As the government says it will crack down on accountants who promote "aggressive" tax avoidance schemes, Channel 4 News asks what is tax avoidance and are our laws to blame?
To help its fight against tax avoiders, the government plans to strengthen the current rules under which financial advisers and accountants are obliged to report aggressive tax avoidance schemes to HMRC.
But what is avoidance and what is evasion?
Many people know that evasion is against the law and can probably define it. But what about avoidance? Schemes such as those used by Jimmy Carr are classified as avoiding rather than evading tax because the comedian was not seeking to hide his earnings from the authorities, merely to ensure he did not pay more tax than necessary.
The government's tax chief John Whiting, head of the Office of Tax Simplification, says the line between acceptable and unacceptable is clear. He sums it up by defining evasion as "concealment, non-reporting, obfuscation", whereas it could be argued that tax avoiders are "trying to comply with the law".
He points to a benchmark legal ruling known as the WT Ramsay tax case, in which a series of different transactions involving the same money led to lower tax being paid. This scheme was ruled to be illegal because the House of Lords considered the series of transactions as a whole: it was circular and no real money changed hands.
Channel 4 News understands there is a "boutique" industry where companies staffed by tax experts search through the ballooning tax code to find legal ways to "shelter" individuals or companies from attracting tax. Such firms might claim to help make businesses "tax neutral" or "tax efficient". There might also be charges for a "fighting fund" for legal costs should a scheme be challenged by HMRC.
These schemes can then be marketed to accountants and those who manage people's financial affairs who may then choose to recommend them to their clients. Currently if such a scheme is uncovered, it must be reported to HM Revenue and Customs within five days. However, it can still be marketed in this time and it may be up to six years before HMRC makes a decision on whether or not the scheme is legal. The government estimates that £12.5bn has so far been recouped thanks to such "disclosure of tax avoidance schemes" reporting.
It is the responsibility of the state to embody prevailing morality about tax avoidance into the law. Prof Judith Freedman
There are relatively low risks to opting into schemes that lead to less tax being chargeable. If the scheme is shut down by HMRC, the members will likely have to pay back the tax they initially avoided plus a commercial rate of interest. There is also the unquantifiable damage it may do to their reputation to consider. But the risks compared to the potential financial rewards are neglible. The new proposals are looking to mete out stiffer penalties to stop promoters of tax avoidance schemes.
£12.9bn tax gap
Tax campaigner and accountant Richard Murphy identified a number of common tax loopholes in a pamphlet he produced for the TUC, The Missing Billions. These include diverting income to a company owned by an individual but which pays a lower rate of tax, or converting earned income into unearned income, such as share dividends, to avoid national insurance payments because these only apply to earned income.
And the collective amounts of money saved in these simple ways and others are not small. Richard Murphy estimates that the loss to the public purse caused by tax planning by those earning over £100,000 is £8.4bn, with the total tax-gap being £12.9bn. And he did not even consider company tax avoidance schemes which may use secretive jurisdictions such as the sun-drenched paradise of the Cayman Islands to shield their cash.
Are our tax laws to blame?
Those who defend tax avoidance often blame the UK's voluminous tax code. But Judith Freedman, professor of taxation law and director of legal research at the University of Oxford's centre for business taxation says that does not mean it is complex.
She told Channel 4 News: "There are many complicated tax systems in the world, for example, the US and Australia, which have very complex systems. We probably do have the longest tax code but length does not necessarily indicate complexity. In the UK, we tend to go into detail with legislation whereas on the continent, for example, they have shorter tax codes because their legislation relies on principles.
"The problem with having such a large amount of detail is that clever lawyers and accountants can play with this and find gaps."
She and a growing number of experts are seeking to fundamentally change the the way the UK's tax laws work. The idea is to strip away detail within the statute and instead apply what is called "principles based legislation".
This is being considered as part of a wider investigation into how the state can clamp down on tax avoidance via a principle called the General Anti-Abuse Rule (GAAR): "I would argue that we should have principles-based legislation but every time it gets put forward it's dismissed as too uncertain. The government's proposed GAAR is an example of a principle; a rule tries to spell out everything but a principle overarches the rules."
She is calling for more morality to be enshrined in tax law which would address the common cry from tax avoiance campaigners that although tax avoidance may not be illegal it is not reflecting the "spirit" of the law.
She told Channel 4 News: "Just to rely on morality is an abdication of responsibility by the state. It is the responsibility of the state to embody prevailing morality about tax avoidance into the law. If this happened, it would reduce the gap between law and morality."
11 April 2012