted IRD Deputy Commissioner General – Tax Policy, International Affairs, and Legal B.K.S. Shantha, he directed the newspaper to reach out to Deputy Commissioner General – ICT Administration and Tax Operation Support S.P. Ranasinghe.
However, when contacted, Ranasinghe asked that a detailed request be sent via email to the Commissioner General.
Accordingly, The Sunday Morning sent an email to the IRD Commissioner General seeking details on the latest figures on outstanding tax arrears and penalties as of 2024, information on how much of the Rs. 904 billion reported in 2022 had been recovered, and measures taken to recover the Rs. 369 billion in unpaid VAT and the percentage successfully collected, as well as any new policies or legal actions being considered to enhance tax collection and enforcement.
However, no response was received from the Commissioner General at the time of going to print.