Posted: July 30, 2014
The government has raised almost £24bn in additional tax to the year ended March 2014, as a result of a crackdown on tax avoidance, which we first reported in January this year.
With more and more celebrities being highlighted in the media as not paying their fair share of tax, Burgess Hodgson Associate Simon Bailey considers the difference between tax evasion and tax avoidance, and where the line between the two becomes blurred, as well as some legitimate ways to reduce your tax bill.
So, what’s the difference?
Tax Evasion – Put quite simply, tax evasion is a deliberate plan to cheat the tax man, and to avoid paying the tax you owe. It is a criminal offence and punishments include fines and even prison sentences.
Tax Avoidance – Tax avoidance on the other hand is legal and involves the arrangement of a person’s tax affairs in such a way to pay the least tax possible, in a legitimate way. Many avoidance schemes are supported and even encouraged by the Government, as outlined below.
Tax Abuse – This is where the line becomes a bit blurred. If HMRC investigates a tax avoidance scheme and finds it to be clearly fabricated as a means to avoid tax, they could declare it as tax abuse. This is what has been reported in the media recently, with certain celebrities investing in what was seen as legitimate tax avoidance schemes. A spokesperson from HMRC has said that whilst these schemes aren’t illegal, they go against the “spirit” of the regulations by abusing loopholes and reliefs.
Without any clear definitions as to the rules and with certain complicated schemes being beyond the technical expertise of the average tax payer – and even some accountants – users of these schemes are leaving themselves open to exploitation and a potentially huge fine.
HMRC reserves the right to investigate such schemes, and if they decide they are unacceptable, then the taxpayer will have to hand over any unpaid tax along with interest and possibly further penalties.
Although everyone is allowed to avoid paying tax if they can, beware that the tax relief rules are open to abuse.
The general advice from HMRC is that if a tax avoidance scheme sounds too good to be true – it probably is, and will result in you having to pay the tax back on top of other potential penalties.
There are many tax avoidance schemes in operation, and often those involved don’t realise they are doing anything wrong as they are paying professional advisers to help them minimise their tax bill. However, be warned that tax avoidance can quickly turn in to tax evasion and by concealing facts or lying about them, you could be judged to be breaking the law – whether you knew about it or not.
In general terms, where the only or main purpose of a scheme or arrangement is to reduce or avoid tax, it is likely to come under scrutiny by HMRC. There has to be a commercial justification to support the decisions and transactions being entered into.
In most cases, if there is any doubt, we would recommend notifying HMRC of the scheme details to reach an agreement over the tax treatment at the outset. This provides the flexibility to seek alternatives before any transactions are entered into and can help you sleep better at night!
How to reduce your tax bill the right way
There are a number of ways to reduce your tax bill without resorting to aggressive schemes, some of which are outlined below:
1 – Check your tax code. By checking your tax code every year you can be assured that you aren’t paying too much income tax. HMRC do make mistakes, and if you’re not sure it’s worth visiting their website to check.
2 – Save money with a tax-free Individual Savings Account (ISA). From 1 July 14, individuals will be able to put £15,000 a year into their ISA (from cash or stocks and shares) and will not be taxed on any interest. There are many products on the market, so shop around for the best deal taking into account any fees charged and the rate of return.
3 – Invest in a new business. Known as Enterprise Investment Schemes (EIS), wealthy people are encouraged to invest in qualifying small companies. Although the investment could be risky, you will receive tax relief on the investment, and pay little or no tax on any return should the business be a success. In the event of failure, further tax relief is available which minimises your exposure further.
4 – Make use of enhanced tax credits for R&D. in order to encourage innovation amongst SME businesses there is a system of enhanced tax relief for Research and Development (R&D) with the tax reliefs available having been made more generous recently. If your company is engaged in any kind of innovation you may qualify for the enhanced tax relief.
6 – A Change in structure. If you are trading as a sole trader or partnership, there may be opportunities to incorporate and produce one-off and/or annual tax savings depending on your current financial circumstances.
7 – Pension Contributions. You could consider whether investing into a personal pension is right for you, particularly if you pay tax at higher rates. Tax relief is provided in the form of additional contributions into your pension scheme by the government as well as a reduction to your tax bill.
There are of course plenty of other ways to reduce your tax bill our advice is to choose a reputable tax adviser you can trust. Bear in mind that everyone is different, and your tax position is based on your individual circumstances.
The above is intended as general guide and we do not take any responsibility for any decisions made on the basis of the above information. You should always seek professional advice before acting.