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* Assistant Professor of Accounting, College of Business Administration, University of the Philippines,
Diliman, Quezon City. (Email: [email protected]).
THE LEGALITY OF THE ASSAULT ON TAX AVOIDANCE PRACTICES
IN THE PHILIPPINES
Evelyn Kho-Sy*
The distinction between tax avoidance and tax evasion is very clear in the
academe. Tax books have often defined tax avoidance as an attempt to minimize
the payment or altogether eliminate tax liability by lawful means, while tax
evasion refers to the elimination or reductions of one's correct and proper tax
by fraudulent means. The consequence of each case is also clear. The former is
not criminally punishable while the latter is criminally punishable. However, the
distinction between the two cases seems to have been blurred by the inconsistent
practice of the government in its treatment of the subject matter.
Very often, the Bureau of Internal Revenue (BIR) asks for a valid business
purpose whenever a taxpayer enters into a transaction which has the effect of
reducing tax liability. For instance, when a father sells a parcel of land to his
son, the BIR looks into the financial capability of the son to buy the subject land,
in order to ensure that the sale was not for the sole purpose of saving on the
payment of estate taxes. The taxpayer has to come up with a valid reason for
selling his land to his son. An honest answer from the taxpayer that the
transaction was for purposes of tax avoidance will not be acceptable to the BIR.
The BIR will impose the higher tax rate in its assessment, as well as the
corresponding interests and penalties. This situation leads one to wonder-
whether tax avoidance is legal or not in the Philippines.
This paper aims to show that the attack on tax avoidance transactions in the
Philippines has no legal basis. It urges consistency and certainty on the part of
the government in its response towards tax avoidance. To eliminate further
injustice and inefficiencies, it is imperative that a law be passed to inform the
taxpayers as to what constitutes "permissible" and "impermissible" tax
avoidance. In the absence of such law, tax avoidance transactions entered into
by the taxpayers must be respected.
Keywords: tax avoidance; tax evasion
I. INTRODUCTION
Tax Avoidance vs. Tax Evasion
Distinctions and Similarities
The distinction between tax avoidance
and tax evasion seems to be very clear.
Assume for instance that Corporation "A" is
engaged in real estate business. It owns a
parcel of land which it would like to transfer
Philippine Management Review
2009, Vol. 16, pp. 58-92.
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EVELYNKHO-SY 59
to buyer "B". An outright sale of the land
from corporation "A" to buyer "B" will
result to an income tax liability on the partof corporation "A" at the rate of thirty
percent (30%) of taxable income.1
However, if corporation "A" creates a
subsidiary by transferring the parcel of land
to subsidiary "C" in exchange for the shares
of stocks of subsidiary C, the transfer is
not subject to any tax liabilities.2
Corporation "A" can subsequently transfer
the shares of stocks of subsidiary "C" to
buyer "B". Stock transfers are subject to a
maximum tax rate of only ten percent (10%)based on net capital gain.3 As can be seen
from this illustration, by creating a subsidiary
and selling the shares of stocks, corporation
"A" was able to achieve its purpose of
transferring a parcel of land to buyer "B", butat a reduced tax rate of ten percent (10%)
instead of thirty percent (30%). This is an
example of tax avoidance, whereby a
taxpayer lawfully arranges its affairs to
minimize taxes by utilizing the loopholes in
the tax law.
Using the same example given in the
preceding paragraph, if corporation "A" sellsa parcel of land worth ten million pesos
(P10,000,000.00) and intentionally
understated the selling price to-reduce its
income tax liability, then it has committed a
clear case of tax fraud. Tax fraud or evasion
refers to the elimination or reduction of one's
correct and proper tax by fraudulent means.4The fraud contemplated by law is actual and
not constructive. It must be intentional,
consisting of deception wilfully and
deliberately done or resorted to in order to
induce another to give some legal right.5
Tax
evasion typically involves failing to report
income, or improperly claiming deductions
that are not authorized.
Clearly, "avoidance" is distinguishable
from "evasion" which means avoidance by
artifice as distinguished from an avoidancepermitted by law.6 Authors have often
defined tax avoidance as the tax saving
device within the means sanctioned by law.
Tax evasion, upon the other hand, is a
scheme used outside of those lawful meansand, when availed of, it usually subjects the
taxpayer to further or additional civil or
criminal liabilities.7 In practice, however, the
dividing line between the two is unclear. As
will be shown in this paper, the three
branches of the government respond
differently towards tax avoidance/tax
planning schemes. This trend is troubling -because it lays the foundation for making
criminals out of those who are otherwise
innocently and legally engaged in
minimizing their tax burden.8
II. BACKGROUND OF THE STUDY
Taxes are imposed on the theory that
they are necessary for the government to
supply the services needed by its citizens.However, no matter how useful taxes are to
society, one cannot change the fact that it is
unpleasant for the individuals to pay them.
As such, it is just human nature for
individuals to act on their own interests to
avoid paying more taxes than they need to.
There are two ways of doing so: one is to
evade taxes and the other is to avoid them.
In the Philippines, tax evasion is clearly
made illegal by our laws. The legality of tax
avoidance, however, is a gray area. There
seems to be no categorical prohibition on taxavoidance under Philippine laws. However,
the Bureau of Internal Revenue (BIR) rules
and decides as if there is. This creates an
unjust environment and leads to
inefficiencies.
An unjust environment is created when
some taxpayers are caught and levied fines
for acts that other taxpayers can get away
with. Since there are no clear-cut rules, in
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practice, the liability of a taxpayer to pay
additional taxes largely depends on the BIR
personnel assigned to interpret the nature ofa taxpayer's transaction. The bigger
companies, which the BIR usually focuses
their resources on, are more likely to receive
assessments for tax avoidance practices
compared to smaller companies doing
almost the same act.The inefficiencies are borne out of the
taxpayer's desire to decrease his tax
payments. For instance, he will enlist
himself, his employees if any, and use his
resources towards the goal of avoiding taxes.The BIR, on the other hand, will enlist its
personnel to weed out "sham" transactions
entered into for the sole purpose of avoiding
taxes. Certain business decisions are also
unnecessarily made more complicated and
even altered because the decision makers
need to provide allowances for risks. Theyneed to make allowances just in case the BIR
treats some of their valid business
transactions as "sham" transactions.
To avoid further injustice and
inefficiencies, a law should be passed
defining what constitutes permissible andimpermissible tax avoidance. Foreign
countries like the United States, Australia,
Germany and France have adopted anti-
avoidance laws. For a country like the
Philippines, whose budget deficit andforeign debts have been on a constant rise,
the need for an anti-avoidance law to prevent
further tax leakages cannot be
overemphasized.
III.OBJECTIVES AND METHODOLOGY OF THE STUDY
The main objective of this paper is to
present the current legal status of tax
avoidance/tax planning schemes in the
Philippines. This will be done by examiningthe response of the three branches of the
government towards tax planning. The
discussion will emphasize on the undesirable
consequences of the present system wherein
what constitutes permissible and
impermissible tax avoidance practices cannot
be traced to the Tax Code, but is a matter that
is left entirely to the discretion of the BIR.
Delimitations of the Study
1. Tax avoidance mechanisms can beinternational or domestic in nature. The
discussion of this paper shall be limited
to domestic tax avoidance schemes.
2. It is not the objective of this paper toeliminate tax avoidance/tax planning
schemes completely. It is not feasible to
do so. However, this paper operates on
the assumption that it is important to
keep the level of tax avoidance/abusive
tax planning under control.
3. In determining the legality of taxavoidanc
