income tax evasion

Tax evasion is an illegal attempt to defeat the imposition of taxes by individuals, corporations, trusts, and others. Tax evasion often entails the deliberate misrepresentation of the taxpayer's affairs to the tax authorities to reduce the taxpayer's tax liability, and it includes dishonest tax reporting, declaring less income, profits or gains than the amounts actually earned, overstating deductions, using bribes against authorities in countries with high corruption rates and hiding money in secret locations.

Tax evasion is an activity commonly associated with the informal economy. One measure of the extent of tax evasion (the "tax gap") is the amount of unreported income, which is the difference between the amount of income that should be reported to the tax authorities and the actual amount reported.

In contrast, tax avoidance is the legal use of tax laws to reduce one's tax burden. 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, but such classification of tax avoidance is disputable since avoidance is lawful in self-creating systems. Both tax evasion and tax avoidance can be practiced by corporations, trusts, or individuals.

Economics

In 1968, Nobel laureate economist Gary Becker first theorized the ''economics of crime'', on the basis of which authors M.G. Allingham and A. Sandmo produced, in 1972, an economic model of tax evasion. This model deals with the evasion of income tax, the main source of tax revenue in developed countries. According to the authors, the level of evasion of income tax depends on the detection probability and the level of punishment provided by law. Later studies however, pointed limitations of the model, highlighting that individuals are also more likely to comply with taxes when they believe that tax money is appropriately used and when they can take part on public decisions.

The literature's theoretical models are elegant in their effort to identify the variables likely to affect non-compliance. Alternative specifications, however, yield conflicting results concerning both the signs and magnitudes of variables believed to affect tax evasion. Empirical work is required to resolve the theoretical ambiguities. Income tax evasion appears to be positively influenced by the tax rate, the unemployment rate, the level of income and dissatisfaction with government. The U.S. Tax Reform Act of 1986 appears to have reduced tax evasion in the United States.

In a 2017 study Alstadsæter et al. concluded based on random stratified audits and leaked data that occurrence of tax evasion rises sharply as amount of wealth rises and that the very richest are about 10 times more likely than average people to engage in tax evasion.

Tax gap

The tax gap describes how much tax should have been raised in relation to much tax is actually raised.

The tax gap is mainly growing due to two factors, the lack of enforcement on the one hand and the lack of compliance on the other hand. The former is mainly rooted in the costly enforcement of the taxation law. The Iatter is based on the foundation that tax compliance is costly for individuals as well as firms (tax filling, bureaucracy), hence not paying taxes would be more economical in their opinion.

Evasion of customs duty

Customs duties are an important source of revenue in developing countries. Importers attempt to evade customs duty by (a) under-invoicing and (b) misdeclaration of quantity and product-description. When there is ad valorem import duty, the tax base can be reduced through under-invoicing. Misdeclaration of quantity is more relevant for products with specific duty. Production description is changed to match a H. S. Code commensurate with a lower rate of duty.

Smuggling

Smuggling is import or export of products by illegal means. Smuggling is resorted to for total evasion of customs duties, as well as for the import and export of contraband. Smugglers do not pay duty since the transport is covert, so no customs declaration is made.

Evasion of value-added tax and sales taxes

During the second half of the 20th century, value-added tax (VAT) emerged as a modern form of consumption tax throughout the world, with the notable exception of the United States. Producers who collect VAT from consumers may evade tax by under-reporting the amount of sales. The US has no broad-based consumption tax at the federal level, and no state currently collects VAT; the overwhelming majority of states instead collect sales taxes. Canada uses both a VAT at the federal level (the Goods and Services Tax) and sales taxes at the provincial level; some provinces have a single tax combining both forms.

In addition, most jurisdictions which levy a VAT or sales tax also legally require their residents to report and pay the tax on items purchased in another jurisdiction. This means that consumers who purchase something in a lower-taxed or untaxed jurisdiction with the intention of avoiding VAT or sales tax in their home jurisdiction are technically breaking the law in most cases.

This is especially prevalent in federal countries like the US and Canada where sub-national jurisdictions charge varying rates of VAT or sales tax.

In liberal democracies, a fundamental problem with inhibiting evasion of local sales taxes is that liberal democracies, by their very nature, have few (if any) border controls between their internal jurisdictions. Therefore, it is not generally cost-effective to enforce tax collection on low-value goods carried in private vehicles from one jurisdiction to another with a different tax rate. However, sub-national governments will normally seek to collect sales tax on high-value items such as cars.

Objectives to evade taxes

One reason for taxpayers to evade taxes is the personal benefits that come with it, thus the individual problems that lead to that decision Additionally, Wallschutzky's exchange relationship hypothesis presents as a sufficient motive for many. The exchange relationship hypothesis states that tax payers believe that the exchange between their taxes and the public good/social services as unbalanced. Furthermore, the little capability of the system to catch the tax evaders poses as another incentive. Most often, it is more economical to evade taxes, being caught and paying a fine as a consequence, than paying the accumulated tax burden over the years. Thus, evasion numbers should be even higher than they are, hence for many people there seem to be moral objective countering this practice.

Government response

The level of evasion depends on a number of factors, including the amount of money a person or a corporation possesses. Efforts to evade income tax decline when the amounts involved are lower. The level of evasion also depends on the efficiency of the tax administration. Corruption by tax officials makes it difficult to control evasion. Tax administrations use various means to reduce evasion and increase the level of enforcement: for example, privatization of tax enforcementChowdhury, F. L. (1992) ''Evasion of Customs Duty in Bangladesh'', unpublished MBA dissertation, Graduate School of Management, Monash University, Australia. or tax farming.

In 2011 HMRC, the UK tax collection agency stated that it would continue to crack down on tax evasion, with the goal of collecting £18 billion in revenue before 2015. In 2010, HMRC began a voluntary amnesty program that targeted middle-class professionals and raised £500 million.

Corruption by tax officials

Corrupt tax officials co-operate with the taxpayers who intend to evade taxes. When they detect an instance of evasion, they refrain from reporting it in return for bribes. Corruption by tax officials is a serious problem for the tax administration in many countries.

Level of evasion and punishment

Tax evasion is a crime in almost all developed countries, and the guilty party is liable to fines and/or imprisonment. In Switzerland, many acts that would amount to criminal tax evasion in other countries are treated as civil matters. Dishonestly misreporting income in a tax return is not necessarily considered a crime. Such matters are handled in the Swiss tax courts, not the criminal courts.

In Switzerland, however, some tax misconduct (such as the deliberate falsification of records) is criminal. Moreover, civil tax transgressions may give rise to penalties. It is often considered that the extent of evasion depends on the severity of punishment for evasion.

Privatization of tax enforcement

Professor Christopher Hood first suggested privatization of tax enforcement to control tax evasion more efficiently than a government department would, and some governments have adopted this approach. In Bangladesh, customs administration was partly privatized in 1991.

Abuse by private tax collectors (see tax farming below) has on occasion led to revolutionary overthrow of governments who have outsourced tax administration.

Tax farming

Tax farming is an historical means of collection of revenue. Governments received a lump sum in advance from a private entity, which then collects and retains the revenue and bears the risk of evasion by the taxpayers. It has been suggested that tax farming may reduce tax evasion in less developed countries.

This system may be liable to abuse by the "tax-farmers" seeking to make a profit, if they are not subject to political constraints. Abuses by tax farmers (together with a tax system that exempted the aristocracy) were a primary reason for the French Revolution that toppled Louis XVI.

PSI agencies

Pre-shipment inspection agencies like Société Générale De Surveillance S. A. and its subsidiary Cotecna are in business to prevent evasion of customs duty through under-invoicing and misdeclaration.

However, PSI agencies have cooperated with importers in evading customs duties. Bangladeshi authorities found Cotecna guilty of complicity with importers for evasion of customs duties on a huge scale. In August 2005, Bangladesh had hired four PSI companies – Cotecna Inspection SA, SGS (Bangladesh) Limited, Bureau Veritas BIVAC (Bangladesh) Limited and INtertek Testing Limited – for three years to certify price, quality and quantity of imported goods. In March 2008, the Bangladeshi National Board of Revenue cancelled Cotecna's certificate for serious irregularities, while importers' complaints about the other three PSI companies mounted. Bangladesh planned to have its customs department train its officials in " WTO valuation, trade policy, ASYCUDA system, risk management" to take over the inspections.

Cotecna was also found to have bribed Pakistan's prime minister Benazir Bhutto to secure a PSI contract by Pakistani importers. She and her husband were sentenced both in Pakistan and Switzerland.

By continent

Asia

United Arab Emirates

In early October 2021, 11.9 million leaked financial records in addition to 2.9 TB of data was released in the name of Pandora Papers by the International Consortium of Investigative Journalists (ICIJ), exposing the secret offshore accounts of around 35 world leaders in tax havens to evade taxes. One of the many leaders to be exposed was the ruler of Dubai and prime minister of the United Arab Emirates, Sheikh Mohammed bin Rashid al-Maktoum. Sheikh Mohammed was identified as the shareholder of three firms that were registered in the tax havens of Bahamas and British Virgin Islands through an Emirati company, partially owned by an investment conglomerate, Dubai Holding and Axiom Limited, major shares of which were owned by the ruler.

As per the leaked records, the Dubai ruler owned a massive number of upmarket and luxurious real estate across Europe via the cited offshore entities registered in tax havens.

Additionally, the Pandora Papers also cites that the former Managing Director of IMF and French finance minister, Dominique Strauss-Kahn was permitted to create a consulting firm in the United Arab Emirates in 2018 after the expiry of tax exemptions of his Moroccan company, which he used for receiving millions of dollars worth of tax free consulting fees.

Europe

Germany, France, Italy, Denmark, Belgium

A network of banks, stock traders and top lawyers has obtained billions from the European treasuries through suspected fraud and speculation with dividend tax. The five hardest hit countries have lost together at least $62.9 billion. Germany is the hardest hit country, with around €31 billion withdrawn from the German treasury. Estimated losses for other countries include at least €17 billion for France, €4.5 billion in Italy, €1.7 billion in Denmark and €201 million for Belgium.

Greece

Scandinavia

A paper by economists Annette Alstadsæter, Niels Johannesen and Gabriel Zucman, which used data from HSBC Switzerland (" Swiss leaks") and Mossack Fonseca

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