J d Jonah van Ravenzwaaij Universiteit van

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Jonah van Ravenzwaaij

Universiteit van Amsterdam


Business Administration group 7

January 29th 2018


























General introduction

In this paper, tax noncompliance and the
tax gap will be discussed. The paper will contain an elaboration on the
problem, a look at the current state of the problem and a discussion on how to
reduce the magnitude of the problem. The research is focused on tax
noncompliance and the tax gap in the United Kingdom specifically. We will try to
find an answer to the following question: “To what extent can the government of
the United Kingdom prevent and correct tax noncompliance?” The method of
answering this question is a literature review. The paper will start off with
an introduction to tax noncompliance and the tax gap, after which the opinions
and findings of researchers who have looked into the problem, like Hamilton,
Murphy and Wagner, will be discussed and compared in order to find an answer to
the central question.

Taxation in the United Kingdom

Taxes in the United Kingdom are payed to three
different levels of government. First of all, the central government, also
called Her Majesty’s Revenue and Customs, or HMRC. Secondly, the devolved
governments, existing out of the Scottish Parliament, the National Assembly for
Wales, the Northern Ireland Assembly and the London Assembly. And third, local
governments. The HMRC gets its revenue primarily from income tax, value added
tax and corporation tax. The HMRC has gotten the tasks to improve the extent to
which due taxes are actually paid and to receive the credits and payments to
which they are entitled. They also need to improve their customer service to
improve experiences.

The HMRC is divided into four operational
sections. These are Personal Tax, Benefits and Credits, Business Tax, and
Enforcement and Compliance.

Tax noncompliance

The noncompliance of taxes is unfavourable
to a tax system, it means that not all taxes that are due, are actually paid. Tax
noncompliance involves tax avoidance and tax evasion. Tax avoidance is done
through legally reducing the owed taxes through loopholes. Tax evasion is the
non-payment of tax liabilities, which is illegal. In other words, tax avoidance
is legal and tax evasion is illegal.  A
third way of reducing taxes, is tax mitigation. This is a legal way in reducing
the taxes one owes by, for example, donating money to charity.

Introduction to the tax gap

The tax gap is the difference between the
amount of taxes that are owed to the tax authorities (HMRC), and the amount
that the tax authorities eventually collect. The gap is mostly seen as a
technical issue. As Hamilton (2015, 617) states

tax gap is perceived to be an important indicator of the overall health and
effectiveness of the tax system. It could broadly indicate:

The clarity and acceptance of tax policies by the community;
2. The ease of interpretation of laws that enact those policies;
3. The effectiveness of the tax administration in both making those laws easy
to understand and comply with, and in following up non-compliance with existing

There are multiple reasons for measuring the
tax gap. First of all, it helps the HMRC to develop a strategy. Looking at the
tax gap helps the HMRC to see and address the causes of the problem to be able
to reduce the size of the gap. Second of all, comparing the numbers with other
countries helps us to see what strategies are most effective at reducing the
gap. For example, the size of the tax gap in Luxemburg is smaller than that in
the United Kingdom (C. Mol, 2016). The HMRC could look at how the government in
Luxemburg fights tax noncompliance and use those tactics in the United Kingdom.
Finally, measuring the tax gap gives us relevant information to help us
understand long-term performance.

The tax gap arises due to deliberate and
undeliberate underpay by taxpayers. Some people make simple mistakes calculating,
while others don’t take enough care in determining what they owe. In addition,
taxpayers and tax collectors can have different interpretations of the tax
laws, usually resulting in the taxpayer paying less tax than the HMRC would
want. Tax evasion, illegally hiding activities from the HMRC, also leads to
less tax income. Legal loopholes can be exploited to avoid paying taxes as

Current state of the tax gap

tax gap in 2015-16 is estimated at £34 billion,
equivalent to 6% of total tax owed. As figure 1 shows, the trend is sloping
downwards, which means the gap is declining. In the year 2015-16, as figure 2 shows,
the tax gap exists out of IT, NIC’s and CGT for 40%; for 37% out of Value Added
Tax; for 10% out of corporation tax; for 9% out of excise duties; for 4% out of
other taxes.


The Center for Social and Economic
Research (2016) shows us in their research that Value Added Tax is one of the
main sources of income for members of the European Union. Therefore it is
critical to address the Value Added Tax gap. It is necessary to tackle the
problem of VAT fraud and evasion to be able to solve the wider tax evasion
problem. The VAT gap arises from more than just fraud and evasion. The gap
exists out of VAT lost due to bankruptcies, insolvencies, administrative errors
and legal tax optimisation. The European Union has implemented a plan of reform
to simplify the VAT system and make it more efficient. In addition, European Union
members are expected to improve their administrations to reach better tax



is this issue important?

Murphy (2017) states that the more tax the
government is able to collect, the more the government is able to spend. Thus,
the littler the tax gap, the higher the prosperity. If the tax gap is big, the
government collects less tax than it would want to. This means the government
has to cut spending. Recent history has shown that most cuts in spending affect
public services and people who are dependent on government support. This
results in the fact that the size of the tax gap has a direct impact on the
quality of people’s lives.

The tax gap can be seen as an injustice
too. Those who do not pay what they owe, offload their financial burden onto
those who pay their taxes honestly. The upright taxpayer has to pay more taxes
to make up for those who try to cheat the system.

Reducing the size of the tax gap

According to Wagner Jr. (2006) there isn’t
one golden way to reduce tax noncompliance and the tax gap. Reducing the gap
requires a set of strategies that must be focused on both preventing
noncompliance as well as correcting noncompliance.

First of all, the tax code needs to be made
simpler. Ever-changing and complex tax codes do not only confuse the honest
taxpayer who is willing to voluntarily pay the amount of tax they owe, it also
creates the opportunity to exploit the complexity of the system to cheat
(Wagner Jr., 2006). All these changes in the tax code undermine the main
principles of taxation. Stability is nowhere to be found, consistency does not
exist and there little to no transparency.

Tax authorities need to improve their
customer service. In September 2015 Milligan brought out a report that showed
frustration amongst callers to HMRC about long holding times. This report
showed an average waiting time of 47 minutes per caller before their call was
answered. In addition, the expenses where at the caller’s costs (B. Milligan,

Taxpayers need to be made more aware of
their legal obligations (Wagner Jr., 2006). In addition, modernization could be
helpful to ease taxpayer burden. It should be made easier for people to pay
their tax bills. Wagner claims that the effort it takes to pay taxes shouldn’t
be higher than the effort needed to pay other bills. Sending reminder bills and
automatic withdrawals are likely to increase compliance. Simplifying the
process of paying taxes is also covered by improving customer service as
mentioned in the previous paragraph.

The needed improvements in customer
service, enforcement, modernization and simplification can be achieved by
increasing the tax authority’s resources.

Tax practitioners prepare a great deal of
individual tax returns, they have influence on the compliance levels of
taxpayers. These practitioners have the professional obligation to effectively
represent their clients, but they also are important in guaranteeing that
taxpayers fulfil their legal tax responsibilities (Wagner Jr., 2006). In other
words, even though practitioners have the obligation to follow the law, they
don’t always do so. For this reason, it is important for the HMRC to pay more
attention to the practitioners as the HMRC wants to make sure that tax
preparers are helping their clients to comply with the law.


The US Department of Treasury (2009)
suggests implementing and expanding Information Reporting Authorities. Even
though this is an idea from the US department of treasury, it is applicable in
other countries as well. They also suggest increasing the penalty for not
reporting properly.  This measure should
scare people of and is supposed to outweigh the incentives of non-compliance
(US Department of Treasury, 2009).

Logue and Vettori (2011) suggest
presumptive taxation, which could have a positive influence on the size of the
tax gap. Presumptive taxation is a concept of taxation according to which
income tax is based on average income instead of actual income. The research
shows that presumptive taxation is based on the assumption that the taxpayer’s
income is no less than the amount resulting from application of the indirect
method. The method of presumptive taxation is a way to simplify the tax system.
Also, this method is used to fight tax evasion and avoidance (Logue and
Vettori, 2011).

Shlomo Yitzhaki (2007) shows us in his
research that a presumptive tax is less accurate than the classical tax system.
One of the main principles of taxation is that taxes should be according to
ability to pay, this principle is violated in a presumptive system. Yitzhaki
also states in his research that reducing the bureaucratic burden on the
taxpayer is the biggest advantage of the presumptive tax system. For that
reason, presumptive taxation should be used in areas where the burden in
reporting is large compared to the gain in tax collected (Yitzhaki, 2007). In
other words, he states that presumptive taxes should be implemented in areas
where, in a classical tax system, the burden of reporting the taxes is higher
than the relative gains of those taxes.

Lederman (2010) suggests reducing
information gaps in order to reduce the tax gap. She discusses the influence of
information reporting on the magnitude of tax noncompliance and on the tax gap.
Through information reporting the tax authorities collect information about the
taxpayer’s situation from a third party. This only is an effective method, if
the taxpayer knows that the authorities have received this specific
information. However, information reporting imposes costs on the parties who
are obliged to report the information. This means that information reporting is
not always an effective method to reduce noncompliance and the size the tax
gap. The effectiveness of information reporting depends on who the reporters
are, what they must report about and how much information is required
(Lederman, 2010).


My hypothetical answer to the question “To
what extent can the government of the United Kingdom prevent and correct tax
noncompliance?” is that the government has multiple ways to prevent and correct
tax noncompliance. The most important measure will probably be simplifying the
tax code. By making it more clear for tax payers what is expected of them, the
number of miscalculations and honest mistakes could be diminished. Improving
customer service at the HMRC will have a positive effect on taxpayers’
willingness to pay. Also, people with questions regarding their taxes will get
better guidance, which will help in reducing the number of mistakes made by the
taxpayer. The government should make an effort in reducing the size of the
information gap. Lederman’s research shows that tax noncompliance is
discouraged when taxpayers are aware that the authorities have a lot of
information. The government of the United Kingdom will be able to prevent and
correct tax noncompliance to quite a large extent if they use the right
measures. Future research should focus on comparing different strategies from
different countries in fighting tax noncompliance. This is important, because
each country must be able to develop a strategy that works best for that
specific country. By comparing tax systems and the relative tax gap, tax
authorities will be able to discover an effective strategy for their tax


As Wagner Jr. (2006) stated, a mix of
actions is needed in order to reduce the tax gap. Simplifying the tax code, as
Wagner suggests himself, is focused on prevention. The idea of the US
Department of Treasury (2009), containing the expansion of Information
Reporting Authorities and increasing the penalty for wrongful tax reporting, is
focused on both prevention as well as correction. The higher penalties can be
seen two ways. First, the threat of a high penalty could scare taxpayers who
try to cheat. Secondly, a high penalty can be seen as correcting the offender.
Presumptive taxation, suggested by Logue and Vettori (2011), is a way of
preventing noncompliance. However, policy makers should bear in mind the
violation of the tax principle that taxes should be according to ability to
pay. The final and most important measure the government can take to reduce the
tax gap, is found by Lederman (2010). Reducing information gaps works both ways
as well. If the taxpayer knows that the authorities have all the right
information about what his payments should be, then the taxpayer will not try
to cheat, since there is no chance of getting away with it. This way
noncompliance is prevented. On the other hand, if the taxpayer does decide to
try and cheat, the authorities have all the right information to detect and
correct it. As shown by these researchers, the government of the United Kingdom
has multiple options to prevent and correct noncompliance. However, there is no
empirical evidence on the effects of any of these methods. Future research
should focus on the true effects of any of these measures. More exact numbers
on the effects of these measures are needed to be able to exactly identify what
will happen to tax noncompliance and the size of the tax gap.















Reference list

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Hamilton, S. (2015). Regulatory compliance,
case selection and coverage—calculating compliance gaps. Retrieved January 24
2018, from http://www.austlii.edu.au/au/journals/eJTR/2015/22.pdf

Logue, K. D., & Vettori, G. G. (2010,
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Murphy, R. (2014). The tax gap Tax evasion in
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Murphy, R. (2017). Why bother with the tax
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Reland, J. (2017, November 9). Tax dodging:
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Thuronyi, V. (1998). Tax Law Design and
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Toder, E. (2007, November 8). Reducing the Tax
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