We all know a little about the tax gap. It’s £32bn right? A fairly big number. It’s just under 5% of government spending – or about half the budget of the DfE – or about 50% more than we spend on primary health care. So it’s quite important.

Over the course of this week, I’m going to look at three things connected to the tax gap. First, what is it? It’s probably not what you thought it was. And the Real Tax Gap may, in fact, be a lot bigger than £32bn. Second, where does the tax gap arise? There are real surprises here. It’s only once you know where it arises that you can begin to formulate practical policy to close it. Third, to what behaviour is the tax gap attributable? Again, an appreciation of this last point is critical to identifying the practical measures one must take to close the tax gap.

But first, what is the tax gap?

According to HMRC (see paragraph 1.1):

“The tax gap is defined as the difference between tax collected and the tax that should be collected (the theoretical liability). The theoretical tax liability represents the tax that would be paid if all individuals and companies
complied with both the letter of the law and HMRC’s interpretation of the intention of Parliament in setting law (referred to as the spirit of the law).”

Two points about this explanation.

First, the “tax that should be collected” is not (or not just) the tax that tax legislation says should be collected. That number’s smaller than £32bn. It’s tax satisfying both of two conditions (1) the legislation says it should be collected and (2) HMRC thinks Parliament intended the legislation to collect. This is interesting recognition that the law doesn’t always do what HMRC thinks it should.

Second, the tax gap is a function of the difference between the tax that is collected and the tax that the law (both in letter and in spirit) says should be collected. In other words, it doesn’t include tax that you and I might think should be collected but the law does not presently collect. That’s quite important so let me say it again. If Google’s tax affairs were compliant with the letter and the spirit of the law then the tax that you and I might (sensibly) think they should pay in the UK will not be captured in the tax gap.

So the tax gap on a different measure – i.e. between what the tax law should sensibly collect and what is actually paid – might be a number really quite a lot a bigger than £32bn. Call this number the Real Tax Gap.

Now I am but a mere technician. But occasionally released, blinking at natural light, from the stacks. But if I was campaigning for an effective tax system, I might begin by defining some parameters that would enable me to model the size of the Real Tax Gap.