On tax avoidance, and morality…

So Mr. Carr has been sending his dosh to a little tax haven and getting it back as a “loan” to avoid paying tax. Cameron jumps on the bandwagon and calls it “immoral” without shouting the same insult to his wealthy donors and fellow Conservative parliamentarians. Ed Miliband says “I’m not in favour of tax avoidance obviously, but I don’t think it is for politicians to lecture people about morality”. Ed M is spot on with his latter point. On the first, well I’d say you have to argue it on a case by case basis.

I worked as a finance lawyer for several years and got fairly familiar with tax avoidance mostly abroad but occasionally at home. In some cases I thought what was being done was repugnant; in others I felt that the tax avoidance was on balance necessary to promote a greater good. Whilst I fundamentally disagreed with my colleagues who claimed that “people have a moral duty to pay only the barest minimum of tax that they legally have to and so should make use of all tax avoidance schemes”, at the same time tax avoidance is not tax evasion and sometimes there are circumstances in which it is required e.g. to improve the balance sheet of a struggling company in order to keep it afloat and save jobs.

So what could the distinction be between good tax avoidance and bad tax avoidance, if any? Well, let’s start with basic principles. In the UK we generally tax “activities”. I mean that in a very broad sense. We do not tax persons for “existing”; that’s a poll tax i.e. simply a tax that persons must pay because they are tax resident in the UK. Instead, we say that if a person engages in a taxable “activity” tax must be paid. The reality is that you may not have a choice in whether or not you undertake that activity; most people have no choice but to earn an income and so pay Income Tax.

Nor is there an element of choice in whether you can choose to pay or not to pay tax if incurred. However, if practicable, we can choose to structure our activities in a certain manner and the result of that structuring is a lowering of the amount of tax paid; that is tax avoidance and perfectly legal. If we structure our activities in such a way that a tax liability is incurred and we fail to pay that tax; that is tax evasion and a criminal offence.

So what’s the practical reality of this? Imagine you’re broke (not hard I’m sure). You’ve got a small amount of cash and you have to choose between food and clothes. You choose food. Guess what, you’ve engaged in tax avoidance! Sure you were thinking that you can carry on wearing your knackered jeans but can’t go for much longer without food. However at the same time you’ve structured your spending activities in such a way as to reduce the amount of VAT you pay. You weren’t consciously thinking of it but that is the effective result. Budgeting can have the unintended consequence of tax avoidance. I use this example to make the point that the act itself of tax avoidance (the actus reus to use legal parlance) is not immoral in itself.

So it’s the intent that is the point of it, right? People argue that Mr Carr utilised the tax avoidance scheme with the specific intent of avoiding paying tax and that’s wrong; it’s “aggressive tax avoidance”. This is true. However if you decide you want to save money in a bank and earn an income in the form of interest, you can choose to save it in a savings account and pay Income Tax on the interest. Alternatively you can choose to save it in an ISA and avoid paying Income Tax on your interest. You didn’t invest in the ISA because it had a better rate of interest; you invested it in the ISA because you paid less tax on it and therefore, like Jimmy Carr, take home more money. The same is true with tax relief in private pensions. You could after all pay the fee to a broker rather than a pension provider and invest long term in the markets in that way to provide an income on retirement. However by going through a pension provider, you reduce your tax bill.

So it can’t be the specific intent to avoid paying tax that provides the element of immorality. The answer must lie in why you are choosing to structure your activities in such a manner to avoid paying the tax. This must be looked at on a case by case basis. I wasn’t happy transferring title to an aircraft from one bank to another so that each bank could simply improve their tax status rather than enter into the operating lease business and make an honest profit. I was however perfectly happy to advise on an aggressive tax avoidance structure so that a wind farm company could build more wind farms.

We must look each time at why the tax avoidance is being engaged and if the loophole is being exercised for a purpose for which it was never intended, legislate accordingly.

On that, Ed M is right.