From time to time, news headlines tell us about one of big corporations avoiding a large proportion of its tax liability. More often than not, this applies to tech giants. As Google and Facebook were featured in the headlines for a long time, the tax liability that is avoided by corporations is often referred to as “Google tax”.
However, tax avoidance is almost never illegal and often isn’t immoral. The key difference between tax evasion and tax avoidance is that tax evasion is strictly illegal and involves deliberate failure to declare some of the income, while tax avoidance work by reducing tax liability via completely legal means.
Major companies almost never participate in tax evasion. Also, more often than not, it is not a simple greed that motivates the companies to reduce their tax liabilities, but rather the commitment to reduce unnecessary expenditure as much as possible.
There are situations when paying less tax actually results in more good work being done. In this article we explain why and how it is possible.
The statement that big corporations pay little or no tax is misleading
News headlines, especially of a populist tabloid variety, often do say that one of the well-known multinational corporations paid little or no tax. However, the truth is, the only tax that such organizations can legally reduce or eliminate is corporation tax, which is just one of many taxes the companies pay.
This is the tax that the companies are liable to pay on their profits. However, before a company, especially a large one, would earn any profit at all, it would already have paid a substantial amounts of money in other taxes.
For every employee, a company would have paid an income tax. Many tax authorities force employers to pay additional sums that aren’t even visible on employees’ payslips. For example, Great Britain requires employers to pay an extra amount of so called National Insurance. As a large company would have a large workforce, the total amount that such company would pay would work out to be sizable.
In addition to this, every sale that a company makes has VAT attached to it, unless a company specialises in VAT-exempt items, of which there aren’t many. The amount VAT paid by a company is related to its profit, because more sales means more VAT being paid.
Just like the income tax, this is a tax that a company would not be able to avoid, even if its executive wanted to. The only way to avoid income tax is to pay salaries in cash and the only way to avoid VAT is to sell goods and services on black market, neither of which is done by major corporations.
In addition to these types of taxes, every major corporation has to pay variety of legal taxes. For example, various parts of corporate operations require insurance and each one of the policy types has insurance tax component.
Finally, every major corporation contributes towards public purse indirectly by being a major consumer of goods and services provided by others. Therefore, additional income tax, VAT and legal tax revenues are generated simply due to the company being there.
Tech giants often provide free public services well beyond of what governments can provide
The majority of tech giants these days follow a business model that includes free access to the bulk of the services, so that as many users as possible can get attracted to them.
Google provides a very effective search engine, a navigational software with live traffic updates, an interactive translation and many more services. Facebook, with its motto of “it’s free and always will be”, provides multiple channels to communicate with your friend and share content. Almost all mobile app makers provide free apps with either all of its functionality or the bulk of it available for free.
Consumer-focused tech companies often choose the method of distributing services for free because it proves to be the most effective business model to follow and not necessarily because companies choose to be altruistic. If the system is used by millions or even billions, this provides a great business opportunity to the advertisers, which are the ones who actually pay for the services, so the actual users don’t have to.
For example, the author of Flappy Bird app was able to become a millionaire overnight purely because his free app had advertisement code and a large number of users downloaded it. Therefore, even if a particular tech company is as self-interested as possible, it is still likely to provide many services for free, simply because it profits the company to do so.
Providing services for free is one thing, but do these services really compare to anything that the governments provide? The answer is yes.
For example, I have personally benefited from Google in my professional life. When, in my work as a software developer, I come across unfamiliar technology, I can learn about it in seconds by writing a simple query in Google instead of spending hours looking for the right reference book in the local municipal library. The bulk of my coding skills were learned by searching Google for free online tutorials, watching lectures on YouTube and being a member of various tech-oriented groups on various social media platforms.
As the result, I was able to substantially increase my productivity and start earning well above the British national average. This is in a completely different league from employability programs provided by the government that more often than not are completely incapable of providing any career support and getting people into work.
Also, if you ever needed to call a government-provided helpline, it probably failed miserably compared to Google. In fact, when I have used one last time, the operator’s answer to my query was “google it”!
By far, the most important service that the tech companies provide is evolution of the internet, both in terms of improving its physical infrastructure and improving the software that goes with it. The best-known tech giants are members of Internet Engineeniring Task Force, the organisation that constantly improves how the internet works.
By building dedicated data centers, tech companies improve the infrastructure available to all internet users. Many tech companies also freely publish various tools that were either developed for internal use or as “pet projects”. Google’s jQuery and Twitter’s Bootstrap are good examples of client-side programming technologies that make appearance of web pages much better.
However, sometimes tech giants go one step further and create internet infrastructure where none could even exist before. For example, Google, Facebook and Amazon came up with plans to provide web connectivity to remote parts of the world by using drones and balloons.
Governments are wasteful by their nature
This is not a political opinion of any kind, but a statement of fact. There are major reasons why governments are inefficient by their nature. And almost nothing can be done about it.
For example, there are many regulations and bureaucratic rules that exist within the public bodies, not all of which are useful. Also, the key difference between departments in a private corporation that operates in free market and a government department is what happens when the total expenses incurred are smaller than the budget.
The department within a private commercial organisation is likely to receive a budget boost within the next fiscal year, so it can continue its efficient work and earn more money for the company. The budget within the government department, however, will be cut, because it will be assumed that under-spending means that the department doesn’t need as much money to function.
Therefore it is within the interest of a government department to ensure that the whole budget is spent. One of the most noticeable symptoms of this is idle municipal workers at a roadworks, who still get paid while no work is being done.
Another reason why the governments are inefficient is because of various completely arbitrary targets, which often arise from promises to the voters. For example, a government may promise that they will reduce the unemployment rate. To achieve this, they sometimes create jobs that serve almost no useful purpose.
An example of this was a proposal by Jeremy Corbyn, a British far-left Marxist politician, to disarm the nuclear submarines, but keep them patrolling to maintain the jobs. A nuclear submarine without its arsenal can serve no useful purpose, but would still cost money to maintain.
Another example of this is employment diversity targets that need to be met. If it becomes apparent that there are not enough suitable candidates from targeted demographic groups applying for urgent vacancies, public organisations often resort to creating unnecessary jobs purely to meet the diversity targets.
It is true that a dollar that is not paid in taxed cannot benefit the larger public. However, unless a substantial part of the dollar is set aside for executive bonuses (which, in tech companies, is usually proportionally little due to strict shareholder responsibility rules), this dollar will be reinvested in the company and is likely to benefit its employees.
When a dollar is paid in taxes, however, it will have to go through several layers of bureaucracy, each of which will divert some of its value to unnecessary projects. Therefore, only a few cents are likely to reach its intended targets and provide benefit to the public.
Making in-demand service free can result in “Tragedy of the Commons” scenario
The term “Tragedy of the Commons” comes from old England. General public was granted the right to use swathes of land, known as Commons, for various agricultural activity. As everybody needs to obtain food, the demand for these pieces of land surged. This continued until most of this land has deteriorated due to overuse to such an extent that it could no longer support any agricultural activities.
In modern times, “Tragedy of the Commons” is often applied to overuse of natural resources on neutral uncontrolled territory.
Over-fishing in international water is a good example. However, this also applies to any in-demand public service that the government decided to make freely available.
As I live in Britain, the best example of this that I can think of is National Health Service (NHS). In Britain, most of the healthcare is free at the point of delivery. However, as demand increased, the quality of the service decreased substantially.
This is because when more people need a finite resource, the amount of it that each person can receive becomes smaller. Currently, NHS it as such pressure that it takes several days to book an appointment with a doctor, each appointment can only last 10 minutes, waiting times at emergency departments are in the region of several hours and it takes months to receive a specialist treatment.
Medical professionals are overworked and underpaid, so they make mistakes and frequently go on strikes. This is why many people in Britain say that the best thing that NHS has done is made the private medical insurance cheaper.
As well as bad quality of free public services due to overuse, there is also a cost issue, as such services are not necessarily cheaper that their equivalent provided by the private sector. Due to the high demand, they often become so called “financial black holes”.
The closest country to Britain in terms of healthcare demand is USA, as both countries have large proportion of population who make unhealthy lifestyle choices, such as smoking, consuming large amounts of alcohol and overeating. However, the key difference is that USA has insurance-funded private healthcare.
This healthcare model is often criticized, as there are many people who cannot afford private medical insurance and therefore aren’t eligible for most of the treatments. However, if you are a reasonably healthy individual and you work in an average middle-class job, you will probably pay way less for your medical insurance than wold have been taken from your income tax for the maintenance of NHS in Britain. Let this fact sink in.
Precisely because American healthcare is not as accessible as British NHS, the service provided to those who have an insurance is of suitably high quality. Also, privately funded system allows medical professionals, such as doctors and nurses, to receive reasonably high salaries, which, unlike in Britain, makes healthcare one of the primary choices of career for talented individuals and eliminates shortages of staff.
Almost any public service you can think of can be provided by private market
Healthcare is not the only service that can be provided either via the public funding or by a private entity. Almost any public service you can think of can be provided by a private organisations without being funded by taxation.
In the Republic of Ireland, for example, residents pay for household rubbish collection when it is needed, so if someone is determined to produce as little waste as possible, they are not forced to pay the same flat tax amount for the collection, regardless of whether it needs collecting or not. On Cayman islands, public roads are funded by private corporations, because those companies realized that they need the infrastructure, regardless of whether the government is prepared to pay for it or not.
Social security benefits is the area where private market tends to outperform the government. Some of these benefits, such as unemployment benefits, are commonly referred to as “safety net”.
However, this definition is often technically inaccurate. Safety net is something that is meant to stop people from falling all the way down. In Britain, however, it is far from being the case.
The system dictates that people who earn income and pay taxes aren’t eligible for such benefits, even if their circumstances suddenly change. Therefore, if a mid-career professional unexpectedly loses his job, he will have to spend his entire savings and get his mortgaged property repossessed before he can officially become eligible for any support from the government at all. However, somebody who never obtained a professional qualifications and has done little or no work is eligible for full support and can live rent-free at the government’s expense.
This is why various types of income protection insurance serve much better purpose as a safety net. And they guarantee that the amount of financial support is proportional to personal contribution. The same applies to private pension, especially as state pension is often inadequate as the source of retirement funding. Both of these contribution-based personal benefits often cost only a fraction of what an average skilled professional would pay in taxes for social security benefits for others that they themselves would probably not be entitled to receive.
Privately funded public service, of course, aren’t guaranteed to be better than government-provided ones. In Britain, for example, trains are run by individual private operators and the quality of the most of them lags well behind many countries where this type of public transport is publicly owned. So the key advantage of services provided by private companies is not that they always guarantee to provide better quality than the government-provided services, but that the only people who pay for them are the ones who actually use them.
Pro-actively ethical companies don’t alway treat their own employees well
There are companies out there who decide not only to pay their tax liabilities in full, but also to provide extra funding to various public projects and good causes. Microsoft is one of the most notorious example.
However, Microsoft is an exception rather than the rule. The corporation is highly profitable and, although it does give away a large proportion of its profit, it can do so because it earns abnormally high profit in the first place that very few other companies are capable of achieving.
When a medium-size company is pro-active in its efforts to fund the public services, it is usually a completely different story. I happened to have worked for such company in the past.
The company indeed lived up to its promise and gave a significant amount for various good causes and community projects. The only problem was, however, that the company paid its own employees well below the market rate. The situation was so bad that highly qualified professionals with advanced degrees were often earning less that unskilled warehouse operators were paid in the local area.
However, mistreatment of its employees didn’t end there. As a qualified professionals could find a much better paid job elsewhere with relative ease, the directors of the company tried their best to convince the employees that what they were earning was, in fact, the market rate and that there weren’t that many other companies out there that were hiring for similar jobs. This propaganda worked well for fresh university graduates who weren’t yet experienced enough to know how the job market works.
This was not an isolated case. Philanthropy rarely works in small and medium-size businesses. This is also very different from how employees are treated in the companies that are often associated with tax avoidance. Both Facebook and Google pay their employees well and provide the whole range of additional benefits beyond the salary.
When you will see a politician complaining about some multinational corporation not paying its “fair share” of tax, be aware that the small amount that they allege the company has paid is likely to be substantially less that what the company has actually paid. Corporation tax is only one of many different taxes that the businesses are liable for. But corporation tax is the only tax the populist politicians, journalists and political activists will be talking about.
Also, you may ask that, instead of demanding more money, what wasteful practices would the government be willing to eliminate to take the best advantage of the money that they already have.
Public services don’t necessarily have to be provided by the government. And when they aren’t provided by the government, people who don’t intend to use the services aren’t forced to pay on behalf of those who will be the recipients.
The majority of multinational tech companies are not motivated by the greed when they engage in tax avoidance. They have responsibility before the shareholders not to incur unnecessary expenses and this includes avoidable taxes. Therefore, these kind of companies are unlikely to engage in illegal tax evasion, but are very likely to exploit every available loophole in badly written tax law.
Often, the majority of tech giants provide more than sufficient compensation to the public for the taxes that they avoid paying in terms of free useful services that they provide. Also, successful corporations tend to treat their employees well and, as consumers of various goods and services themselves, they contribute towards the economies of the countries where they operate.
One thought on “Ethical side of tax avoidance”
The ethics of reducing tax liabilities becomes problematic when it is aggressively avoided through creative schemes that are not intended or authorised by the state – but which do abide by the letter of the law. It is here we see what is referred to as “ tax avoidance ”. This is formally legal but highly questionable, seriously harmful and often unethical.