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Tax Avoidance & Evasion - An Overview



There was once a clear distinction, but things have become more complicated and HMRC are clamping down. How do you recognise the difference and avoid breaking the law?

Tax evasion was where companies/people act illegally to pay less tax, or no tax at all. Tax avoidance was where companies/people use artificial but legal methods to minimise the tax they pay. It seemed as though the distinction between the 2 was clear - avoidance is legal but evasion is illegal. It is quite legal, for example, to reduce your tax bill by investing your savings in a tax-free Individual Savings Account (ISA). However, there have recently been a number of high profile celebrities that have found the tax avoidance schemes have been deemed to be ‘non-compliant’ and they have been presented with a substantial tax bill. The question is then, how do you know the difference?
While the use of tax reliefs and allowances is permissible, and even encouraged, by the government there are certain schemes that HMRC consider unacceptable tax avoidance and define it as follows:
"Tax avoidance is 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 a tax advantage. It involves operating within the letter - but not the spirit - of the law”
HMRC has won a number of cases were it has been able to show that a particular scheme was set-up purely with the artificial purpose of reducing tax, i.e. that it was ‘operating within the letter - but not the spirit - of the law’. In these cases the parties are often involved in a lengthy and expensive dispute with HMRC that can last for several years and, if they lose, are faced with paying back the tax they have deemed to have avoided and interest and penalties. In many cases the costs involved outweigh, to a substantial degree, the tax advantage originally claimed and in some cases the participant has been made bankrupt as a result.
How do you recognise an unacceptable scheme:

  • if it sounds too good to be true it probably is
  • if the benefits are out of proportion to the real economic activity of the investment
  • unacceptable tax avoidance schemes tend to be deliberately highly complex in their nature and may involve funds going round in a circle
  • the artificial use of foreign entities to manage transactions
  • secrecy or confidentiality arrangements
  • the scheme has been allocated a Scheme Reference Number (SRN) by HMRC under the Disclosure of Tax Avoidance Schemes (DOTAS)
Tackling Tax Avoidance

The General Anti-Abuse Rule (GAAR), introduced in July 2013, gives HMRC new powers to tackle the most aggressive tax planning schemes.
Promoters or investors of a scheme bearing the hallmarks of tax avoidance must comply with the rules on DOTAS (Disclosure of Tax Avoidance Schemes). Following a disclosure, HMRC will assign a number to the scheme, and it will almost certainly be investigated.
The latest power in HMRC’s armoury is what is known as “accelerated payments”, intended by HMRC to “widen the circumstances where the disputed tax sits with the Exchequer during a dispute”. This unpopular and draconian power means that taxpayers may be forced to pay the disputed amount even where a case has been undecided. HMRC says it “puts all taxpayers involved in avoidance schemes on the same footing”. In reality, it is a means of getting the money up front – which some would describe as “guilty without trial”.
Tax Avoidance - An Example Scheme - Film Finance
Some of the highest profile participants in tax avoidance schemes have been the celebrity investors in film production schemes. These schemes originated in 1997 when the government introduced allowances for those investing in the British film industry. However, a number of the schemes have now been closed down on the basis that the schemes were ‘not trading’ and were effectively being used to artificially avoid tax.
Typically these schemes are put together by the Marketeer. It then sells that scheme to taxpayers via those taxpayers Advisers (IFA’s, accountants, tax advisors, solicitors). Typically the scheme is sold on the basis of an opinion from leading Counsel who states that, in their opinion, the scheme is legal and will deliver a tax advantage of X.
But this is where the schemes become complicated in how the legal opinion has been provided. Counsel has provided their opinion to the Marketeer and not the taxpayer. The Marketeer is often explicit in not giving tax advice to the tax payer and that the tax payer cannot rely on the opinion it has received from Counsel. The end result is that the tax payer may believe that he is making the investment decision upon the soundest of foundations but it is advice that does not afford him any protection when it comes to the liability for tax.
In the typical scheme the tax payers become partners in a Limited Liability Partnership (LLP) that then acquires the rights to produce a film (often a film that is expected to be a blockbuster). The rights to produce the film are then leased back to the film production company that then produces the film. Once the film is released the partnership receives revenue on the basis of the lease agreement. In many cases the film rights were often purchased by the use of loans that were used to inflate the tax relief available to multiples of the initial investment. In fact, it has been claimed that one scheme (‘Eclipse 35’) would have generated £400,000 in tax relief from an investment of £173,000.
Of course once the film has been released and starts generating an income this income will be liable to tax when it is received by the investor. It may well be the case that the investor receives back all of his investment (including the loan) in the form of lease payments. But this income will be received, and therefore taxed, over a number of years into the future. It may well be that the only real advantage the investor gains is a cash-flow advantage by reducing their tax in the first year and paying more tax in future years. Any such advantage has now been removed with the accelerated payments notices.
Significant ongoing risks areas for tax avoidance are offshore trusts, stamp duty land schemes, employee benefit trusts, retirement benefit schemes and VAT artificial leasing
The best advice for the taxpayer is to ensure they are acting in accord with both the letter and the spirit of the law and that if it sounds too good to be true it probably is.
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