Tax avoidance refers to everything people and companies do legally to reduce their tax bill. If I get an accountant to go through my books and advise me on how to legally pay less taxes, he or she is helping me in my tax avoidance quest. Put simply, it is the practice of using legal means to pay as little tax as possible.
Tax avoidance, which is legal, contrasts with tax evasion, which is illegal. Tax evasion is the illegal practice of intentionally not paying taxes, i.e. the method used by the person, company or entity is against the law.
With tax avoidance, taxpayers are using tax law to obtain a tax advantage – a loophole – that the authorities had never intended. The term contrasts with tax planning, which uses tax reliefs that the government deliberately introduced to reduce people’s or company’s tax bills.
Imagine tax legislation is a shield. Tax avoidance involves finding the holes – loopholes – in that shield, and exploiting them. The aim is to pay as little tax as possible. Tax avoidance is legal. The lawmaker’s job is to plug those holes.
According to ft.com/lexicon, the Financial Times’ glossary of terms, tax avoidance is:
“Tax avoidance is a practice of using legal means to pay the least amount of tax possible. This is different to tax evasion which is the practice of using illegal methods to avoid paying tax.”
“There is also a difference between avoidance and tax planning as paying minimal tax is not necessarily a sign of avoidance.”
On its website, the British Government says that tax avoidance typically involves contrived, artificial transactions that serve no purpose (or very little purpose), other than to produce a tax advantage. The practice involves operating with ‘the letter of the law’, but not ‘the spirit of the law’.
“Most tax avoidance schemes simply do not work, and those who engage in them can find they pay more than the tax they attempted to save, once HM Revenue and Customs (HMRC) has successfully challenged them.”
According to thebalance.com: “The terms ‘tax avoidance’ and ‘tax evasion’ are often used interchangeably, but they are very different concepts. Basically, tax avoidance is legal, while tax evasion is not. The best way to avoid being charged with tax evasion is to know the tax laws for income taxes and employment taxes.”
Tax avoidance – keeping money offshore
Keeping money offshore is a common way celebrities, sports stars, world leaders, other rich individuals, and corporations avoid tax – often by setting up shell companies abroad.
According to a report – ‘Broken at the Top‘ – issued by Oxfam America in April 2016, tax avoidance by multinational companies costs the United States about $111 billion annually, and is estimated to sap approximately $100 billion each year from poor nations.
Oxfam America wrote:
“US policymakers and a broken international tax system enable **tax dodging by multinational corporations, which contributes to dangerous inequality that is undermining our social fabric and hindering economic growth.”
** Tax dodging usually means tax avoidance (it can mean tax evasion, but this is less common).
America’s fifty largest companies have stored over one trillion dollars in offshore shell companies over the past few years, wrote Alexia Fernández Campbell in an article in The Atlantic.
In 1696, window tax was introduced in England and Wales. People were taxed according to how many windows their property had. It was a very unpopular tax, and led to many owners blocking up the windows of their property to avoid it. In 1851, the tax was repealed. (Image: Wikipedia)
US corporate giants, including Apple, IBM, Walmart and Pfizer, have put away billions of dollars via over 1,500 subsidiaries in the Cayman Islands, the British Virgin Island, and other tax havens.
Although this activity is not illegal – tax avoidance is a lawful practice – keeping their profits offshore deprives the US Government of billions of dollars in income, which has to be collected from other taxpayers.
According to the US Securities and Exchange Commission filings, America’s fifty biggest companies made approximately $4 trillion in profit between the period 2008 and 2014. It is estimated that about one-quarter of that total has been kept outside the United States.
Even though the US corporate tax rate is 35%, Oxfam America calculated that those fifty corporations paid an average effective rate of 26.5%, compared to the average American worker, who paid 31.5%.
Smaller commercial enterprises that do not have the resources required to build complex tax-avoidance schemes end up paying a considerably higher percentage of their profits in tax than the fifty giants.
Deborah Field, a former corporate tax accountant who now runs a small business in Oregan, said:
“I’ve seen how much time and effort companies put into avoiding paying their taxes. It makes me angry.”
Ms. Field was invited to speak on a press call about Oxfam’s report.
Video – Corporate tax avoidance
In this video, Stephanie Flanders, BBC Economics Editor, explains how Big Bizz Co., a fictitious multinational, avoids high tax bills.