Ethics and tax: from evasion to avoidance

The statement that ethical behaviour is “doing the right thing when no one else is watching” is often attributed to Aldo Leopold, the American wildlife biologist and conservationist. But mostly this saying excludes what can be regarded as the punch line: that ethical behaviour is doing the right thing when no one else is watching – even when doing the wrong thing is legal. It would be ideal if what was considered ethical was mirrored by what was regarded as legal and if unethical conduct was always illegal. Unfortunately, the two do not always coincide.

In the workplace, actions such as theft and fraud are recognised as both unethical and illegal, but what about actions that are less clearly defined, such as being disrespectful to a subordinate? Many organisations include showing respect for others in their value statement. But disrespectful behaviour – such as swearing, shouting or humiliating someone, particularly in front of others – may not necessarily constitute acting outside the law (unless, in South Africa, the disrespect takes the form of a racial slur or prejudicial statement).

An especially pertinent example of the apparent conflict between ethics and legality centres on corporate taxation and the question of whether staying within the letter of the law constitutes being ethical.

Benjamin Franklin, one of the Founding Fathers of the United States of America, was famously quoted as saying that nothing can be said to be certain, except death and taxes. What he could have added as a further certainly is that taxpayers would always strive to pay as little tax as possible. This often manifests itself in terms of tax avoidance or tax evasion.

Tax avoidance generally refers to the use of legal methods to modify the financial situation of an organisation (or an individual) by means that are within the law to lower the amount of tax payable. Tax avoidance mechanisms involve, among many others, using tax deductions, transfer pricing, establishing an offshore company in a tax haven, or locating factories, distribution hubs and headquarters in low-tax jurisdictions.

The extent of the problem relative to tax havens is addressed in the Oxfam paper released in January 2014, Working for the Few. The research acknowledges a growing network of global tax havens where large amounts of money are hidden from view and largely untaxed, thereby “denying national treasuries vital resources that could be used to benefit society”. Oxfam’s research conservatively quantifies the amount held offshore at $18.5 trillion.

This practice differs from tax evasion, which is the term given for efforts to evade the payment of taxes by illegal means. This can entail dishonesty or misrepresentation when, for example, taxpayers overstate deductions or under-declare income, profits or gains and when they deliberately misrepresent or conceal the true state of their affairs to the tax authorities in order to reduce their tax liability.

While there are many instances of tax evasion, tax avoidance is a more relevant issue, because being ethical and acting legally do not necessary coincide (whereas tax evasion implies unethical conduct that corresponds with acting illegally). Companies have long had very complicated tax structures and have employed multi-disciplinary experts who have used a range of increasingly sophisticated practices to exploit tax legislation. In fact, being “tax efficient” would generally be viewed as sound business practice. But this has been taken so far that, despite tax avoidance being legal, it is attracting a great deal of attention.

This is evidenced by the focus on tax at the G20 summit in Brisbane that concluded on Sunday 16 November 2014. The G20 leaders adopted the Brisbane Action Plan which included agreements to close tax loopholes used by multinationals, to ensure the fairness of the international tax system and to secure countries’ revenue bases.

It is also evidenced by changing public opinion on the ethics of tax avoidance. High profile examples include public protests against global firms such as Starbucks, Google and Amazon for avoiding the payment of tax on their British sales. In these cases, Starbucks had sales of £400 million in the United Kingdom in 2012, but paid no corporation tax; Amazon had sales of £3.35 billion in the United Kingdom in 2011 but reported a “tax expense” of only £1.8 million; and Google’s United Kingdom operation paid just £6 million to the Treasury in 2011 on a turnover in the United Kingdom of £395 million. Yet everything these companies did was legal.

The effect of public protests, social media campaigns and “tax naming and shaming” has been to erode customer loyalty and, more importantly, to damage those companies’ reputations. The result was that on 6 December 2012 Kris Engskov, managing director of Starbucks in Britain and Ireland, announced that the company would pay around £10 million a year more in 2013–2014 tax than it is required to pay by law, adding that, “We’ve heard that loud and clear from our customers”.

This apparent “victory” does not necessarily mean that tax avoidance will decline dramatically. But it does mean that there is likely to be even more scrutiny of companies’ tax practices and avoidance tactics within countries in which they operate in and, for multinationals, via cross-border co-operation between governments as recognised at the Brisbane G20 summit. The organisation’s expertise in exploiting legal loopholes is therefore increasingly likely to be regarded as unethical conduct.

As to what being ethical really means: it means contributing fairly to the country in which the organisation operates. The Oxfam paper makes a number of sound recommendations as regards taxation that can reduce inequality. It advocates that wealthy individuals and corporations do not dodge taxes, support progressive taxation, and challenge governments to use their tax revenues to provide healthcare, education and social protection to all its citizens.

It is also important to recognise that when the only or primary criterion for evaluating behaviour is whether it complies with the law, it is likely to foster “lowest common denominator” behaviour. For instance, a company’s rules, code of conduct and policies cannot address each specific action or provide guidelines for every situation that may occur. Instead, that rests on ethics and being a good corporate citizen. And, therefore, corporations need to be very clear about their ethical standards to ensure that they continue to pursue an ethical path.

By Cynthia Schoeman