Cut Taxes Legally and Enjoy Peace of Mind; Evade Tax and Face No End of Trouble
Finance Minister Lin Ch'üan recently pointed out that the annual income of the 40 highest income earners was over NT$300 million in 2003, but eight of them did not need to pay a single cent of income tax, and another 15 paid less than one percent of their annual income. To deal with these high-income individuals who use tax shirking methods to pay less than their due in income tax, the MOF has proposed an alternative minimum tax system that would have every individual pay at least a bare minimum in tax costs, thereby restoring some tax fairness and justice.
Switch scenes for a moment to consider Russia. In 2003, a special unit of Russia's Federal Security Service arrested Mikhail Khodorkovsky, CEO of Yukos, once the country's richest and biggest oil producer, on charges of tax evasion and fraud. In addition to freezing Yukos' assets, the Russian government also sold the company's main production subsidiary, Yugansk, to pay off its back taxes, and demanded that Khodorkovsky pay US$27.5 billion in tax arrears.
In Mainland China, meanwhile, the State Administration of Taxation said early this year (2005) that among some 480,000 foreign investor enterprises, total declared losses had reached RMB 120 billion annually, resulting in an estimated RMB 30 billion in lost tax revenue. Tax evasion by foreign enterprises has been doing serious harm to China's interests. For this reason, the Chinese government issued a "Notice on Work in 2005 to Counter Tax Evasion" (Letter of the State Administration of Taxation No. 239, dated March 24, 2005), which lists as the focus of counter-evasion audits and tax examinations enterprises that report long-term losses, long-term negligible profits, or that show uninterrupted expansion despite erratic operating profits.
In no time, the government, enterprises and individuals have become focused on issues of tax avoidance, tax evasion and tax saving. In hopes of helping readers understand what goes into proper tax planning, and avoid getting bogged down in the morass of illegal tax maneuvers, the remainder of this article will discuss the significance of tax evasion, tax avoidance and tax saving in the context of tax planning.
The Distinction between Tax Evasion and Tax Saving
In essence, tax evasion refers to where a taxpayer deliberately violates the tax law provisions, using fraud or concealment to avoid paying all or part of their tax payments. The abovementioned Yukos case is one example. Tax saving, on the other hand, refers to where there are several paths that could be taken in order to complete some economic activity, and the taxpayer chooses one that is legal and that results in the lightest tax burden. Tax saving and tax evasion have the following fundamental differences:
- Legal Consequences
Tax evasion is behavior that is explicitly prohibited by law. Whenever the governing authority ascertains that it has in fact occurred, the taxpayer will be held legally accountable; tax savings is using lawful approaches to reduce one's potential tax burden, approaches that are legal and reasonable in terms of both the letter and the spirit of the law, and towards which most countries offer protection or tacit approval. Still, if tax savings have a serious impact a government's financial revenues, they may provoke the government to adopt tax law reform measures. A good is example is Taiwan, whose government has now drafted an "Income Basic Tax Statute" to shore up its revenue base.
- Underlying Nature of the Behavior
Tax evasion is a brazen violation of the tax laws, perhaps in protest, in which the taxpayer knowingly gives false information about, or conceals, his tax status and pertinent facts. It is behavior that is obviously meant to defraud. However, the taxpayer's negligence or oversight might also lead to paying less tax. This sort of thing is called (unintentional) underpayment. Tax saving, in contrast, is where the taxpayer chooses optimal plans for tax purposes, premised on the taxpayer abiding by the tax laws.
The Gray Area between Tax Saving and Tax Avoidance
Tax avoidance refers to the opportunistic and dubious use by taxpayers of loopholes or flaws in the tax laws, by means of elaborate financial or operational arrangements, in the hopes of reducing the tax burden further than governments intended. International tax avoidance is where a taxpayer uses elaborate arrangements to exploit differences between different countries or regions, and different tax systems, again seeking to minimize the tax burden. There are certainly plenty of examples of these kinds of behavior among direct foreign investors in Mainland China. Although tax avoidance goes against the spirit, or legislative intent, of the law, leading to losses of tax revenue and an unfair competitive environment, it is not illegal behavior. Thus, there exists what one may call "legal tax avoidance". Tax saving, on the other hand, is where the taxpayer adheres to the legislative intent of the nation's tax law provisions, and steps taken in advance to save on taxes, before one's tax obligation is determined, are given protection and encouragement by the tax laws.
Since the 1980's, however, because tax avoidance is so often at odds with the tax laws' legislative intent, more and more countries have been adding provisions to their tax codes to counter tax avoidance, such as transfer pricing laws, "thin capitalization" rules, regulations against the misuse of taxation agreements, laws against tax havens, and so on. To a certain extent, these measures have restricted the latitude one has to do tax planning and impacted its effectiveness.
The Connection between Tax Planning and Tax Saving
As indicated above, tax saving is about using lawful means to reduce taxes paid. Tax planning, on the other hand, is "the design and carrying out of plans to realize the lowest reasonable level of taxation under the precondition that the tax laws and regulations are obeyed", and is every bit as effective as a tax saving strategy. Yet it is not entirely the same as tax saving, and tax evasion and avoidance can be planned, as well. So, definitions of tax planning internationally often only mention the reduction of taxes paid, without going into whether it is legal or not. However, tax planning based on adherence to tax laws and their provisions against tax avoidance has been around for many years, and such planning requires looking at the laws and regulations in the relevant countries to see what the those countries' governments accept and allow.
Conclusion
Tax evasion behavior is against the law. Tax avoidance, while not illegal, attempts to bore holes and exploit areas of immaturity in tax laws. In order to safeguard their revenues and emphasize tax fairness, justice and reasonableness, governments have become progressively stronger and unyielding in the fight against tax evasion. Because of this trend, when taxpayers undertake tax planning in the future, only by adhering to laws and regulations can they reduce their taxes legally and reasonably.