7ACCN017W.2 Taxation: Multinational Tax Avoidance and Government Role

This report critically examines tax avoidance and tax evasion, focusing on strategies employed by multinational corporations to minimize their tax liabilities. It differentiates between tax avoidance and tax evasion, highlighting that while tax avoidance exploits legal loopholes, tax evasion involves illegal means. The report evaluates two common measures used by multinationals: transfer pricing and controlled foreign companies (CFCs). It also discusses measures taken by the UK government and the OECD, such as the Diverted Profit Tax and anti-avoidance requirements, to ensure companies pay a fair share of corporate tax. Finally, it considers qualities governments need to consider before introducing or reforming its tax system, providing examples from various tax jurisdictions. Desklib offers students access to similar solved assignments and past papers for further study.

Running head: TAX AVOIDANCE AND TAX EVASION
Tax Avoidance and Tax Evasion
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1TAX AVOIDANCE AND TAX EVASION
Table of Contents
Part A:...........................................................................................................................2
Difference between tax evasion and tax avoidance:................................................2
Critical discussion and evaluation of two different measures that is used by
multinationals for avoiding or minimizing taxes:.......................................................3
Measures taken by UK government and OECD:......................................................6
Part B:.........................................................................................................................10
References:................................................................................................................14

2TAX AVOIDANCE AND TAX EVASION
Part A:
Introduction:
Multinational companies often have differentiating features which a domestic
jurisdictional company may not have. It has differences in international taxes and
uses internal debt for taxation purpose. The recently concluded financial crisis along
with the recession in most of the economies across the world have resulted in the
awareness of the actors that fail to make contribution towards the society by paying
their tax. When corporate companies escape paying taxes, the rest of the companies
together with the households pay the price of such escape in the nature of higher
taxes and reduced welfare. This kind of problems creates an impact on every one.
Difference between tax evasion and tax avoidance:
Each and every asessee wants to avoid paying taxes that encourages them to
use to numerous means for avoiding the payment of taxes. When it comes to saving
tax, then the two most common practice that is witnessed across the world is the tax
avoidance and tax evasion (Braithwaite 2017). Tax avoidance is regarded as the
exercise where the assessee lawfully makes an attempt of defeating the basic
purpose of the law by taking the advantage of the limitations in the law. Tax evasion
on the other hand is regarded as the practice of reducing the liability of tax with the
help of illegal means such as suppressing the income or inflating the expenditure or
by reporting lower income. Below stated are the key differences between the tax
avoidance and tax evasion;
a. The planning that is made to reduce the burden of taxation is without causing
any kind of infringement of the law is regarded as Tax Avoidance (Kasper et

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al. 2017). On the other hand, an illegal activities that is done to avoid the
payment of taxation is regarded as Tax Evasion.
b. Tax avoidance is regarded as the hedging of tax while tax evasion denotes as
the suppression of taxation.
c. Tax avoidance is treated as corrupt practice that twists the rule without any
kind of damage to the legislation. While tax evasion is regarded as illegal and
offensive both in terms of law and morality.
d. The purpose of tax avoidance is to lessen the burden of taxation by applying
script of law (Barker et al. 2016). While tax evasion reduces the liability of
taxation by implementing unfair means.
e. The arrangement for tax avoidance is made in advance the happening of the
tax liability. While tax evasion refers to the arrangement that is made following
the happening of the tax liability.
The tax avoidance and tax evasion both are aimed at reducing the overall
liability of tax but what differentiate them is that tax avoidance is justified under the
eyes of law since it does not make any kind of offence to law (Dyreng, Hanlon and
Maydew 2018). While talking about the tax evasion it is entirely unjustified since it is
a fraudulent activity as it comprises of the acts that are forbidden under the eyes of
law and therefore it is punishable.
Critical discussion and evaluation of two different measures that is used by
multinationals for avoiding or minimizing taxes:
The international system of taxation treats the multinationals in such a manner
that they are the loose collections of the separate entities which is operating in the
different jurisdictions (Alstadsæter, Johannesen and Zucman 2018). This provides
the companies with the huge amount of scope to move the income across the world

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for reducing their liability of taxation. The two most commonly used methods for
avoiding or reducing taxes by the multinationals is transfer pricing and base erosion.
Transfer Pricing:
Transfer pricing is regarded as the main vehicle of corporate tax avoidance.
According to the global rule, transactions amid the subsidiaries firms should be
priced under the arm’s length among the unrelated parties. In actual practice, the
prices can be adjusted for moving the profits towards the low-tax jurisdictions and
expenditure towards the higher tax jurisdiction (Prebble and Prebble 2017). This
becomes easier when the transaction becomes very complex. There are several tax
haven subsidiaries which fundamentally shells the companies which exist only to the
holder of the intellectual property rights and charge other parties of the group for
their use or offer other types of services which is beyond the market rates.
As critiqued by Rablen (2017) transfer pricing is at times used by multinational
companies to load the costs into other countries that provide generous subsidies,
particularly in the extractive industries. It has turned into a key plank for the
multinational tax strategies. Multinational technological companies are considered as
the avid practitioners of the transfer pricing. For example, google avoids the payment
of tax bill by around $2 billion during the year 2011 by moving around $10 billion of
its profits into its Bermuda unit, a jurisdiction which does not imposes any kind of
corporate income tax.
Davies et al. (2018) explains that Bermuda is the lawful residence for the
purpose of taxation of the Irish subsidiary that collects the royalties from another Irish
segment that had ultimately collected revenues from the advertisement sold all
through the Europe. In order to avoid the Irish tax withholding, the company further

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added “Dutch Sandwich” into the company’s tax planning menu by directing
payments to Bermuda with the help of a shell in the Netherlands. The final outcome
is that there is only little relation between where the economic activity happens and
where the profits are booked.
As argued by Barker, Asare and Brickman (2017) tax avoidance is the mere
symptom, the actual disease is the higher company tax rates and difficult rules
implemented by the richer nations. While Kirchler and Hoelzl (2017) opinion that they
are the big employers and contribute significantly in the payroll. More than half of the
international transactions is intra-corporation trade and all this transaction are not
based at the arm’s length. This results in abusive transfer pricing that is used to shift
the profits towards lower tax nations and completely eliminate paying tax, as the
government have the trouble in deciding the amount of tax that should be imposed
on the intra-corporation trade.
Controlled Foreign Companies:
Even though the modern taxpayer has the access to the wide variety of the
international tax planning methods, the control foreign companies is one of the
regularly used techniques that is used by the taxpayers in higher tax jurisdictions to
create a company or other entity in the jurisdiction with the little or no taxation to
which they transfer the income before tax (Alldridge 2015). These kinds of
companies are generally controlled by the taxpayers of higher jurisdictions and are
generally referred as the controlled foreign companies from the viewpoint of the
residence nation of the controlling taxpayers. As per the principle of personality that
is applied under the domestic tax laws of majority of the states across the world
including the resident states of the CFC participants, income that is derived by the

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Controlled foreign entities cannot surpass the extent of the another taxpayer
(Schneider, Raczkowski and Mróz 2015). The income of the controlled financial
companies is not tax in the participant resident state based on the domestic law until
it is either distributed by the CFC to them or shares in the CFC that are sold by them.
As understood that the CFC is the controlled by the participants they might
not decide to make distribution of CFC income to themselves or dispose its shares.
In such a situation the taxation of the CFC income is deferred for the substantial
period of time in the nations following the universal taxation system. The
international scale of phenomenon appears to be large due to the diversity of
associated tangible and intangible services across the states (Network 2017). This
provides the multinational companies with the freedom of running their business with
freedom, limited by the financial ability and managerial ingenuity. As a whole the
principle of personality and abilities of the multinational companies provide a side
line for avoiding the payment of tax through the controlled financial companies.
The CFC structure is created to assist in tax prevent evasion of tax that was
done by setting up the offshore companies in the jurisdiction that has little or no tax.
For example, Bermuda and Cayman Island historically has their own CFC laws but
they target the multinational companies when it comes to taxation (Murphy 2016).
Another example includes Apple INC, the company has been cited to have booked
around $246 billion in this process. The three tax subsidiaries of Apple are based in
Ireland and the figure posted by profit is substantially less than majority of the other
US based multinational companies.

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Measures taken by UK government and OECD:
During the year 2009, the G20 finance ministers has demanded the OECD to
measure the issue of multi-jurisdictional tax evasion and generate a strategy of
addressing them (Bird and Davis-Nozemack 2018). The OECD has begun the BEPS
scheme to report the different characteristics of multinational company tax hostility.
The measures taken are as follows;
Diverted Profit Tax:
The UK diverted profit tax was established during 1st April 2015. It is aimed
towards the multinational companies that divert their revenues from the UK by either
preparing their affairs in order to avoid the creation of permanent establishment in
UK or by making payments which lacks the economic substance particularly the
royalty payment and management fees (Alstadsæter, Johannesen and Zucman
2017). Under this measure, the diverted profit tax rate is set at the rate of 25% for
any profits that is made in UK. Another measure adopted of the diverted tax profit is
to eliminate the information bias which allows the UK tax authorities to perform a
detailed and timely assessment of high risks transfer pricing transaction. Such
provision results in robust financial inducements for the complete revelation and
commitment with the tax authorities. The tax modification is aimed at multinational
companies such as Google to prohibit them in diverting their profits straightaway to
additional tax authority and loading UK processes with the higher level of
administration and other fees.
Anti-avoidance requirements:
UK introduced the anti-avoidance requirements that were introduced in UK
with the 2016 Finance Bill that relates to the cross mismatch arrangement and

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payment of royalty. There were several distractors of the DPT in the UK that claimed
that it is a breach of EU legislation, tax treaties and majority of the multinational
would encounter its validity (Gamannossi et al. 2017). The legislation places
emphasis on the corporate attempts of avoiding the creation of payment
establishment in Australia. The law is escorted by the obligatory revelation by the
business of their state by state tax matters. This measures enables the businesses
to evade the public inspection relating to their tax avoidance approaches. There is
also a noteworthy rise in the consequences for the breaking the laws. The measures
adopted are not outdated and permits the current schemes to continue its
operations.
Limiting the base erosion through interest deductions and financial payments:
Another measure that has been adopted by the OECD is the debt loading
solution that limits the base erosion through interest deduction and other monetary
outgoings as the chief target of base erosion and share profits. The measure
includes restricting or eliminating the interest expenditure deductions on the related
party borrowings (Hashimzade and Epifantseva 2017). This helps in prohibiting the
wholly acquired subsidiaries of international companies from claiming deduction for
interest on their borrowings from the other subsidiaries. The action plan comprises of
re-establishment of the international coherence of the government income tax with
the objective of improving the transparency, predictability and establishing the
exchange of information among the international tax authorities.
Preventing treaty abuse:
The concept of permanent establishment should be updated to prohibit abuse.
In several nations, the clarification of treaty rules on permanent establishment sale

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contract belonging to the overseas company is negotiated and concluded in a nation
by the sales force of domestic subsidiary (Karlsson and Matthiasson 2015). This
results the profits being not taxed to the extent as they should be given the sales
were made to one of the distributor. The action plan adopted by OECD develops the
model treaty provision provides recommendations relating to the design of domestic
rules to prevent granting of treaty benefit under the unfitting situations.
Mandatory disclosure for taxpayers to disclosure tax planning arrangements:
This measures requires developing recommendation relating to the design of
obligatory disclosure rules for abusive or aggressive transactions by considering the
managerial costs for tax managements. The emphasis will be global tax
arrangements where the work would explore by using the wide description of tax
benefit for capturing such transactions (Marjit, Seidel and Thum 2017). The
divergences among approaches to transfer pricing documents results in substantial
managerial expenses for businesses. It is noteworthy that satisfactory information
regarding the appropriate functions conducted by the other associates of the
international enterprise is in relation to the intra-group amenities and other
businesses that are made accessible to the tax management.
Conclusion:
The adoption of BEPS project and the G20 meetings over the past few years
has worked as an outstanding framework for reducing the base erosion, profit
sharing and loss creation scheme. The solution also comprises of introducing the UK
Diverted profit tax, restricting the interest deductibility from the related party
transactions and effectively increasing the transparency of the financial and tax

10TAX AVOIDANCE AND TAX EVASION
information disclosed by the larger multinational companies would help in publicly
scrutinizing their tax affairs.

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Part B:
Introduction:
One of the motivation for reformation is the desire of eliminating the
unnecessary difficulties from the taxation system. Any system of taxation would be
complex, provided that the difficulties in drafting a clear and economically sensible
definitions and essential complexity of business practices (West 2018). Complexities
originates in the all the components of the current taxation systems. Complexity of
the tax system also produces the indirect costs due to the effort that is devoted to
artificially rearrange the taxation affairs in a manner so that the present tax liability is
reduced. Pressure relating to tax reformation has originated from the rising
conviction that the current system of taxation is not fair. Certainly, the perception of
equity has been predominant consideration in majority of the recent reformation
proposal. Concerns relating to the horizontal equity and vertical equity have
encouraged towards tax reformation.
Discussion:
The collected works on the optimal taxation does not offer any clear lessons
for the reformation in taxation. The socially optimal trade-off among the efficiency
and equity would remain dependent on the degree to which the government
proposes to use the taxation system for persuading the objectives of social welfare
of income redistribution (Leung 2017). The main problem confronting the tax design
is the tax design is the choice of tax base. Actually, it usually held that this must be
reflected in the ability of paying out of which there are two principle alternative
measures namely the “comprehensive income and the consumption by itself.

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The main differentiating factor among the comprehensive income and the
consumption as the tax bases is the management of savings. With the earnings
base, savings are taxed twice while under the consumption basis they are taxed only
once when it is consumed. Both the comprehensive income and the consumption
taxes reduces the supply of labour by leaving behind the leisure unlevied. However,
the income tax implies the smaller labour leisure distortion than the consumption
taxation up to the extent that the wider bases allows the lesser rates ( Degl’Innocenti
and Rablen 2017). The income tax introduces the distortion of saving and
consumption. It becomes necessary to assess the welfare costs of two types of
distortion and in particular understanding to what extent the double taxation of capital
income reflects saving, investment and growth of economy.
There are three conceivable ways that the consumption can be levied for
taxation. This includes the differential commodity taxation, a wide based flat rate
indirect tax or the direct expenditure taxation (Pogge and Mehta 2016). The
theoretical case for the different commodity tax demonstrates three types of
argument namely, welfare losses can be reduced by the government under the
appropriate simplified assumption if the rate of tax are inversely proportional to the
corresponding elasticity of demand. Secondly, the commodity taxes can be made
progressive by taxing necessity items lightly and imposing heavy taxes on luxury.
Thirdly, the government should consider imposing tax on the leisure items indirectly
through goods that are its complement. Actually, such arguments are equally elite.
Commodity levies that reallocate hold most heavily on the luxury components
that tend to have the higher price elasticities of demand. This kind of taxation quality
would help in increasing the welfare losses of individuals. Furthermore, in the non-
existence of healthy projections of appropriate price elasticities and with the

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administrative complications of multiple rate systems, even taxation, if at all possible
as the wide ranging consumption taxation namely the Value Added Tax (VAT) is
generally recommend as the practical approach for the government. According to
Marjit, Seidel and Thum (2017) it is practical to impose tax on the wages single-
handedly and avoid taxing commodity.
Tax on expenditure is generally thought to essentially indicate indirect
taxation. Conversely, it is possible for the government to create direct expenditure
tax that only levies tax on income but excludes deposits to the approved savings
account. Such kind of taxation can be even progressive through increasing the rate
of taxation. But even the flat rate of consumption tax does not require to be
regressive because inheritances are held as consumption, because rich and poor
each finally consume all their income over the lifetime (Bird and Davis-Nozemack
2018). Withdrawals from these accounts for consumption, gifts or bequests would
attract tax liability. Nevertheless, such kind of approach to taxation may result in
avoidance of taxation following the misuse of registered accounts mechanism,
needing an enforcement mechanism.
Even though the collected works on the optimal taxation is unclear on the
choice of tax base, a usually recognized quality of well-designed tax system is the
requirement for simplicity. It is also desirable for the government that system of
taxation should not create the problems for macroeconomic stability and it should not
conflict with the accepted social values (Alldridge 2015). An important common
prescription of optima taxation is that since proficiency losses increases more
proportionately with the rate of tax, the given sum of revenue should be raised by
widely based taxes so that the government can assure that the corresponding rates
are as low as possible.

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There is jurisdiction of other countries that have more than one rate of income
tax if in each cases one is generally used predominantly (Dyreng, Hanlon and
Maydew 2018). For example, the Russian jurisdiction charges 9% tax on dividend
income in opposed to 13% for all its income. The current tax code is not fair. For
examples several deductions that are available under the US jurisdiction are only
claimed by the affluent and its tends to be middle-income earnings that are caught
by the Alternative minimum tax.
Conclusion:
The tax code requires trust in the government. This is because the tax code
permits the people on the same income to pay different sum of tax based on their
circumstances and the choices of expenses. The reformation of taxation is better
undertaken in relation to clear strategy. Key qualities that should be included by
government in reformation is the amount of progressivity they propose to have in the
taxation system as whole along with the correct mix of income and consumption
taxation. This may remain dependent on the adequacy of the national savings along
with the judgements to which the savings are sensitive to return rate.

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