You mean we’re NOT supposed to avoid tax?

Tax avoidance has become a hot topic. The Times newspaper has recently unmasked a scheme in which income tax is avoided by the ludicrously simple means of saying the salary is only a loan which might have to be repaid (but never actually is). One of the newspaper’s columnists, David Aaronovitch, has been writing about the immorality of tax avoidance (both links behind a paywall).

I used to think it was easy to spot the moral dividing line when it came to tax avoidance. If our government had created the exemption, that meant they positively wanted us to take advantage of it. Anything else was almost certainly a loophole and morally objectionable, even if it was legal. But does that distinction still apply? 

Morals change over time, perhaps more quickly in tax matters than in other areas

Pensions, charities and new businesses have all, at one time or another, been thought to be deserving cases for which previous governments have created schemes to reduce the tax bill of individuals who put money in. The governments of the day wanted us to save, donate or invest in those entities (and in many other entities for which there have been special tax-reducing arrangements). Less so today.

It’s pretty obvious why the incentives were granted. Take pensions for example: the state doesn’t want the elderly and infirm to be in poverty and on benefits, so inducements to save for retirement were a matter of public policy. But the public perception is that the tax relief on pension contributions is unfair. Many people don’t understand that much of the tax relief will be recouped later (although, usually, not all of it), because the annual pension payments are subject to income tax when the individual retires.

The last Labour government massively increased the amount which could be contributed to a pension scheme in any one year in order to encourage people to save heavily when they had a bumper year. But then, several years later, the same government significantly reduced the tax relief that could be obtained, completely undermining the incentive.

The current government has reverted to the more traditional approach – lower limits, coupled with higher reliefs – and turned its attention to charities. The wealthy individual who pays £10m to charity deprives the Treasury of some £5m of tax income (£4.5m when the higher rate is lowered). Why, the Chancellor asked, should such a person be able to decide that that a particular school, medical charity or museum should receive £5m that would otherwise have been collected in tax, leaving the rest of us to pay for all the other schools, NHS and the like?

The Chancellor clearly had a point. And, if we were inventing a brand new income tax system entirely from scratch, the current reliefs on giving might not have been created. But, starting from where we are, it has become apparent that changing the system to a more rational one would potentially deprive existing charities of money that they have come to expect and even to rely on – not to mention the deprivation suffered by the people whom charities help.

The uproar which met the Chancellor’s proposals forced him to back down (or “listen” in the current political vernacular). So it seems that past tax laws have brought us to a position which is irrational, but returning to rationality would do more harm than good. (Now there’s a challenge for another day.)

So when, exactly, is it moral to reduce one’s tax bills? The answer to that, it seems, is not a constant. Morals change over time, perhaps more quickly in tax matters than in many other areas. Deciding which tax reliefs are morally acceptable to take advantage of requires, at the very least: (a) knowledge of the relevant history – how the relief arose and what it was supposed to achieve; (b) a mastery of economic analysis – if people take advantage of the reliefs are they doing harm elsewhere? and (c) an awareness of the likely public reaction if the Chancellor were to propose a change.

It didn’t use to be so complicated. Not so long ago, it was the creation of new taxes which was done by “stealth”, not the avoidance of them.