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The GAAR Proposal: A National Treasury Perspective. Keith Engel – Chief Director Tax Legislation, National Treasury. National Treasury fully supports SARS’s effort to upgrade the GAAR. Previous Treasury Statements.
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The GAAR Proposal: A National Treasury Perspective Keith Engel – Chief Director Tax Legislation, National Treasury
National Treasury fully supports SARS’s effort to upgrade the GAAR . . .
Previous Treasury Statements • In February 2005, the Treasury Budget Review initially signalled Government’s intent to upgrade the GAAR • On 3 November 2005, Minister Manuel explicitly recognised the need for a revised GAAR, stating: “What we can't accommodate is a rule which is intended to limit avoidance that is so abused and tatty with wear."
Treasury Interest • With the assistance of Parliament, the Minister (via the National Treasury) sets tax policy through the medium of tax legislation • As administrator, SARS has the task of maintaining that policy through legislative enforcement • Clever tax planning undermining SARS enforcement accordingly nullifies Treasury policy (Sec. 4.6 of GAAR Discussion Paper)
The GAAR debate should be viewed as a central part of the longstanding “cat and mouse” game of tax non-compliance . . .
General Forms of Non-Compliance • Unintentional failures: • Lack of understanding or awareness of tax laws • Mathematical or clerical errors • Internal system errors • Intentional failures • Tax evasion • Tax avoidance
“Classic” Evasion Versus Avoidance • Tax evasion usually has a criminal/fraudulent element: • Outright omissions include: • Failure to register • Failure to disclose gross receipts • Deliberate factual misstatements include: • Two sets of books • Fabrication of expenses • Tax avoidance represents a more colourable approach to tax compliance (providing an “air” of legality) (GAAR target)
Borderline Evasion/Avoidance • Aggressive (even frivolous) one-sided interpretations of legal “grey” areas • Extremely one-sided readings • Selective historical reconstructions • Factual execution may be impossible (or wholly ignored in operational terms) • Endless paper trails • Convoluted transaction steps • Black hole parties (e.g. often protected by secrecy provisions) • Administrative tactics • Information stalling • Information flooding
“Letter” Versus the “Spirit” • Classic tax avoidance is about the age-old legal distinction between the “letter” versus the “spirit” • As “wordsmiths,” good tax lawyers can elevate the “letter” of the law into a fine art • Two types of substance: • Legal substance (terms have legal effect, even if factually neutralised) • Business/Economic substance (terms have a commercial bearing on the business, such as risk shifting)
The historic battle between enforcement and tax avoidance typically goes through the following phases . . .
Phase #1: Subjective Intent • In the English tradition, most legal disputes initially centered around the question of intent: • Intentional, reckless, negligent, • Premeditated, crime of passion, insanity • In terms of tax, one looked to • Bona fide, sole or main purpose • Unfortunately, the question of intent does not readily adapt to tax settings
Phase #2: Objective Anti-Avoidance Fortifications • Tax law has developed a whole series of objective tests to limit avoidance, all of which tend to pile on top of one another • Examples include the denial or ring-fencing of losses, deemed inclusions or accelerations of income, objective conditions (e.g. “new” versus “used” depreciable assets) • In the words of General Patton, “Fixed fortifications are monuments to the stupidity of man. If anything made by God can be overcome, anything made by man can be overcome.”
Phase #3: GAAR – Mobile Counterforce • The GAAR seeks to overcome artificial gimmicks to overcome the objective anti-avoidance rules of Phase #2 • GAAR operates as a final catch-all based, taking into account a myriad of factors (e.g. intent, tax benefits)
Since we can all agree tax avoidance is a problem, why all the fuss?
Tax Avoidance Versus Tax Minimisation • In terms of UK tax jurisprudence, impermissible tax avoidance “is a course of action designed to conflict with or defeat the evident intention of Parliament”; whereas, permissible tax minimisation is an acceptable course of action that is similarly aimed at tax reduction • Taxpayers do not have an obligation to pay maximum tax; indeed, many tax laws provide taxpayers with options to reduce tax (e.g. company formation election) • The dividing line becomes even harder to draw when the decision to undertake a transaction will occur regardless of tax, but the manner of the transaction is heavily infected by tax considerations
Goliath Versus Goliath? • Power of SARS: • Power to charge; cashflow and reputation disruptions • Resources • Contacts • Media access • Power of large corporations: • Power over the facts; steps, players and labels • Resources • Contacts • Media access
Innocent Pedestrians and Rogue Agents • “Innocent pedestrians Look; Don’t Hit!” - Will the revised GAAR result in innocent road-kill (e.g. unfair taxation of smaller businesses)? • Can the revised GAAR be trusted in the hands of a rogue auditor seeking to achieve ever increasing targets?
Beware of the Pendulum! • SARS has no political interest in abusing its newfound powers – extreme enforcement will only lead to eventual legislative curtailment
Saints and Sinners • Not all tax planners (e.g. tax lawyers and accountants) engage in sophisticated tax avoidance; many lack the risk appetite, while others lack the specialised skill • Indeed, the “saints” of the business can be said to resent the “sinners” who generate deals that: • Unfairly seduce clients, and • Create undue layers of legislative complexity as well as an undue climate of enforcement suspicion
Stopping the Avoidance Addiction • Because the sums are huge, once tax avoidance begins – it becomes hard for the sinners to stop: • Tax professionals need to maintain fees • Company directors need to maintain profits • New deals often must offset old deals
Whereto from here? Think “refinements,” not reversals . . .
The revised GAAR provides a set of factors that act as helpful indicators (i.e. telltale signs) of tax avoidance Do these factors go to far or far enough? Does the form match the substance? Are the steps momentary? How does the legal result differ if the excess artifices are removed? Does the money flow in a circular fashion? Are there any special purpose vehicles? Do steps fully cancel or offset one another? Do different parties treat the same transaction differently for tax purposes? Is their a failure to operate at arm’s length in terms of price or form? Does the financial accounting treatment remain neutral despite the alleged tax restructuring? Do the parties have a reasonable chance of generating any pre-tax profit? Do the tax benefits outweigh the non-tax benefits? Take Note of the Telltale Signs
Civilisation at a Discount • Like South Africa, governments around the world are increasingly concerned about large corporate tax avoidance in terms of revenue flows and in terms of corporate good governance • Question: Why should wealthier parties be able to purchase reduced taxes for a legal or accounting fee?
When we all pay our fair share of tax… • Should we be successful at targeting the “sinning” few, Treasury again can consider providing further relief for all • And when we consider the history of the last 5 years, we can see that our Minister of Finance has been consistently generous in this regard
