Is tax avoidance like hardcore pornography?

[This piece was first published on FT Alphaville in June 2016]

In Les Amants, Jeanne Moreau is married to a newspaper magnate with little time for his younger wife. One day her car breaks down and she accepts a lift from a younger man…

The 1958 film won for its director the Special Jury Prize in Cannes. To the rest of us it gave a splendid tagline: “This was her moment! And nothing else mattered” and a rather less glorious definition of “hardcore pornography” as a result of its risqué scenes.

Here’s Supreme Court Judge Potter Stewart in Jacobellis v Ohio, a case that arose when the state of Ohio tried (and ultimately failed) to ban Les Amants on the grounds that it was obscene:

“I shall not today attempt further to define the kinds of material I understand to be embraced within that shorthand description. And perhaps I could never succeed in intelligibly doing so. But I know it when I see it.”

Tax avoidance is a bit like hardcore pornography. To ban it you first have to overcome a tough definitional problem: what is it?

Of course, it’s not all bad. Some behaviour that resembles tax avoidance can serve a useful purpose. We use tax breaks to encourage ‘good’ behaviour, like saving for our old age. Pension saving reduces our tax bill but it isn’t tax avoidance in any meaningful sense.

But move outside this narrow category and things get very thorny very quickly.

Take the Cameron family inheritance tax planning.

UK tax law says you can pass anything to your spouse free of inheritance tax. Gifts on death to almost anyone else and with a value higher than £325,000 would incur tax. But gifts made whilst you’re still alive, which you outlive by seven years, are free of tax.

When Ian Cameron died, David Cameron received £300,000 in his father’s will. The rest went to his mother tax free. She then gifted the Prime Minister a further £200,000.

Was this tax avoidance?

Before answering that question, let’s take a look at another piece of purported avoidance much discussed in recent weeks.

The best way to think about charitable tax relief is a kind of matched giving scheme under which the State adds a bonus to gifts made by taxpayers to charities. But only gifts in cash: there’s a rule that says gifts of goods don’t attract the bonus.

If you’re a charity operating a string of shops re-selling donated goods that limitation is unhelpful. It reduces the value of those donations by the value of the bonus. But what if the taxpayer appoints you, the charity, as her agent to sell the goods for her and then makes a gift to you of the proceeds? Then the gift is in cash.

A number of charities operate this arrangement. One of them is Oxfam, which has been very vocal in campaigning against tax avoidance. Because of its campaigning position, Oxfam’s arrangements have understandably drawn comment from the likes of the Institute for Economic Affairs, a right-wing think tank.

But is it tax avoidance?

Oxfam’s defence, in essence, is that its arrangements work. But that arrangements “work” isn’t the sword to slice through the Gordian Knot. At a technical level, all tax avoidance works. If it didn’t work, it wouldn’t avoid tax. And nor does it help that HMRC agrees that it works. Again, either explicitly or tacitly, every transaction that successfully avoids tax is agreed by HMRC to work.

So what is the touchstone?

Like “hardcore pornography” the problem we’re trying to resolve is, ultimately, a definitional one. What is the class of transaction we want to ban?

Typically we try to resolve this question by looking at the language the draftsman of the statutory provision has used. “He’s imposed a low tax charge on this thing,” we reason, “but did he really mean to?” The problem with this approach is that it involves an attempt to derive from his language an intention that can’t really be found in it. If the intention was clearly expressed, the scheme wouldn’t succeed in avoiding the charge to tax.

But Oxfam and David Cameron stories suggest an alternative. Start with the facts: what’s the real transaction? Does it attract a higher tax charge?

In the case of Oxfam, the answer is straightforward. Oxfam doesn’t market itself as a broker of second hand clothes. And few who have clothes to sell go to Oxfam to resell their clothes. (Not least because Oxfam pays you in nectar points: 2 points per £1 of clothing sold or about 1% of what you should get as principal.)

Oxfam have taken the real transaction – a donation of clothing – and done the charity shop equivalent of a Double Irish. To get from A to D in a tax efficient manner they’ve walked round three sides of a square. That looks to me like tax avoidance.

But what about David Cameron: what’s the real transaction? Here the analysis is less straightforward.

And it boils down to this. What do we mean when we say a transaction is “tax avoidance”?

If we’re attempting a moral judgment, we look into the minds of the actors. Was the £200,000 gift deliberately routed via the Prime Minister’s mother in order to avoid £80,000 that would otherwise have been payable? If, on the other hand, we’re attempting a technical description of a class of transaction that avoids tax it might be sufficient for us to ask whether the real source of the £200,000 was his father’s estate.

It’s a bold tax lawyer who passes moral judgments. But on the technical question, I was struck at the time, by Number 10’s description of the £200,000 as a payment to “equalise” that which had passed from Ian Cameron to his children. That description seemed to me to source the money to the estate of father. If that were right, the real transaction would not only include the £300,000 the Prime Minister received in the will but also the £200,000 gifted by his mother.

And, to go back to Potter Stewart’s language, you might have the beginning of an intelligible definition of a tax avoidance transaction: one where the natural transaction attracts a higher charge to tax.

5 thoughts on “Is tax avoidance like hardcore pornography?

  1. I feel that it is every citizen’s right and duty to pay the taxes necessary to keep this country going. However, the bottom line is that something is either legal or it’s not. If the government of the day decides that a particular loophole needs to be closed then the remedy is to tighten the law, not blame those who exploit it.

  2. Pingback: Is tax avoidance like hardcore pornography? | Waiting for Godot – leftwingnobody

  3. As I understand it, David Cameron’s brother inherited a house worth £2.5m, and his sisters each inherited a half of a house worth £1m (so £500,000 each). Were all of these gifts made directly by Ian’s will (in which case the nil rate band would have been used up several times over without the direct gift of cash to David) or were they all transferred to Ian’s wife, and then transferred by her to her children as lifetime gifts? Why is if the £200,000 paid to David that matters the most?

  4. One aspect of David Cameron’s transaction is that by his mother making the gift of £200,000 then if she dies within the following 7 years then it will be included in her estate and increase her inheritance tax liability. To me that seems mainstream enough not to warrant criticism (and I’m certainly not a fan!).

  5. Your final conclusion must certainly head in the right direction, having worked in tax management for an international group, our test in considering the ‘tax validity’ of a transaction was always to consider what commercial rationale ( other than simply wanting to reduce the tax bill) there might be for structuring the transaction in such a way. This doesn’t of course always exist, for example the selection of Luxembourg as a holding company location but in that case, there was no commercial reason not to do so

Leave a Reply

Fill in your details below or click an icon to log in:

WordPress.com Logo

You are commenting using your WordPress.com account. Log Out / Change )

Twitter picture

You are commenting using your Twitter account. Log Out / Change )

Facebook photo

You are commenting using your Facebook account. Log Out / Change )

Google+ photo

You are commenting using your Google+ account. Log Out / Change )

Connecting to %s