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Unformatted text preview: ACIS 254: ACIS Introduction to Taxation Introduction
Lectures 29 and 30: Business and Tax Ethics, Tax Planning, and Introduction to Tax Avoidance
Alistair Hodson Alistair
Department of Accounting & Department Information Systems, University of Canterbury, Christchurch Christchurch
1 Outline of Lecture
1. Business and Tax Ethics 2. Tax Planning Background Basic Principles of Tax Planning Tax Minimisation Tips Ethical Considerations 3. Tax Avoidance General Definitions and Concepts Statutory Provisions & Case Law Challenge, Hadlee, O’Neil 2 Business and Tax Ethics
Ethics • “Ethics are, and always will be, an integral part of any organisation” part • Ethics – an individual predisposition
– People have different values, cultural influences – Bribes can be common in some countries – Some people obey some laws, some do not. 3 Analysing an Ethical Problem: A Suggested Analysing Approach Approach 1. Determine the facts – What, who where, Determine when and how. when 2. Determine the ethical issue. 3. Identify the major principles, rules, values. 4. Specify the alternatives. 5. Compare values and alternatives. 6. Assess the consequences. 7. Make your decision! Make
4 Code of Ethics – fundamental Code principles principles
• Integrity – not merely honesty but fair Integrity
dealing and truthfulness. dealing • Objectivity and Independence – must not Objectivity
allow prejudice or bias, conflict of interest or influence of others to override objectivity influence – Must be, and be seen to be, independent.
5 Code of Ethics – fundamental Code principles (continued) principles
• Competence – only undertake professional Competence
work in which they have the competence necessary to perform the work. necessary • Quality performance – timely manner, carried Quality out in accordance with the relevant technical and professional standards appropriate to that work. work. • Professional Behaviour – good reputation, Professional refrain from any conduct which might bring discredit to the profession. discredit 6 Duties of Taxpayers
• Legal obligations to pay taxes imposed on them. • Primary statutory obligation remains with the Primary • •
taxpayer, despite the involvement of advisors and third parties. third Legal obligations also extend to significant Legal procedural compliance duties relating to filings, disclosure, payments etc. disclosure, Tax legislation also confers rights and benefits on Tax taxpayers, such as loss carry forward provisions, entitlement to legal privilege / non-disclosure right. entitlement
7 Duties of Advisors
• Advisors owe duties to:
– The client taxpayer – Their firm The – The New Zealand Institute of Chartered Accountants (or CPA) Accountants – Themselves 8 Duties of Advisors (continued)
• Duties include:
– Knowing tax law and practice. – Maintaining currency of knowledge. Balance – Balance tax considerations against other commercial considerations. considerations. – Exercising good judgment. – Maintaining confidences. – Gathering facts. – Analysing facts objectively. – Evaluating alternative courses of action.
9 Duties of Advisors (continued)
• Duties include:
– – – – – Identifying and advising on potential risks. Protecting a client’s interests when challenged. Advising on negotiations and settlements. Involving experts when necessary. Being ethical. • The Advisor should not cross the line between The should
advisor and decision-maker. advisor 10 10 Legal System – principal sources of law are: • Revenue statutes – Income Tax Act 2007, Tax Revenue • • • • • Administration Act 1994, other Revenue legislation. Administration Contractual obligations between member and client. Tortious obligations – particularly in negligence. Obligations to the State, not to act fraudulently or Obligations dishonestly. dishonestly. Rules and regulations promulgated by the NZICA if Rules you are a member (or CPA). Consumer legislation.
11 11 Other laws that may be relevant to tax work: • • • • Partnership law. Company law. Law of evidence, privilege, privacy and Law administrative law. administrative Crimes Act 1961– relevant in tax context is fraud. – Falsifying, manipulating documents. – Perjury. Backdating – Backdating may constitute aiding and abetting.
12 12 Risk Areas
• Penalties confer costs on clients – may seek Penalties • • • •
compensation from the advisor. compensation Use of money interest issues. Dispute resolution – lack of timeliness. Interpreting statutes – increasingly complex- consider Interpreting consulting with tax specialists before giving client advice or dealing with Inland Revenue. advice Avoidance, evasion, sham – members should not Avoidance, engage in illegal activity. engage
13 13 Risk areas (continued) • NZICA members are expected to abide by Institute’s NZICA • • • • •
Code of Ethics. Code NZICA members should not substitute own value NZICA judgments as to the morality of any client arrangement or behaviour. or Manipulating and suppressing tax calculations and Manipulating numbers is illegal and constitutes evasion – concurring constitutes aiding and abetting - a crime. constitutes Reasonableness in dealing with Inland Revenue. Conflicts of interest – relationships. Prohibited from preparing false, misleading statements. 14 14 Risk Management
• ‘Best practice’
– – – – – – – – – Recruitment. Accept assignments – adequate training / experience. Security of information. Communicate risk to client – scope of limitations, risks, Communicate outputs. outputs. Consultation with other professionals. Consistency of advice – law changes, revised opinions. Review procedures. Confidentiality. Privilege, non-disclosure rights.
15 15 Tax Planning
• Tax planning is the ordering of a person’s business
affairs in such a way as to minimise tax. • There are two types of tax planning: There 1. Tax planning in relation to the overall business 1. Tax structure or organisation of an enterprise; and structure 2. Tax planning in relation to a particular transaction 2. Tax or event where the focus is on the tax consequences of on consequences various methods of various implementation. implementation.
16 16 • Objective: • Reduce the amount of tax payable in respect of given Reduce Basic Principles and Methods of Basic Tax Planning Tax quantity of receipts or profits, but: but: • This must be balanced against implementation costs of This any plan and disruption to the taxpayer’s affairs. • Methods of Tax Planning Methods 1. Diversion of Income (a) Transfer income earning assets. (a) Note: relationship property agreements (b) Transfer right to income.
17 17 Basic Principles and Methods of Tax Basic Planning Planning
2. Eliminating Prospective Income - Generate a non-taxable gain instead Generate of a taxable receipt. 3. Increasing the Amount of Deductions - Rent an asset or incur expenditure which Rent may give rise to an incentive deduction. may 4. Reducing the Rate of Tax Payable - Use tax loss entities, tax exempt entities Use or derive the income in another form. or
18 18 Tax Minimisation Tips
1. Make tax planning arrangements at the beginning of Make the business rather than in the course of it. the 2. Always have commercial as well as tax Always considerations in implementing an arrangement. considerations 3. Minimise tax by exercising a choice provided for in Minimise the Income Tax Act. the 4. Do not exercise a choice made outside the manner Do contemplated by the Income Tax Act. contemplated 5. Keep scheme simple. Complicated arrangements are Keep more likely to be viewed as avoidance arrangements. more 6. Don’t be greedy. The more money saved through tax Don’t planning, more likely CIR will challenge it. planning,
19 19 • Ethical considerations have an important role to play
in tax planning. There are two conflicting ethical viewpoints on tax planning: 1. Large scale tax avoidance results in a transfer of responsibilities for paying tax to other taxpayers in the community. in 2. The so called ‘rule of law’ entitles taxpayers to organise their affairs in such a way that their legal organise liability to tax is minimised. liability Ethical Considerations • Difficulty with (1) & (2) is that a dividing line Difficulty between acceptable tax planning and unacceptable tax planning needs to be drawn. 20 20 General Definitions
Tax Mitigation • This is the legitimate minimisation of tax. • Tax mitigation is practised by taking genuine advantage of incentives and choices provided for in the tax legislation, as part of sound commercial practice. Tax Avoidance • This is the minimisation of tax through legal This means which are artificial and contrived and have no rationale other than to obtain a tax benefit. • Generally there is a distinct lack of commercial Generally reality in the arrangement.
21 21 General Definitions (continued)
Tax Evasion • Tax evasion is illegal. • Tax evasion includes Tax falsification, nondisclosure and the failure to meet legal obligations.
22 22 Substance vs. Form
• A transaction can be analysed either according to its legal form or on the basis of the substance of the transaction. • Generally courts consider the legal form of the Generally transaction actually entered into rather than the overall economic consequences of the transaction. • The only exceptions to the precedence of form over The substance are when the arrangement is a sham or a general tax avoidance provision requires a wider approach. • Note CIR’s guidelines on approach to form and Note substance.
23 23 Substance vs. Form (continued)
• Draft Interpretation Guideline IG9702 • Step 1: Understand transaction completely Understand • •
either by determining legal form or substance. either Step 2: Courts focus on true legal character and Courts legal steps followed - exceptions BG 1 or if a sham. legal CIR’s view of sham - an act or document created with the intention of causing the appearance or illusion of rights or obligations to third parties persons different to those actually intended by the creators of the act or document - TIB Nov. 1997. creators
24 24 Doctrine of Fiscal Nullity (Ramsay Principle) • Where the taxpayer enters into a scheme under which the taxpayer makes neither a commercial loss or gain, but the scheme gives the taxpayer certain tax advantages, the courts can treat the arrangement as a fiscal nullity producing neither a gain nor a loss for tax purposes. • The fiscal nullity principle has not been The authoritatively determined as applying in New Zealand, but has been implicitly used by the Privy Council in CIR v Challenge Corporation Ltd. CIR Arguably it has been rejected – e.g. Auckland Arguably Auckland Harbour Board case. case. • Principle rejected by Canadian Supreme Court. Principle
25 25 The Choice Principle
Particular • Particular sections of Income Tax Act provide a choice of alternative courses of action. • The deliberate exercise of a choice to generate a tax advantage should not be invalidated by a general anti-avoidance provision. • In most cases New Zealand courts have applied the general anti-avoidance section notwithstanding compliance with some other section of Income Tax Act. • Nevertheless, certain remarks by the Privy Council Nevertheless, suggest that the choice principle is good law in New Zealand, provided the choice is exercised within the intent of the legislation.
26 26 The Newton Predication Test
The Newton • The Newton Predication Test focuses on the way in which an arrangement is implemented. • If a transaction is implemented in a particular If way to avoid tax then the arrangement is likely to involve tax avoidance. • If not, then the arrangement should be construed as If an ordinary commercial or family transaction •The Newton Predication Test - It would appear The Newton that there is no longer a need to apply the test in New Zealand due to section BG 1. New
27 27 Statutory Provisions
• General anti-avoidance provision is General
section BG 1 Tax Administration Act 1994: 1994: To – To protect the integrity of the tax system from avoidance arrangements designed to frustrate it. frustrate To – To protect liability for income tax established under other provisions of the Income Tax Act. Income
28 28 Brief History of New Zealand Anti-Avoidance Brief Legislation Legislation • Definition of ‘tax avoidance arrangement’ has not Definition • • significantly been altered since first enacted as s 40 Land and Income Tax Assessment Act 1891. Land Section 40 was based on s 62 of Land Tax Act 1878 Section designed to prevent landowners from shifting burden of tax onto their tenants. of Mangin v CIR  “…originating in a desire to deal with the simple matter of incidence of land tax….confronted…with all the sophistications of modern tax avoidance”
29 29 The General Anti-Avoidance The Provision Provision
Section BG 1 “A tax avoidance arrangement is void as against tax the Commissioner for income tax purposes.” the 30 30 Definitions Section YA 1 “Tax avoidance arrangement” means an arrangement, Tax arrangement whether entered into by the person affected by the arrangement or by another person, that directly or indirectly indirectly (a) has tax avoidance as its purpose or effect; (a) tax or (b) has tax avoidance as 1 of its purposes or effects, (b) whether or not any other purpose or effect is referable to ordinary business or family dealings, if the purpose or effect is not merely incidental or
31 31 Definitions
Section YA 1: “Tax Avoidance” . . . . includes: Section includes: (a) directly or indirectly altering the incidence of any income tax: (b) directly or indirectly relieving any person from liability to pay income tax or from a potential or liability prospective liability to future income tax: prospective (c) directly or indirectly avoiding, postponing, or postponing, reducing any liability to income tax or any potential or prospective liability to future income tax or
32 32 There are three elements which must be There satisfied for section BG 1 to apply: satisfied
1. There must be an arrangement within the meaning 1. an of the section. 2. The purpose or effect, or one purpose or effect, of 2. purpose or one such an arrangement must be ‘tax avoidance’. must 3. That purpose or effect must not be ‘a merely 3. purpose incidental’ purpose or effect. incidental’ • In determining whether or not a purpose or effect is In
‘merely incidental’, the courts have adopted a ‘principal purpose’ test.
33 33 Commentary & Specific Provisions
• NZ Courts regard subsequent conduct as an important
consideration in determining purpose. Has there been a ‘real change in practical operations of taxpayer’? • S.. BG 1 is very widely drafted. Courts have created a S number of ‘glosses’ designed to limit its application. • S.. GA 2 – CIR’s power to adjust: fringe benefit tax. S • S. GC 1 – disposals of trading stock at below market value. • Ss. DB 57 and DC 5 - excessive remuneration or share of Ss. profits paid to relatives. profits • Ss. CD11, DB 58, GB 25 - excessive remuneration paid to a shareholder, director or relative. to
34 34 CIR v Challenge Corporation
• Challenge anticipated a substantial profit for the Challenge • •
income year about to end on 31 March 1978. income Challenge entered into arrangements to purchase two Challenge companies with accumulated losses (both subsidiaries of Merbank). of Challenge paid Merbank $10,000 plus half the tax Challenge benefit that would accrue to Challenge if the scheme was successful in reducing Challenge’s tax (the tax saving would have been $2.85 million if successful). saving Challenge relied on section 191 (now ss. IC 1- 6) to Challenge offset the losses of the two companies against the income of other members of the Challenge Group. income
35 35 • • Held: Both the High Court and the Court of Appeal CIR v Challenge Corporation (2-1) that section 99 (BG 1) did not apply because section 191 (ss. IC 1-6) contained its own anti-avoidance provision. • Note: Cooke J’s view in the Court of Appeal Note (specific overrides general provision). • The Privy Council (4-1) made it clear that section 99 The (BG 1) is of general application and may apply notwithstanding that a specific anti-avoidance provision exists within a particular section. • The Privy Council held that this was tax avoidance The under section 99 (s BG 1) because Challenge never suffered the loss which led to the tax losses.
36 36 CIR v Challenge - Commentary
1. The majority judgment was a pure ‘gut’ response. 2. All the cases referred to are United Kingdom cases. 2. There was no discussion of New Zealand cases. There 3. Subsequent legislative amendment supports the view that the specific anti-avoidance provisions were intended to stand on their own. 4. The Challenge transaction was a simple one step transaction which is a characteristic of tax mitigation rather than avoidance. 5. The majority decision read something into the statute which was not there.
37 37 CIR v Challenge - Commentary CIR (continued) (continued)
6. Majority decision implicitly based Majority
on the fiscal nullity approach. on 7. Subsequent New Zealand cases Subsequent have largely avoided discussing tax mitigation. tax Note: Principles from Challenge. Principles Challenge. 38 38 Personal Services: Hadlee v CIR Personal Hadlee
• As a general rule, it is not possible to assign income As • • • • •
which is the result of personal services or exertion. Power always remains with the assignor to defeat the Power assignment simply by discontinuing employment. assignment Hadlee a partner in a national accountancy firm. The partnership agreement provided for profits to be The allocated to partners in proportion to the number of ‘units’ of partnership capital owned by them. ‘units’ Hadlee owned 32 of the 452 units into which the Hadlee capital of the partnership was divided. capital By deed, Hadlee assigned 12.8 of these units to a By family trust for $16,299.90. family 39 39 Hadlee v CIR (continued)
• CIR disregarded this assignment for tax purposes CIR
and treated the income from the units as being derived by Hadlee, not the family trust. derived • Held: CA. Assignment valid in equity. Income Held: • • from partnership was derived by trust, not partner. from A taxpayer cannot transfer income (and therefore taxpayer the liability to tax on that income) from personal services to another taxpayer. services The assignment was void under s. 99 (s. BG 1) as The assignment involved seeking a tax advantage over otherwise comparable taxpayers, and consequently was not mere tax mitigation but tax avoidance. was
40 40 Hadlee v CIR (continued) • The Privy Council agreed that a The
taxpayer cannot transfer income from personal services to another taxpayer. taxpayer. • The Privy Council did not consider The
the tax avoidance issue. the • It is apparent from the decision that It
certain assignments are not effective for tax purposes. effective 41 41 O’Neil v CIR (Privy Council)
• Shareholders entered schemes devised by JG Russell Shareholders •
for avoiding income tax. JGR scheme took advantage of company grouping rules JGR to offset losses against future profits by enabling client company profits to pass into the loss-owning group of JGR companies, which were then paid back to shareholders as capital payments, rather than receiving company profits as revenue. Considerable litigation – objection, then judicial Considerable review. review. Held: Purpose or effect was tax avoidance (TRA, HC, Purpose CA, PC). CA,
42 42 • • O’Neil v CIR (Privy Council) (continued)
• Apart from allegation of bad faith in CIR’s motive for Apart
making assessments, arguments related to assessments & were part of objection process. assessments • Lord Hoffman held that the distinction between tax Lord
mitigation and tax avoidance was not helpful. mitigation • The ‘Russell Template’- Wire Supplies Ltd v CIR The Wire
CA206/05 15 June 2007 and ongoing litigation. CA206/05 43 43 Key Points
• Read NZT Ch. 21 (paras 21.1-21.13.2); MTG Ch. 33 Read • • • • • •
(para 33-010 to 33-345) and 23-160 to 23-175) (para Note definition of tax planning and that it is permitted. Review the tips and see if you can add some! It is important to consider ethical issues as well. Contrast the definitions of avoidance and evasion and Contrast the issue of substance v. form. the Review doctrines of fiscal nullity, choice principle and Review Newton Predication test. Newton Predication Review the Challenge, Hadlee and O’Neil decisions. Review decisions.
44 44 ...
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