As I hinted in my “Prologue”, before you start to think about measures for tackling tax avoidance, you have to face up to two immediate problems. The first, which I mean to examine in this post, is ‘what do we mean by “tax avoidance”?’ The second – equally difficult and for a later post – is ‘who works out what does and doesn’t qualify?’
But let’s start with the first. And begin by clearing away some of the undergrowth.
You can very easily distinguish between tax avoidance and tax evasion. The first is commonly (and accurately) said to be “legal” and the second “illegal”. But what is meant by these terms is less well understood.
Tax evasion is, effectively, where you lie on your tax return. So you put the wrong figure in the income box, or you fail to declare income which you know you have, or you over-declare expenses or suchlike. It’s illegal and you go to prison (assuming you get caught).
Of course, most larger taxpayers – individuals or corporates – need professional advisers to determine what figures to include in the income and expenditure boxes on their tax returns. I’ll need to come back and deal with the fraught role of advisers in providing that assistance: a role which, sometimes, can be described as policing the line between avoidance and evasion. But that’s for another post.
So tax evasion out of the way, what about tax avoidance.
Tax avoidance involves none of this. You declare accurately on your tax return the income and expenses that you have. But you arrange your affairs so that you pay less tax than you might otherwise pay. So if I choose to pay money from my earnings as a barrister into my pension scheme, I will not be taxed on those earnings: the tax code encourages me to make payments into my pension scheme by enabling me to do so out of untaxed income. So I will have arranged my affairs so that I pay less tax and will have avoided tax.
Now, few people would regard this as objectionable. If the tax code offers me a reward for behaving in a certain way – because it serves some broader societal purpose such as encouraging people to save for their old age – and I behave in that way, why should I not enjoy the reward?
Moreover, if you demonise those who seek out the tax advantages given to encourage socially useful activities – I have given the example of saving for my old age but one might equally think of funnelling seed capital to small enterprises or investing in research and development or giving to charity – or you financially counteract those tax advantages you diminish or destroy government’s ability to promote or realise those (valuable) activities or objectives.
So tax avoidance is not a particularly useful concept and ‘stopping’ it is not a particularly sensible objective. Tax avoidance, too, needs to be subdivided.
And here is where things get interesting. And complex. There is a difference between, if you like, ‘good’ tax avoidance and ‘bad’ tax avoidance. That which is pro-purposive – in other words, which runs with the spirit of the legislation granting the relief – is ‘good’ tax avoidance and that which “abuses” (to borrow a term from a recent statutory attempt to counteract tax avoidance) the legislation is bad. Most judges – and indeed HMRC – would agree that we should promote the former and discourage only the latter.
But in order to identify whether tax avoidance is ‘good’ or ‘bad’ one is required to (a) formulatesome notion of what the legislation in question is trying to achieve and (b) whether the particular tax avoiding transaction offends against that objective. Although there are many instances of tax avoidance transactions where these exercises (or at least the second of them) is straightforward, there also many where they are not. I’ll return, in subsequent blog posts, to examine some consequences of these difficulties of categorisation.
But, for the moment, I want to leave you with three thoughts. First, badging a transaction as tax avoidance does not, per se, tell you a great deal about the social desirability of that transaction. Second, demonising or counteracting all tax avoidance runs the risk of undermining important social objectives. Third, badging a transaction as ‘bad’ tax avoidance is by no means a straight-forward exercise.