Of course, some tax related activity is simply black and white; right or wrong. However, for other activity there is a somewhat fine line between legitimate tax planning, tax avoidance and tax evasion.
The key thing is to keep yourself above board as ignorance isn’t bliss when it comes to a tax inspection.
Tax planning versus tax avoidance and evasion
Tax planning is a term used when finding legitimate ways to keep tax to a minimum. It is a sensible thing for everyone to be mindful of to make sure they are keeping as much of their hard earned cash as possible, without breaking the law. Tax planning is even encouraged by the government who set specific rules, regulations and schemes with the aim for business owners and individuals to save tax.
Tax evasion is plain and simple; it’s breaking the law. It involves deliberate attempts to under-declare income, over-declare expenses to reduce profits or use blacklisted tax schemes to reduce tax.
Tax avoidance is technically not illegal but it is a bending of the rules. It is the greyest area but one that HMRC have their close eye on.
Are you keeping on the right side of the law?
Here are a few examples of ways to save tax through effective tax planning:
- ISA’s and Savings – If you pay into a regular savings account the interest earned on your savings will be taxed at the basic rate (13/14: 20%). Subsequently, if you fall into the higher rate tax bracket additional tax may become due on the self assessment tax return, which needs to be declared. Pay up to £15,240 a year (15/16) into an ISA, instead of a savings account, and the interest income becomes tax free. This is considered sensible tax planning making use of the allowances that everyone is entitled to.
- Claiming expenses against profits – If you own a dental or medical business you will have expenses that you can offset against your tax. Ensuring that you have a reputable accountant, who can help you claim the maximum tax relief possible, whilst not stepping over the line, is essential. Tax rules change frequently and many tax payers get caught out by simply not understanding the tax system. Many though also push the limits intentionlly and should there be a tax inspection by HMRC, this can turn tax “planning” into tax “evasion” quite quickly.
- Pension planning – Paying into a personal pension plan increases the threshold of the basic rate by the contributions made in the year. It’s a great, and completely legit’ way to reduce your tax bill. If your earnings push you just into higher rate tax, then there is the option to pay the additional tax amount into the pension, pushing back into basic rate tax. Again, legitimate and helping you plan for your retirement.
- Benefits for employees – Many employers choose to create a benefits package for their employees, sometimes including travel cards, pensions and insurances. This is all within the boundaries and the employer can save on Employers NI as can the employee save on PAYE tax and their Employees NI too, however this transaction must be reported to HMRC else it becomes tax avoidance.
How people get caught with tax avoidance and evasion
There are many ways that people get caught crossing the line from tax planning to tax avoidance or evasion.
Typically though it is via a HMRC tax inspection, of which a percentage are selected simply at random each year. Those that aren’t selected at random are picked based on certain criteria and high level technology that determines, for example, if someone is living beyond their means from the income they have declared, or, if they have any unusual activity from one year to the next.
Tax schemes such as EBT’s are also on the radar for HMRC and draw attention for an investigation.