Tax planning or tax avoidance? One simple test

Over at Tax Research UK, Richard Murphy offers a simple test to distinguish between tax planning and tax avoidance. As he told a journalist, “That is easy. It’s getting legal opinion.”

With tax planning, Murphy says, you decrease your tax risk. “There are obvious examples: paying money into a pension, for example, does not create tax risk, and nor does putting money into an ISA [a UK individual savings account, which is similar to an IRA but more flexible] within allowed limits.”

By contrast, “Tax avoidance, on the other hand always, and without exception, increases your tax risk.” He gives examples of questionable allowances or use of tax haven structures. “In all such cases, the taxpayer’s risk is increased by undertaking the transaction. That is what tax avoidance involves.”

Murphy sends us further to David Quentin‘s tax blog. Here Quentin points out that there can be effective or ineffective tax avoidance, but that there is no such thing as ineffective tax planning. This, he argues, is an embarrassment for tax avoidance defenders, inasmuch as effective tax avoidance and ineffective tax avoidance are the same activity. With tax planning, there is no question that what you’re doing is legal. With tax avoidance, there is precisely such a question. So, as Murphy said, tax avoidance involves risk. Therefore, your tax adviser will suggest you get a legal opinion to “validate” the legality of what you are doing. While a putative tax avoider will use this opinion in arguing with tax authorities, it is ultimately the latter (and the courts) that will decide on the legality of the action taken.

What do you think? Is the distinction between tax planning and tax avoidance as easy to make as Murphy claims?