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10 February 2015

Taxes; Avoidance, Evasion...and Warehouses

Are rules legally binding? What is evasion? What is avoidance? What has ‘moral repugnance’ got to do with tax bills? At the beginning of last year, I predicted that the growing clamour to investigate transfer pricing and the why and where of tax payments was going to engulf some of the major resource companies (my logic, to be clear, is not because I am suggesting anything untoward - I have no knowledge of that - but because of the international nature of their businesses and the particular issues surrounding the extraction of minerals). Well, I haven’t really been proven right on that yet, although I still expect the subject to garner attention. Resource companies aside, though, there have certainly been plenty of stories about the financial services sector.

In a way, the whole discussion seems somewhat unreal. After all, if there are rules and regulations (laws, in other words), then surely it’s simple; if you obey them, fine, if you don’t, then expect sanctions of one sort or another. 

Rules and Warehousing

Except that it doesn’t seem to work like that. Take the LME and it’s warehouse companies and their problems with the way the business has been operating. There are a set of rules under which warehouses are obliged by their contract with the LME to operate. As long as they do that, they should be OK, right? Well, up to a point. There is of course also the need to comply with the law itself, as well as the rules of the specific business. But surely those rules were drawn up by a series of lawyers working on the behalf of the Exchange to ensure that any user who obeyed the rules was not infringing the law? To me, that would seem obvious, and indeed I have spoken to several experienced people who have written reports on various aspects of the problem, and pretty much all have made the same comment - nobody has been breaking the rules. That should be the end of the story - but it’s not; the lawsuits (and threats of lawsuits) are still flying around, targeting the LME and various banks, traders and other warehouse owners. 

Taxes and Loopholes

Let’s park that one for the moment and move on to a much bigger, more general issue: tax avoidance and evasion. It’s a big political hot potato right now in the UK, not least because we have an approaching election (and please - whoever wins - repeal the Fixed-Term Parliament Act, so we don’t have ever-longer election campaigns). It’s probably a fair statement that nobody - even the most ardent marxist-socialist - actually likes paying tax. It’s also probably fair that most of us accept that there are services that are better undertaken communally, by the state, and that therefore we need to pay it, as the state needs the government to have money to provide those services. So we have rules, regulations, laws; established by governments to create a framework under which we all know what we have to pay. (There is, of course, another argument, not for here and now, about how they decide what they need and how they spend it.) That seems all to be really simple; a table of what rate of tax is payable against particular rates of earnings, for individuals, and a simple rate for corporations. Unfortunately, though, it doesn’t work like that, as successive governments all feel the need to tinker with and tweak what was originally very simple. The result of that is that we - in the UK, I can’t particularly speak for elsewhere - have a monstrously complicated tax code which is exceedingly difficult for most laymen - and remember: they’re largely the ones paying - to understand. That tinkering and tweaking also serves to create loopholes - a simple rule is typically much more difficult to avoid than a complex one. And the more layers of complexity that are piled on, in an attempt to close loopholes, paradoxically the more loopholes will appear, and the greater will be the scope to avoid paying. (Note: evasion is illegal, and outside the scope of this discussion. Avoidance is within the law.)

"Moral Repugnance"

“Aha,” say those who want to collect the tax, “if you use any avoidance mechanisms, you are morally repugnant. You are not paying your fair share.” The problem with that is that if you take that approach - to try and ensure payment by moral pressure - you are effectively making some element of taxation optional. What is ‘legitimate’ avoidance and what is ‘morally repugnant’ is subjective, and I would argue very strongly that to use the ‘court of public opinion’ (beloved of some politicians; who, incidentally, are by no means for sure squeaky clean themselves) is frankly wrong. We pride ourselves on our legal system; turning parts of it subjective is not the road to follow. One man's meat is another man's poison - that's no basis for a legal system.

Simplify the Rules

Do these two issues have anything in common? Up to a point, I think they do. In both cases, we are talking about a position where rules (laws) do not appear to have been broken, yet there is a groundswell of opinion that something wrong has been done. It’s a bit like playing a game with a set of rules, and then complaining that the other side won because they followed the rules, which we didn’t like. The answer is surely not to start blaming those who obey the rules, but rather to make the rules more in tune with what is desired. The LME, in their case, do seem to have grasped that and are - albeit I don’t agree with all their proposals - trying to find a solution; the politicians, on the other hand, seem much more inclined to play a blame game and to ignore the fact that the real heart of the problem is their inability (or lack of desire) to produce a clear, simple codification of what is expected of taxpayers. We may not like what goes on, but as long as it is legal, it’s frankly very difficult to prevent it. If you don’t like the rules, change them for something better; but don’t vilify those who obey the rules you created. 

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