Tax avoidance

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Tax avoidance is the legal usage of the tax regime in a single territory to one's own advantage to reduce the amount of tax that is payable by means that are within the law. A tax shelter is one type of tax avoidance, and tax havens are jurisdictions that facilitate reduced taxes.[1] Tax avoidance should not be confused with tax evasion, which is illegal. Both tax evasion and tax avoidance can be viewed as forms of tax noncompliance, as they describe a range of activities that intend to subvert a state's tax system.

Forms of tax avoidance that use legal tax laws in ways not necessarily intended by the government are often criticized in the court of public opinion and by journalists. Many corporations and businesses that take part in the practice experience a backlash from their active customers or online. Conversely, benefiting from tax laws in ways that were intended by governments is sometimes referred to as tax planning.[2] The World Bank's World Development Report 2019 on the future of work supports increased government efforts to curb tax avoidance as part of a new social contract focused on human capital investments and expanded social protection.[3]

"Tax mitigation", "tax aggressive", "aggressive tax avoidance" or "tax neutral" schemes generally refer to multiterritory schemes that fall into the grey area between common and well-accepted tax avoidance, such as purchasing municipal bonds in the United States, and tax evasion but are widely viewed as unethical, especially if they are involved in profit-shifting from high-tax to low-tax territories and territories recognised as tax havens.[4] Since 1995, trillions of dollars have been transferred from OECD and developing countries into tax havens using these schemes.[5]

Laws known as a General Anti-Avoidance Rule (GAAR) statutes, which prohibit "aggressive" tax avoidance, have been passed in several countries and regions including Canada, Australia, New Zealand, South Africa, Norway, Hong Kong and the United Kingdom.[6][7] In addition, judicial doctrines have accomplished the similar purpose, notably in the United States through the "business purpose" and "economic substance" doctrines established in Gregory v. Helvering and in the United Kingdom in Ramsay. The specifics may vary according to jurisdiction, but such rules invalidate tax avoidance that is technically legal but is not for a business purpose or is in violation of the spirit of the tax code.[8]

The term "avoidance" has also been used in the tax regulations[examples and source needed] of some jurisdictions to distinguish tax avoidance foreseen by the legislators from tax avoidance exploiting loopholes in the law such as like-kind exchanges.[9][10][correct example needed] The US Supreme Court has stated, "The legal right of an individual to decrease the amount of what would otherwise be his taxes or altogether avoid them, by means which the law permits, cannot be doubted".

Tax evasion, on the other hand, is the general term for efforts by individuals, corporations, trusts and other entities to evade taxes by illegal means. Both tax evasion and some forms of tax avoidance can be viewed as forms of tax noncompliance, as they describe a range of activities that are unfavourable to a state's tax system.[11]

According to Joseph Stiglitz (1986), there are three principles of tax avoidance: postponement of taxes, tax arbitrage across individuals facing different tax brackets, and tax arbitrage across income streams facing different tax treatment. Many tax avoidance devices include a combination of the three principles.

The postponement of taxes is the present discounted value of postponed tax is much less than of a tax currently paid. Tax arbitrage across individuals facing different tax brackets or the same individual facing different marginal tax rates at different times is an effective method of reducing tax liabilities within a family. However, according to Stiglitz (1986), differential tax rates may also lead to transactions among individuals in different brackets leading to “tax induced transactions”. The last principle is the tax arbitrage across income streams facing different tax treatment.[12]

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