Tax avoidance is not a crime
Donald Trump does not pay taxes they say, well, tax avoidance is not a crime. A taxpayer is permitted to creatively arrange its affairs and business in a way to reduce its tax liabilities.
In the popular quote by Lord Clyde L.P in the case of Ayshire Pullman Motors Services v IRC [1929] 14 TC 754 at 763, he states that: “no man in this country is under the smallest obligation, moral or other so as to arrange his legal relations to his business or property so as to enable the Inland Revenue to put the largest possible shovel into his stalls.”
The US Federal Appellate Judge, Learned Hand, in the case of Gregory v. Helvering, 69 F. 2d 809, 810 (2d Cir. 1934) expressed this succinctly when he stated that “anyone may so arrange his affairs that his taxes shall be as low as possible; he is not bound to choose that pattern which will best pay the Treasury, there is not even a patriotic duty to increase ones’ taxes”.
These profound statements have been among the many foundational bases for the principle of tax avoidance in the global tax law systems. This notwithstanding, there is a thin line between avoiding tax and evading tax and a clear understanding of the two principles is needed to bring clarity, sanctity, and integrity to tax compliance.
Tax Avoidance as Opposed to Tax Evasion
Tax avoidance, simply put, is the act of dodging tax without breaking the law. Section 34 of the Income Tax Act, 2015 (Act 896) (the “Income Tax Act”), states that tax avoidance includes an arrangement, the main purpose of which is to avoid or reduce tax liability. Some tax avoidance schemes include:
a. Income splitting;
b. Transfer pricing;
c. Debt financing/thin capitalization;
d. Re-capitalisation; and
e. Conversion of debts.
Tax evasion on the other hand is an illegal act by a taxpayer in an attempt to avoid taxes. The tax authorities and the law frowns upon tax evasion and therefore impose criminal charges and penalties on persons found to be guilty of tax evasion. The Income Tax Act considers the following activities as tax evasion and imposes penalties for anyone found guilty of such offences:
a. Failure to comply with the provisions of the Income Tax Act;
b. Failure to pay taxes when due;
c. Making false or misleading statements;
d. Impeding Tax Administration; and
e. Some proxy dealings.
Interpreting a Tax Avoidance Scheme
There are three (3) main approaches under the law to interpret a tax avoidance scheme. These include:
1. The Traditional Approach
The traditional approach is the strict application of tax laws without modifications. It requires that one considers clearly what the law says and applies the same. There is no room for intendment; there is no equity about tax, and there is no presumption as to tax. Nothing is to be read, nothing is to be implied, and one can only look fairly at the language used. For example, if the lawmakers intend to tax revenue from adults above 18 years but exclude High School students on the assumption that such individuals are not income earners, then a High School student of above 18 years who earns any revenue could be exempted from tax on the strict interpretation of the law.
2. The Modern Approach
The modern approach allows the tax authorities and courts to correct any defect in tax law and interpret it in a way that corrects any such defects and give the true meaning of the intentions of the lawmakers. In the words of Lord Denning, when a defect appears, a judge cannot simply fold his arm and blame the draftsman. He must set to work on the constructive task of finding the intention of parliament and give effect to it. Using our example above, to give effect to the intention of the lawmakers, the tax authorities or the courts can impose a tax on a High School student above 18 years who earns any revenue.
3. The Doctrine of Form and Substance
This allows tax authorities and the courts to re-assess tax avoidance transactions and schemes to give effect to the actual tax status. It is seen as an attempt to make a taxpayer pay more taxes notwithstanding that he has so ordered his affairs to reduce his taxes. The power of the Commissioner General to re-characterize transactions under the Revenue Administration Act, 2016 (Act 915) for instance is an example of the use of the doctrine of Form and Substance.
What is the Way Forward?
As the law and tax authorities move more towards the re-characterization of transactions or tax avoidance schemes, taxpayers are left with no choice but to adopt more sophisticated approaches to avoid taxes. The adoption of sophisticated schemes however may lead to tax evasion which is a crime and unethical.
On the other hand, many people pay more income tax than necessary because they misunderstand tax laws and fail to keep good records.
