In his inaugural post for this blog, Phil Jolie argues that taxpayers who engage in legally permissible avoidance transactions that achieve results that might not have been intended by Parliament are immoral. In the author’s view, the reasoning underlying this conclusion is suspect. Moreover, assigning taxpayers to “moral” or “immoral” groups is inherently problematic, and necessitates the legalistic approach to taxation that Mr. Jolie disparages.
THE OPEN FORUM BLOG
November 13, 2013
IS INCOME TAX SUPPOSED TO BE “FAIR”? - A Rejoinder
H. Michael Dolson
Felesky Flynn LLP, Edmonton
To begin, it is trite to say that tax is a necessary incident of a civilized society; one need look no further than John Locke’s Two Treatises of Government to see this point made in a convincing manner. Governments are necessary to avoid living in a state of nature and to eliminate the risks to one’s life and property posed by the state of nature, but they operate at a great expense. Taxes are the manner in which this expense is paid, and everyone should pay a “proportionate” share of that expense from their estate (i.e. their property).
Notwithstanding that property rights are secured through the government, property cannot be seized from citizens to pay for the government without their consent, which consent is secured exclusively through the legislature. This Lockean principle was enacted in the English Bill of Rights, 1689, and is received constitutional law in Canada. An individual’s income is his property, and, in keeping with this principle, can only be seized to the extent authorized by a democratically elected legislature.
It is also useful to consider the purpose for the creation of societies. With respect to Mr. Jolie, the author suggests that the principle purpose of an organized society may not be to take collective action, whether hunting mammoths or otherwise. Rather, societies may be formed in order to safeguard property rights and to allow justice to be dispensed in a uniform and predictable manner, based on laws and not on the varying standards of those who observe transgressions of natural law.
In this alternative conceptualization of society, the Palaeolithic hunter who captures the mammoth must give up some portion of the mammoth as a cost of living in a cave with other Palaeolithic hunters, where his mammoth is protected from other hunter-gatherers, where those who violate the rules of the cave can be punished in accordance with known rules, and where disputes can be resolved in a consistent manner. It is not for the other inhabitants of the cave to give some portion of the mammoth to the hunter who killed it. The mammoth is the property of the hunter, a product of his or her labour; nevertheless, he or she understands that, in accordance with the rules that the hunter agreed to when he or she decided to live in the cave, a pre-determined portion of the mammoth must be given up.
Viewed through this Lockean lens, it is clear why a legalistic approach to taxation is not just a mechanism to arbitrate disputes, but the only approach by which tax could possibly be imposed in keeping with the principles on which our society is established. All taxes are a confiscation of the property that society is intended to preserve, and can therefore only be imposed based on pre-determined rules that are known to every individual who may choose to live in that society. In contrast, determining the proper allocation of the tax burden on the nebulous and unlegislated concepts of “fairness” and “morality” exposes every individual to the varying judgments of every other individual, a feature of the state of nature that societies are created to avoid. In this sense, the Duke of Westminster principle is not a blessing of tax avoidance schemes – the rule that an individual cannot be made to pay more tax than is expressly authorized by Parliament in the taxpayer’s unique circumstances is simply a restatement of Lockean principles.
Concerns relating to non-universal standards of “fairness” and “morality” are not abstract problems, and an example of legally permissible behaviour that reduces an individual’s tax burden that was not cited by Mr. Jolie can be used to illustrate this point. This example involves the children’s arts and fitness tax credits, but this reasoning could be applied to many elective credits or deductions, including charitable donation credits.
Sections 118.03 and 118.031 of the Income Tax Act provide that an individual with children is legally entitled to claim certain tax credits if the individual’s child is enrolled in qualifying activities. These credits are effectively elective, so a decision to claim the credits is properly characterized as a decision to minimize an individual’s share of the total tax burden. Claiming these credits is thus a form of tax avoidance, albeit one that is explicitly sanctioned by Parliament.
Suppose that the individual is a high-earning tax professional and a reader of the Canadian Tax Journal. The individual is undoubtedly aware that these arts and fitness credits are likely of very little value in achieving their stated purpose of assisting parents with the cost of enrolling their children in organized arts or fitness activities that might otherwise be unaffordable. A charitable person would describe these credits as “poorly targeted”, while a cynic would call them an exercise in “vote buying” or “retail politics”. Suppose further that the individual knows that, as a relatively affluent person, he or she would enroll his or her children in the qualifying activities regardless of whether or not the cost of the activities was subsidized by a tax expenditure.
Is it “moral” to claim the tax credits in this situation? Applying his own standards, the author would suggest that it may not be. The hypothetical individual knows that these credits are not consistent with good tax policy, and that he or she is shifting the tax burden to other individuals as a result of his or her inelastic consumption. The moral argument for claiming the tax credits is simply that they are found in the Act, and that Parliament did not specify that the credits cannot be claimed by individuals in these particular circumstances. This would not satisfy Kant’s categorical imperative, a useful standard of morality: doing something because you can is not a desirable universal rule.
Is our hypothetical taxpayer able to defend against a charge of immorality on the basis that the author’s standard of morality is flawed? No, this cannot be the case. When one allows for actions to be measured using an inherently subjective and undefined concept such as morality, separate and apart from the laws enacted with the consent of the majority, one must allow for divergent standards, and the (figurative) war between men that results from each citizen applying his or her own subjective standard to the actions of others. Furthermore, to believe otherwise would be to accept that taxpayers engaged in aggressive tax avoidance could completely resist Mr. Jolie’s allegations of immorality by simply stating that his definition of morality is incorrect, without any further explanation.
Does the fact that claiming these credits will avoid only a minimal amount of tax impact the morality of the hypothetical taxpayer? No, it cannot. To define morality by reference to the amounts in issue is to explicitly acknowledge that the definition fails the categorical imperative, or to tacitly acknowledge that tax avoidance is moral – the principle can only be reduced to a universal rule if we accept that tax avoidance is an appropriate action in all circumstances.
Can the hypothetical taxpayer claiming these credits truthfully state that he or she is more moral than the taxpayer engaged in aggressive tax avoidance? No, he or she cannot. In our Lockean conceptualization of property and society, there is no obvious reason why an elective reduction in tax payable by virtue of Parliament’s explicit authorization is any better than a reduction in tax payable by virtue of Parliament’s decision to remain silent. The result is the same in either case: the income retained by the taxpayer always was, and will always remain, the property of the taxpayer, and Parliament has determined, either explicitly or tacitly, that it will confiscate only a certain amount of that property.
In the author’s view, the problems illustrated by this hypothetical demonstrate why Mr. Jolie must be incorrect, and why legality and morality cannot be separated in the realm of taxation. To allow for morality separate from the law is to expose the actions of every citizen to accusations of immorality that cannot be defended against by reference to any identifiable standard, and that could not have been known at the time that the action was taken. By defining morality by reference to democratically enacted laws, we create universal standards and allow citizens to determine whether or not their actions are moral before they are taken, thereby avoiding the resulting (figurative) war between men, in keeping with the Lockean rationale for the existence of our society.
The advantage of accepting that laws are the codification of morality is that a majority of citizens, acting through Parliament, may change the moral standards of society by revising the law to provide a remedy against immorality. If a majority of citizens does indeed “vigorously resent” a particular tax avoidance scheme that cannot be defeated using the existing statutory remedies (such as the general anti-avoidance rule), then they may, through their elected representatives in Parliament, amend the legislation to reflect their judgment and to prohibit the use of that particular scheme in the future. It will then be possible to say, with great certainty, that the use of that particular scheme is immoral.
The argument against immorality having been made to the best of the author’s ability, it is unnecessary to write anything further. To conclude, the inherently personal and subjective nature of concepts such as “fairness” or “morality” makes those concepts ill-suited for passing public judgment on the legally permissible behaviour of others. What is “fair” and “moral” must be determined by reference by laws consented to by the majority, which may be changed in response to immoral behaviour. While private judgments of morality will always be made, one gives up his or her right to compel others to act in accordance with a non-legislated standard of morality when one enters into society. In the tax context, reducing one’s tax burden by acting on the silence of Parliament is not morally impermissible since it is legally permissible.
|| The author would like to thank Jon D. Gilbert and S. Dane ZoBell of Felesky Flynn LLP for their comments on this topic, many of which are incorporated into this blog post. The author would also like to thank Jeremy J. Herbert and Timothy P. Kirby of Felesky Flynn LLP for their comments on earlier drafts of this blog post. Any errors or omissions herein are the responsibility of the author. .