What’s the difference between Tax evasion and Tax avoidance?
This blog post aims to clarify the differences between Tax evasion and Tax avoidance, clearing up any confusion between the two, as well as outlining the legal implications of the two respective terms. I will also explain the process with which HMRC deals with each. All information is up to date and relevant at the date of this blogs publication. Based in Manchester, Salford Chartered Accountants endeavor to save you money, using our specialized expertise.
Taxpayers are required to provide information which is correct and complete. Dishonest behavior (e.g. concealing a source of income) is known as Tax Evasion and is against the law. On summary of conviction in a magistrates’ court, an offender can be imprisoned for as long as six months. However, if the conviction is obtained on indictment in a higher court, the maximum prison term is seven years. In either case, a fine of any amount may also be imposed, and neither courses of action are mutually exclusive.
Taxpayers are entitled to organise their financial affairs in such a way that their tax burden is minimised. This perfectly legal activity is known as tax avoidance. For example, a tax payer might legally avoid income and/or capital gains tax by moving funds into a tax efficient investment, which I will cover in depth in a different blog post. Tax avoidance, which is completely legal, should never be confused with tax evasion, which can result in grave consequences for the taxpayer in question. It is important to strike a sharp line between the two contrasting practices.
Tax avoidance is acceptable within limits, but over the years, tax advisors have displayed a great deal of ingenuity in devising very complex and highly artificial tax avoidance schemes in order to exploit certain “loopholes” in the tax system. These schemes often result in a significant loss of tax revenue until they are eventually blocked by specific anti avoidance legislation. So as to limit the fruitfulness of tax avoidance schemes, a specific counter measure has been regimented by HMRC, known as DOTAS (Disclosure of Tax Avoidance Schemes). DOTAS legally requires a level of transparency from those who decide to devise or subsequently employ such tactics in order to avoid paying tax, and to relay the information back to HMRC, in order the minimise the damage that tax avoidance leaves in the net tax revenue. A brief overlay of the requirements are as follows:
A) Those who promote and market schemes which bear certain “hallmarks” resembling tax avoidance are legally required to provide HMRC information which describes each scheme. This must include details of its tax consequences and the statutory provisions on which it relies. The scheme is then registered by HMRC and is allocated a registration number.
B) Taxpayers using such a scheme are required to quote the number of the scheme in their tax returns. Taxpayers who develop their own “in-house” tax avoidance schemes are then required to provide details of each scheme directly to HMRC.
These rules are intended to provide HMRC with advance warning of tax avoidance schemes, so enabling swifter and more effective investigation and counter action.
General anti-abuse rule (GAAR)
Finance Act 2913 introduces a “general anti-abuse rule” into UK tax law. This rule applies to income tax, capital gains tax, inheritance tax, corporation tax and certain indirect taxes. The aim of the GAAR is to counteract tax advantages arising from abusive tax arrangements. Tax arrangements are defined as “abusive” if they cannot be regarded as reasonable in relation to the relevant tax law, having regard to whether these arrangements:
A) are consistent with the principles on which the tax law is based
B) involve any contrived or abnormal steps
C) are intended to exploit any shortcomings in the tax law.
The GAAR empowers HMRC to make “just and reasonable” adjustments to counteract the tax advantages that would otherwise arise from tax arrangements that are deemed to be abusive. These adjustments may involve increasing a tax payers tax liability where otherwise there would be none. However, before making any such adjustments, HMRC must comply with the following procedure:
A) If an officer of HMRC considers that a tax advantage has arisen as a result of abusive tax arrangements, the tax payer concerned must be provided with a written notice to that effect. The notice must explain why HMRC considers the arrangements to be abusive and must set out the proposed counter action. The tax payer then has 45 days in which to make written representations in response to this notice.
B) If, after considering any representations received from the tax payer, HMRC still believed that counteraction should be taken, the matter must then be referred to the GAAR Advisory Panel (an independent panel established for this very purpose). The taxpayer must then be notified that the matter is being referred in this way then has 21 days in which to make written representations to the Advisory Panel.
C) The GAAR Advisory Panel considers the tram arrangements conferences and produces an opinion notice, stating whether or not (in the opinion of the panel members) the arrangements are abusive. HMRC must then issue a notice to the tax payer, setting out whether the tax arrangements are to be counteracted.
D) A penalty will generally apply in cases where abusive tax arrangements have been successfully counteracted by means of the GAAR. The penalty is equal to 60% of the additional tax payable as a result of the counteraction. Although the government intends to introduce a penalty for the “enablers” of tax avoidance schemes which are defeated by HMRC. The amount of such a penalty would be equal to 100% of the fees charged by the “enabler” to clients looking to benefit from their expertise in gaining tax advantages.
Tax Payers may appeal against an HMRC decision to counteract tax arrangements. When considering such an appeal, the tribunal or court must take into account the opinion expressed by the GAAR Advisory Panel.
I hope this information has been helpful in clarifying the details between tax avoidance and tax evasion, and the legal process involved with regards to each term, respectively. If so, subscribe to our page and feel free share it with those you might feel benefit from our expertise.
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