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In India, people try to find many ways of not paying or avoiding taxes. Tax evasion and tax avoidance are used interchangeably to describe such acts. But they are different terms that serve the same purpose- to provide means for reducing taxes or avoiding paying taxes. However, such avoidance is considered a serious offense if it is done using unfair means or by concealing information/income from tax authorities.
If caught, the person may face an enormous penalty and imprisonment.
Tax planning, Tax evasion, and Tax avoidance are all terms that come under the umbrella of the Income Tax Act, of 1961. Let us talk about them in detail.
Tax Evasion is an illegitimate way to minimize tax liability through unlawful techniques like inflating expenses or understating taxable income. Such fraudulent means are used with the motive of showing lesser profits to minimize one’s tax burden. Certain noted illegal practices are concealing income or relevant documents, making false statements, overstatement of the tax credit, not maintaining complete records of the transactions or accounting personal expenses as business expenses.
Tax evasion is an offense for which the assessee could be punished under Chapter XXII of the Income Tax Act, 1961. One common way people adopt to evade taxes is by transacting in cash without accounting for the same in books. However, to track and tax such transactions and the means utilized to evade tax, the government keeps a vigilant watch and picks the cases for assessment. If caught, a heavy penalty may be levied along with taxes.
For example, John owns a small business and generates significant cash income from his business activities. Instead of reporting the full income and paying the appropriate taxes, John engages in tax evasion to evade his tax obligations. John begins by intentionally underreporting his business income on his tax return. He manipulates his accounting records, inflates expenses, and hides some of his cash income. By doing so, he significantly reduces his reported income, which leads to a lower tax liability. John's actions constitute tax evasion since he deliberately and illegally manipulates financial information, hides income, and conceals assets to avoid paying the taxes he owes.
Tax Avoidance involves using legal methods to minimize tax liability. In other words, it consists in using means within four corners of the tax law to minimize one’s tax burden. Although a legal method, it is not advisable as it ultimately aims to reduce the amount of tax that is payable by one for their own personal advantage, which is unfair exploitation of law. Tax avoidance is taking unfair advantage of the lacunae in the tax law by finding ways to avoid the payment of taxes. Tax avoidance is usually done by adjusting the accounts so that there will be no violation of tax laws or by finding loopholes in the law. Though lawful, it could be categorized as an offense in some cases.
For example, companies channel their funds through offshore branches to avoid paying taxes in their home country.
Tax planning is a comprehensive evaluation of one’s financial situation using current known and estimated future variables and drawing out a feasible plan. Tax planning, like tax evasion/avoidance, is also done to reduce tax liability. However, it involves legal planning regarding investments, expenses, etc., to avail various exemptions and deductions provided under the tax laws.
E.g., Section 80C allows a deduction of up to INR 1,50,000 if specified investments are made. The most popular ways of saving tax through planning are investing in Life insurance policies, PPF accounts, National Saving certificates, Sukanya Samriddhi Scheme, term deposits, Provident Funds, etc. Tax planning involves planning the financial affairs to entitle the taxpayer to the benefits of deductions, exemptions, concessions, and rebates. Tax planning is a genuine approach to applying all the provisions within the tax law framework to the taxpayer’s benefit.
Difference between Tax Planning, Tax Evasion, Tax Avoidance
| Criteria | Tax Planning | Tax Evasion | Tax Avoidance |
|---|---|---|---|
| Legality | Legal | Illegal | Legal |
| Objective | Minimize tax liability within the boundaries of the law | Evade or avoid payment of taxes illegally | Minimize tax liability within the boundaries of the law |
| Methods used | Utilizing legitimate tax provisions and strategies | Fraudulent activities, false information | Utilizing legitimate tax provisions and strategies |
| Compliance | Complies with tax laws and reporting requirements | Violates tax laws and reporting requirements | Complies with tax laws and reporting requirements |
| Consequences | No legal consequences | Penalties, fines, legal actions, reputation damage | No legal consequences |
| Examples | Maximizing deductions, tax credits, retirement planning | Underreporting income, fabricating expenses | Utilizing tax incentives, deductions, exemptions |
Not paying tax dues: Not paying taxes by the due dates or not paying taxes when called for by the tax authorities.
| Type of Default | Penalty |
|---|---|
| Failure to File ITR Within Due Date | Fee of Rs 5,000 Fee of Rs 1,000 (Income<5lakhs) |
| Failure To Deduct TDS | Penalty is equal to the amount of TDS not deducted |
| Failed To Collect TCS | Penalty is equal to the amount of TDS not deducted |
| Default in Filing TDS Return and TCS Return | Rs 10,000 to Rs 1,00,000 Along with a late fee of Rs 200 per day till the default continues. |
| Default in paying Self Assessment Tax | Penalty is equal to the amount imposed by the assessing officer. However, the penalty cannot exceed the amount of tax in arrears. |
| Failure to get accounts audited or submit a report of audit | Penalty is lower of these:0.5% of total sales, turnover or gross receipts, etc., or Rs. 1,50,000. |
Tax avoidance is a legal practice of minimizing tax liability within the boundaries of the tax laws, using legitimate strategies, and taking advantage of available tax benefits. Tax evasion, on the other hand, is illegal and involves intentionally and unlawfully evading or avoiding the payment of taxes by engaging in fraudulent activities, such as providing false information or manipulating financial records.
Tax avoidance is subject to legal boundaries and regulations. Some jurisdictions may have specific rules in place to prevent abusive tax avoidance practices, such as general anti-avoidance rules (GAAR), which aim to counteract artificial or abusive tax arrangements.
The ethical aspects of tax avoidance can vary depending on individual perspectives. Some argue that it is responsible financial planning within the confines of the law, while others believe that aggressive or abusive tax avoidance schemes may be unethical.
Tax evasion is illegal and can result in serious consequences. Penalties, fines, interest charges on unpaid taxes, criminal prosecution, imprisonment, and damage to one's reputation are potential consequences. Tax authorities have the power to investigate, assess, and take legal action against individuals or entities involved in tax evasion.
To ensure legal tax planning, individuals should consult with tax professionals, stay updated on tax laws, follow reporting requirements, accurately report income and deductions, maintain proper documentation, and avoid engaging in fraudulent activities or schemes designed to evade taxes.
