what is tax evasion

A widespread phenomenon

tax evasionTax evasion is an illegal act that consists of hiding assets or income to pay less tax. It is usually something that most people associate with the rich and famous. Stories of artists, politicians, or high society people that made headlines because it was discovered that they had millions in Swiss bank accounts or in tax havens will surely come to mind. But tax evasion is a much more regular and closer practice than one might think. Far from the media coverage of major corruption cases, every day we find many examples in our immediate environment. Cases like these may sound familiar:

First example:
The plumber who comes to install your brand new fittings to finish the job asks: Do you want me to make you an invoice? You tell him that it is not necessary and in return he gives you a small discount. You have just participated in a double crime of tax evasion. On the one hand, the plumber will not declare this income and pay the corresponding taxes. In this particular case it would be the corporation tax (if the plumber owns his own company) or the personal income tax (if he is self-employed). On the other hand, he will not charge you the corresponding value added tax (VAT), which he subsequently would have settled with the public finances.

Second example:
When buying a home, you pay a certain amount to the seller. This is not declared in the deed of sale. It is what is popularly called “black money.” This is a fairly common practice in some countries and often notaries and property managers turn a blind eye to what really is just another practice of tax evasion. In this case the fraud is also twofold: you will pay a lower amount of VAT or transfer tax, declaring an amount lower than the actual purchase amount. The seller on the other hand, declares a smaller amount on the wealth tax increase, which taxes the profit from the sale of housing.

Third example:
The friendly pirate CD vendor announcing the latest music hits on any corner of your city is not only committing a crime against intellectual property. He is also not declaring the income obtained by this activity. Obviously you are not being charged the VAT that would be applied in any record store legally established either.

Fourth example:
During a vacation in Mexico, you buy 3 bottles of tequila as a gift for your brothers and brother-in-law. After landing back at the airport in your country and pick up your suitcase you decide to take the door on which “nothing to declare” is indicated. You have just committed an illegal act, which is just another form of tax evasion. In your country you were probably allowed to enter only 1 bottle of alcoholic beverages undeclared. You should have paid taxes for the other two (usually customs duties or excise duties on alcohol).

Fifth example:
Mr. Smith owns a small company engaged in importing a consumer product from China. The article is taxed at 5% customs duties (tariffs) on imports in his country. Mr. Smith discovers that there are similar products that are only taxed at 3% tariff. He decides to talk to his custom broker and asks him to declare the import as if it were the more favorable product. The broker agrees because it is a consumer product and he does not expect the customs inspection to cause him problems.
Due to the difficulty in classifying the products at their correct tariff numbers (numbers that identify each good for customs purposes), in many countries the customs authorities have a policy of “leeway” and do not usually penalize small inaccuracies. Many companies take advantage of this to classify goods into different items (although similar) to achieve tax savings. Again a fraud related to customs duties is being committed.

Tax evasion is not only practiced by individuals and independent professionals. Likewise, companies and multinational companies resort to such practices, although they tend to use more sophisticated systems that try to give a “veneer” of apparent legitimacy to their operations.

Sixth example:
The tax authorities of some countries have found that there are companies that provide provisions to cope with losses on investments abroad, which never actually occurred. One provision is that a company retains some of the benefits, meaning it does not distribute it to its shareholders, by providing that there is a substantial risk of loss in some investment or transaction in progress. These amounts are considered an expense and as such are not taxable for tax purposes. In the referred cases the alleged “investment” does not exist, but the money is deposited in non-transparent companies based in tax havens. These companies do not produce profits or losses as they do not carry out any activity or business. They are established with the sole purpose of being able to justify the alleged investment and later giving the provision after claiming a possible risk of loss. This leads to deferred tax. It is a very clear act of tax evasion, although extremely difficult to prove by the tax authorities.

As you can see, tax evasion is not only related to great wealth and exotic places. It is a widespread practice that is also deeply rooted in many of our societies. To avoid it at its source is enormously complex. It is impossible to control millions of small transactions, often conducted in offices and homes. That is why the efforts are primarily directed towards public awareness through publicity campaigns, and controlling the flow of money and the banking transactions.

As part of this strategy, governments, often citing the need to detect financial transactions related to terrorism or drug trafficking, are increasing the pressure on tax havens and banks to seek to reduce their level of confidentiality and bank secrecy. In fact, in most countries, this is a reality that is already happening today. The tax authorities have ready access to personal information of bank accounts and in many states banks are required to report transactions that exceed a certain amount.

Finally, it is worth mentioning the difference between tax evasion and tax avoidance. The latter is not a crime, as it manages to avoid paying taxes only through legal means.

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