Scoop Election 08: edited by Gordon Campbell

Gordon Campbell on yesterday’s IRD victory against tax avoidance

March 6th, 2013

The double standard on how we treat tax avoidance (leniently) as opposed to how we treat welfare fraud (very harshly) came under the spotlight again yesterday. The good news is that our courts seem to be cracking down on the tax avoidance problem, and are closing a few of the more glaring loopholes. The Court of Appeal finding in favour of Inland Revenue on the Aleseco tax avoidance case is a genuine cause to celebrate. Basically, here’s how the tax avoidance deal worked:

Inland Revenue won the case against Aleseco of Australia in the High Court in 2011, arguing that the kitchenware supplier avoided tax by using a form of interest-free loan from its parent in the early 2000s, called optional convertible notes. The notes were a common cross-border way to convert debt to equity and minimise tax. The High Court ordered Alesco to pay $8.6 million in tax and penalties.

The Court of Appeal has supported the High Court’s view, saying the only reason Alesco advanced $78 million to its New Zealand unit interest-free for 10 years under the convertible notes was to avoid tax by claiming expense deductions for interest payments that did not occur.

Other firms with foreign parents have been using the same ruse, including Telstra, MediaWorks and Qantas. Yet another way in which the transformation of our economy into the branch office of a set of offshore firms is causing this country grief. It is not simply that the bulk of the profits are being repatriated offshore. Clearly, these parent/subsidiary relationships have also exposed us to tax avoidance scams as well, which have raided our revenue base and fuelled the austerity cuts in jobs and services felt by ordinary New Zealanders. One of the really interesting features of this situation is the scale of it:

The tax department estimates more than $300 million in tax and penalties is at stake.

OK, now compare that to the alleged scale of welfare fraud, which according to Victoria University research by Dr Lisa Marriott last year, is costing us $39 million a year – or about one seventh of the estimated revenue loss caused by this one version of tax avoidance alone.

Last year, tax evaders cheated the country of between $1 and $6 billion, while welfare fraud cost $39 million. “The problem of tax evasion is at best case scenario 25 to 50 times the financial amount of welfare fraud, and at worst case scenario potentially 100 to 150 times the amount,” says Dr Marriott.

The problem is not simply that the amount being lost – and subsequent damage done to our ability to fund public services – is far, far greater from tax avoidance. For a bizarre set of reasons, tax avoidance by relatively affluent white collar tax specialists doesn’t seem to carry anything like the same social stigma as when poor people cheat on welfare – even though the behaviours are immoral in both cases. Tax evasion is not giving government the money one rightfully owes, while welfare fraud is taking money from government to which one is not entitled. Anecdotally, one could theorise that tax avoidance is less likely to be driven by primal needs for food and shelter than in many instances of welfare fraud. Yet for some reason, the courts are usually far tougher on those who cheat on welfare than those who fiddle their tax obligations. As Marriott says:

“For tax evaders, the average offending is about four times as much, but have about a third of the likelihood of receiving a custodial sentence.”

The numbers tell the story. For tax evaders, the average offending is $270,000, and those found guilty have only a 22 percent, or one-in-five chance, of being jailed. For welfare fraudsters, the average offending is $70,000, and those found guilty have a 60 percent chance of being jailed.

Presumably, this crackdown on welfare fraud is meant to deter les autres. Belatedly, the courts now seem to be grasping the notion that it is important to deter tax avoidance as well – given that this kind of activity does more damage to the economy, compromises the ability of government to deliver adequate social services, and feeds public cynicism. Bet your bottom dollar…if it was welfare recipients who had devised a complex ruse to deny circa $300 million of what was legitimately owed to New Zealand, it would be front page news. Talkback radio would be running red hot. So far though, this story has been largely confined to the business press on RNZ and elsewhere, amidst the usual whining that this time IRD and the courts have gone too far – and that this legal ruling in favour of IRD will deter foreign investment. To which most of us would reply “Great!” Because we need this kind of foreign investment like we need a hole in the head.

Thankfully, RNZ located tax consultant Grant Macalister of the WHK business services, who shot down the “This will deter foreign investment” argument, and his comments are included in this RNZ podcast, which is pretty essential listening.

What the courts are beginning to do – in accord with guidelines laid down by the Supreme Court – is create a climate that will limit the ability of foreign firms to rip New Zealand off with the impunity of yore. What we now have to ensure is that the current government doesn’t change the tax laws back again, in order to frustrate the courts and restore business as usual – under the guise, say, of “clarifying the will of Parliament in these matters.”


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    1. 8 Responses to “Gordon Campbell on yesterday’s IRD victory against tax avoidance”

    2. By Matthew Percival on Mar 6, 2013 | Reply

      The journalist has in this instance missed the story.

      Prior to the arrangement the company in question went to and received a determination from the IRD that the interest was deductible. Once that determination has been issued it must be followed. For the IRD to then go and take court action, effectively against its own determination is something we should be very concerned about.

    3. By Gordon Campbell on Mar 6, 2013 | Reply

      Missed the story? I disagree. The story is one about tax avoidance vs welfare fraud and also about how the courts are belatedly scrutinising tax avoidance with something more like equivalent zeal than they ever have before. That’s GOOD, and not a cause for concern. This same whine – that IRD shifted the goal posts – was used in the case involving the banks. The courts didn’t buy it then, and they didn’t buy it this time either. On that point, it would be interesting to know the specificity of the IRD’s initial determination, and the extent to which the companies involved ran away with it in the detail. In the end, the court did look at the actual deal in the round, and deemed it to be tax avoidance devoid of genuine commercial content. Good. And to repeat : if our legal system scares off predatory foreign investment of this sort, that’s also a win for ordinary New Zealanders.

    4. By Matthew Percival on Mar 6, 2013 | Reply

      I find it hard to see any sort of avoidance where a party has voluntarily disclosed it’s plans to the tax authority! I liken it to a Beneficiary (honestly) voluntarily disclosing their situation to WINZ and receiving a benefit only for WINZ to turn around and take them to court for benefit fraud.

      I’m all for the enforcement of tax laws but it has to be fair. The right hand and the left hand need to be talking to one another.

      Incidentally this current government has invested quite heavily (in relation to previous governments) in tax enforcement with great success. The sort of returns being talked about on the street would make a Wall Street Banker green with envy. It wouldn’t surprise me at all if we see further funding allocated to tax enforcement in the future.

    5. By Samuel Konkin on Mar 14, 2013 | Reply

      Matthew, the taxpayer in question did not seek a determination. Rather, the Commissioner had previously issued a Determination (Determination G22), which the Commissioner may do to provide for spreading methods under the financial arrangements rules. Determinations are not binding on the Commissioner, and are subject to section BG 1 (the general anti-avoidance rule).

      Gordon, your article seems to conflate two things, being tax evasion – which is illegal and will often involve fraud – and tax avoidance, which is not a criminal offence.

      The reason why tax avoidance is likely to be punished to a lesser degree than welfare fraud is because:

      1) Tax avoidance is not a criminal charge, and so the burden of proof in fact lies on the taxpayer to disprove that he or she has committed tax avoidance. If criminal penalties were to apply, this onus would need to be altered.

      2) Tax avoidance involves the use of legal structures to minimise tax in accordance with the ordinary provisions of tax law. In other words, the tax effect of an avoidance arrangement is provided for in the statutory provisions (putting section BG 1 to one side). The line between legitimate tax mitigatino and tax avoidance is accordingly hard to determine, given theopen textured nature of section BG 1.

    6. By Gordon Campbell on Mar 15, 2013 | Reply

      @Samuel Konkin
      In the research by Dr Lisa Marriott that I cited there is no conflation of tax avoidance and tax evasion

      And the different treatment (socially and judicially) of illegal tax evasion on one hand, and illegal welfare fraud on the other is not something peculiar to New Zealand. It strikes me as interesting that there should be more political mileage to be gained from demonising welfare fraud miscreants than tax evaders, even though the amounts involved tend to be far smaller. One has to wonder why that should be t6he case.

    7. By Samuel Konkin on Mar 15, 2013 | Reply

      I agree that the research does not conflate the issues, but importantly your post does. Alesco is not an example of tax evasion.

      The vast majority of tax evasion is undertaken by sole traders, or very small incorporated owner-operated companies. I am not aware of any large mulitnational corporation being found guilty of tax evasion in New Zealand.

    8. By Gordon Campbell on Mar 15, 2013 | Reply

      @Samuel Konkin
      It is quite amusing that we are so resolutely talking past each other. Dr Marriott’s point – with which I agree – is that taking monies from government to which you are not entitled is morally equivalent to depriving government of monies to which it is entitled. The fact that the law pursues one and not the other with the same rigour and does not even recognise what Alesco did as tax evasion does not rebut my column. It is a prime example of the problem the column was identifying. As for the comment about large multinationals not ever being prosecuted, that point irresistibly reminds me of this great recent Youtube clip by US Senator Elizabeth Warren:

    9. By Samuel Konkin on Mar 15, 2013 | Reply

      What Alesco did was not tax evasion, and it would be incredibly odd if the law regarded it as tax evasion.

      Seriously, you should read section BG 1, and the corresponding definitions in section YA 1 of the Income Tax Act, and if you still seriously think that people should go to prison for that, them I am shocked.

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