Tax can be an emotive issue. Most people, understandably, want to keep as much as possible of the money they work hard to earn. It doesn’t help perceptions of HMRC’s role and function that the tax collectors in films are usually perceived as “the baddies”!
But let’s have a look at who are the real baddies. There are fundamental differences between “tax avoidance” and “tax evasion”.
Tax evasion is about taking illegal action so as not to pay your taxes. The most frequent illegal action is failure to disclose your income, but extensions to this are con cealment, either of cash or in making payments to offshore accounts, which you’ve failed to declare. Tax evasion is a criminal activity and is prosecuted accordingly. The majority of HMRC prosecutions of individuals between 2010 and 2014 were for indirect tax offences such as Excise Duty and VAT.
Tax avoidance is perfectly legalwhen you use the tax rules, as set out in legislation. This is where individuals or companies take action to avoid paying the level of tax which would have been paid had they done nothing. The most commonly used methods of tax avoidance for Individuals are payment of pension contributions, investment in ISA’s and the purchase of shares eligible for Enterprise Investment Scheme tax relief (EIS). It’s usually described as “tax planning”. The most effective tax planning opportunity available to Companies is using the tax relief rules on Capital Expenditure.
Tax avoidance is not a “black or white” topic. It’s a broad spectrum of activity. At one end is how Parliament always intended the tax legislation to operate and to be interpreted. Somewhere towards the other end are certain promoters of tax avoidance schemes who are choosing to interpret tax rules and legislation in order to guide their clients on how to pay the least amount of tax possible (and think“Panama Papers” at the most extreme end of that spectrum). Well drafted legislation, however, negates significant interpretation and curtails opportunities for abuse. All tax schemes have to be disclosed to HMRC who can then challenge them and recently there have been instances where high profile challenges have apparently been successful.
Many tax advisors attribute justification of those extreme tax planning arrangements to judgements made by Lords Sumner, Tomlin and Clyde in tax cases in the 1920’s and 1930’s:
“My Lords, the highest authorities have always recognised that the subject is entitled so to arrange his affairs as not to attract taxes imposed by the Crown, so far as he can do so within the law, and that he may legitimately claim the advantage of any express terms or of any omissions that he can find in his favour in taxing Acts. In so doing, he neither comes under liability nor incurs blame.
“Every man is entitled if he can to order his affairs so that the tax attracted under the appropriate Act is less than it otherwise would be. If he succeeds in ordering them so as to secure this result, then, however unappreciative the Commissioners of Inland Revenue or his fellow taxpayers may be of his ingenuity, he cannot be compelled to pay an increased tax.”
“No man in this country is under the smallest obligation, moral or other, so as to arrange his legal relations to his business or to his property as to enable the Inland Revenue to put the largest possible shovel into his stores. The Inland Revenue is not slow – and quite rightly – to take every advantage which is open to it under the taxing statutes for the purpose of depleting the taxpayer’s pocket. And the taxpayer is, in like manner, entitled to be astute to prevent, so far as he honestly can, the depletion of his means by the Inland Revenue”
Mind the Gap
The “Tax Gap” is what HMRC determines is the difference between what they are collecting in tax revenues and how much they calculate they should be capable of collecting through the correct operation of the tax laws. The tax gap was recently estimated at £34bn (i.e. 6.4% of total tax liabilities).
The majority of the tax gap sum relates to the “hidden economy” (e.g. £5.1bn to Criminal Attacks, £4.4bn to Evasion, £4.9bn to Legal Interpretation, £2.7bn to Tax Avoidance Schemes, £4.1bn Non-Payment). The tax gap is the sum HM Revenue & Customs will largely be appraised on to measure its success. A successful tax authority is one which collects as much of that tax which is due as possible. The amount of tax payable/collectable is determined by the quality of legislation drafting and effective enforcement. HMRC does not create new tax laws or amend existing legislation (Parliament does). HMRC’s job is to interpret what was the intention of Parliament when the original legislation was drafted.