It is clear that there are fundamental misunderstandings about whether commonplace business practices should be construed as aggressive tax avoidance. Charities and tax campaigners do not always present tax issues fairly. There is a critical distinction between tax evasion and tax avoidance, which some have failed to grasp. Business and tax advisers need to invest more time in helping improve public understanding of our tax system and the major contribution made by business to the UK economy.
The ‘big four’ professional services firms haven’t before appeared en masse in front of a Parliamentary Committee to discuss taxation – so the appearance on 31 January before the Public Accounts Committee attracted a great deal of interest in the tax world. The PAC of course has a huge workload – and it doesn’t have any tax experts amongst its members. It does however seem to have seized a lead role in looking at taxation, in recent months.
The hearing highlighted some of the key issues which form part of the current debate.
Myth 1: We have a common understanding of tax avoidance
It soon became clear that there’s a fundamental difference of understanding between business, HMRC, tax advisers and some members of the public on the one hand – and the views of some MPs, campaigners and other members of the public. The Oxford Centre for Business Tax discusses the alternative interpretations in a recent paper (available via www.lexisurl.com/OUCBTpaper): the differences essentially revolve around companies making locational choices for business activities which result in lower taxation than if those activities had been located in the UK. Business is simply following the law; the contrary view acknowledges this but suggests that different choices should have been made. The challenge is that no practical alternatives have been put forward.
In some cases, people argue that sales to a country should attract taxation in that country – even though none of the profit-making activities takes place there. The economic logic for such an approach seems to be missing: why would it make sense for a business selling globally to have to report and pay a profits-based tax simply because it makes sales of goods or services in a country? That surely is the role of a consumption tax, such as VAT or the US sales taxes. Those arguing for such an approach do so in the context of an overseas company selling to the UK; they forget that the UK is also a major exporter of goods and services and that international tax rules were designed with reciprocity in mind. The UK, for example, receives much more in royalties (nearly £11bn in 2010) than it pays out (some £6bn), according to the Office for National Statistics.
There’s a failure to grasp the business imperative to regionalise or centralise activities which, when such centralisation takes place outside the UK, results in the UK receiving less tax than if the activities had been carried on here. The OECD is of course looking at aggressive exploitation of such strategies – which may include scenarios where there is no third party example of similar business activities. However, most centralisation has no such artificial construct. Unless we are to move to double taxation, any changes to taxation rules will need international agreement. Practitioners will be aware that the UK’s newly competitive tax regime is encouraging some multinationals to put their central activities here; it would be unhelpful to find that other changes dissuade them from coming.
In some cases, double tax treaties may need to be altered which is of course a time-consuming process and one which requires agreement between two nation states.
It’s clear that it will be hard to reach a better position in relation to some of these international tax issues – whatever is done risks disappointing some of the campaigners. It’s important that we try to explain more widely how business operates so as to bring about a better understanding of the issues – and discuss alternatives.
Myth 2: Charities and tax campaigners present taxation issues fairly
Ian Swales MP wanted to ask a question about the use of tax havens by UK multinationals. ‘So 98 of the FTSE 100 companies have a subsidiary in a tax haven.’
This figure comes from an ActionAid report in October 2011 (available via www.lexisurl.com/ActionAidreport) which declared that 38% (8,492) of the subsidiaries, joint ventures and associates of the FTSE-100 companies were based in tax havens. Yet a quick look at the report reveals 2,400 in the US; 1,350 in The Netherlands; 750 in Ireland, 300 in Singapore and 250 in Switzerland. The US companies are incorporated in Delaware, which is the main state in which US companies are formed. Why? Simply because whilst every US state has its own company law, it is easier to have a common system. Delaware has put great effort into maintaining its company law and has thus become the registry of choice. Yet Delaware companies – like all US companies – pay US corporate tax at 35% on their profits. They also pay state tax in the states where they operate. The Netherlands has a basic corporate tax rate of 25% – but it does have some incentive regimes, like the UK and many other countries. Ireland is famed for its 12½% rate on trading profits – but many forget that investment income and capital gains are taxed at 20–25%. Singapore has a tax rate of 17%, although it doesn’t tax income that accrues outside Singapore unless remitted. Switzerland has effective tax rates of 12–22%, depending on the canton. It also has some incentive regimes, of which the most important is the mixed company regime – with an effective tax rate of 9–11%.
The list used by ActionAid comes from the US Congressional Government Accountability Office (available via www.lexisurl.com/GAOreport), which was asked by senator Carl Levin to identify US corporations with a presence in tax havens. Their list covers ‘Jurisdictions Listed as Tax Havens or Financial Privacy Jurisdictions’. There’s an obvious problem in merging a list of low tax countries with a list of countries which don’t publish company accounts or details of shareholders – and then calling them all ‘tax havens’. ActionAid added on The Netherlands and Delaware on its own initiative. It’s frankly absurd to add them in; given that these two countries were the top two ‘tax havens’ in the report, one has to wonder at the motive.
In view of the stigma attached to the tax haven label, it’s also regrettable that countries where substantial activities are carried on such as Ireland, Singapore and Switzerland are added in.
Christian Aid saw fit to indulge in massive exaggeration in its 2008 report Death and Taxes where it claimed that ‘… a full 50% of world trade is reported to take place through tax havens’ and then that ‘… the loss of corporate taxes to the developing world is currently running at US$160bn a year.’ There’s no proper support for either figure. In fact a study by two economists at the Said Business School in Oxford noted that it was simply impossible to estimate loss of corporate tax, as there aren’t sufficient figures. What information there actually is suggested a loss of only about a quarter of the amount put forward by Christian Aid. We should also note that this is a global number and not an amount purely attributed to UK business.
Campaigner Richard Murphy has put forward his own estimate of the tax gap. HMRC notes that ‘The tax gap is defined as the difference between tax collected and the tax that should be collected (the theoretical liability). The theoretical tax liability represents the tax that would be paid if all individuals and companies complied with both the letter of the law and HMRC’s interpretation of the intention of parliament in setting law (referred to as the spirit of the law). The tax gap estimate is net of the department’s compliance activities.’ Mr Murphy devises his own estimates, without access to the data held by HMRC. He then chooses to add in tax paid late – which clearly isn’t part of the gap. This figure is then used by the TUC and other unions as if it was in any sense comparable to HMRC’s calculations.
At a time where there is focus on professional ethics, one has to wonder whether there is now a need for an ethical code for campaigning charities.
Myth 3: There’s little difference between evasion and avoidance
Polly Toynbee wrote about the PAC hearing in The Guardian ‘One important delusion was nailed by the committee: there is no clear line between tax avoidance (legal) and tax evasion (criminal). ‘There is no black and white on this,’ Hodge said as the accountants writhed and protested they would never suggest clients do anything against the law.’
This is perhaps the most concerning perspective to any professional tax adviser. It’s fundamental that we know the difference between illegal behaviour and planning, or avoidance. Just as we think honest journalists know the difference between illegal phone-tapping and legitimate obtaining of information – so tax advisers should have no doubt whatsoever between the right and wrong courses of action.
A little piece of the confusion comes from misunderstandings over tax schemes. Sometimes the meaning of the law isn’t clear. Perhaps a tax scheme is designed to take advantage of that lack of clarity and come up with a tax loss without an equivalent economic loss. If HMRC disagrees with that interpretation the matter may head to the tribunal for a ruling on the meaning of the law in the context of the taxpayer’s facts. Ruling against the taxpayer’s assertion doesn’t mean that he was doing something illegal. It simply means that the tax consequences he desired don’t arise – and more tax is due than he thought.
However, there’s no excuse for mistaking a misunderstanding over the meaning of the law with criminal behaviour.
The next step after the PAC hearing will no doubt be a short report. It’s not immediately clear that the PAC has sufficient information about tax advice and the role of the ‘big four’ since, unlike in other enquiries, it doesn’t have the benefit of a report from the National Audit Office. The tax debate isn’t about to go away, though. Business and tax advisers will need to invest more time in helping improve public understanding of our tax system and the major contribution made by business to the UK economy.
Bill Dodwell leads Deloitte's tax policy group.
