There is a fine line between tax avoidance and tax evasion. In short, one is legal (tax avoidance) and the other illegal (tax evasion).
Tax non-compliance generally describes a range of activities that are unfavorable to a state’s tax system, which include tax avoidance. Therefore, tax avoidance means to reduce taxes by legal means, whereas tax evasion refers to the criminal non-payment of tax liabilities. This short piece will also look at the Islamic view on this matter.
The UK Radcliffe Commission described ‘tax evasion’ as:
an act in contravention of the law whereby a person who derives a taxable income either pays no tax or pays less tax than he would otherwise be bound to pay.
Tax evasion normally takes the form of:
- A cash (informal economy)
- not reporting all income received
- overstating deductions
- failure to make a return of taxable income
- failure to disclose in a return the true amount of income derived.
The Australian Tax Office (ATO) describes tax evasion as when someone has deliberately misled the ATO about his or her activities to reduce their tax liability, or have not paid tax that is due.
Examples of tax evasion
Some common examples of tax evasion include failing to:
- report all income
- report cash wages
- forward tax withheld from employee’s wages to the ATO
- withhold tax from a worker’s wages (for example, paying in cash)
- pay employee super entitlements
- lodge tax returns, in an attempt to avoid payment
- lodge a tax return in order to avoid child care or other obligation
- claiming deductions for expenses not incurred or legally deductible or input credits for goods or services that GST has not been paid on.
Other examples include:
- offering a discount for cash and not providing a receipt
- not wanting to issue a receipt or invoice
- not asking new staff to complete a tax file number (TFN) declaration form when they start
- paying staff in cash and not withholding any tax or super from it
- not providing a payment summary (previously known as a group certificate)
- keeping their till open and not ringing up cash sales
- not being registered for GST, despite clearly exceeding the $75,000 threshold
- not charging GST when you should
- not paying your super
- providing false invoices
- using a false business name, address, Australian business number or TFN
- keeping two sets of accounts.
Tax avoidance can occur in a number of ways, the most common being tax havens, such as the British Virgin Islands, Panama etc. It is not surprising then, least of all to the tax authorities, that multinational companies have lots of subsidiaries in tax havens and do lots of business with and through them, through intercompany dealings. In a number of recent articles, large multinational companies have sought to minimize their tax by creating subsidiaries in low-taxing countries such as Ireland, the Netherlands, Luxembourg and the British Virgin Islands. For example, News Corp apparently has 152 subsidiaries in tax havens, in order to minimize its taxes.
But that’s the top end of town. Those who do not have the financial capacity to set up in a tax haven in these off shore place, must do with the following tax avoidance mechanisms which generally involves a series of artificial or contrived transactions undertaken with the aim of reducing your tax liability without committing either criminal or taxation offences. Tax avoidance can take a variety of forms, such as reducing or diverting assessable income, increasing deductions and offsets, deferring the payment of tax, manipulating business structures, or altering the type and nature of transactions.
Tax Law in Australia – some relevant parts
In Australia, the law to deter the promotion of tax schemes is found under Division 290, of the Taxation Administration Act 1953(Cth) which deals with ‘tax exploitation schemes’. The Anti-Money Laundering and Counter Terrorism Financing Act 2006 (Cth) (AML/CTF Act) allows government agencies to detect Australian taxpayers using tax havens by requiring their accountants, lawyers and financial advisers to report ‘suspicious transactions’ that involve the transfer of money between tax havens.
Under Australian law, the anti-avoidance measures are contained in a number of ‘General Anti-avoidance Rules’ (GAARs). These GAARs are found in Part IVA of the Income Tax Assessment Act 1936(Cth), Section 67 of the Fringe Benefits Tax Assessment Act 1986(Cth) and Division 165 of the New Tax System (Goods and Services Tax) Act 1999(Cth). There are also Special Anti-avoidance Rules which need to be examined if you are considering tax avoidance schemes.
As a matter of general principle, arrangements where personal services income is divided (for example, because personal services are contracted through a company, trust or partnership) and taxed at a lower rate than if the income had been received personally may attract Part IVA, particularly where the remuneration is less than commensurate with the value of the services. This means that the income may be assessed to the individual rather than to the entity.
The Ethics of Tax – a Muslim perspective
According to Islam, Muslims have a moral and communal obligation to pay zakat for the support of the poor and for the legitimate functions of government. Thus, evading one’s duty to pay zakat or lawful due is classified as an immoral act. The Islamic system of taxation is a voluntary one, at least partially, although Islamic literature makes it clear that a government is justified in forcing people to pay taxes if the amount raised by zakat is insufficient to cover all the legitimate costs of government.
However, “this right of interference with the individual’s personal property will be limited to the extent required by the general welfare of the society.” It does not follow that Muslims have a moral obligation to pay whatever taxes the government demands,and it does not follow that any and all forms of taxation are legitimate. Thus, a case can be made that some forms of tax avoidance under certain conditions, may not be immoral. My view is that the strongest argument for complying with government regulations is when the regulation benefits the general public, which is the case here in Australia.
Given tax avoidance is lawful, there is no reason why Muslims should avail themselves of this legitimate means to minimize or mitigate their tax. However, quite clearly tax evasion is unlawful, and deprives the Ummah and the wider community of benefits. It is a fine line, and Allah (swt) has given us the capacity to reason and think, and we have the innate ability to know what is the right thing to do: if in doubt, ask or seek professional advice.
This short piece has attempted to show what a complex area tax avoidance can be. While the right advice can pay dividends, it can also keep you on the right side of the law. My final word of wisdom is always keep good records, be transparent in your dealings, document transactions contemporaneously with the event where possible and of course seeking professional advice early!