What is the difference between Tax Evasion and Tax Avoidance?
There are various taxes that individuals and businesses are responsible for paying. For individuals, the most common tax is income tax, which applies to personal earnings such as salaries and pensions, along with National Insurance Contributions (NIC).
UK Companies are required to pay Corporation Tax on their taxable profits, which include income from trading, investments, and the sale of some assets. Additionally, they may incur Capital Gains Tax (CGT) if they make a profit from selling or disposing of certain assets such as property or shares.
Value Added Tax (VAT) is a sales tax applied on goods and services. Businesses are responsible for collecting VAT on behalf of the government and paying it to HM Revenue & Customs (HMRC).
Failing to pay taxes is often put into one of two categories, tax evasion or tax avoidance, depending on the circumstances. Although the two terms are often (incorrectly) used interchangeably, they have distinct meanings, which we will explore in this article.
In addition to a taxpayer being liable for their own actions, under Part 3 of the Criminal Finances Act 2017 (‘the Act’) a company is criminally liable for failing to prevent the facilitation of tax evasion by an employee or anyone acting on behalf of that company, whether in the UK or abroad.
The current government has expressed a commitment to provide additional resources to HMRC to intensify its efforts to combat tax avoidance schemes and tax evasion, to ensure that those involved are held accountable through strict enforcement, penalties and prosecutions.
What is tax evasion?
Tax evasion is a criminal offence. It is the illegal act of not paying taxes owed to HMRC by deliberately misrepresenting or concealing information to reduce or eliminate tax liability.
There are many ways companies evade paying the correct taxes, such as underreporting income, hiding assets, conducting cash transactions, or claiming deductions and credits to which they are not entitled.
Examples of Tax Evasion
There are numerous methods a company might use to evade paying the full amount of tax owed to HMRC, such as:
- Under declaration of income, either by not reporting all sales or by inflating expenses.
- Hiding assets or income in offshore accounts or through complex corporate structures.
- Conducting transactions in cash to avoid creating a paper trail, making it harder for tax authorities to trace income.
- Exploiting loopholes in tax relief schemes, such as claims for Research and Development (R&D) Credits and Capital Allowances to which the company is not genuinely entitled to.
- Engaging in VAT carousel or missing trader fraud or underreporting VAT by manipulating sales and purchase records.
- Turning a blind eye or being actively complicit in VAT fraud being committed in the company’s supply chain leading to HMRC making a Kittel Claim against the company.
Penalties for Tax Evasion
Whether engaging in a VAT fraud, creating an artificial financial loss or any of the ways mentioned above, these illegal practices can lead to severe penalties, including fines, imprisonment or both.
What is Tax Avoidance?
Described by the UK Government as "bending the rules of the tax system", tax avoidance involves legally minimising tax liability within the boundaries of the law. Tax Avoidance Schemes typically exploit loopholes or take advantage of incentives provided by the government.
UK companies can legally reduce their tax liabilities through various methods, commonly referred to as tax avoidance strategies.
Examples of tax avoidance
Here are some of the most common methods used to exploit the tax system without directly breaking the law:
- A UK company might set up subsidiaries in tax havens where the corporate tax rate is low or non-existent.
- Companies that invest in research and development (R&D) can claim substantial tax credits, reducing their overall tax liability.
- Reducing taxable profits by claiming capital allowances for investments in assets like machinery, equipment, or buildings.
- Creative Accounting: By delaying the recognition of income or accelerating expenses, companies can manage their tax liabilities in a given financial year. They can also revalue their assets, to create depreciation charges or other deductions that reduce taxable income.
- Engaging employees through outsourced payroll providers such as umbrella companies to avoid PAYE and NIC payments.
While the methods mentioned above may be technically legal, they often attract close scrutiny. HMRC will thoroughly investigate a company’s tax affairs if it suspects that they are participating in a tax avoidance scheme. Should the company be found to be involved, HMRC can issue an ‘accelerated payment notice,’ requiring them to pay the tax that was being avoided upfront, as well as take legal action or treat the company as a ‘high-risk’ taxpayer.
There have been instances where companies have unintentionally engaged with a ‘non-compliant’ umbrella company. Although many companies offering outsourced payroll services operate within tax rules, some schemes falsely claim to be ‘HMRC approved’ and promise to reduce a business’s tax liability.
Tax Evasion vs Tax Avoidance: Key Differences Explained
In this article we have explained the difference between tax avoidance and tax evasion. While one involves "bending the rules," the other is illegal. As previously mentioned, HMRC will investigate any company suspected of evading, under-declaring, or underpaying taxes or duties, or committing tax fraud.
HMRC is a powerful investigative body with the authority to conduct both civil tax investigations and criminal investigations. When HMRC suspects deliberate tax evasion, they can either use a civil law procedure called Code of Practice 9 (COP9) or launch a criminal investigation.
What is a COP9 investigation?
A COP9 is a procedure that allows taxpayers to correct their tax issues and avoid criminal charges by fully cooperating with HMRC. While the penalties can be significant, they are generally less severe than those that might result from a criminal investigation.
How will I know if I am being investigation by HMRC?
A business will usually discover that it is under a HMRC investigation when it receives some form of correspondence from HMRC.
The form of the correspondence varies depending on the issue that HMRC is investigating. Correspondence can relate to a wide variety of matters including:
- The opening of a tax enquiry
- An informal request for company documents
- A formal request for company documents pursuant to Schedule 36 Finance Act 2008
- A request for due diligence documents to substantiate supply chain checks
- A VAT Assessment, NIC Assessment or Corporation Tax Assessment
- Notification of an intention to make a Tax Assessment
- A Notice of a Kittel Assessment
- Personal Liability Notices served on the company officers
- An invitation to a COP9 and Contract Disclosure Facility (CDF)
- Service of a Discovery Assessment
What should I do if I am being investigated by HMRC?
Often the initial reaction of a company or individual is to contact their accountants with a view to engaging the accountants to act on their behalf in relation to the investigation. However, there is one additional protection afford to the taxpayer if a solicitor is instructed instead of an accountant, and that protection is one of legal professional privilege.
In short, this means that any discussions between the taxpayer and their solicitor, as well as the advice given, are protected from disclosure to HMRC. Therefore, we recommend instructing a firm of solicitors with expertise in tax law.
What can we assist you with?
At KANGS, our team has a long history of successfully representing clients in complex tax investigations. We act for taxpayers in the full array of HMRC investigations including:
- COP8 Investigations
- COP9 Investigations
- Kittel VAT Assessments
- Personal Liability Notices for company directors, officers and managers
- HMRC Criminal Investigations
- Tax Avoidance Schemes for both participants and promoters
- Discovery Assessments
With over twenty-five years of experience in both strategic negotiations and litigation with HMRC, we have the knowledge and experience to protect our client’s interests.
Please feel free to contact our Team using the details below as they will be delighted to hear from you.
Tel: 0333 370 4333
Email: info@kangssolicitors.co.uk
We provide initial no obligation discussion at our three offices in London, Birmingham, and Manchester. Alternatively, discussions can be held through live conferencing or telephone.
Top ranked by leading legal directories Chambers UK and the Legal 500.
