“Tax Evasion and Tax Avoidance and Its Effects in Economic Development” Statement of the Problem: Tax evasion and tax avoidance is a great problem in our country. There are many people in our country who are liable to pay tax, but they are not paying tax. As a result government’s developments activities are hampered. So, we should know about the tax evasion and tax avoidance and its preventives measures. Tax evasion and tax avoidance are practices that have eaten deeply into the revenue that ought to be generated by the government, and hence affect the economic life of the country as a whole, in view of this, this study seeks to examine the reasons why people evade and avoid taxes, the methods used by people to achieve these and thereby proffer solutions to the practices. Literature Review: Tax evasion and tax avoidance is a great problem in our country. Every year a large amount of government’s revenue is lost. A study of (TIB) Transparency International, Bangladesh on March 31, 2011 an amount of TK 210 billion in taxes were evaded or defalcated in fiscal 2009-10 which was 2.8 per cent of the country’s national income and one-third of tax revenues collected during the year. The TIB, in its research findings noted the National Board of Revenue (NBR) could have collected 34 per cent more revenues that what it did in fiscal 2009-10 if it realized the above noted tax evaded amount of money. The TIB study also identified that tax- gross domestic product (GDP) ratio increased by only 6.5 per cent in the last 35 years as the government gave less priority to increasing tax revenue collections. It recommended to the NBR to ensure efficiency, transparency and accountability in the revenue board to help boost tax collection. Objective of The Study: The objective of the research is to provide a general description about the tax evasion and tax avoidance and its effects in economic developments. Another objective of the research is to fulfill the partial requirements of BBA degree. Due to tax evasion and tax avoidance every year a lot amount of government’s revenue are not collected. So, the main objective of research is to tide out the reasons of tax evasion and tax avoidance and the preventive measures of it. I have tried to put some of information that I have taken by questionnaire form and collected from various sources. The broad objective of this study is to find out why people evade and avoid tax and suggest ways of minimizing the practices in our country. The broad objective is broken down to the following specific objectives: • to identify the methods of tax evasion and tax avoidance in our country • to assess the differences between tax evasion and tax avoidance • to investigate why people evade and avoid taxes • to determine the effect of tax evasion and avoidance on the revenue generated in our country • to examine the relationship between the tax rates, tax evasion, and tax avoidance • To proffer solution to the problems of tax evasion and tax avoidance. Significance of The Study: It is very much important for us to know about tax evasion and tax avoidance. For development of a country government needs to create infrastructure and invest in creation sectors. For this activities government needs founds and tax revenue can provide fund for the purpose. But due to tax evasion and tax
avoidance government’s revenue is reduced. So, it is very much important for us to stop tax evasion and avoidance for accelerating economic development. Research Questions: Is the existence of loopholes in the tax law system an opportunity for tax avoidance and tax evasion? Is there any effect of tax evasion and tax avoidance in the economic development? How can tax evasion and tax avoidance be minimized and eliminated? Methodology of The Study: Methodology includes sources of data, methods of data collection, study period etc. In preparing this research paper both primary and secondary sources of information have been used. For collecting primary data, I have gone to NBR (National Board of Revenue) and that time I met some tax payers and discussed about tax evasion and tax avoidance with them to find out the reasons for tax evasion and tax avoidance. I have also taken ten people of different professions to find out the reasons and methods of tax evasion and tax avoidance by questionnaire form. The secondary sources are: – • • • • •
Articles of tax Journals of tax Income tax lawyer Books on tax Searched through Internet.
Limitation of The Study: To prepare the research paper I encountered some limitations. The limitations are given belowLimitation of time was a major constraint in making a complete study, due to time limitation. It was too limited to go to the all tax payers. Many aspects could not be discussed in the present study. Lack of comprehension of the respondents was the major problem that created a lot of confusion regarding verification of conceptual question. Another limitation of this research is that tax’s loopholes are not disclosing some data and information for obvious reason, which could be very much useful. Tax is a confidential subject. So, it’s all information is not available. Definition of Tax: • • • • •
Taxes are the most important source of revenue of the modern governments. It is a compulsory levy, to be paid by the citizens who are liable to pay it, imposed by the government. According to P.E. Taylor, “Taxes are compulsory payment to government without expectation of direct return in benefit to the tax payer.” According to Seligman, “A tax is a compulsory contribution from the person to the government to defray the expenses in the common interest of all without reference to special benefits.” According to section 2(62) of the ITO 1984, “tax means the income tax payable under the ordinance and includes any additional tax, excess profit tax, penalty, interest, fees or other charges leviable or payable under this ordinance” The above definition makes it clear that taxes are compulsory contribution by the taxpayer to the government.
Characteristics of Tax:
• • • • • • • • •
By analyzing the definitions of tax, following characteristics of tax may be identified: Tax is a payment to the government by the people as it is levied by the government as per Section 83 of the Constitution of Bangladesh. It is a compulsory payment to the government. Tax payer cannot claim direct benefits for payment of tax. The aim of tax collection is to finance the government expenditure to ensure public interest and welfare. It is one of the prime sources of revenue for the government. Tax is not any fine or penalty. Tax can only be imposed by the government of the country. It is a price paid to the Government for living in a civilized society.
Objectives of Taxation: Taxation is a major source of revenue for the government. In order to accelerate economic development as well as to ensure the defense, administration, social welfare and other development activities government needs huge amount of resources. So the main objectives of tax are mentioned below:• • • • • • • • •
Tax is a major source of revenue for the government. In Bangladesh tax revenue accounts for more than 80 percent of the total government revenue. One of the main objectives of taxation is to reduce inequalities in income and wealth. In order to ensure the economic growth, the tax system must be so designed as to raise the rates of savings and investments. The government not only raises revenue through taxation but it also imposes restriction on the use of certain goods and services. In order to protect the local industries from the uneven competition government may provide tax incentives for poor local industries. The tax revenue can be used by the government to ensure the economic development of a country. Export of products and import activities can be directed in favor of industries through tax policy. One of the important objectives of tax is to lead the economy to full employment stage. Taxation is an important tool to control inflation, push money to the economy, and develop certain sectors of economy.
So, it can be said that the purpose of tax is not only the collection of revenue, but also to ensure the economic development and social welfare of the country. Contribution of Tax in GDP and Revenue: Table-1: GDP, Ratio of GDP to Revenue and Tax for last 5 years Particulars GDP at current price Revenue
(In crore Taka) 2008-09 2009-10 6,13,111 6,85,000
Revenue as % of
GDP Tax as % of GDP
Tax as a % of Revenue
Source: (Economic survey 2007, Ministry of Finance, GOB, pp 201 & 213) & budget Documents of 2008 & 2009. Above the table shows that, the principle source is tax which accounts for about 86% of the revenue and the receipts remaining 14% comes from rest other sources. But our tax system yields low revenue at around 9% compared to develop and developing countries which have high ratio to support her development activities due to tax evasion and tax avoidance. Definition of Tax Evasion: Tax evasion may be defined either as the understatement or concealment of taxable object or as the failure to pay tax in time either by the assessee or his agent. So it is illegal. In case of tax evasion, tax liability is reduced or tax is not paid at all. Tax evasion is an attempt to escape tax liability (wholly or partially) by breaking the tax law and it is a criminal act since it is achieved principally by making false declarations such as under –reporting income or over reporting relieves and allowances. Tax evasion usually entails taxpayers deliberately misrepresenting or concealing the true state of their affairs to the tax authorities to reduce their tax liability, and includes, in particular, dishonest tax reporting (such as declaring less income, profits or gains than actually earned; or overstating deductions). Common Methods of Tax Evasion: Tax evasion is made through adopting illegal means. Generally, any asessee adopts the following methods to evade tax: •
To conceal actual sales, some organizations only make cash sales. In such a case, proper record of sales is not maintained. So fixed amount of tax cannot be determined. • To reduce profit volume and tax liability, false items of expenses or excess amount for an item of expense can be shown in the income statement. • Sometimes, the assessee does not disclose the additional sources of income. Similarly, a business may conceal income by not incorporating the branch income properly. • By forging documents like vouchers and imports and exports documents, sometimes, assesses try to evade tax liability. • Some assesses maintain duplicate records of their business and economic activities. They maintain one set of accounts for tax purpose and another set for internal use. This is called fake documents. • Concealment of income is another important method of tax evasion. • The importers purport to evade customs duty by (a) under-invoicing and (b) misdeclaration of quantity and product-description. When there is ad valorem import duty, the tax base is reduced through under invoicing. Misdeclaration of quantity is more relevant for products with specific duty. Causes of Tax Evasion:
Many people try to evade tax. The followings are identified as the main causes of tax evasion by the tax payers: • • • • • • • • • •
Maximum people of our country, who are liable to pay tax, are not conscious about to pay tax. Due to critical tax rules in our Tax Ordinance, alike some other countries a tax payer can take advantages of these rules to his own benefit. Existing tax payers do not get any benefit directly. So, others people are not encouraged to pay tax. Non-enforcement of measures relating to appropriate punishment. High tax rate discourages taxpayers to pay tax. Lack of patriotism is another cause for tax evasion. Tax payers do not realize that development activities are operated by their paying tax. Lack of proper guidelines many people do not pay tax Afraid of critical law is another cause for tax evasion. A section of corrupt people relating to tax administration help the tax payers to evade tax in exchange of speed money. Lack of investigations by the tax authority.
Definition of Tax Avoidance: Tax avoidance is the minimization of tax liability by the tax-payer or his agent by efficient tax planning. It is possible by fully complying with the tax laws and meeting tax liabilities. Thus tax avoidance takes the advantages of the loopholes in the existing fiscal laws. The avoider is just smart taxpayer who exploits loopholes in the tax laws (and related laws) to reduce tax liability. So, tax avoidance is the legal utilization of the tax regime to one's own advantage, to reduce the amount of tax that is payable by means that are within the law. Usually the avoidance of tax is done by the people who desire to keep their money with themselves and not it to the governments. Common Methods of Tax Avoidance: There are some tax rules in our tax ordinance, alike some other countries, which are critical. A tax- payer can take advantage of these rules to his own benefits. Tax avoidance is possible by adopting any of the following way: • • • • •
Purchasing prize bond is a clever practice for tax avoidance. Transfer of property in the name of wife or minor child is one of the ways of tax avoidance. Transfer of property to trust is another way of tax avoidance. Through such transfer of property to a Charitable Trust created by him helps to avoid tax. Creation of private limited company by the members of the family and relatives is also a clever practice for tax avoidance. A company can also avoid tax by transferring a portion of profit prior to the declaration of dividend to capital reserve or converting it to capital.
Causes of Tax Avoidance: •
By utilizing the loopholes of tax rules, the tax payers reduce their tax liability is known as tax avoidance. Followings are the reasons for avoidance tax:
Many tax payers do not want pay tax. They think tax is burden for them. So, they want to minimize their tax liability. High tax rate also encourage tax payers to avoid tax.
• • • • • • • • • • •
Corruption by the tax officers is a major cause for tax avoidance. For their personal benefit they harm for the country. The existing measures to prevent tax avoidance are considered inadequate to solve the problem. Lack of patriotism is another main cause for tax avoidance. The tax payers do not understand that all the development activities are conducted by their paying tax. Not to understand the Income tax Ordinance and the income tax law. Not to aware about – what is the benefit if we pay tax. Lack of proper guidelines and proper awareness regarding for paying tax. Difficulties of return form and formalities. Not to honor the tax payer is also another cause for tax avoidance. If they are honored, they will motivate to pay tax. Income tax dealing authority bad /misguide about law and ordinance. Not to clear concept in every respect for calculation and tax payment. Government do not know how to interested / influence for more collection tax.
Definition of Economic Development: Economic development is a term that generally refers to the sustained, concerted effort of policymakers and community to promote the standard of living and economic health in a specific area. Such effort can involve multiple areas including development of human capital, critical infrastructure, regional competitiveness, environmental sustainability, social inclusion, health, safety, literacy, and other initiatives. Economic development usually refers to the adoption of new technologies, transition from agriculture-based toy industry-based economy, and general improvement in living standards. Indicators of Economic Development: • • • • • • • • • •
Increase average income Increasing purchasing power Average heath (life expectancy, the rate of under nourishment, the birth rate) The level of education (male, female and adult literacy) Standard of living Poverty reduction Food security Industrial and agricultural development Infrastructural development Control population growth.
Effects of Tax Evasion and Avoidance in Economic Development: Transparency International, Bangladesh reported that an amount of TK 210 billion in taxes ware evaded in fiscal year 2009-10 which was 2.8 per cent of the country’s national income and one-third of tax revenues collected during the year. So, it is clear to us that how much amount of taxes is evaded every year. As a result it has a great impact in economic development. The effects of tax evasion and tax avoidance in economic development are as follows: • •
Tax revenue is used to build the infrastructure, to invest in social security programs, in various poverty elevation programs. But due to tax evasion and tax avoidance above the development activities are hampered. Tax evasion and tax avoidance hamper the social welfare. It obliges the government to borrow loan that affects the economic development.
• • • • • • • •
• • •
Economic growth is co-related with budget. It is natural that higher government`s income support to do large budget and large budget helps to accelerate economic development of a country. But due to tax evasion and tax avoidance a lot amount of revenue is not collected. As a result the government has to shortcut the budget. In capitalist and mixed economy private sector is supposed to play vital role in investment and development. But sometimes direct investment by the governments is necessary. Due to tax evasion and tax avoidance the government cannot supply the expected fund for investment. Recently the Grameen phone has evaded more than three thousand core of tax revenue. Energy supply is a great problem in our country. By using the amount of revenue the government could setup energy plant that would help to improve economic development of our country. The government has to take various plans for economic development. But lack of fund the plan cannot be implemented. If the people would not evade tax, the government could implement the plans. Due to tax evasion and tax avoidance the government cannot ensure the employment opportunity. Because the government needs fund to create employment opportunity. It also hampers structural development such as roads, bridges, transportation, industrial development etc. Social security cannot be provided fully by the government due to lack of fund. Tax evasion and tax avoidance is the main obstacle to create sufficient fund. If tax rules are not sufficient to check the tax evasion and avoidance, it may lead to the development of a culture of evasion. So a vicious cycle of tax evasion may take place. Tax evaded incomes are used for conspicuous consumption in the form of buying luxurious goods. As a result honest tax payers find various methods of tax evasion and tax avoidance. So the stability of the society will be endangered. Such illegal money is also transferred abroad weakening the economy of the country. Due to tax evasion and tax avoidance a huge amount of tax revenue is lost. As a result the government cannot provide basic needs for mass people. Development expenses fall due to tax evasion and tax avoidance. It affects the distribution function of wealth of the government and adversely affects the economic development of a country. From the above discussion it is clear to us that tax evasion and tax avoidance affect the economic development of a country severely. Because a large part of the government income is collected by tax revenue.
Findings: Due to tax evasion and tax avoidance every year the government lost a huge amount of revenue. So, I have taken ten people within my relatives of different professions, who are liable to pay tax to find out the reasons and methods of tax evasion and tax avoidance. Based on the analysis, the following findings were arrived at; 1. There is a significant relationship between tax rates and evasion and tax avoidance, such that; if the tax rates are increased; more people would evade or avoid tax liability, whereas, if the tax rates are reduced more people would be encouraged to pay taxes and desist from tax irregularities. 2. Concealment of income is an important method of tax evasion. 3. Tax evasion and tax avoidance have a significance relationship with the government revenue; hence government revenue is being seriously affected by tax irregularities. The overall evidence suggests that tax evasion and tax avoidance are very significance in our country and the degree of the significance depends on the extent to which the government relies on taxation as a means of government revenue. 4. To conceal actual sales, some organizations only make cash sales. In such a case, proper record of sales is not maintained. 5. To reduce profit volume and tax liability, false items of expenses or excess amount for an item of expense can be shown in the income statement.
6. By forging documents like vouchers and imports and exports documents, assesses try to evade tax liability. 7. Transfer of property in the name of wife or minor child is the way of tax avoidance. 8. Transfer of property to trust is another way of tax avoidance. 9. Maintaining duplicate records someone evades tax. This is called fake documents 10. People’s mental attitudes are the main cause of tax evasion and tax avoidance. 11. Existing the loopholes of tax laws are also the cause of tax evasion and tax avoidance. 12. In the case of tax evasion, tax liability is reduced or tax is not paid at all. So, it is illegal. But in case of tax avoidance, tax liability is minimized by taking the advantages of existing loopholes in tax rules. 13. Corruptions by the tax officials also encourage tax payers to evade and avoid tax. 14. Most of the tax payers are not aware about the benefits of paying tax. 15. Most of the tax payers agree that to pay tax is their moral responsibility; in spite of this they are doing this. 16. Due to critical tax rules in our Tax Ordinance maximum tax payers take advantages of these rules for their benefits. 17. Existing tax payers do not get any benefit directly. So, others people are not encouraged to pay tax. 18. Afraid of critical law is also cause for tax evasion. 19. The existing measures to prevent tax evasion and tax avoidance are considered inadequate to solve the problem. 20. Not to honor the tax payer is also a cause of tax evasion and tax avoidance in our country. 21. It was submitted that tax avoidance and tax evasion could be reduced and possibly eliminated. 22. Finally, the study shows that our tax system is not efficient and effective in its totality; there is no available database of all taxable individuals, the mechanism in place for the assessment and collection of taxes are not enough and there are no strict measures in place. Conclusion: The effect of tax evasion and tax avoidance in our economy cannot be overemphasized. The revenue of government has been greatly affected the current tax system being used gives room for loopholes, the corrupt tax officials, the lack of adequate data and many more have worsened the situation. In addition, a reduction in tax rate is even not an optimum solution to the problem, simply because some people would still attempt to evade or avoid taxes no matter the rates of taxes. The fact is that the change of mentality of tax payers is the main solution of tax evasion and tax avoidance. In my research paper the highest effort has been given to achieve the objective, though due to time limitation and confidential matter of tax it would not be possible to go to the depth of all information. Recommendations: Tax evasion and tax avoidance is a great problem in our country. Due to tax evasion and tax avoidance every year the governments lose a huge amount of revenue. By analyzing all the data and information of tax evasion and tax avoidance I want to mention some recommendations which are as follows: • • • • • •
First of all, tax payers have to change their mentality. Because paying tax is their moral responsibility. Exiting tax rules should have reformed so that, nobody cannot take the advantages of the loopholes of tax rules. Introduction full automation of tax collection system and faciliting e-governance. Corruptions by the tax officials should handle with strict hand. Level of punishment should be increased. So that nobody could not think about tax evasion and tax avoidance. Tax investigation systems have to start. To stop tax evasion and tax avoidance tax investigation will help a lot.
• • • •
• • • • •
To ensure efficiency, transparency and accountability in the revenue board will help boost tax collection. Giving rewards to the highest tax payers will encourage tax payers to pay tax rather than tax evasion and tax avoidance. Pre-shipment inspection agencies can be appointed to control custom duty. It is often alleged that tax lawyers and chartered accountants help taxpayers including firms and companies in evading taxes. In the same vein, the Clearing and Forwarding agents help in evasion of Customs duties. It has been suggested that removal of human interface is a reliable solution to this problem. By arranging tax fair, that will motive tax payers to pay tax. Television advertisement- mentioning if we pay tax then people will benefit and so many positive sides. To identify new tax payers and collect their all information about the sources of income. To identify new sources of income of old tax payers. Tax evasion is a crime in almost all developed countries and subjects the guilty party to fines and/or imprisonment - in China the punishment can be as severe as the death penalty. It is often considered that extent of evasion depends on the severity of punishment for evasion. So, in our country the punishment should be so severe, so that nobody could not imagine about tax evasion and tax avoidance.