Why Do Corporations Get Away With Tax Avoidance ?

Some of the well-paid engineers in companies like Amazon pay about 45% of their income in taxes. They do so every year, and it seems unfair to them why the company that employs them gets away with paying about 1% taxes. Warren Buffet once famously remarked that he pays a smaller tax rate as compared to his maid! Why is it that the reality is the exact opposite of what the agenda is? There is tremendous hue and cry to soak the rich. However, in fact, governments tend to soak the poor! In this article, we will understand the economics of tax avoidance. Why do companies do tax avoidance and how do they get away with it?

Examples of Tax Evasion

Accountants at companies like Apple and Amazon are very creative too! They have created some of the most complicated tax structures in the world to help avoid paying profits. For instance, Apple is registered in the United States. However, it is shown to be a subsidiary of an Irish company. The tax rate in the United States is 35% whereas that in Ireland is 12%. Further, the Irish company is then owned by another company in the British Virgin Islands. The tax rate there is unknown, but it is believed to be close to zero! Hence companies like Apple transfer their profits from the United States where they mainly conduct their business to the British Virgin Islands!

Apple is not the only company that indulges in tax evasion. It is just the most famous one because it has done it very well. Today, Apple barely pays taxes and has a huge stash of $50 billion in cash and cash equivalents sitting on its balance sheet.

These companies keep track of the lowest tax rates in the world and are continuously restructuring their business to have a tax advantage. Not having a tax advantage means that the companies will have to charge customers more. This is bad for business as customers will flock to competitors that offer cheaper products. Tax avoidance is, therefore, the norm and must be done by corporations if they intend to stay in business.

What is Tax Avoidance and Tax Gap ?

Tax avoidance is legal as compared to tax evasion which is a felony in most countries. Tax avoidance means using the loopholes in the governments law to save taxes. This is the reason why companies often employ scores of tax consultants. They want to be on the right side of the law while at the same time paying the lowest amount in taxes. Tax consultants also need to be legal experts because some of these tax avoidance techniques fall into the legal gray area and may be subject to litigation.

As a result of widespread tax avoidance, companies have to face what is called a tax gap. A tax gap is a difference between the amount of revenue that the government expects to receive from taxes and the amount it does. Tax gap can be attributed to tax avoidance by corporations. Nations keep monitoring their tax gaps. When this number becomes very significant, it means that the law is riddled with loopholes that are being exploited and need to be changed.

What Happens When Companies Chase Corporations ?

Chasing the corporations for their taxes is not a very smart strategy. Countries like France and Spain can attest to this fact. They enacted stricter tax laws trying to get more revenue from these corporations. Instead, most large companies relocated offshore to London. Their business has remained more or less the same. However, the government lost huge chunks of tax revenue that they used to receive from multinationals. Even iconic Spanish banks like Santander which have a net worth of over $50 billion are today incorporated in London and pay taxes in London! Chasing corporations to pay taxes is likely to make them flee to tax havens and other countries with lower tax rates. The loser is the government and maybe the people who lose their employment because of their governments lack of understanding.

Virtuous Cycle in Tax Havens

Tax havens seem to be welcoming companies that barely pay any taxes. Prima facie this may sound insane! Why would the United Kingdom or any other country want to invite tax avoiders in their country? On careful observation, there are many benefits.

  • Firstly, these companies provide employment to local people. Governments cannot tax the companies themselves but can at least tax the workforce. This is a significant boost to their revenue as these firms tend to employ thousands of people.

  • Secondly, these companies tend to invest a lot in the nation to develop the business and also in the form of pension and retirement funds. This provides cheap credit to the government for infrastructure development.

  • Lastly, the companies also generate income in the form of dividends and interest received by the investors. This can also be taxed, and the size of governments wallet can be increased considerably.

  • The growing economy from this money which has been generated by tax evasion creates a virtuous cycle of developing the local economy. This transforms the local economy for governments which co-operate with these mega corporations.

The mega corporations are fully aware that they have the upper hand in tax negotiations. From an economic point of view, any country which raises corporate taxes is simply creating the fastest route for the capital to exit their economy.

❮❮   Previous Next   ❯❯

Authorship/Referencing - About the Author(s)

The article is Written and Reviewed by Management Study Guide Content Team. MSG Content Team comprises experienced Faculty Member, Professionals and Subject Matter Experts. We are a ISO 2001:2015 Certified Education Provider. To Know more, click on About Us. The use of this material is free for learning and education purpose. Please reference authorship of content used, including link(s) to ManagementStudyGuide.com and the content page url.

Corporate Finance