From Income Tax and National Insurance to Capital Gains Tax and Inheritance Tax, there are many different types of taxes in the UK. Sometimes taxes are taken automatically, but in other instances, they need to be declared to His Majesty’s Revenue & Customs (HMRC).
For example, if you’re self-employed or you receive income from other sources, it’s imperative that you understand what taxes you’re expected to pay. You need to declare any income to HMRC, who will then be able to work out how much Income Tax you owe and when you need to pay it.
For the tax year 2019/20, HMRC estimated that the cost of tax avoidance in the UK was £1.5 billion. Not only does this hurt the tax office, but some people argue that paying tax is a moral obligation in order to have a functioning society.
Taxes can be a tricky subject to wrap your head around, which means that, unfortunately, mistakes can happen when it comes to paying your tax bill. From seeking advice from an accountant to downloading a tax app, there are plenty of ways you can get help with your taxes, but to give you a head start, we’ve written this article, which explains what tax avoidance is and how it differs from tax evasion.
What is the meaning of tax avoidance?
If a company or an individual reduces their tax bill legally, it is known as tax avoidance, and it can be done either morally or immorally.
Saving into an Individual Savings Account (ISA), for example, is completely legitimate, whereas bending the tax rules to gain an advantage is viewed as immoral tax avoidance.
Continue reading to find out more about tax avoidance.
What are some examples of tax avoidance?
There are many different types of tax avoidance. Some of the legitimate ways to avoid paying more tax than you need to include:
- Paying money into an ISA
- Investing into a pension scheme
- Claiming business expenses
Some of the more immoral forms of tax avoidance are:
- Income exclusion
- Taking advantage of legal loopholes
While tax avoidance is legal, the government disapproves of the more immoral forms of tax avoidance, describing it on its website as trying “to gain an advantage that Parliament never intended” and that it “involves operating within the letter, but not the spirit, of the law”.
What is the difference between tax avoidance and evasion?
As stated above, people often confuse the term “tax avoidance” with “tax evasion”. To help clear things up, here’s the difference between the two:
- Tax avoidance — A way of avoiding paying tax, but in a perfectly legal manner.
- Tax evasion — A way of avoiding paying tax in a completely illegal manner. This carries severe penalties in the form of hefty fines and prosecution.
When it comes to tax avoidance, one of the biggest things to be aware of is that crossing the line into tax evasion is extremely easy to do.
What are some examples of tax evasion?
Tax evasion can take many different forms, such as:
- Claiming tax credits that you are not entitled to.
- Dealing in cash with no receipts to avoid leaving a paper trail.
- Disguising personal expenses as business ones.
- Failing to submit a Self-Assessment tax return.
- Hiding money, shares or other types of assets in an offshore account.
- Not paying VAT on sales or business.
- Underreporting or failing to report income or revenue to the tax authorities. This includes things like tips and bonuses paid by your employer.
What is a tax avoidance scheme?
A tax avoidance scheme is where money is deposited into a separate bank account to avoid paying tax on income. Usually, the account will be in another country.
Tax avoidance schemes are legal, however, there are fears that they can lead to tax evasion. Many tax avoidance schemes have been shut down by HMRC for this reason. If HMRC finds that a tax avoidance scheme actually amounts to tax evasion, the person using the scheme may end up having to pay more than the tax they tried to avoid. This is because of interest and fines on top of repaying the National Insurance contributions and Income Tax owed.
Before you sign up to a scheme, it’s best to seek help from a professional. HMRC also advises against joining a scheme if you spot any of the following warning signs:
- Claims about being HMRC-approved — HMRC does not approve tax avoidance schemes
- HMRC has given the scheme an SRN (Scheme Reference Number), which means it’s being investigated
- It sounds too good to be true
- Money goes around in a circle, or transactions have no apparent commercial purpose
- Non-compliant umbrella companies that promote tax avoidance schemes
- The benefits seem to outweigh the cost of the scheme to you
- Workers are paid in the form of a loan or other untaxed payment (such as a grant or an annuity) that they’re not expected to pay back
What are the penalties for tax avoidance?
It should be clear by now that tax avoidance is not a criminal offence, although forms of tax avoidance that use tax laws in ways that aren’t intended by the government are often heavily criticised by the media and the public.
Businesses and corporations that avoid tax can suffer online outrage and boycotts of their products.
Some examples of companies whose reputations have been damaged by tax avoidance include Amazon, Google and Starbucks.
What are the penalties for tax evasion?
The penalties for tax evasion depend on the severity of the case. They can be financial, criminal or both, and in some instances, can result in a prison sentence of up to seven years and unlimited fines.
Cheating public revenue is a much more serious offence that carries a maximum penalty of life in prison and an unlimited fine.
If you believe you are guilty of tax evasion due to a genuine mistake or a lack of understanding, you should contact HMRC immediately. As long as you repay any tax you owe, it’s unlikely that they will impose a penalty.
Summary
Tax avoidance is where a company or an individual reduces their tax bill legally. This can either be done morally, such as saving into an ISA, or immorally, by bending the tax system rules to gain an advantage. The government disapproves of the more immoral forms of tax avoidance, describing it on its website as trying “to gain an advantage that Parliament never intended” and that it “involves operating within the letter, but not the spirit, of the law”.
When it comes to tax avoidance, one of the biggest things to be aware of is that crossing the line into tax evasion is extremely easy to do, meaning you could face a maximum penalty of seven years in prison and unlimited fines.
