# _Detection Capacity: Third-Party Information and Verification Processes_

Information technology enables a tax authority to verify tax liabilities and detect where evasion might be occurring. In particular, technology facilitates the collection and sharing of third-party information, which is central to modern tax administration. Third-party reporting refers to any information provided to the tax authority about liabilities, other than the declarations taxpayers submit directly. The classic example of third-party information in high-income countries is the information firms provide to tax authorities on employee salaries, an innovation as yet of limited relevance in low- and middle-income countries where over 80 percent of the labor force is employed in the informal economy (Elgin et al. 2021). Even among those employed in the formal sector, firms in low- and middle-income countries often report aggregate employee tax liability without linking amounts to individual employees, who in many cases do not have tax ID numbers (Mayega et al 2021, Mascagni and Mengistu 2019).

More evidence on how technology allows collection of third-party information in low- and middleincome countries comes from consumption taxes. The value-added tax is increasingly widespread and is one of the most important sources of tax revenue, accounting for on average 28 percent of taxes collected globally (UNU-WIDER Government Revenue Dataset 2022). As Almunia et al. (forthcoming) discuss, a value-added tax has the important inbuilt feature of collecting third-party information on transactions as firms buy and sell across supply chains. Many countries are moving to digitize this paper trail with the use of electronic fiscal devices, machines that automatically record transactions as they occur and transmit this information to the tax authority through internet or mobile networks. These tools have led to the unveiling of significant revenue previously undisclosed to the tax authority: in Ethiopia, yielding a 48 percent increase in tax revenue (Mascagni, Mengistu and Woldeyes 2021). The promise of digital trails does not seem limited to low-income countries, where one might expect more “low hanging fruit” in revenue gains: electronic invoices that made it more difficult to falsify invoices also increased value-added tax revenues in China (Fan et al 2020), a middle-income country.

Technology can also facilitate digital trails on firms’ revenues when they receive sales payments via credit card or other electronic payment systems. Even when these transaction records are not automatically transmitted to the tax authorities, the existence of the digital trail may be sufficient to induce a compliance response, as evidenced by the tax impacts resulting from India’s efforts to shift away from paper currency (Das et al., 2023) and the introduction of incentives for credit and debit transactions in Uruguay (Brockmeyer and Saenz Somarriba, 2022). For cross-country evidence, Apeti and Edoh (2023) show that the adoption of mobile money increases total tax collections in developing countries. Third-party information can also come from a wide range of sources, such as utility companies, customs, financial records, and procurement. Sophisticated tax administrations are increasingly linking different databases, facilitated by common and unique identifiers for individuals and firms across sources, to get a more comprehensive picture of true tax liability. Alerting taxpayers to the existence of these data can in turn reduce evasion (see, e.g., Brockmeyer et al. 2019 for experimental evidence from Costa Rica).

While an increasing number of low- and middle-income countries are taking advantage of information systems to collect third-party information, two important steps are needed to translate information into revenue. First, it is important for countries to use this information systematically 6