January 23, 2022

The difference between “Tax Evasion” and “Tax Avoidance”

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Colin-Daniel-image-140x140By Colin Daniel From Caribbean360

BRIDGETOWN, Barbados, Thursday October 9, 2014 – After my recent article on “Tax Policy as a Tool” , a colleague of mine asked me to explain the difference between “Tax Evasion” and “Tax Avoidance” Simply put, tax evasion is illegal and tax avoidance is legal. However, sometimes the line between the two can be quite fine.

The courts have universally held that tax payers are entitled to arrange their personal and business affairs in a manner which would reduce his tax burden. We should always remember, it is the tax payer’s income that they have earned and the assets that they acquired over time. Being a good steward of your personal income and wealth would suggest that you should do whatever planning is necessary in order to maximize your income and to preserve your assets.

In fact the US Internal Revenue Service holds the following view “Avoidance of taxes is not a criminal offense. Any attempt to reduce, avoid, minimize, or alleviate taxes by legitimate means is permissible. The distinction between evasion and avoidance is fine yet definite. One who avoids tax does not conceal or misrepresent. He shapes events to reduce or eliminate tax liability and upon the happening of the events, makes a complete disclosure. Evasion, on the other hand, involves deceit, subterfuge, camouflage, concealment, some attempt to color or obscure events, or making things seem other than what they are.”

In determining if a transaction or series of transactions are legitimate for tax purposes, the courts have generally applied two tests. They examine the substance of the transaction over its form and secondly they attempt to ascertain if there is a legitimate business purpose behind the transaction. Once the tests are affirmed, then the transaction should be tax effective.

One of the things that countries like Barbados have attempted to do is to create an environment which is conductive to doing international business from the Island in a tax effective way. Barbados is not alone in this approach. In fact, all of the OECD countries which complain about unhealthy tax competition are heavily involved in this business. All of us recognize that it is healthy to create a legal environment where there is significant certainty of the tax impact of proposed transactions.

This is no better illustrated than the fact that most countries in the world, especially those in the OECD have entered in to double tax treaties amongst themselves as well as with lesser developed countries. It is the very name of these treaties that provides a clear indication as to how important tax planning is worldwide. For example the official name of the USA/Barbados double treaty is: “The Convention Between the Unites States of America and Barbados for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with Respect to Taxes in Income”. The Caricom treaty is similarly named: “The Governments of the Member States of the Caribbean Community for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with Respect to Taxes in Income, Profits, Gains, and Capital Gains and for the Encouragement of Regional Trade and Investment.

The titles of these two double tax treaties are important, as each mention the avoidance of double taxation. This means that the governments understand that double taxation is harmful. Further, the titles also recognize that tax evasion is a problem and there is a fine line between evasion and avoidance. But as I mentioned in my first article, tax policy is a tool for economic development. The Caricom treaty codifies this concept with its title by recognizing that it when applied correct, trade and investment between territories can be enhanced as a result.

So let us look at some recent examples with the local context and the lessons learned. Recently, the Minister of Finance granted a number of concessions under the Duties, Taxes, & Other Payment (Exemptions) Act to the Sandals’ group to encourage them to purchase the Casuarina Hotel in 2013. The grant of these concession was in recognition that the tax burden in Barbados could be prohibitive by increasing both the cost of capital and operations vis a vis other countries. This in my view was a case of good tax policy. However, the challenge I have with this approach is that by using this Act rather than the Tourism Development Act (TDC) it means that the Minister has to exercise his authority in each subsequent case to create a level playing field in the industry. The correct policy in my view, is to amend the TDC to incorporate these benefits granted in the special permission letter to Sandals to the entire industry. In other countries, these concessions would be considered precedent and the Minister would be bound to provide them in the future unless actual legislation was brought to limit the grant of benefits in the future. In addition to the TDC, both properties acquired by Sandals are in covered by the Special Development Areas Act.

On the international stage, there were two decisions handed down in Canada regarding the use of Barbados as a tax domicile for planning purposes. Too my mind, the cases clearly outline what is permissible and what is not. They in fact address the residency of trust for tax purposes. The majority of the trustees in the Garron case were in Barbados, however, it was clear the assets were under the control of persons resident in Canada as the trustees essentially performed administrative functions for the Trust rather than had effective day to day control of the assets.

In the second case, the trust was not properly established. To my mind, the clear intent of this transaction was to evade taxes, even though it was structured to avoid taxes, the proposed structure was set up solely for the purpose of the specific transaction. Secondly, and more importantly, in my view there was no distinction between the person settling the trust, the trustee and the beneficiary. While the settler’s spouse was supposed to be the beneficiary the paper trail would suggest that this was more an issue of form over substance.

The lessons learned from both of these cases is that the trust must be properly established with the Trustee’s in physical and logical control of the assets and the trust is part of a long term tax planning strategy and not solely for the purpose of a specific transaction in order o avoid or evade taxation.

In conclusion, planning your affairs to reduce your tax burden is prudent, it is something that both the rich and the poor is entitled to do. Barbados must continue to push back on the OCED who is trying to blunt our efforts to develop into a world class financial centre but more importantly become on par with them in terms of our development. It is time to in our own best interest to move our country forward.

Colin-Daniel-image-140x140The opinions expressed in this commentary are solely those of Colin Daniel. Colin Daniel (FCA, FCGA) works in Strategic Consulting & Advisory Services and is a Non-Executive Director of the Barbados Entrepreneurship Foundation.

For more on this story go to: http://www.caribbean360.com/business/colin-daniel-the-difference-between-tax-evasion-and-tax-avoidance#ixzz3FfkLTcdA


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