Volume 7, Issue 1 - International Tax Avoidance

Tax avoidance and evasion is a hot topic. On the evasion (illegal activity by individuals) front, the various leaks culminating in the Panama Papers have once again revealed the scope of evasion by the global elite. Gabriel Zucman conservatively estimated the annual revenue loss at $200 billion. On the tax avoidance (legal activity by corporations) front, the OECD BEPS project has estimated the scope of avoidance by multinationals at between $100 and $240 billion per year. By comparison, total US corporate tax revenues are about $400 billion per year. The articles in this volume reflect various aspects of these troubling phenomena (from the perspective of citizens who pay their tax bills and bear the burden of budget cuts by governments starved of revenues). Yuri Biondi writes from an accounting perspective about the firm as an Enterprise Entity and the tax avoidance conundrum. Matthias Thiemann and Tim Buettner discuss the political economy of the OECD BEPS project. David Quentin discusses tax avoidance in transnational supply chains of multinationals. Blazej Kuzniacki analyzes tax avoidance in EU law, which has been the focus of a lot of activity recently (e. g., the proposed Anti-Tax Avoidance Directive by the EU Commission). Amir Pichhadze and myself discuss the idea of statutory General Anti-Abuse Rule (GAAR) in the US and Canadian contexts.

Notwithstanding its political dimension, international tax avoidance is also the result of a regulatory process that makes reference to overarching concepts and representations. The current debate is featured by two overarching principles of ‘negative’ and ‘positive’ taxation under the law: the one arguing for the right to minimise the tax payment, the other one for the duty to pay a fair tax amount. This debate is further featured by two distinctive approaches to tax base determination: the market basis coupled with the legal person basis, and the economic substance basis. The economic substance approach argues that the received approach grapples with economic reality featured by integrated transnational corporate groups. These groups operate across jurisdictions and have the capacity to reshape their legal-economic structuring to obtain specific tax results. An adequate response urges then to consider these groups through consolidated report (unitary approach), allocating their consolidated result to involved jurisdictions through formulary apportionment. This unitary approach is upheld by recent advances by the theory of the firm as enterprise entity, which combines law and economics with accounting. The business firm is then understood as a specific economic coordination backed by its institutional structure of production, including its accounting system. This theoretical consistency is appealing and deserves further investigation, including to foster cross-fertilisation and harmonisation of financial and tax accounting systems. But it does not imply a straightforward claim to adopt current international accounting standards for tax purposes. International accounting standards-making has been formally disconnected by national jurisdictions, it currently excludes public policy concerns, and it may be substantially unable to avoid the very same ‘specifications’ on the letter of the law that have been already paving the way to loopholes and structuring opportunities in tax regulation.

As a response to widely reported corporate tax avoidance, the OECD/G20 Base Erosion and Profit Shifting process has relied on modifying the Transfer Pricing Guidelines in order to align taxation with economic substance, a form of incremental rather than radical change. We interpret this strategy of the OECD as an attempt to prevent a loss of authority without a politically risky complete overhaul. However, given the imperfect reconciliation – or even incompatibility – with persisting principles of international tax law, the incremental changes add to the complexity and incoherence of the guidelines on transfer pricing, leading us to expect an increase in conflicting assessments and uncertainty in the near future. Identifying a diminishing capacity of expert networks to achieve consensus on matters with strong distributional consequences, we argue that the incoherence of the system contains the seeds of its own transformation. However, due to vested interests in the current system and the reinforced capacity of the OECD to intervene in public discourses, we expect this transformation to be procedural and marked by conflicts over the meaning of the current guidelines, notably with regards to the arm’s length principle and the measurement of value creation.

Discussion of corporate tax reform loosely uses concepts like “value creation” and “economic substance” as a basis for systematic departures from the tax outcomes that would otherwise eventuate from computational artifacts based on price, but in fact mainstream economics does not have a theory of value creation as distinct from computational artifacts based on price. Corporate tax reform discourse is therefore an unacknowledged exercise in heterodox value theory. This article deploys global value chain theory to question a key assumption in that exercise; the assumption that while intra-group pricing may be modified or ignored for the purposes of reallocating the corporate tax base between jurisdictions for corporate tax purposes, prices arrived at between entities not under common control are sacrosanct. The article proceeds to deploy an expanded version of the global value chain analytic, the “global inequality chain”, to (i) investigate this question using a schematic illustrative case study based around Amazon’s UK/Luxembourg structuring, and (ii) to develop the beginnings of a concept of “unitary taxation by formulary apportionment of the entire value chain”, which would enable unfettered “diagonal” re-allocations across the space which the global inequality chain describes.

This article demonstrates that tax avoidance via controlled foreign companies (CFCs) established in the most favourable tax environments among EU Member States such as Ireland, Luxembourg, the Netherlands, and Cyprus, remains a considerable problem. Not only does it affect taxpaying residents in the Member States but, indirectly, all taxpayers regardless of their EU affiliation, US multinational enterprises (MNEs), for example. Focusing on the use Polish taxpayers make of CFCs, this study undertakes a detailed legal analysis of the problem of tax avoidance under EU law by examining empirical data and EU law on tax avoidance. The choice of this topic is largely justified by the exponential rise in tax avoidance schemes through CFCs involving Polish taxpayers since the country’s accession to the EU. The legal analysis brings to light a series of weaknesses in the current EU law that make it possible for both EU and non-EU taxpayers to avoid taxation. As a solution to this problem, the author suggests that CFC rules should be designed so as to tax only “tax avoidance income” from CFCs. This would ensure their compliance with EU law as well as an effective prevention of tax avoidance via CFCs within the framework of EU law. Interestingly, the solution follows from the author’s interpretation of the concept of “wholly artificial arrangements” in favour of the internal market rather than from Action 3 of Base Erosion and Profit Shifting (BEPS) project or Anti-Tax Avoidance Directive as adopted by the Council on 12 July 2016.

Rules targeting specific known schemes are not the only tools available in the battle against tax avoidance. Legal systems also use measures that apply generally. The U.S. for example has tended to rely heavily on general doctrines. One such doctrine which is discussed in part 2 of this chapter is the “economic substance” doctrine. Yet as Xiong and Evans recently pointed out “although such judicial doctrines can be used to deal with various aspects of complicated tax abuse judges tended sometimes to limit and sometimes to enlarge the scope of jurisprudential interpretation leading to substantial uncertainty and risk.” One way to limit the discretionary power of judges and overcome the uncertainty apparent in their judgments is by formalizing the doctrines as the US has done by codifying the “economic substance” doctrine in 2010. As explained in part 2 of this chapter a limitation of the “economic substance” doctrine whether it is established judicially or codified by statute may be its focus on the taxpayer’s intentions as the basis for attacking tax avoidance. Part 3 of this chapter goes on to explain that the U.S. could overcome this limitation by adopting a statutory General Anti-Abuse Rule (“GAAR”). GAARs also impose generally applicable limits on what constitutes acceptable (reasonable) tax arrangements. But they do so based on whether the arrangements are consistent with the legislature’s intentions as they were conveyed in the tax provision which the taxpayer is relying on for achieving the tax advantage in question. As Canada’s Federal Court of Appeal (“FCA”) explained “by confining legitimate tax avoidance to schemes that are not inconsistent with the policy underlying the statutory provision invoked by the taxpayer GAAR effectively limits the scope of the principle in Commissioners of Inland Revenue v. Duke of Westminster… that ‘[e]very man is entitled if he can to order his affairs so that the tax attaching under the appropriate Acts is less than it would otherwise be’.” Based on Canada’s experience with the GAAR parts 4 and 5 identify and explain the nexus between statutory interpretation and legislative drafting and the implications of this nexus on the application of a GAAR in the U.S. should Congress choose to take this route. Part 4 identifies that while the Supreme Court of Canada (“SCC”) has recognized the need to apply a purposive interpretation of Canada’s GAAR in order to ascertain parliament’s intentions in the relevant tax provision the court has also held that it will only give effect to those intentions which were clearly conveyed by the relevant provision and will not invent a legislative intention which parliament has failed to convey. Part 5 notes that such judicial restraint has also been taken by the U.S. Supreme Court and therefore a similar approach could be expected by the U.S. courts should Congress adopt a GAAR. Therefore it would be up to Congress as it is similarly up to Canada’s Parliament to carefully and clearly draft its legislative intentions otherwise the effectiveness of a GAAR would be undermined.