Tax Planning And Tax Avoidance - Essay Example

1.0 TAX PLANNING AND TAX AVOIDANCE Effective and efficient use of tax saving measures results in saving the tax payments of the organization and evenindividuals. Importantly, these tax savings have been legally benefitted such as grants, allowances and deduction (Back, 2013). Idea of tax saving is as old as 1936 when Lord Tomlin, in IRC v Duke of Westminster, stated that everyone should have the rights in the society in properly and effectively managing their affairs in order to make certain savings from tax as compared to typical tax rate applicability. For example, equity investors can generate gains in the long term in case of high capital gain tax by using buy and hold strategy. The use of an effective strategy is critical so that it pays-off the investor in the time of need. Important rationale for tax saving with planning is also a fact that it is only portion of the benefit that the tax planner drive in order to contribute to the main objective which remains the primary direction and guideline for the business and individual (Morgan Stanley, 2013). For instance, the shareholders’ objective of generating higher net income leads business to explore the other markets of low-tax regimes (De Broe, 2008). This in turn increases the business exposure to new markets. The factors that most supports the tax planning activities is the fact that tools and techniques employed are legally accepted and offered to the business. Another important proponent of tax planning is the directors of big organizations. These directors claim the central objective of the company is to maximize the shareholders’ value within legal binding which uses tax planning to achieve the objectives (Back, 2013). According to the survey by IPSOS MORI (2014), the role of business in the contemporary world is changing, and businesses are increasingly asked to contribute towards society mainly in terms of paying taxes. However, the businesses are also evolving and are required to make collective decisions about tax among business, government and individual than mere responsibility of the business. There is a constant debate against the tax planning measures taken by the companies. The role of financial crisis has been critical in this phase. The economic crunch has affected the level of trust that the public had on the businesses and this trust has been resulted due to government’s slimming treasury and cut back in public expenditures (Silvera, 2013). Hence, public has started questioning the big companies for their slim tax bases. Savings generated as a result of the tax planning is considered as an unethical move and it is defined as tax avoidance. Guardian states the public view that paying of fair share back to the society and system in which business operates is an ethical and social responsibility of the business. The similar guardian post has also identified that fact tax planning has entered in the grey areas where the tax planning and tax avoidance are overlapping. The survey of IPSOS MORI (2012) collected responses from customers that businesses in the 2012 have reduced their consideration towards ethical conduct. Moreover, it has been identified that among factors having impact on the reduction of this ethical conduct, the second most important factor is tax avoidance. (IPSOS MORI, 2012) Big Corporations are often accused of tax evasion as misinterpretation of tax avoidance. According to the argument, it is critical to understand the difference between the tax evasion or escape and the tax avoidance. Former is mere evasion where due liability is not paid in full while the latter is a system that company uses in order to exchange the tax benefit from tax liability (Baron, 2006). For example, the Public Accounts Committee in UK has claimed that it has taken legal action against organizations and saved £1 billion from tax avoidance. However, at the same time the committee is also open to admit the fact that most of limiting tax bills of the companies result from the internationally accepted laws that allow corporations for such saving (Brinded, 2013). Hence, it has become mandatory to determine the system that mandates the business to pay the tax in full and not taking the advantage of the indirect escapes. 2.0 NATIONAL AND INTERNATIONAL INITIATIVES FOR TAX AVOIDANCE 2.1. CONTROLLED FOREIGN COMPANY (CFC) RULES In order to make UK business more competitive in the world, UK government has announced the changed Controlled Foreign Company (CFC) rules to be effective in January 2013 (HM Treasury, 2013). The objective of the CFC rules is to limit the company to, artificially, transfer the profits to low tax regimes. Initially, any CFC moving its profits from the third world country to a tax haven was to be taxed by UK on the profits moved. The tax rate in such case was based on the differential rate between the tax haven and the UK. The proposed change claims that profits from UK only to the tax haven will be considered and charged while the movement of profits from the third world countries would not be considered (Lawrence, 2012). This will encourage the financing arms of the country to perform in tax haven and gain tax advantage (Actionaid, 2012). Claimed benefit of the tax avoidance is proposed to originate as the companies’ financing arms would be allowed to pay only around 5.75% from 2013 and 5.5% from 2014 as compared to the UK standard tax rate (Grant Thornton, n.d.). Hence, claims to control tax avoidance and evasion with leniency offered (Lawrence, 2012). However, this proposed changed is analyzed to charge around £1 billion to the UK treasury while costing around £4 billion to the economies in developing countries. It is also estimated to bring the developing countries at collateral damage as well as default (Actionaid, 2012). 2.2. MULTINATIONAL EXCHANGE OF INFORMATION OECD in 2012 proposed an automated exchange of information for developing coordinated information sharing powered by an automated system. The proposed system was mainly aimed to ensure the controlled check and balance for the tax payment by the business having gained the benefit of off-shoring or any other form. The main feature of the automated exchange system is based on the proposal where information sharing is used as an effective tool for the compliance. The proposal; however, at the same time does not require the countries to change the current standard of sharing information upon request only. The tax related information to be shared will be based on the periodic information regarding the taxpayer for different income classes and categories such as dividends, property rentals acquisition and salaries etc. This sharing of information will be from the source country to the country of origin upon request made while maintaining full confidentiality. The following system was proposed to be followed by sending country to receiving country: (OECD, 2012) This proposal was made after considering the level of information that is already being exchanged for countries. It is also aimed to take into account the benefit of close coordination using automated system (OECD, 2012). According to Deloitte report, the recommendation was considered by G8 countries, in addition to the OECD proposal, for Tax inspectors without borders and made a request for the proposal development (Deloitte, 2013; OECD, 2013a). The main objective of this proposal is to power the control the off-shoring for tax evasion, avoidance and fraud with automaticity. It was based on capitalizing and streamlining the intention of various G8 countries to set up Model Intergovernmental Agreement to Improve International Tax Compliance for tax information exchange. This system is planned to inculcate improvement in the availability, accuracy, quality of information available to the country. 3.0. CIRCUMSTANCES FOR THE SUCCESS OF THESE MEASURES Followed by the agreement on the exchange of tax information in 2009, the recent development is about proposed automated information exchange. The acceptance of the OECDs proposal for the exchange of information, the G20 Finance Ministers and Central Bank Governors requested OECD to prepare a guideline for the automated sharing of information while considering the country specific issues. The proposal defined that need to achieve the success is dependent on: Developing the system with the common agreement with respect to the scope of the financial, account holder and institutional information level information sharing in due diligences. The agreed upon framework for the legal compatibility and confidentiality of information sharing. Defining the technical reporting formats to enable the information sharing, exchange and usage in an effective and efficient manner. Hennessy (2013) believes that there has been an increase in the tax collection. However, HMRC has been under increased pressure for its inability to control the tax avoidance by big corporations such as Google and Facebook that have announced to shift their headquarters in Ireland (Syal and Farrell, 2013). One of the major reasons of the tax evasion is the secrecy offered by these tax havens (CBS, 2013). To control the tax avoidance and evasion, the effective implementation of above identified measures is mandatory. The OECD report has developed following key success factor for the effective implementation of the information sharing (OECD, 2013b): 3.1. LEGAL FRAMEWORK The legal framework requires being adapted across the broad. For example, for the implementation of the automated information exchange system, Model 1 IGA and national reporting regulations is required to be adapted. This will benefit the addition of increasing number countries within the agreement without changing primary agreement of information sharing. 3.2. LEGAL SYSTEM FOR THE SHARING OF TAX RELATED INFORMATION The sharing of personal and confidential information is often subject to law claims. Also, each department has its own guideline that is compatible to the country requirements and regulations. Therefore, it is important to develop the system that develops the legal binding for the authorities to facilitate the information while at the same time considering the time and form of information sharing. Hence, compatible legal system allowing coordination without discrepancy is also critical for the success of such system. 3.3. DEVELOPING THE GUIDELINE FOR THE DUE DILIGENCE, COORDINATION AND REPORTING Involvement of different jurisdictions means each country or territory has its own system of information maintenance. For the effective and most importantly cost efficient system of information sharing, it is important to have a standardized model. For example, as the USA model 1 IGA is being used as the base model; however, it is required to pull over specifications that are prepared in USA specific manner. For example, defining the threshold level, claiming the non-exchange-able information or the account of certain account holders etc is important to ensure non-discrepancy in future. 3.4. DEVELOPING I.T. INFRASTRUCTURE OFFERING COMPATIBILITY Importance of infra-structure does not need any emphasis. The proposal has already considered the country specific issues. Higher level of IT infrastructure compatibility will lead to the greater level of information sharing ease. For example, the standardized information of information encryption, training across the countries for updating the information etc is considerably important for the successful implementation of proposals. 3.5. DEVELOPING A COMMITTEE THAT MONITORS THE OVERALL ENVIRONMENT AND ENSURES STABILITY A specific committee also needs to be established that not only monitors the overall system implemented but it also analyzes how different companies are performing and presenting their financial information. Moreover, the committee will be given the authority and power to check and audit different companies to make sure that that the financial information presented are transparent. A specific committee will help the overall system in ensuring and in identifying areas that might have been overlooked by the overall IT system and infrastructure. 4.0 IMPACT OF ONE INTERNATIONAL TAX FRAMEWORK LIKE THE INTERNATIONAL FINANCIAL REPORTING STANDARDS TO CONTROL TAX AVOIDANCE ISSUES Taxation is a major tool to drive the economics in the certain direction. Young and Guenther (2003) studied the relationship in the context of the mobility of capital in international level and Sun (2006) studied the efficiency of capital allocation. However, all these requires that the financial reporting to be reliable, accurate, transparent, comparable and true representative of business conditions. International Financial Reporting Standards (IFRS) is mandated to be adopted as the financial reporting system in the EU countries for the listing companies. Barth, Landsman, & Lang (2008) and others have reported an improvement in the accounting information with the adoption of IFRS. Samuel, Samuel, & Obiamaka (2013) in a paper stated that IFRS system of accounting as base for tax will drive the tax accounting to generate the real economic value of the company. This provides greater opportunity to explore the real taxable income for the company. Also, use of IFRS increases the chances of the being listed in other countries. Use of the comparable system of IFRS across the broad would reduce the chances of measures taken by the company for tax avoidance to be overlooked. Another argument in favor of adoption of IFRS states that it would result in the increased involvement of audit committee in addition to the other level of managements (Paul & Burks, 2010). This will increase the double check facility for the audit committee as companies will not be available with any opportunity to avoid tax by claiming that reporting of a transaction is in accordance to the rules of other country. Contrary to the potential benefit from IFRS implementation, there are certain shortcomings as well to the consideration that IFRS will remove tax avoidance. One major difference exist in the fact that the tax system and the IFRS have different objectives where former is aimed at achieving the equitable distribution of income in the territory while latter is developed for effective decision making (Samuel, Samuel, & Obiamaka, 2013). Therefore, every development in the IFRS is aimed at providing company management with an insight for increasing shareholders’ value can also be generated by tax avoidance techniques. This can result in the conflict with the economic objective of certain countries where economic focus may be on the equitable distribution or effective decision making. Impact of IFRS on tax accounting is dependent on different factors. In the absence of these factors, applicability of IFRS to gain the tax avoidance is a fruitless exercise. IFRS based accounting will lead to a situation where unrealized income will also tax which in turn will negatively affect the liquidity of the company (Samuel, Samuel, & Obiamaka, 2013). This attracts the companies towards tax avoidance opportunities. IFRS constitutes of complex and costly accounting system which may have negative implications such as companies may end up in tax disputes etc (Samuel, Samuel, & Obiamaka, 2013). Even the big companies of poor economies will face difficulty in adopting costly system (Paul & Burks, 2010). Also the government in different countries will be reluctant to give their power of taxation in the hands of such international systems (Freeman, 2004). Ball, (2006) has also presented a threat that IFRS can also be polarized or may face bureaucratic issues like IASB, which will affect its implementation for the tax avoidance.  Hence, overall benefit of the IFRS’s adoption for the tax avoidance is limited as compared to its potential negative implications. Also, the issues are critical in nature which clearly limits the chances of adoption of IFRS or other such reporting standards across different countries of the world. 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