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    BRIEFING PAPER Number 7948, 30 January 2019

    Tax avoidance and tax evasion

    By Antony Seely

    Contents: 1. Introduction - what is tax

    avoidance and what is tax evasion?

    2. The tax gap 3. The Coalition Government’s

    approach 4. Follower notices &

    accelerated payments 5. The Conservative

    Government’s approach 6. The 2019 Loan Charge[email protected]://

  • 2 Tax avoidance and tax evasion

    Contents Summary 3

    1. Introduction - what is tax avoidance and what is tax evasion? 5

    2. The tax gap 9

    3. The Coalition Government’s approach 23 3.1 A new anti-avoidance strategy 23 3.2 Assessing the impact of HMRC’s strategy 31

    4. Follower notices & accelerated payments 39 4.1 ‘Raising the stakes on tax avoidance’ - summer 2013 39 4.2 Budget 2014: introduction of accelerated payments 45 4.3 Finance Bill 2014 50 4.4 Impact of the new regime 60 4.5 Subsequent proposals regarding ‘serial avoiders’ and offshore evasion 66

    5. The Conservative Government’s approach 73 5.1 Budget 2015 73 5.2 Offshore evasion & the Panama Papers 76 5.3 Spring Budget 2017 84 5.4 The Paradise Papers & Autumn Budget 2017 103 5.5 Budget 2018 111

    6. The 2019 Loan Charge 117 6.1 Disguised remuneration & Finance Act 2011 119 6.2 DR schemes & the 2019 Loan Charge - Budget 2016 121 6.3 DR schemes and the ’Rangers case’ - July 2017 127 6.4 The Contractor Loan Settlement Opportunity - November 2017 132 6.5 The 2019 Loan Charge & Finance Act 2018 137

    HMRC’s warnings to scheme users & its action against promoters 141 Early Day Motion 1239 of 2017-19 143 Guidance for taxpayers liable to pay the Charge 145

    6.6 Recent developments 150

    Cover page image copyright Chamber-066 by UK Parliament image. Licensed under CC BY 2.0 / image


  • 3 Commons Library Briefing, 30 January 2019

    Summary In recent years tax avoidance has been the subject of considerable public concern, although there is no statutory definition of what tax avoidance consists of. Tax avoidance is to be distinguished from tax evasion, where someone acts against the law. By contrast tax avoidance is compliant with the law, though aggressive or abusive avoidance, as opposed to simple tax planning, will seek to comply with the letter of the law, but to subvert its purpose. As Treasury Minister David Gauke has observed, there is a distinction between tax planning and tax avoidance, “although there will be occasions when the line is a little blurred.”1

    In recent years HM Revenue & Customs has produced estimates of the tax gap, the difference between tax that is collected and that which is ‘theoretically due’:

    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) ... An equivalent way of defining the tax gap is the tax that is lost through non-payment, use of avoidance schemes, interpretation of tax effect of complex transactions, error, failure to take reasonable care, evasion, the hidden economy and organised criminal attack.2

    In June 2018 HMRC published revised estimates, which put the total tax gap at £33 billion for 2016/17, representing 5.7% of total tax liabilities.3 There has been a long-term reduction in the tax gap, which was estimated to be 7.3% in 2005/06. HMRC’s analysis provides a breakdown of the gap by reference to the different types of taxpayer behaviour that lead to a shortfall in receipts, though as HMRC note, the “estimates give a broad indication of behaviours and are calculated using assumptions and judgment.” This work suggests that in 2016/17 the annual cost of tax avoidance was £1.7 billion, while the cost of tax evasion was £5.3 billion.4

    Historically UK tax law has been specifically targeted rather than purposive; in tackling the exploitation of loopholes in the law, governments have legislated against individual avoidance schemes as and when these have come to light. Often the response to this legislation has been the creation of new schemes to circumvent the law, which in turn has seen further legislation – an ‘arms race’ between the revenue authorities and Parliamentary counsel on one side, and on the other, taxpayers aided and abetted by the legal profession. In recent years concerns as to the scale of mass marketed tax avoidance schemes have led to three major initiatives to undermine this market, and encourage a sea change in attitudes: the Disclosure of Tax Avoidance Schemes regime (DOTAS); the General Anti-Abuse Rule (GAAR); and the system of follower notices & accelerated payments.

    Over the past twenty years many commentators have suggested having legislation to counter tax avoidance in general: by providing certainty for both sides as to the tax consequences of any transaction, a ‘general anti-avoidance rule’ might dissuade the most egregious efforts to avoid tax, encourage taxpayers and legal counsel to redirect their energies to more productive activities and allow the authorities to simplify the law without fear of it being systematically undermined. In the late 1990s the Labour Government

    1 HC Deb 12 July 2010 c706 2 Measuring Tax Gaps 2013, October 2013 p6. HMRC’s work on the tax gap is collated on 3 HMRC press notice, Low tax gap results in £71 billion for UK public services, 15 June 2018; see also,

    HMRC, Calculating the 2016-17 Tax Gap: Issue Briefing, 14 June 2018 4 Measuring Tax Gaps 2018, June 2018 p5

  • 4 Tax avoidance and tax evasion

    consulted on an anti-avoidance rule before deciding against it. Concerns over the scale of tax avoidance rekindled interest in the idea, though in its 2004 Budget the Labour Government announced a new ‘disclosure regime’ as an alternative, whereby tax avoidance schemes would be required to be disclosed to the revenue departments.5 Under ‘DOTAS’ accountants, financial advisers and other 'promoters' selling tax avoidance schemes are required to notify the tax authorities of any new scheme they are to offer to taxpayers. Each scheme is given a reference number which, in turn, taxpayers have to use in their tax return, if they have used it. HMRC have used this information to track the take-up of avoidance schemes, challenge individual schemes in the courts if HMRC have assessed that they do not work in the way the promoter claims, or to address unintended loopholes in the law that some schemes seek to exploit.

    In its first Budget in June 2010 the Coalition Government announced it would consult on a general anti-avoidance rule, and commissioned a study group, led by Graham Aaronson QC, to consider the case. In his report, published in 2011, Mr Aaronson recommended a narrowly focused rule targeted at ‘abusive arrangements’ only, and following a consultation exercise, in December 2012 the Government announced the introduction of a General Anti-Abuse Rule (GAAR) in 2013.6

    In 2014 the Coalition Government announced the introduction of a system of follower notices & accelerated payments.7 Broadly speaking, in cases where someone is in dispute over their assessment, HMRC may issue a ‘follower notice’ if this arises from the use of an avoidance scheme that is either the same or has similar arrangements to one that HMRC has successfully challenged in court. Taxpayers must settle their affairs, or pay a penalty. HMRC may also issue a notice for an accelerated payment, where the taxpayer is required to pay the disputed sum ‘up front’, before their assessment had been definitively decided – either by the taxpayer agreeing HMRC’s assessment, or the courts making a final judgement in their case. Taxpayers do not have the right to appeal HMRC’s decision to the Tribunal.

    Controversially, the Government announced these arrangements would apply to outstanding disputes for past tax years, and that HMRC would also issue demands for accelerated payments in relation to avoidance schemes notified under ‘DOTAS’. Despite concerns as the ‘retrospective’ nature of the new regime, the new rules were agreed, with only minor amendments, in July 2014. In July 2017 HMRC reported that it had issued over 75,000 notices worth in excess of £7 billion and collected nearly £4 billion.8

    The Government has continued to introduce provisions to tackle tax avoidance and tax evasion, including measures in the last three Budgets.9 This paper provides an introduction to the issue of tax avoidance and evasion and the measurement of the tax gap, looking in detail at the development of follower notices and accelerated payments, before discussing the current Government’s approach, and the introduction of the 2019 Loan Charge. Two other Library papers look at the Labour Government’s consideration of a general anti-avoidance rule and the establishment of the disclosure regime, and at the Coalition Government’s decision to introduce a GAAR.10

    5 Budget 2004, HC 301, March 2004, p202. Guidance on DOTAS is on 6 Autumn Statement, Cm 8480 December 2012 para 1.178. Guidance on the GAAR is on 7 Budget 2014, HC 1104, March 2014 para 1.198-201 8 HMRC Annual Report 2016/17, HC 18, July 2017 p24. Guidance on follower notices & accelerated

    payments is on 9 Spring Budget 2017, HC 1025, March 2017 para 3.42-49; Autumn Budget 2017, HC 57, November 2017

    para 3.65-77; Budget 2018, HC 1629, October 2018 para 3.76-91. 10 Tax avoidance: a General Anti-Avoidance Rule - background history (1990-2010), CBP2956, 13 April 2016;

    and, Tax avoidance: a General Anti-Abuse Rule, CBP6265, 7 September 2018.

  • 5 Commons Library Briefing, 30 January 2019

    1. Introduction - what is tax avoidance and what is tax evasion?

    During a debate on tax avoidance and tax evasion in July 2010 Treasury Minister David Gauke drew the following distinction between these two terms:

    Tax evasion occurs when someone acts against the law. Tax avoidance involves compliance with the letter but not the spirit of the law, and it is right that the Government seek to minimise that. Tax planning is a case of acting in both the spirit and the letter of the law. There is a distinction, although there will be occasions when the line is a little blurred.11

    A longer definition was provided in answer to a PQ in the Lords a few years before:

    Lord Patten asked Her Majesty's Government: Whether they will clarify their use of the terms "tax avoidance" and "tax evasion".

    Lord McKenzie of Luton: These terms lack any single or universally applied legal definition and their meaning will depend upon the context in which they are used. The term "tax evasion" refers to reduction of tax liability by illegal means. The term "tax avoidance" is usually used to refer to an inappropriate reduction in tax liability and was described by Lord Nolan in the following terms: "The hallmark of tax avoidance is that the taxpayer reduces his liability to tax without incurring the economic consequences that Parliament intended to be suffered by any taxpayer qualifying for such reduction in his tax liability."12

    The reference is to an expression used by Lord Noland in a case heard by the House of Lords in 1997, when he distinguished between avoidance and actions where the taxpayer mitigates his tax liability:

    The hallmark of tax avoidance is that the taxpayer reduces his liability to tax without incurring the economic consequences that Parliament intended to be suffered by any taxpayer qualifying for such reduction in his tax liability. The hallmark of tax mitigation, on the other hand, is that the taxpayer takes advantage of a fiscally attractive option afforded to him by the tax legislation, and genuinely suffers the economic consequences that Parliament intended to be suffered by those taking advantage of the option.13

    (The appeal of this definition is not unchallenged – as one standard guide to the law notes, “the trouble with this explanation is that while it provides a coherent reason for saying in a particular case that the facts do not amount to avoidance and so do not trigger the application of some rule, it does not provide a way of telling whether those particular

    11 HC Deb 12 July 2010 c706 12 HC Deb 24 May 2006 ccWA111-2 13 IRC v Willoughby & Another [1997]

  • 6 Tax avoidance and tax evasion

    facts fall one side of the line or the other – it is a conclusion, not a test - and so it restates the problem rather than solving it.”14)

    While it is often noted that tax avoidance is not illegal, in the past governments have drawn a distinction between the exploitation of the tax system and simple compliance with the law – for example, in answer to a PQ in July 2010:

    Andrew George: To ask the Chancellor of the Exchequer what definition of the terms (a) tax avoidance and (b) tax efficiency his Department uses.

    Mr Gauke: The Government have not published a definition of avoidance. However it is widely understood to entail taking a view of the tax treatment of a transaction that is tenable but has tax consequences that were not intended by the legislature. This does not prevent taxpayers organising their affairs in an efficient manner, consistent with the intentions of the legislation. Tackling tax avoidance is essential and we make every effort to do so. The Government consider the economic efficiency of tax measures as part of the tax policy-making process.15

    The House of Lords Economic Affairs Committee considered this question in their 2013 report on the Government’s proposals for a ‘General Anti-Abuse Rule’ – or GAAR. The Committee cited Mr Gauke’s distinction between avoidance and evasion, reproduced above, but went on to quote the evidence of Ms Judith Knott (then HMRC Director, Corporation Tax International Anti-Avoidance) when she appeared before the Committee:

    “What we mean by legitimate tax planning is tax planning that is very much in line with Parliament’s intentions when it passed the rules. A good example would be putting cash into an ISA account. That is legitimate and what Parliament intended to happen. Avoidance, on the other hand, is behaviour that seeks to bend the tax rules in a way that Parliament did not intend. It is often accompanied by artificial transactions—trying to seek a result that was not intended.”16

    The Committee observed that the definitions “depend on the existence of a common interpretation of what the original lawmakers had in mind in enacting a particular tax statute”:

    The courts interpret Parliamentary intention as that revealed by the wording and context of the legislation itself and extraneous comment or other guidance can be taken into account only in very limited circumstances. This is a much narrower definition of Parliamentary intention than the wider colloquial definition which might either infer intention or take into account external information.

    Consequently, in practice, a good deal of uncertainty can often attach to the question of whether a particular arrangement constitutes ‘tax avoidance’ and, if so, whether it is to be regarded

    14 Tiley & Collison’s UK Tax Guide 2016/17 para 3.2 15 HC Deb 12 July 2010 c544W 16 The draft Finance Bill 2013, 13 March 2013, HL Paper 139 2012-13 para 12

  • 7 Commons Library Briefing, 30 January 2019

    as ‘acceptable’ (tax planning or tax mitigation) or ‘unacceptable’ (aggressive or abusive avoidance).17

    The concept of “parliamentary intention” is not a simple or obvious one – as noted in a paper on tax avoidance published by the Oxford Centre for Business Taxation:

    The aim of the courts is to construe legislation in a way that gives effect to “parliamentary intention”. Parliamentary intention in this context is a term of art, extensively debated in legal literature and should be distinguished from a colloquial usage. Lord Nicholls has explained: "...the 'intention of Parliament' is an objective concept, not subjective. The phrase is a shorthand reference to the intention which the court reasonably imputes to Parliament in respect of the language used.

    It is not the subjective intention of the minister or other persons who promoted the legislation. Nor is it the subjective intention of the draftsman, or of individual members or even of a majority of individual members of either House.”18 In other words the political and authoritative process of Parliament passing legislation produces the text of legislation, the intention of which is found by the courts looking at the wording of that legislation.19,20

    Further to the questions of legal interpretation, the choice of words in this area has important political consequences. Graham Aaronson QC made this point when he gave evidence to the Lords Economic Affairs Committee in January 2013:

    “Avoidance” is a rather unfortunate word in this context because avoidance can be regarded as a particularly nasty thing to do or, if it is an accident, it is a very sensible thing to do—you avoid an accident. So I would rather use words that are less emotive when describing the intellectual process in determining whether you should be paying a smaller amount of tax than you would otherwise pay.

    You can call that tax planning because it is planning. Whether it is good planning or bad planning, whether it is abusive planning or innocent planning, it is planning. Tax avoidance is a very dangerous expression to use if you want to have a serious debate because one person’s avoidance is another person’s perfectly reasonable planning.21

    However, the term ‘tax avoidance’ has continued to be widely used, and in a paper on its tax policy over the 2010-15 Parliament, the Coalition Government provided a terminology that, arguably, illustrates how the debate about this issue changed over this period:

    17 op.cit. para 14. For more details on the distinction between evasion and avoidance

    see, Hamilton v Hamilton & Anor [2016] EWHC 1132 (Ch) (13 May 2016) para 37. 18 R v Secretary of State for Environment, Transport and the Regions [2001] 2 AC 349. 19 See also Lord Reid in Black-Clawson International Ltd v Papierwerke Waldhof-

    Aschaffenburg AG [1975] A.C. 591, at 613: “In seeking for the intention of Parliament we are seeking not what Parliament meant but the true meaning of what they said”. On Parliamentary intention see also Judith Freedman, “Interpreting tax statutes: tax avoidance and the intention of Parliament”, Law Quarterly Review 2007, 53 at 72 et seq. especially the literature referred to there.

    20 Michael Devereux, Judith Freedman & John Vella, Tax Avoidance, OCBT December 2012 p4. See also, “Seeking after meaning”, Taxation, 21 April 2016, and for another view barrister Jolyon Maugham’s blog post, “Is tax avoidance like hardcore pornography?”, Waiting for Godot blog, 30 August 2016.

    21 Draft Finance Bill 2013: Oral & Written Evidence, March 2013 pp12-13 (Q10)

  • 8 Tax avoidance and tax evasion

    Clarifying tax terminology

    Tax evasion is always illegal. It is when people or businesses deliberately do not declare and account for the taxes that they owe. It includes the hidden economy, where people conceal their presence or taxable sources of income.

    Tax avoidance involves bending the rules of the tax system to gain a tax advantage that Parliament never intended. It often involves contrived, artificial transactions that serve little or no purpose other than to produce this advantage. It involves operating within the letter – but not the spirit – of the law. Most tax avoidance schemes simply do not work, and those who engage in it can find they pay more than the tax they attempted to save once HMRC has successfully challenged them.

    Tax planning involves using tax reliefs for the purpose for which they were intended, for example, claiming tax relief on capital investment, or saving via ISAs or for retirement by making contributions to a pension scheme.

    However, tax reliefs can be used excessively or aggressively, by others than those intended to benefit from them or in ways that clearly go beyond the intention of Parliament. Where this is the case it is right to take action, because it is important that the tax system is fair and perceived to be so.22

    22 HM Treasury, Tackling tax evasion & avoidance, Cm 9047, March 2015 p5 (Box 1.A:

    Clarifying tax terminology). See also, PQ HL4794, 25 February 2015

  • 9 Commons Library Briefing, 30 January 2019

    2. The tax gap In recent years HM Revenue & Customs has produced estimates of the tax gap - the difference between tax that is actually collected and that which is ‘theoretically due’:

    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) ... An equivalent way of defining the tax gap is the tax that is lost through non-payment, use of avoidance schemes, interpretation of tax effect of complex transactions, error, failure to take reasonable care, evasion, the hidden economy and organised criminal attack.23

    In June 2018 HMRC published revised estimates, which put the total tax gap at £33 billion for 2016/17, representing 5.7% of total tax liabilities.

    • The UK tax gap in 2016-17 is estimated to be £33 billion. This is 5.7% of total theoretical tax liabilities and the same level as 2015-16.

    • There has been a long-term reduction in the overall tax gap, from 7.3% in 2005-06 to 5.7% in 2016-17.

    • The tax gap for income tax, National Insurance Contributions and Capital Gains Tax (IT, NICs and CGT) was 4.2% in 2016-17 — its joint lowest level since 2009-10.

    • There has been a long-term reduction between 2005-06 and 2016-17 for the VAT (Value Added Tax) gap (12.5% to 8.9%) and for the duty-only excise tax gap (8.1% to 5.8%).

    23 Measuring Tax Gaps 2013, October 2013 p6. The department’s work on the tax gap

    is collated on

  • 10 Tax avoidance and tax evasion

    • The Corporation Tax gap has been on a long-term downward trend, from 12.4% in 2005-06 to 7.4% in 2016-17.

    • There has been a steady downward trend in the avoidance tax gap, from £4.9 billion in 2005-06 to £1.7 billion in 2016-17.24

    HMRC suggest the percentage figure is a better measure of compliance over time, “because it takes account of some of the effects of inflation, economic growth and changes to tax rates, whereas the cash figure does not. For example, in a growing economy where the tax base25 is increasing, even if the percentage tax gap remained level, the cash figure would grow.”26 Notably HMRC describe the tax gap as “a useful tool for understanding the relative size and nature of non-compliance”:

    This understanding can be applied in many different ways:

    • it provides a foundation for HMRC’s strategy. Thinking about the tax gap helps the department to understand how non-compliance occurs and how HMRC can address the causes.

    • drawing on information on how other countries manage their tax gaps, our tax gap analysis provides insight into which strategies are most effective at reducing the tax gap.

    • although the tax gap isn’t sufficiently timely or precise enough to set performance targets, it provides important information that helps us to understand our long-term performance.27

    The report provides a breakdown of the gap by reference to the different types of taxpayer behaviour that lead to a shortfall in receipts, though as they observe, the “estimates give a broad indication of behaviours and are calculated using assumptions and judgment.” This puts the annual cost of tax avoidance in 2016/17 at £1.7 billion:28

    24 HMRC press notice, Low tax gap results in £71 billion for UK public services, 15 June

    2018; HMRC, Measuring Tax Gaps 2018, June 2018 p4, p6 25 The aggregate value of the financial streams or assets on which tax can be imposed. 26 Measuring Tax Gaps 2018, June 2018 p7 27 op.cit. p3 28 op.cit. p11. 1Figures may not appear to sum due to rounding.

  • 11 Commons Library Briefing, 30 January 2019

    The report gives a more detailed description of exactly what type of behaviour falls under each of these categories:29

    1 More information and frequently asked question on the OECD’s Inclusive Framework

    on BEPS can be found at:

    29 op.cit. p20

  • 12 Tax avoidance and tax evasion

    As noted in its summary, the report also provides estimates of the tax gap by type of tax, and by customer group. In the latter case, it is estimated that over 40% of the tax gap is attributed to small businesses, while 10% is attributed to individuals:

    Figure 1.5 shows the 2015-16 and 2016-17 tax gaps by customer group. In both 2015-16 and 2016-17 more than 40% of the tax gap was attributed to small businesses. Individuals account for the smallest share of the tax gap in both 2015-16 and 2016-17.

    This section of the report underlines that, “an additional element of judgment and uncertainty is present in the customer group estimates”:

    Table 1.4 (at the end of the chapter) shows a time series of tax gap by customer group, as a percentage of total theoretical liabilities. This shows that the breakdown of the tax gap by customer group over the past five years has been broadly stable.30

    In September 2011 the Treasury Committee took evidence from HMRC on its action to close the tax gap; during this session Dave Hartnett, then Permanent Secretary for Tax and his colleague, Melanie Dawes, Director General, Business Tax, explained how analysis of the size of the tax gap shaped the department’s priorities:

    Dave Hartnett: I think … for us, the tax gap is quite an important tool, if I can put it that way, in promoting understanding of all the causes of non-compliance and helping us to focus on ways of reducing them. If I can put it this way, it is a bit like a long-term health check for us. A definition of it is the difference between what the Government can expect to receive and actually do receive, but I think, as you may have seen, unlike some other countries, we include avoidance in it, and also the slightly contentious issue of measuring that in line with the spirit of the law-what the intention of Parliament might have been …

    Q180 Stewart Hosie: … Some of the professional bodies take the [the department’s estimate of the tax gap] and say it is inflated because it includes legitimate disagreements over legal interpretation, which is a perfectly valid position for them to take. Others say it is understated due to inadequate information. You

    30 Measuring Tax Gaps 2018, June 2018 p10

  • 13 Commons Library Briefing, 30 January 2019

    say it is your best guess but you invest a lot in calculating it … What more do we all need to do to get this right, given how important it is?

    Dave Hartnett: …On legal interpretation and other things in particular, the focus we put on legal interpretation is where we lose-but not while the argument is going on-and where the Government are therefore going to receive less than expected. We recognise that "legitimate debate" contention around issues will always happen.

    Melanie Dawes: Yes, and it is important to say on avoidance that where we resolve an issue with a taxpayer and we agree with their legal interpretation, we do not record that as a tax cut. We record that as the tax gap having been closed because the treatment has been agreed. In terms of what we should be doing with this …we think it is a very useful strategic tool. We used it to get a feel for the overall big areas of risk when we were putting together our plans for the spending review, for example, so it is very helpful. The important thing is not to use it in the wrong way, so we are not using it for performance targets to measure up actual operation performance in the business.31

    In 2010 HMRC’s approach to measuring the tax gap was questioned, in the context of alternative estimates published by Tax Research UK, which put the tax gap in the region of £70-£120 billion.32 In a debate on tax avoidance in June 2010, Treasury Minister David Gauke acknowledged these figures implied the gap was much, much greater than HMRC had estimated, but went on to argue that the analysis was ‘deeply and systematically flawed’; the Ministers comments are worth reproducing at some length:

    It must be accepted that in preparing estimates, organisations external to Government have access to much less data than HMRC ... However, having considered the methodology used to produce the figure of £120 billion, I must tell the House that even a brief analysis reveals that it is deeply and systematically flawed.

    For example, Tax Research LLP estimates total revenue lost due to tax evasion at £70 billion. That figure is obtained by applying the percentage tax gap from VAT to direct taxes. There are two main problems with that. First, different tax regimes have different tax gaps. According to independent research by the OECD, for example, the operational experience shows that tax regimes such as pay-as-you-earn that withhold tax at source have far smaller tax gaps than other types. To apply the VAT gap percentage to taxes collected by PAYE or otherwise at source greatly overstates the tax gap, because the VAT tax gap is considerably higher.

    Secondly, an element of double counting is involved, although, to be fair, that might not be apparent from the numbers used by Tax Research. The VAT gap already includes amounts due to tax avoidance and tax debt. Applying that percentage to direct taxes and then adding additional amounts for both avoidance and tax

    31 Administration and effectiveness of HMRC: closing the tax gap – Oral Evidence, HC

    1371-iii, 12 September 2011 Q178, Q180 32 Tax Research UK is run by the writer Richard Murphy. See, Tax Justice and Jobs: the

    business case for investing in staff at HMRC, March 2010. These estimates have been widely quoted in the press: eg, “On charity George Osborne must stand up to the self-interested super-rich”, Guardian, 16 April 2012 & “Editorial - Tax: share the burden fairly or anger will grow”, Observer, 15 April 2012.

  • 14 Tax avoidance and tax evasion

    debt, as does Tax Research, results in the double counting of losses from the avoidance of direct taxes and non-payment.

    The Tax Research estimate of tax debt is £28 billion. That is a snapshot figure of all tax owed to HMRC on 31 March 2009, which does not represent the actual losses to the Exchequer from non-payment. Almost all tax owed to HMRC is eventually paid, sometimes within days of becoming due. A proportion of debts outstanding are in staged repayment plans, such as those covered by the business payment support service. Only the tax debt written off as uncollectable by HMRC is an actual loss to the Exchequer from debt. That is therefore the amount that HMRC uses in its estimate of the tax gap, which in the 2007-08 tax gap figures was not £28 billion but £3 billion …

    The final and most significant point concerns tax loss due to tax avoidance, which Tax Research estimates at £25 billion. That estimate includes the use of legitimate reliefs promoted by the Government to encourage certain activities, such as capital allowances to encourage investment and research and development tax credits to encourage innovation. Tax avoidance is generally regarded as the use of legal structures and allowances to reduce tax bills in manners not intended by Parliament when enacting the legislation. It is simply nonsense to categorise as tax avoidance the use of allowances for purposes intended by Parliament ... Furthermore, the Tax Research estimate does not provide HMRC with any credit for the significant amount of tax that it recovers by challenging avoidance schemes. The figure of £25 billion therefore seems somewhat wide of the mark.33

    In a follow-up report published in March 2012 the Treasury Committee expressed some doubts as to the value of completing such a detailed annual assessment of the tax gap: “HMRC should not be aiming to collect more tax at any cost, but should be ensuring that all taxpayers pay the correct amount of tax … [in addition] the tax gap calculation is … misleading as a comparison from year to year, because its size depends on a number of factors which have nothing to do with whether the correct amount of tax is being paid, for instance the applicable rates of tax.”34 A longer extract is given below:

    The tax gap can be a useful concept for assessing trends in the amount of possible unpaid tax. We are not, however, convinced that the process of calculating, publishing and publicising an aggregate figure for the tax gap is a sensible use of HMRC's limited resources. The aggregate tax gap figure is misleading and risks focusing HMRC on the wrong task as it only provides an order of magnitude.

    We recognise that it is useful for HMRC's employees to have some idea of the difference between what HMRC should be collecting and what is collected, particularly in the case of criminal activity. However, in other areas it would be more useful for it to identify ambiguities in tax law rather than employ resources in calculating how much tax would be collected if everyone shared its interpretation of the law. Separate reports on how much tax was lost through criminal activity and areas where HMRC had encountered different interpretations of tax law would be a better use of resources. We would welcome further submissions from

    33 HC Deb 16 June 2010 cc190-1WH 34 Twenty-ninth report: Closing the tax gap – HMRC’s record at ensuring tax

    compliance, 9 March 2012, HC 1371 of 2010-12, para 14-15

  • 15 Commons Library Briefing, 30 January 2019

    HMRC and tax experts both on how the tax gap calculation can be improved, and on whether it serves any useful purpose in HMRC's work.35

    In turn the Government gave a robust defence of HMRC’s approach:

    HMRC believes the aggregate tax gap analysis is a valuable tool in prioritising resources, as the Committee recommends, and agrees that the focus of work on tax gaps needs to be proportionate and help the best use of the resources available. HMRC does identify areas where there are different interpretations of tax law. Quantifying the scale of these issues helps set priorities for policy development and resource deployment. This allows the department to compare these priorities against tax losses resulting from other types of behaviour.

    There have been recommendations from both the Public Accounts Committee and the National Audit Office36 to develop and use tax gap estimates in this way, and to publish the figures. In the interest of clarity HMRC thinks it makes sense to describe all of our tax gap estimates in one document so that a reader can understand more easily how the figures are calculated and the methodological issues which underpin them.37

    HMRC also provided a detailed submission on measuring the gap, specifically in relation to the estimates published by Tax Research UK.38 The department argued that the £120bn figure “could be dangerous if not countered by HMRC’s published estimates … partly because they give a misleading view of HMRC’s effectiveness and the amount of uncollected revenues. But also because they encourage the perception that deliberate non-compliance in the UK is the norm—a perception which could encourage further non-compliance.”39

    The submission raises similar concerns to those set out by the Exchequer Secretary to the House in June 2010 – quoted above – though further detail is given on the question of measuring tax evasion. Richard Murphy had claimed the annual cost of evasion was £70 billion – while HMRC had put it at £26 billion. The primary explanation for this disparity is that Mr Murphy had assumed that the size of any tax gap would be the same across all taxes:

    Tax Research UK particularly criticises HMRC’s use of bottom-up methodologies to measure the direct tax gap and applies the VAT gap rate to arrive at an evasion figure for all direct taxes. This is highly inappropriate for three reasons:

    • the VAT gap includes all forms of non-compliance such as non-payment, avoidance and criminal attack as well as

    35 HC 1371 of 2010-12 para 16-18. For a critique that these estimates should ignore

    the sums that would be paid if taxpayers complied with ‘the spirit of the law’ see, “The tax chink”, Tax Journal, 19 December 2014.

    36 Following the NAO 2003 report Tackling Fraud against the Inland Revenue PAC recommended ‘The Revenue should focus their work on making a reasonable estimate of the tax gap so they can judge the effort needed for a given reduction in losses’. Following the NAO 2007 report Management of Large Business Corporation Tax PAC recommended ‘The department does not have a robust measurement of the corporation tax gap… it should develop such a measure and publish the result, with separate estimates for large businesses and small and medium sized businesses.’

    37 First special report, 18 May 2012, HC 124 of 2012-13 p2 38 Appendix 2, First special report, 18 May 2012, HC 124 of 2012-13 pp11-18 39 op.cit. p15

  • 16 Tax avoidance and tax evasion

    evasion. So the VAT gap arises from much more than just suppression of turnover that might feed through to evasion of direct taxes;

    • the use of the VAT gap in this way counts debt and avoidance twice for direct taxes—an arithmetical error, and

    • very importantly, tax gaps vary considerably by type of tax.

    Tax gaps for taxes using deduction of tax at source, or with significant third party reporting requirements are much lower than for taxes without these features. This is established by very detailed research in the US and Denmark40 and borne out by UK experience.

    Using the percentage VAT gap—9.7% for 2010–11 is the latest estimate—to estimate a tax gap for business profits of companies and sole traders may give an answer of the right order of magnitude. But it gives completely the wrong answer for the income tax due from employees where PAYE is operated. International research suggests a tax gap for this of around 1%. This incorrect assumption accounts for £30bn of the £120bn estimate.

    Tax Research UK have supported their evasion estimate through comparison with an academic paper produced for the World Bank41 which contains estimates of the size of the hidden economy for a number of countries including the UK. The estimate for the hidden economy in the UK is 13% of GDP which Tax Research UK then convert to a tax gap estimate of £73bn.

    Rather than support the Tax Research UK figure we believe that this comparison, if anything, further undermines it. The methodology uses a variant of a ‘currency demand’ model to estimate the size of the hidden economy. The use of ‘currency demand’ models for this purpose has been comprehensively and extensively criticised in unusually strong terms by other academics42,43 and national statistical bodies.44,45

    The main theme of the criticism is that the methodology relies upon the application of assumptions which result in estimates that are much too large to be plausible. For example the Australian Bureau of Statistics explore what it would mean for Australia to have a hidden economy of 15% (as predicted in an application of this methodology by the same author).

    Critically they point out that a hidden economy of this overall size implies much higher levels of non-compliance in the areas of the economy where there is scope for underreporting. For example it implies underreporting of around 50% for every single self-employed taxpayer—which they reject as being implausible. Certainly non-compliance of the scale suggested for the UK is

    40 Denmark, Henrik J Kleven, et. Al, Unwilling or Unable to Cheat? Evidence from a

    Randomized Tax Audit Experiment, Tax Gap for Tax Year 2006, IRS 41 Friedrich Schneider, Andreas Buehn, Claudio E. Montenegro, Shadow Economies All

    over the World New Estimates for 162 Countries from 1999 to 2007, July 2010 42 Trevor Breusch, Estimating the Underground Economy MIMIC models, November

    2005 43 Konstantin Kholodilin, Ulrich Thiessen, The Shadow Economy in OECD Countries:

    Panel Data Evidence, May 2011 44 Australian Bureau of Statistics, The Underground Economy and Australia’s GDP,

    March 2004 45 Statistics Canada, Estimating the Underground Economy in Canada 1992–2008,

    June 2011

  • 17 Commons Library Briefing, 30 January 2019

    completely incompatible with all of our customer research and operational data.

    As a result of the general concern about the use such models a body consisting of a number of international organisations including OECD, IMF, the World Bank, UN and the European Commission have issued a strongly worded statement advising against use.46 Part of their statement says: Unofficial estimates are often based on macroeconomic models. For instance, they may assume a fixed relation between the size of the economy and money in circulation. Such methods may yield grossly exaggerated results, attracting the attention of politicians and newspapers and thereby gaining wide publicity.

    In a more recent report ‘Reducing opportunities for tax non-compliance in the underground economy’,47 OECD comment: the OECD (and other international organisations) reject these methods as being useful in obtaining exhaustive estimates of GDP or in estimating underground production and have observed that when applied they produce for most countries spectacularly high estimates of NOE [Non Observed Economy] activities which have no sound scientific base but which, nevertheless, attract much attention from the media and other parties.48

    Following these exchanges, these arguments were reiterated in a pair of articles published in the journal Taxation in summer 2012 – first by Ed Hagger, a deputy director at HMRC, and second by Mr Murphy.49

    Reviewing the exchange, the then editor, Mike Truman, suggested one reason for the disagreement was that the Tax Justice approach was trying to measure something fundamentally different; in Mr Murphy’s view the gap was the difference between the contribution society ‘expected’ in tax and the amount actually paid, so that the legitimate use of corporate tax reliefs, say, could be termed ‘avoidance’: “this is a logical and consistent approach, but it does not measure the gap between the tax HMRC could collect and what they do collect.”50

    In December 2013 the Public Accounts Committee published a report on HMRC’s annual accounts, in which it was strongly critical of the tax gap, arguing that it did not “include an assessment of the amount of tax lost through tax avoidance” and so “represents only a fraction of the amount that the public might expect to be payable.”51

    In evidence Edward Troup (Tax Assurance Commissioner, HMRC) and Jim Harra (then Director-General, Business Tax, HMRC) were both asked if these figures included estimates of the amounts of money that many

    46 Estimates of the unrecorded economy and national accounts, Declaration of the

    Intersecretariat Working Group on National Accounts, October 2006 47 Forum on Tax Administration : SME Compliance sub-group, Reducing opportunities

    for tax non-compliance in the underground economy, OECD, January 2012 48 Treasury Committee, First special report, 18 May 2012, HC 124 2012-13 pp17-18 49 “Mind the gap” & “What’s the tax gap?”, Taxation, 8 & 23 August 2012 50 Mr Truman concluded that “as a definition, and an estimate, of the tax gap”, Mr

    Hagger had made “a better, if less philosophically satisfying case” (“The third round”, Taxation, 13 September 2012).

    51 Public Accounts Committee, Thirty-fourth report: HMRC Tax Collection – annual report & accounts 2012/13, 19 December 2013, HC 666 of 2013-14 p8

  • 18 Tax avoidance and tax evasion

    felt companies, like Starbucks, Amazon and Google, should be paying.52 Both witnesses suggested that this would be misleading:

    Q231 Chair: Am I right in saying that the sort of issues that we were discussing in relation to Starbucks, Amazon and Google … and the tax that could have been payable from those companies is not included, because it is not seen to be within the rules?

    Edward Troup: The tax gap that we measure is a compliance tax gap.

    Q232 Chair: It does not include that. I am asking whether it includes the Starbucks scenario, the Amazon scenario or the Google scenario.

    Edward Troup: It does not include the amounts of tax that some of the commentators have said these companies should pay. That is correct …

    Q258 Chair: At the moment … your tax gap is purely the tip of an iceberg.

    Jim Harra: Our tax gap is a complete measure of non-compliance with current tax law. It does not include a measure of how much additional tax might be collected if you changed the policy.53

    Many commentators have continued to criticise this approach to estimating the tax gap, and have made the case that this type of analysis should provide figures for the amounts of tax that should be paid. In January 2015 an alliance of charities, including Christian Aid and Oxfam, published proposals for a ‘Tax Dodging Bill’, to ensure that companies, particularly multinationals, paid their “fair share” of taxes.54 The authors argued that “tax dodging” encompassed three different types of behaviour (emphasis added):

    There is no single, agreed, definition of “tax dodging”, but it is a phrase that has become widely accepted and understood by the public in the UK and is thus used here in place of a more specific definition of the behaviours that we are asking parties to tackle in this campaign.

    In this case we include in our definition three broad types of behaviour: 1) Using opportunities provided by the tax system to attempt to reduce tax payments in a way that, on examination, would be deemed to be outside the law and thus illegal; 2) Using opportunities provided by the tax system to attempt to reduce tax payments in a way that is deemed legal, but is contrary to the intention of the law; 3) Using tax incentives, that are provided for in law, but which are not proven to provide the economic or social benefits that would justify the loss of tax revenue.55

    Writing on this question some years ago, Judith Freedman, Professor of Taxation Law at Oxford, argued, “how much tax should be paid is not a

    52 In late 2012 there was considerable media coverage contrasting the scale of these

    multinationals’ operations and the amounts of tax they paid – an issue on which the Committee published a critical report (HC 716 of 2012-13). For more details see, Corporate tax reform (2010-2015), Commons Briefing paper CBP5945, 25 July 2016.

    53 Thirty-fourth report, HC 666 of 2013-14 para 3 (fn 7), Ev25, Ev27 54 press notice, Parties given 200-day challenge to fight back at

    global tax dodgers, 26 January 2015 55 Oxfam, The Tax Dodging Bill: what it is and why we need it, January 2015 p19

  • 19 Commons Library Briefing, 30 January 2019

    question of moral intuition but a question of what is imposed by law.”56 Taking up this point more recently, the tax barrister Jolyon Maugham, suggested that “as a tool for delivering tax outcomes, morality is highly imperfect: subjective, imprecise, and enforceable indirectly at best.” However, there was a risk for the tax community from ignoring the truism: that which is legal isn’t always moral:

    Discrimination on the grounds of ‘colour’ (to use the language of the Act) did not become immoral only on 8 December 1965 when the first Race Relations Act received royal assent … At the second reading of the Race Relations Bill, Peter, later Baron, Thorneycroft, argued that one should not legislate against discrimination on the grounds of ‘colour’; it was too soon. As he put it: ‘The British people can be led, but they cannot be driven.’

    Thorneycroft was right, albeit in only the narrowest sense. That there can be a relationship between law and morality is a basic requirement of the law. The law becomes difficult to enforce if it is too advanced of morality: this was the Baron’s contention. However, the law falls into disrepair where it fails to keep pace with changing mores. And that, Dear Reader, is what we have here.57

    Turning back to the tax gap, in their report in December 2013 the Public Accounts Committee argued that HMRC “should be explicit about the limitations of its current measure of the tax gap”:

    The tax gap is a theoretical concept to assess tax revenues lost to the Exchequer. It does not cover the full amount lost through tax avoidance. It sets out to measure the difference between the amount collected and the amount that should be collected. The stated tax gap underestimates the amount of money lost to the Exchequer … HMRC should be explicit about the limitations of its current measure of the tax gap and gather intelligence about the value of tax lost through aggressive tax avoidance schemes.58

    At the time HMRC published a press notice in which they took issue with this point:

    HMRC’s methodology for measuring the tax gap is robust and has been endorsed by the International Monetary Fund (IMF). Contrary to what the PAC report says, the published tax gap does include a measure of the tax lost from avoidance, as well as evasion, but it can only measure non-compliance with existing tax law – it cannot estimate how much tax might be due if tax laws were different.

    HMRC can only bring in the tax that is due under the law and we cannot collect what is not legally due, however much the Committee might want us to.

    The Public Accounts Committee already knows that we cannot prosecute multinational companies for activities that are lawful within the international tax framework and has itself acknowledged that the kinds of international tax planning by large businesses that it has reviewed are lawful.59

    56 “Chapter 8: Is tax avoidance ‘fair’?”, in, Chris Wales (ed)., Fair tax: towards a modern

    tax system, Smith Institute 2008 p94. 57 “The uses of morality in tax”, Tax Journal, 19 December 2014. See also Mike

    Truman’s valedictory editorial in Taxation: “So long …”, 4 March 2015. 58 Thirty-fourth report, HC 666 of 2013-14 p5 59 HMRC press notice, HMRC responds to PAC report, 19 December 2013

  • 20 Tax avoidance and tax evasion

    Subsequently the Government published a response to the Committee’s report, endorsing HMRC’s approach:

    The Government disagrees with the Committee’s recommendation. The tax gap definition, calculation and the limitations are described in detail in the departments’ annual tax gap publication. The tax gap measures compliance with existing tax law and is informed by the intelligence the department gathers on the use of avoidance schemes. It does not cover how much tax might be paid if tax laws were different.60

    HMRC has continued to produce these estimates each year, and following the publication of its 2015 report, Edward Troup, then HMRC Permanent Secretary, restated why, in his view, it was “one of the most important documents we publish”:

    An Ipsos MORI poll of the British public in September 2015 showed that they believe 36% of their compatriots have avoided paying the full amount of tax on income or purchases in the past year. However, the proportion of people who admitted they had done so in the same anonymous survey was just 6%. Due in part to our work in tax gap estimation, we know that more than 90% of the tax that is due is paid with little or no involvement from HMRC.

    This “perception gap” between what people think about non-compliance and the objective truth is important; if people think everybody is at it, they are more likely to dodge tax themselves. If HMRC can show objectively, transparently and clearly that non-compliance is not nearly as big a problem as people’s assumptions suggest, we can increase tax morale, reinforce social norms and – cyclically – reduce the tax gap further.61

    In June 2016 Mr Troup gave evidence to the Treasury Select Committee, and on this occasion the then Chair of the Committee, Andrew Tyrie, asked “just how much of the tax gap is ever going to be eradicable in practice, given human nature.” In response, Mr Troup made a couple of points:

    [The tax gap is] in a very real sense, the best measure of the long‑term performance of a tax administration, because it is effectively the tax that is not collected, for whatever reason, and our goal should always be to reduce [it] …

    We are always going to have a tax gap, because there are always going to be criminal attacks; there is always going to be evasion … We think what we are doing, particularly with our digital transformation, will give taxpayers, particularly business taxpayers, the tools that effectively allow them to reduce their errors … [Moreover] no country in the world has an observed tax gap significantly lower than ours, which means we are already pushing at the boundaries of what is doable with current technology, with the current tax system.62

    Following publication of the 2018 edition of the tax gap, Chris Sanger (global head of tax policy at EY), writing in the Tax Journal, noted that “at first glance, the results for this year look uninspiring” as the

    60 HM Treasury, Treasury Minutes, Cm 8819, February 2014 p13 61 “Measuring the gap”, Taxation, 15 October 2015 62 Oral evidence: HMRC Executive Chair and Chief Executive, HC 232, 8 June 2016


  • 21 Commons Library Briefing, 30 January 2019

    percentage figure “had been relatively constant since 2011/12.” He went on to argue that “dismissing the report because of the lack of movement in the year is to be misunderstand the purpose of the tax gap figures”:

    HMRC uses the information to inform its operational strategy, to compare itself to other countries and to track its long-term performance. And it’s clear that the tax gap has impacted HMRC’s strategy. Consider the fact that the largest risk to the Exchequer, at over 40%, comes from small business. Also, the largest source of tax risk is failure to take reasonable care, which together with error, makes up more than a quarter of the tax gap. This fits with HMRC’s policy of mandating the ‘making tax digital’ requirements.63

    Mr Sanger went on to note that the figures provide “an opportunity for HMRC to demonstrate its success, something that can be difficult given the necessary and wholly justified constraints to taxpayer confidentiality”, citing the evidence that HMRC’s director of customer strategy, David Richardson, gave in April that year to the Treasury Sub-Committee, as part of an inquiry into tax avoidance and evasion.

    In his evidence Mr Richardson was asked whether HMRC’s compliance policy was unfairly focused on smaller traders:

    Q2 Chair: One thing that is sometimes said about you is that you love to go after the sole trader, the white van man, the person running a childcare business from home, as opposed to the wealthiest, those with the most money and those doing the biggest amounts of avoidance. The figures that you have made public would suggest that, to some extent—that you are aiming at people primarily with less money and not looking at getting large amounts of money from richer individuals.

    David Richardson: That is said sometimes; it is not true. Our compliance policy is the same right across the different sectors of the population, which is to try to prevent non‑compliance happening before it would otherwise happen, and then to pursue people where there is non‑compliance to get the correct amount of tax in. If you make the contrast between large business and small business, which is the one that is often suggested in the papers—that we go after small businesses and let large businesses off—that is completely untrue.

    If you look at our investigation rate, you will find that over one in two of every large business is under investigation by us at any one time and, last year, we collected £8 billion in compliance yield from large business. If you look at small businesses, the number of businesses under investigation at any time is about one in 10. It is important that we investigate small businesses, because they make up 46% of the tax gap, so we need to have a presence with small business. But large business represents a particular risk to us, and we investigate large businesses much more frequently and with much greater technical expertise than at the small end.

    Q3 Chair: If we take people you define as wealthy individuals, how certain can we be that your estimate of the tax that is being

    63 “The tax gap: a right riveting read?”, Tax Journal, 6 July 2018. For more details of

    HMRC’s programme to introduce a new system of digital tax accounts see, Making Tax Digital, Commons Briefing paper CBP7949, 24 December 2018.

  • 22 Tax avoidance and tax evasion

    avoided by them is an accurate one, and that you are not understating the amount of money?

    David Richardson: We publish a tax gap. We are one of the few countries that publish a tax gap. That has been looked at by the IMF, by Government statisticians, so we have reasonable confidence in the tax gap and stand by that. We publish it so that people can see what is going on. What is important with the tax gap is the trend. By applying it in the same way every year, you can see a downward trend over the last 10 years.

    We are now at 6%, which is the lowest it has ever been and certainly one of the lowest of the countries that produce a tax gap. It is a good indicator of the extent of evasion and avoidance. Like all statistics, it is unlikely to be 100% accurate, but it is a consistent measure that shows a clear trend and a reliable, broad view of the make-up of the gap.64

    64 Treasury Sub‑Committee, Oral evidence: Tax avoidance and evasion, HC 934, 17

    April 2018 Qs2-3

  • 23 Commons Library Briefing, 30 January 2019

    3. The Coalition Government’s approach

    3.1 A new anti-avoidance strategy The Coalition Government set out its priorities for tax policy in its agreement published in May 2010, announcing that as a whole the tax system should be made “more competitive, simpler, greener and fairer.” On avoidance, the agreement stated that the Government would make “every effort” to tackle it “including detailed development of Liberal Democrat proposals.”65

    In Opposition the Liberal Democrats had pin-pointed a number of anti-avoidance measures, including a new General Anti-Avoidance Principle - or ‘GAAP’ - that they estimated could raise up to £2.2bn a year. In their General Election briefing on the major parties’ tax proposals the Institute for Fiscal Studies (IFS) commented on the viability of a GAAP, citing earlier work by the Tax Law Review Committee:

    A general anti-avoidance principle (GAAP) is intended to help prevent behaviour that reduces tax liabilities through transactions that satisfy the letter of the law but are said to violate the spirit of the law in some way. In the past, concerns have been raised that a GAAP would be inherently vague and would potentially create uncertainty for taxpayers, and therefore that a resource-intensive ‘pre-clearance’ mechanism would be required whereby taxpayers could check in advance with HMRC whether particular arrangements would fall foul of the GAAP. The Liberal Democrats’ response to these concerns is to propose that ‘pre-clearance’ be provided by a new branch of HMRC which would charge commercial rates for such advice. This is a reasonable solution, but note that in effect it simply shifts the cost of pre-clearance from HMRC to the taxpayer.

    The effects and effectiveness of a GAAP would depend a great deal on exactly how it was worded and on how the courts interpreted it. International experience has been varied in these respects. It is not a panacea and is unlikely to remove the need for more specific anti-avoidance legislation, but it could potentially raise some revenue.66

    To estimate how much a GAAP would yield, the Liberal Democrats have taken the Government’s estimates of how much it loses from both ‘avoidance’ and differences in ‘legal interpretation’, and simply guessed what fraction of this total a GAAP would deliver: 20% for income tax, NICs and capital gains tax, and 25% for corporation tax. Yet a GAAP of the kind they describe would do little to address differences in ‘legal interpretation’.

    The HMRC document from which the Liberal Democrats take their estimate of the tax gap describes the difference between ‘avoidance’ and ‘differences in legal interpretation’. Avoidance,

    65 HMG, The Coalition: our programme for government, May 2010 p30 66 See Bowler, T. (2009), Countering tax avoidance in the UK: which way forward?, IFS

    Tax Law Review Committee Discussion Paper No. 7 … for an analysis of the impact a GAAP might have had on tax avoidance had the current Government introduced one following consultation in 1998.

  • 24 Tax avoidance and tax evasion

    according to HMRC, is “the use of schemes or arrangements that seem to HMRC to have been implemented primarily in order to deliver a tax advantage”; by contrast, “Legal interpretation relates to the potential tax loss from cases where HMRC and customers have different views of how, or whether, the law applies to specific and often complex transactions. Examples include the correct categorisation of an asset for allowances, the allocation of profits within a group of companies, or VAT liability of a particular item. In these situations the customer will have an alternative view of the law and of how it applies to the facts in their case to that held by HMRC.”

    A GAAP as normally envisaged would address avoidance but not differences in legal interpretation, on these definitions; and indeed it is notable that the stated aim of the Lib Dems’ GAAP is to target transactions “constructed in such a way that the sole or main purpose, or one of the main purposes, is to reduce or eliminate tax liability” – a phrase that is almost indistinguishable from the above definition of ‘avoidance’ rather than ‘legal interpretation’

    To raise £2.2 billion, therefore, the fractions of ‘avoidance’ alone that a GAAP would need to eliminate are much larger than the 20% and 25% that Liberal Democrats assume. Since these percentages are arbitrary guesses in any case (and we have no better way of estimating the yield), it is possible that larger percentages would turn out to be accurate. But relying on bringing in £2.2 billion is clearly less cautious than the 20% and 25% numbers might suggest.67

    In its first Budget in June 2010 the Government stated that as part of “wider work on improvements to the tax policy making process” it would “engage informally with interested parties to explore whether there is a case for developing a General Anti-Avoidance rule.”68 In September, just prior to the Spending Review, the Chief Secretary to the Treasury announced that HMRC would receive an extra £900m of funding for a number of additional activities over 2011-2015 to improve its collection record, by reducing the current incidence of both avoidance and evasion.69 In turn the Spending Review the next month stated that this extra £900m would bring in “an additional £7bn a year in tax revenues by 2014/15”:70

    This will include:

    • a five-fold increase in criminal prosecutions to act as a deterrent to others;

    • a new dedicated team of investigators to crack down on offshore evasion;

    • more resources for the prevention of tobacco and alcohol fraud, an increase in registration checks, and a cyber team to address repayment fraud;

    67 Taxes and Benefits: The Parties’ Plans, IFS April 2010 p39 68 Budget 2010, HC 61 June 2010 para 2.114. The Government published more details

    of its approach at the time in, Tax policy making: a new approach, 22 June 2010 69 Liberal Democrats press notice, Alexander announces major clampdown on tax

    avoidance and evasion, 19 September 2010 70 Cm 7942 October 2010 pp 71-2

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    • dedicated tax experts to extend HMRC’s coverage of large businesses, focused on providing resources to tackle high risk areas; and

    • improving the scope of in house debt collection and placing up to £1 billion per year of tax debt to private sector debt collection agencies.

    It should be noted that this investment was in the context of a cut in HMRC’s total spending:

    Owen Smith: To ask the Chancellor of the Exchequer what effects he expects the outcomes of the comprehensive spending review to have on his Department's funding for HM Revenue and Customs in each year of the spending review period.

    Mr Gauke: The outcome of the spending review is that HMRC will be required to make savings of 25% in real terms on a straight line basis over the next four years and that they will re-invest £900 million to tackle non-compliance in the tax system. The overall net effect is a real terms reduction of about 15%.71

    At the time there were some concerns that the reductions to the HMRC’s budget and consequent cuts in staff would see an increase in tax evasion and avoidance,72 though the Government argued that there was not a binary relationship between the two:

    Mr Jim Cunningham: To ask the Chancellor of the Exchequer what his most recent assessment is of the relationship between the number of staff employed by HM Revenue and Customs (HMRC) and the amount of tax revenue obtained by HMRC.

    Mr Gauke: The amount of tax revenue received by the Government in any given year depends on a number of factors, including:

    • the state of the economy eg the level of personal and corporate income, consumption, saving and investment;

    • the structure of the tax system eg the rates, thresholds and reliefs in operation;

    • the level of compliance by taxpayers; and

    • HM Revenue and Customs' (HMRC) administration of the tax system, and the productivity of its compliance activities.

    Through the use of new technology and increases in staff productivity HMRC has increased the amount of revenue bought in as a result of its compliance activities from £7.5 billion in 2005-06 to £12 billion in 2008-09. Over the period April 2005 to April 2010, HMRC has reduced the number of full-time equivalent staff it employs by 23% (excluding the transfer of 4,641 FTE staff to the UKBA).73

    The Treasury Committee were critical of this funding decision, as part of their report on tax compliance published in March 2012:

    71 HC Deb 23 November 2010 c278W 72 For example, The Association of Revenue & Customs, Being bold : a Radical Approach

    to Raising Revenue and Reducing the Deficit, September 2010 & FDA press notice, Tax gap figure reinforces case for increased HMRC resourcing, 17 September 2010; see also, “A challenge to the Chancellor”, and “Closing the gap”, Taxation, 5 May & 6 October 2010

    73 HC Deb 11 October 2010 c242W

  • 26 Tax avoidance and tax evasion

    In the 2010 Spending Review, HM Treasury allocated £917 million to HMRC with the intention of generating an additional £7 billion in compliance yield annually and £18 billion over the four-year life of the Spending Review.74

    Given HMRC's estimate of the 2009-10 tax gap of £35 billion, this is a reduction of 20%, which is a very ambitious target … We accept that, based upon figures in HMRC's latest tax gap report, these seem to be sensible areas in which to invest. However the process by which the areas to be invested in, the amount to be invested, and the estimated additional yield were calculated and decided lacks transparency.

    Mr David Gauke MP, Exchequer Secretary, explained the process as follows: “[HMRC] came forward with a proposal saying, "This is what we think we can do to reduce costs and this is what we can do to reinvest in a way that would increase the yield". I think it would be fair to say that pretty well the HMRC bid was accepted by the Government. The Treasury kicked the tyres very hard and examined all the detailed proposals that were contained within it, which broke down to, "Well, this particular programme we think would cost X and produce Y". We examined the various proposals and, by and large, the HMRC bid was accepted, and that is why we reached the settlement that we did [HC 731 Q372].

    In a further memorandum intended to elaborate on this point, the Exchequer Secretary told us that: “HMRC came forward with a number of investment cases to further increase compliance and reduce the tax gap that the Treasury were satisfied with on that basis... The final £917m reinvestment proposals therefore met the test of standing up to intense Treasury scrutiny [HC 731 Ev 130].”

    Neither the Minister's oral evidence nor his supplementary evidence makes clear what criteria were applied to assess HMRC's proposals for investment, or whether this assessment was systematic. This makes it difficult for us to scrutinise in detail whether the areas to be invested in are the right ones, whether the estimated yield from each area is accurate, and whether proposals which were rejected should have been accepted.75

    The Committee went on to raise concerns that investments in this area might encourage an overly aggressive attitude by tax officers:

    We welcome the Exchequer Secretary's view that "the Treasury could, in theory, seek to invest in HMRC until the marginal pound invested brought not less than a pound in return... [but] in practice the Treasury considers each additional investment in HMRC on a case-by-case basis". However we encourage the Treasury to include in its consideration the question of whether the activity invested in will yield the right amount of tax and not just the greatest possible amount.76

    At the time of the 2011 Budget the Government published a strategy document on its anti-avoidance strategy. In the foreword to this, the then Exchequer Secretary, David Gauke, made the case for a new approach as follows:

    74 Spending Review Settlement 2010, Cm 7942, October 2010; Treasury Committee,

    Administration and effectiveness of HM Revenue and Customs, 30 July 2011, HC 731 of 2010-12 Q258

    75 HC 1371 2010-12 pp7-8 76 HC 1371 2010-12 p8

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    We inherited a tax system with a ‘tax gap’ of around £40 billion. More than a sixth of that is due to tax evasion – that is, illegally understating tax liabilities. But a further one sixth is estimated to be due to tax avoidance – that is, reducing tax liabilities by using the tax law to get a tax advantage that Parliament never intended. And the problem is a persistent one …

    Clearly, there is a problem we need to tackle and we are committed to tackling it differently from our predecessors. That means a more strategic approach that gets to the root of the problem, rather than treating the symptoms.77

    The document went on to summarise the key elements of this approach…

    • making the most of opportunities to make the tax system more watertight against avoidance, for example, as part of wider policy reform;

    • reviewing areas of the tax system that have been under repeated avoidance attack, to get to the heart of the problem and develop sustainable solutions; and

    • creating new generic defences against avoidance, going beyond closing identified avoidance loopholes, including considering the case for a General Anti-Avoidance Rule (GAAR).78

    … and to set out four strands of work on legislative defences against tax avoidance:

    • a new proposal to reduce the cash flow benefits that taxpayers can gain from using high risk avoidance schemes;

    • a new rolling programme of reviews on high risk areas of the tax code;

    • work in hand on a GAAR; and

    • the targeted tax measures that sit alongside this strategic work to address specific avoidance risks that have emerged.79

    With regard to the specific proposal to consider a ‘GAAR’, in November 2011 the Treasury published a report by a study group, led by Graham Aaronson QC, which recommended a narrowly focused rule targeted at ‘abusive arrangements’ only,80 and following consultation,81 the Government introduced provision for this tax avoidance legislation in 2013.82 Several countries have introduced legislation along these lines, and an IMF survey of international practice gives a short description of how this rule is meant to work:

    A GAAR is a provision of last resort that is capable of being invoked by a tax authority to strike down unacceptable tax avoidance practices that would otherwise comply with the terms and statutory interpretation of the ordinary tax law. A GAAR is

    77 HM Treasury/HM Revenue & Customs, Tackling Tax Avoidance, March 2011 p3 78 op.cit. p5 79 op.cit. p9 80 HM Treasury press notice 130/11, 21 November 2011 81 HMRC, A General Anti-Abuse Rule (GAAR) - consultation document, June 2012 82 As noted above, these developments are set out at greater length in, Tax avoidance:

    a General Anti-Abuse Rule, Commons Briefing paper CBP6265, 7 September 2018.

  • 28 Tax avoidance and tax evasion

    typically designed to strike down those otherwise lawful practices that are found to be carried out in a manner which undermines the intention of the tax law such as where a taxpayer has misused or abused that law. This is typically achieved by giving the tax authority the power to cancel a particular tax benefit or assess a different (increased) tax liability against the taxpayer in circumstances where the course of action taken by a taxpayer is so blatant, artificial or contrived that it is only explicable by the desire to obtain a relevant tax benefit.83

    As HMRC’s detailed guidance on the GAAR explains, “to ensure that the taxpayer is given the benefit of any reasonable doubt when determining whether arrangements are abusive, a number of safeguards are built into the GAAR rules”:

    These include:

    • requiring HMRC to establish that the arrangements are abusive (it is not up to the taxpayer to show that the arrangements are non-abusive) n the case of the UK’s GAAR,

    • applying a ‘double reasonableness’ test - this requires HMRC to show that the arrangements ’cannot reasonably be regarded as a reasonable course of action’ - this recognises that there are some arrangements which some people would regard as a reasonable course of action while others would not - the ‘double reasonableness’ test sets a high threshold by asking whether it would be reasonable to hold the view that the arrangement was a reasonable course of action - the arrangement is treated as abusive only if it would not be reasonable to hold such a view

    • allowing the court or tribunal to take into account any relevant material as to the purpose of the legislation that it is suggested the taxpayer has abused, or as to the sort of transactions which had become established practice at the time when the arrangements were entered into

    • requiring HMRC to obtain the opinion of an independent advisory panel as to whether an arrangement constituted a reasonable course of action, before HMRC can finally apply the GAAR.84

    In answer to a PQ in May 2018 Treasury Minister Mel Stride noted, “HMRC is actively using the GAAR and all cases referred to the GAAR Advisory Panel to date have resulted in a Panel opinion in HMRC’s favour. Since 2013, twelve Panel opinions have been published and HMRC has taken action against each referred case using the GAAR.”85

    In their report on Finance Bill 2011, the House of Lords Economic Affairs Committee looked at this issue, asking a number of witnesses about the Government’s new approach:

    [The Government's strategy and the three elements to this strategy identified in Tackling Tax Avoidance] … met with wide-spread approval from our private sector witnesses. The Chartered Institute of Taxation (CIOT) thought that "the idea of a strategic

    83 Waerzeggers & Hillier, Introducing a General Anti-Avoidance Rule (GAAR) : Ensuring

    That a GAAR Achieves Its Purpose, International Monetary Fund, January 2016 p1 84 HMRC, GAAR Guidance with effect from 28/3/2018, March 2018 para B12.1 85 PQ138560, 1 May 2018

  • 29 Commons Library Briefing, 30 January 2019

    approach to tackling avoidance is sensible and in many ways much needed ... We are pleased to note that the new Protocol on unscheduled announcement of changes to tax law explicitly recognises that retrospective changes to tax legislation will be wholly exceptional …" [Written evidence (WE)86].

    The Institute of Directors (IoD) thought that although the "detailed articulation of the strategy may be new, we would be surprised and concerned if more than a small proportion of the pract