Taxation Theory and Practice - Essay Example

Taxation Theory and Practice Table of Contents Tax evasion Versus Tax Avoidance 3 Implications and effects of each method on companies, the persons and countries 4 Taxation policies should result in equal distribution of income – A discussion 5 UK taxation policies influenced by international policies 6 Conclusion 6 Reference List 8 Introduction Lord Tomlin has stated that every man has the right to manage the tax attached with his/her earnings under appropriate Acts. Tax is managed in order to reduce the amount to a considerable level (Word Press.com., 2013). So, people aim at adopting different methods for reducing the tax liability. The methods that are adopted by them are tax avoidance, tax evasion, tax planning and tax mitigation. The report highlights two of the methods employed by individuals for reducing tax liability: tax evasion and tax avoidance. Tax evasion versus avoidance has become a hot topic for debate though it has a very narrow difference. It has been observed that currently, tax laws are drafted in such a manner that they can reduce possibilities of tax avoidance. However, tax planning also paves way for lessening tax liability. The difference between tax avoidance and evasion is highlighted in the report along with appropriate examples. The report also elaborates on failure of the UK tax system, which attempted to equalise tax policies for all income group. The reason why taxation policies of UK are influenced by international and EU policies are depicted in the report. Tax evasion Versus Tax Avoidance The methods are practised for reducing amount of tax paid by people. The main difference between the methods is that one employs legal means; whereas, the other is illegal and can be referred as tax fraud. The professionals, who are engaged in the documentation, help individuals in employing such illegal means for cutting down tax liability, which is highly penalized. Tax avoidance is referred as the “legal exploitation of tax regime to ones own advantage” (Azimuddin Law Associates, 2013). The attempt is undertaken in order to reduce tax amount, which are payable as per the tax laws and are fully disclosed in documents to tax authorities. The examples of tax avoidance can be cited as tax deductions and modifying business structure by incorporating or establishing an offshore for a company in tax haven (Simplified Finance, 2014; Azimuddin Law Associates, 2013). Tax evasion is referred as illegal practice for escaping tax. In this process, taxable income, profit that is liable for tax or other activities for taxation is hidden. The amount of income is misrepresented or the tax reducing factors like, exemptions or credits and deductions, are purposely overstated. The method can be regarded as an isolated incident within legal activities. Tax evasion occurs in informal economy, where illegal activities are extensively prevalent. This indicates the fact that the business not only evades payment of tax, but also cannot be registered as a formal enterprise. Tax evasion can be identified as a general term, which elaborates on efforts made by firms, trusts, individuals and other entities, which concentrate on evading tax payment illegally. The method of tax reduction basically involves taxpayers deliberately misrepresenting or concealing the actual state of dealings to tax authorities for the purpose of lowering tax liability (Simplified Finance, 2014; Azimuddin Law Associates, 2013). Tax avoidance is considered as an amoral dodging of duties towards the society. It is a strategy that does not support hostile government activities. On the other hand, tax evasion is regarded as a crime in most of the countries. In this method, the guilty party is subjected to either imprisonment or fine. It has been noticed that some evaders of tax incorporate tax evading manipulations based on new legal theories. These groups or individuals are known as the tax protesters (Nouse, 2014). Implications and effects of each method on companies, the persons and countries It is noticed that Apple Inc. had undertaken the method of avoiding tax in United States for structuring the business. The employees of Apple pointed out the fact that they were charged extra amount of taxes, which were not eventually paid to the government. They stated that the amount could have been considerably less if the detailing was right (Norris, 2013; Nouse, 2014). Apple had devised a strategy in order to avoid tax by way of paying several large amounts of income to an entity, which was a fake subsidiary of the company. Apple transferred the rights to intellectual property to this subsidiary, which had its incorporation in Ireland. As the subsidiary was in Ireland, the taxation was not directly under United States and was managed by the Californian government. Under the taxation law of Ireland, the subsidiary was free from taxation. However, subsidiary in Ireland had the company’s right to use trademark in Africa, Asia and Europe and not in North or South America (Norris, 2013). Thus, Apple controlled rights of the subsidiary in United States. The tax law in United States mentions that multinationals in America will have to pay taxes on profits, excluding foreign taxes paid by them. Nevertheless, Apple did not follow this procedure and consequently, avoided tax (Norris, 2013). Global firms like, Google, Starbucks and Amazon, had been accused of evading tax on British sales. This has almost become a tendency for big multinationals as they utilise the taxes for restructuring their business. These companies had complex tax structures, which had in turn encouraged tax evasion. Starbucks earned sales revenue of about £400 million in 2012 in United Kingdom (UK) but the company did not pay any corporation tax (Barford and Holt, 2013). However, it transferred a part of the amount to its Dutch sister company as the royalty payments. It also purchased coffee beans from Switzerland and showed high interest rate payments for borrowing from different parts of its business. It is also observed that Amazon earned sales revenue of £3.35 billion in UK in 2011. The company paid a tax of only £1.8 million (Barford and Holt, 2013). Taxation policies should result in equal distribution of income – A discussion The government in United Kingdom employs dissimilar types of taxation policies for the companies in UK. Eventually, there exist two types of taxes viz. indirect and direct tax. The direct taxes identify those, which are imposed on resources and income of individuals. Nevertheless, indirect taxes are imposed on goods or services. The indirect taxes are ones that are officially levied on producers. Furthermore, taxation in UK can be subdivided into three categories with respect to effect on redistribution of income. The subdivisions are regressive, progressive or proportionate tax. The progressive taxation highlights imposition of greater amount of tax on higher income groups. The regressive tax acts in an opposite manner to that of progressive tax. So, it involves taking higher magnitude of tax from lower income groups. Even so, proportionate tax takes into account same proportion of tax from all the groups of income (The Positive, 2014). The regressive and progressive taxes do not assist in redistribution of income as they take into account higher magnitude of tax revenue for both higher and lower income groups. Most of the regressive taxation comes from the demerit goods (The Positive, 2014). It is observed that in some cases, the regressive tax can help in redistribution of income, despite taking larger magnitude of money from lower income groups. It is likely that rich individuals will spend greater amount of money on items such as, wine and spirits. It is noticed that in 2006, the higher income group had spent 89% of indirect taxes on spirits and wines, which amounted to about 0.9% of their disposable income (Economic Online, 2014). On employing direct taxation for redistributing income, negative effect is observed on the incentives to work. It is seen that when an individual encounters rise in direct taxation, he/she has two ways to react. With fall in net income from work, he/she will prefer to work even during the holidays. In such a case, tax is disincentive to the person and there is a substitution effect. On the other hand, the person has an option to work for longer hours for maintaining the post tax income balance. In such a case, rise in direct taxation acts as an incentive and motivates to work for a long period of time. Therefore, there appears a hard income effect, which improves the total output in economy (Economic Online, 2014). UK taxation policies influenced by international policies There is no General Anti-Avoidance Rule (GAAR) in UK. Even so, there are certain provisions for the tax legislation, which are applied for preventing tax avoidance. Here, main objective of a transaction is to modify tax advantages that are obtained. The judicial doctrines that rely on the purposive structure of tax legislation are developed in order to defend against tax avoidance and self-cancelling transactions (Federal Ministry for Economic Cooperation and Development, 2010). UK authorities employ tax mitigation for rationalizing acceptable tax planning and lowering tax liabilities. It is observed that the government of UK is highly influenced by international taxation policies, according to which UK laws are modified in order to suit situations encountered by the economy. The cases of tax avoidance and evasion around the world have forced countries to modify their tax laws and concentrate upon eliminating any loopholes in the same. This has not only influenced the UK government to improvise its tax laws, but also highlighted loopholes present in the laws, which allow the multinationals to avail unfair means (Federal Ministry for Economic Cooperation and Development, 2010). Conclusion From the above discussions, it is clear that both tax avoidance and tax evasion are illegal methods of avoiding tax for any company. The multinationals employ these two methods for avoiding tax and utilising the amount for restructuring their businesses. It is noticed that multinationals often penalise their employees into paying higher taxes, but this amount is not paid to the government; instead, this money is utilised by the company for business purposes. Multinationals like, Starbucks, Google, Vodafone and Apple, have encountered difficulties in business in context of evading tax by employing illegal means. This not only infuriated employees of the company, but also affected sentiment of the common mass. The investors who invested in these companies had questioned the authorities about their investments. It can be inferred that the economy gets affected as a whole by tax evasion procedure. Hence, it can be said that companies cannot necessarily get away with conducting such illegal activities. The UK government has modified their law structure and concentrated upon eliminating loopholes that are present in the laws. However, current events of Google, Starbucks and Apple foreground the fact that the government is not entirely successful in its modification procedures. Reference List Azimuddin Law Associates, 2013. Taxation: Issues of Tax Avoidance versus Tax Evasion. [online] Available at: < http://www.hg.org/article.asp?id=29508 > [Accessed 26 May 2014]. Barford, V. and Holt, G., 2013. Google, Amazon, Starbucks: The Rise Of Tax Shaming. [online] Available at: < http://www.bbc.com/news/magazine-20560359 > [Accessed 26 May 2014]. Economic Online, 2014. Unequal Distribution Of Income. [online] Available at: [Accessed 26 May 2014]. Federal Ministry for Economic Cooperation and Development, 2010. Addressing Tax Evasion And Tax Avoidance In Developing Countries. [pdf] Federal Ministry for Economic Cooperation and Development. Available at: [Accessed 26 May 2014]. Norris, F., 2013. The Corrosive Effect of Apple’s Tax Avoidance. [online] Available at: [Accessed 26 May 2014]. Nouse, 2014. What Is The Difference Between Tax Evasion And Tax Avoidance? [online] Available at: < http://www.nouse.co.uk/2013/01/22/70859/ > [Accessed 26 May 2014]. Simplified Finance, 2014. Tax Evasion and Tax Avoidance. [online] Available at: [Accessed 26 May 2014]. The Positive, 2014. Solving the UK’s Tax Avoidance Challenges. [online] Available at: [Accessed 26 May 2014]. Word Press.com., 2013. Tax Evasion vs. Tax Avoidance vs. Tax Mitigation vs. Tax Planning. [online] Available at: < http://carockstar.wordpress.com/2013/09/18/tax-evasion-vs-tax-avoidance-vs-tax-mitigation-vs-tax-planning/ > [Accessed 26 May 2014]. Read More