1 - 2019 - Fundamentals of Taxation An Introduction To Tax Policy Tax Law and Tax Administration

This eBook is licensed to Neni Susilawati, neni.susilawati@gmail.
com
Fundamentals of Taxation: An Introduction to
Tax Policy, Tax Law and Tax Administration
This eBook is licensed to Neni Susilawati, neni.susilawati@gmail.com

Fundamentals of Taxation:
An Introduction to Tax Policy,
Tax Law and Tax Administration
Pasquale Pistone
Jennifer Roeleveld
Johann Hattingh
João Félix Pinto Nogueira
Craig West

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Production of this Work
This multi-authored book is the result of the scientific cooperation between

the University of Cape Town and IBFD. While each author was tasked with
the initial drafting of aspects of the book, the book is and remains a col-
laborative and multi-authored single manuscript.
In the interest of transparency, the initial division of work is recorded as

Pasquale Pistone (preface and chapter 5); Jennifer Roeleveld (preface and
section 4.3.); Johann Hattingh (sections 2.3., 3.1., and 3.3.-3.4); João Félix
Pinto Nogueira (chapter 6); and Craig West (chapter 1 and sections 2.1.-2.2.,
3.2. and 4.1.-4.2.).
Peer Review Process and Statement
This statement serves to confirm that the full manuscript of this book was
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nal peer review, three independent international academic experts in the field
were tasked with reviewing the manuscript. In particular, the reviewers were
asked to comment on whether the manuscript provides an original analysis
based on thorough knowledge of the existing literature on the subject.
Upon receipt of the positive reviews, the manuscript was accepted for publi-
cation and the publishing team made the final editorial, stylistic, grammati-
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IBFD
May 2019

Table of Contents
Preface ix
Chapter 1: Introduction to Tax Policy 1
1.1. Fiscal policy and tax policy 1

1.2. The budgetary balance of tax, debt and expenditure
in fiscal policy 1
1.3. Policy principles for a state to raise taxation 3
1.3.1. What is a tax? 3
1.3.2. Theories justifying taxation 4
1.3.3. Justifying taxation through its use 6
Chapter 2: Principles of Taxation 9
2.1. Features of a good tax policy 9

2.1.1. Introduction 9
2.1.2. Equity 10
2.1.2.1. Defining equity in tax policy 10
2.1.2.2. Horizontal equity 11
2.1.2.3. Vertical equity 11
2.1.2.4. Legitimacy 13
2.1.2.5. Inter-nation equity 13
2.1.3. Economic efficiency 13
2.1.3.1. Defining economic efficiency for
tax policy 13
2.1.3.2. Neutrality 13
2.1.3.3. Stability 14
2.1.3.4. Simplicity 14
2.1.3.5. Productivity 15
2.1.3.6. Sufficiency 17
2.1.4. Administrability 17
2.1.4.1. Defining the administrability of
tax policy 17
2.1.4.2. Certainty, transparency, accountability
and legality 18
2.1.4.3. Collection cost/tax yield 19
vii

Table of Contents
2.1.4.4. Simplicity 19
2.1.4.5. Enforceability 20
2.1.4.6. Information security and confidentiality 21
2.1.5. Coherence 21
2.1.5.1. Defining coherence 21
2.1.5.2. Interaction within and between taxes 21
2.1.5.3. Broad base 22
2.1.5.4. Tax mix 22
2.1.5.5. Adaptability and continuity 23
2.1.5.6. International coherence 24
2.1.6. Challenges in application 24
2.1.6.1. Tax mix to be relevant 24
2.1.6.2. Understanding the purpose of the tax 24
2.1.6.3. Developing versus developed countries 25
2.1.6.4. Reliance on external reference points 25
2.2. Economics and tax policy 26
2.3. Rule of Law 28
2.3.1. Introduction and rationale for the Rule of Law 28
2.3.2. Functioning and presence of the Rule of Law
in a legal system 29
2.3.3. Nature and features of the Rule of Law 29
2.3.4. “No taxation without representation” 33
2.3.5. Certainty: Interpretation of law 35
2.3.6. The principle of legality 36
2.3.7. Law – not discretion – and the exercise of
public power 38
2.3.8. Equity in tax law 40
2.3.8.1. Justice, fairness and ability to pay 40
2.3.8.2. Non-discrimination 41
2.3.9. Other aspects of the Rule of Law 42
2.3.9.1. Dispute resolution and fair trial 42
2.3.9.2. International law 42
viii

Table of Contents
Chapter 3: Legal Systems 45
3.1. Common law 45

3.1.1. Introduction and features 45
3.1.2. Territorial reach of English common law 47
3.1.3. Commercial and tax law in common law countries 48
3.1.4. Sources of tax law and rules of precedent 49
3.1.5. Interpretation of tax law 52
3.1.6. Relation of tax law to the general legal framework 55
3.2. Civil law 56
3.2.2. Territorial reach of civil law 58
3.2.3. Commercial and tax law in civil law countries 59
3.2.4. Sources of tax law and the rule of precedent 60
3.2.5. Interpretation of tax law 61
3.2.6. Relationship between tax law and the general
legal framework 62
3.3. Mixed legal systems 63
3.3.2. Commercial and tax law 65
3.4. Supranational law and international institutions 65
3.4.2. Supranational law and tax law 66
3.4.3. International institutions and tax law 67
3.4.4. The impact of hybridization and pluralism
on tax law 67
Chapter 4: Substantive Tax Law 71
4.1. Introduction 71
4.2. Institutional design 72
4.2.1. Federal versus central (unitary) systems 72
4.2.1.1. Introduction 72
4.2.1.2. Federal systems 72
4.2.1.3. Central systems 75
4.2.2. Regional integration 76
4.2.3. Division of powers 77
4.2.3.1. Overview 77
4.2.3.2. Legislative powers 79
4.2.3.3. Executive powers 81
4.2.3.4. Judicial powers 82
4.2.4. The making of tax policy 84
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Table of Contents
4.3. Tax system design 85

4.3.1. Who will be taxed? 85
4.3.1.1. Natural persons 86
4.3.1.2. Corporate entities 86
4.3.1.3. Transparent entities 86
4.3.1.4. Permanent establishments 87
4.3.1.5. Geographical scope 87
4.3.2. What will be taxed? 87
4.3.2.1. Income 88
4.3.2.2. Wealth 88
4.3.2.3. Transactions 89
4.3.2.4. Consumption or use 89
4.3.2.5. Net or gross basis 89
4.3.2.6. The influence of accounting principles
on tax law 90
4.3.3. When will it be taxed? 91
4.3.3.1. Direct taxes 91
4.3.3.2. Indirect taxes 91
4.3.3.3. Transactional 92
4.3.4. How will tax be collected? 92
4.3.4.1. Employment 92
4.3.4.2. Business or other income 92
4.3.4.3. Withholdings 93
4.3.4.4. Indirect taxes 93
4.3.4.5. Cross-border assistance 93
4.3.5. Administration of tax collection 94
4.3.6. How do you deal with avoidance and evasion? 95
4.3.6.1. SAARs 95
4.3.6.2. GAARs 96
4.3.6.3. TAARs 96
4.3.6.4. Amnesties and voluntary disclosure
schemes 96
4.3.7. Treaties 96

Table of Contents
Chapter 5: Procedural Tax Law 99
5.1. The general framework of tax procedures 99

5.1.1. The structure of tax procedures 99
5.1.1.1. Instrumental function in the exercise
of taxing powers by means of tax collection 99
5.1.1.2. Administrative and judicial tax
procedures 100
5.1.2. The principles of tax procedures 102
5.1.2.1. Fairness and legal protection 102
5.1.2.2. The four foundation principles of fair tax
procedures103
5.1.2.2.1. The principle of
proportionality 103
5.1.2.2.2. The prohibition of double
jeopardy105
5.1.2.2.3. The right to be heard 106
5.1.2.2.4. The right to not
self-incriminate 110
5.2. Administrative tax procedures 110
5.2.1. Tax rulings 110
5.2.1.1. Features, functions, effects and
legal basis 110
5.2.1.2. The effects of tax rulings and their
relationship with other tax procedures 111
5.2.2. Tax assessment 112
5.2.2.1. Self-assessment versus assessment of
tax by tax authorities: Features,
functions, effects and legal basis 112
5.2.2.2. Relationship with other tax procedures 114
5.2.3. Tax audits 116
5.2.3.1. Structure and goals 116
5.2.3.2. Preliminary phase 116
5.2.3.3. Main types 118
5.2.3.4. Core phase 120
5.2.3.5. Tax notice 121
5.2.4. Tax collection 123
5.2.4.1. Collection through third parties 123
5.2.4.2. Voluntary payments by the taxpayer 124
5.2.4.3. Forcible collection 125
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Table of Contents
5.2.5. Tax refunds 126

5.2.5.1. Main features 126
5.2.5.2. Procedural aspects 127
5.2.5.2.1. Tax refunds 127
5.2.5.2.2. Tax reimbursements 127
5.3. Reviews and appeals 128
5.3.1. Administrative reviews 128
5.3.1.1. Self-correction and administrative
reviews 128
5.3.1.2. The taxpayer and administrative
reviews 129
5.3.1.3. The relationship between administrative
reviews and judicial appeals 129
5.3.2. Judicial appeals 130
5.3.2.1. The system and function of judicial
appeals 130
5.3.2.2. Judicial actions in tax matters 131
5.3.2.3. Judicial appeals involving several
taxpayers 132
5.3.2.4. The jurisdiction of courts in tax matters
and the dynamics of judicial appeals 133
5.3.2.5. The judicial decision 134
5.3.2.6. Appeals before higher judicial courts 135
5.3.3. Alternative tax dispute settlement procedures 135
5.3.3.1. The mechanisms for settling tax disputes 135
5.3.3.2. Conciliation 136
5.3.3.3. Mediation 137
5.3.3.4. Arbitration 138
5.4. The procedures for the settlement of cross-border t
ax disputes 139
5.4.1. The mutual agreement procedure 139
5.4.2. Arbitration 139
5.4.3. Their mutual relations 141
5.4.4. Relations with domestic administrative
and judicial procedures 142
xii

Table of Contents
Chapter 6: Sanctions 143
6.1. Introduction 143

6.2. Principles and corollaries 144
6.2.2. Legality 143
6.2.3. Proportionality 145
6.2.4. Prohibition of double jeopardy 146
6.2.5. Individual culpability 146
6.2.6. Due process of law and its corollaries 147
6.3. General framework 148
6.3.2. Objective and subjective element 149
6.3.3. Responsibility of corporate officers for
sanctions for legal entities 150
6.3.4. Codification 150
6.4. Classification 151
6.4.2. According to the nature 151
6.4.3. According to the need for a material result 152
6.4.4. In respect of the person 152
6.4.5. In respect of the underlying protected value 153
6.5. Infringements 154
6.5.2. Failure to pay taxes in due time 154
6.5.3. Obligations regarding reporting and other
formal obligations 155
6.5.3.1. In general 155
6.5.3.2. Tax returns 156
6.5.4. Obligations regarding documentation and
accounts 156
6.5.4.1. Bookkeeping and invoices 156
6.5.4.2. Transfer pricing documentation 157
6.5.4.3. Omissions or false documents/
declarations 157
6.5.4.4. Failure to use approved forms or
other documents 158
6.5.4.5. Failure to display certificates of
payment of taxes 158
6.5.4.6. Accounting software 158
xiii

Table of Contents
6.5.5. Obligations regarding due cooperation 158

6.5.6. Other infringements 159
6.5.6.1. Mandatory use of bank accounts 159
6.5.6.2. Appointment of legal representatives 159
6.5.6.3. Withholding agents or other related
parties 159
6.5.6.4. Transfer of money abroad 160
6.5.7. Infringements by tax authorities or other
public servants 160
6.6. Sanctions 161
6.6.1. Main sanctions 161
6.6.2. Ancillary sanctions 162
6.6.3. Sanctions and interest 162
6.7. Determination of the sanction 163
6.7.2. Abstract framework 163
6.7.3. Adjusting the framework 164
6.7.4. Determination of specific amount 165
6.8. Exclusion or reduction of the sanction 166
6.8.1. Exclusion of punishment 166
6.8.2. Waiver of the sanction 166
6.8.3. Self-disclosure schemes 167
6.8.4. Settlements 168
6.9. Suspension 168
6.9.1. Suspension of the determination of a sanction 168
6.9.2. Suspension of the application of a sanction 168
6.10. Extinction 169
Bibliography
Books and Journals 171
Other176
xiv

Preface
Taxes are an essential component of modern society, since they secure the
financial resources through which a given community funds its essential
functions.
For long, the world of taxation has been an inaccessible maze of techni-
calities, confined to a narrow circle of navigated experts and often hard to
understand, even for people with a solid legal background.
More recently, taxes have made their way to headline news, raising a grow-
ing interest in civil society across the world and a genuine curiosity to
understand how taxes in fact work.
Besides being a moral duty, paying taxes is a legal obligation, which each
legal system regulates within a positive framework that also establishes the
rights arising in connection with such payment.
Often, the revenue-raising function overshadows the legal dimension of

taxation. Yet, the latter constitutes an essential component, since it ensures
that the levying of taxes complies with the Rule of Law and the principles
of civilized nations, which are the fundamental values of each community.
Our view is that both are indispensable in a modern tax system.
The main purpose of this book is to promote the dissemination of the basic
notions of taxation from a policy, legal and administrative perspective, offer-
ing its readers a balanced view of rights and obligations connected with the
levying of taxes.
When examining the fundamentals of taxation, this book explains them in a

simple manner and without reference to a specific legal system. This method
allows the book to set out fundamental considerations beyond the bound-
aries of any actual tax system whilst emphasizing that taxation is always
rooted in a legal regime, policy considerations and administrative practice.
In adopting this fundamental basis method, the authors aim to strengthen

awareness of taxation beyond technical circles and reach out to the most
diversified categories of users, in civil society and beyond.
The readers of this book can be university students of a tax course, from
a developing or developed country, those who come across taxation dur-
ing their studies or those who are just curious to better understand what
xv

Preface
taxation is about. People with a solid legal culture or members of civil

society without a legal background may use this book to gather a clearer
view of the main issues connected with the levying of tax. Furthermore, the
book can serve as a starting point to gather the basic notions of taxation that
are required for building up a theoretically responsible understanding of the
problems of international taxation.
The six core chapters of this book, as well as this preface, reflect the needs
of its potential readers, guiding them step by step through the fundamentals
of taxation.
A few remarks can help understand how our readers may best use this book.
After a comprehensive overview of the principles of taxation, chapter 2

bundles them together in a context that also takes into account their legal
dimension, policy goals and implications.
Since legal systems may affect the actual context in which tax law operates,
chapter 3 elaborates on the main features of common law, civil law, mixed
and supranational legal systems.
The subsequent chapters focus on substantive tax law and the type of taxes
most frequently contained in tax systems (chapter 4), procedural tax law
(chapter 5) and sanctions (chapter 6). All of them reflect our approach,
which combines the search for effective tax collection and the protection
of fundamental rights.
In particular, substantive tax law consists of the rules through which a

system imposes taxes. In such framework, chapter 4 addresses the issues
connected with the different levels of government at which taxes may be
imposed, the impact of the division of powers on the levying and application
of taxes, tax law design and the conundrum of rules that determine who and
what will be taxed, as well as how and when.
When analysing procedural rules in chapter 5, the book underlines that the
power of tax authorities in this context is essential for the achievement of
the goals of revenue collection, but also limited by the need to comply with
the Rule of Law. In such system, we connect rights and obligations arising
for tax authorities and taxpayers.
xvi

Preface
Chapter 6 elaborates on a thorough analysis of tax sanctions, which

addresses them in the light of a preliminary study on the concept and typol-
ogy of tax infractions. In line with the overall goals of the book, this chapter
reconciles the effectiveness of tax sanctions as deterrents proportional to the
infractions, also taking into account the effectiveness of legal (also interim)
remedies applicable to them.
Because of such features, this book constitutes an experiment for a global

study of tax law, which we hope will contribute to raising the awareness of
taxation throughout the world. Our wish is that this awareness will be ben-
eficial to civil society, which already fought some centuries ago to combine
the obligation to pay taxes with the right to participate in the decision-mak-
ing that establishes such taxes (“no taxation without representation”) and
meanwhile may have somehow lost track of the basic features of modern
tax systems. Aside from this, we hope that such awareness helps develop-
ing countries reach their own understanding of what is good for their own
governance.
Since this book is the result of the scientific cooperation between the
University of Cape Town and IBFD, the authors would like to thank all the
human and financial resources that supported this innovative experiment to
serve the international tax community. Our wish is to help the new genera-
tions and bright minds of developing and developed nations contribute to
a better world by establishing fairer taxation across countries throughout
the world.
Pasquale Pistone
Jennifer Roeleveld
Johann Hattingh
João Félix Pinto Nogueira
Craig West
Amsterdam and Cape Town, May 2019
xvii

Chapter 1
Introduction to Tax Policy
1.1. Fiscal policy and tax policy
Fiscal policy is generally defined as the policy to use government revenue

(taxes) and government expenditure to influence the market (the economy).
Tax policy is a subset of fiscal policy examining the revenue side of fiscal
policy (i.e. the collection of revenue by a state).
Tax policy touches on a number of disciplines, including, but not limited

to, economics, behavioural science, political science, accounting, finance
and law. Often, these disciplines are intertwined with respect to numerous
concepts.
The economics perspective provides the initial broad overview of tax policy,
containing both macro and microeconomic aspects. The macroeconomic
aspects consider the influence of tax policy on the economy as a whole
(unemployment rates, economic growth, consumption levels, etc.). The
microeconomic aspects include the impact of tax on individuals, firms and
the market.
1.2. The budgetary balance of tax, debt and expenditure

in fiscal policy
The levying of taxes has rapidly become the main source of government rev-
enue in most states. There are, of course, exceptions, such as states levying
royalties on natural resource extraction. Taxes are used to fund government
expenditure, but frequently, government expenditure exceed the amount
of taxes collected. This is particularly prevalent when states try to main-
tain a counter-cyclical budget (i.e. in periods of downturn of the economy,
government expenditure is increased despite the lack of tax revenue in an
effort to stimulate the economy). However, the shortfall (deficit) between
the expenditure and the revenue must be settled. Governments therefore
borrow money to fund additional expenditures (usually through the issuance
of government bonds).

Chapter 1 - Introduction to Tax Policy
Taxes, borrowings and expenditures form the three points of the budgetary
triangle of government funding. The balance between tax revenue and bor-
rowing must be strictly monitored. Interest charged on the monies borrowed
by governments must equally be serviced by the tax revenue collected, and
it therefore erodes the tax revenue. When borrowings become excessive, this
can lead to a downward spiral in which tax revenues are fully absorbed by
the interest charges and the government cannot justifiably increase the tax
revenue, rendering government expenditure on the delivery of public goods
and services impossible.
Governments must therefore preserve a delicate balance of tax revenue and

borrowings to fund its expenditure. This, in long periods of downturn, has
prevented governments from successfully applying a perfectly counter-
cyclical policy.
The triangle of tax revenue, borrowings and expenditures mean that govern-
ments have three mechanisms with which to fund a deficit: (i) raising taxes;
(ii) increasing borrowings; or (iii) spending less. Each of these options has
a direct impact on the economy. The decision regarding the mix depends on
the nature of the fiscal policy of the government and the economic circum-
stances in which it finds itself.
Examining only the fiscal policy in the absence of other factors, govern-
ments tend to either have an expansionary or contractionary fiscal policy.
Expansionary policies encourage increasing government expenditure and/or
decreasing tax revenue. The intended impact of either of these choices is the
stimulation of the economy. Governments in such a cycle are generally try-
ing to decrease unemployment and increase the productivity of the economy
(leaving more revenue for reinvestment by the taxpayers rather than extrac-
tion through taxes). However, increased expenditure, when coupled with
decreased tax revenue, will require the balancing of the budget/funding of
the deficit through borrowings.
In contractionary policies, governments decrease expenditure and/or

increase taxes. Such actions have the effect of contracting economic activ-
ity. Increased taxes take more away from productively generated income,
leaving less capital for expansion. Similarly, decreasing expenditure can
equally lead to reduced public services (requiring more private investment
for such services) and can increase unemployment, shrinking the economy.
While contractionary policies may lead to a budget surplus, this assumes
that the increased revenue is sufficient to offset the reduced expenditure, but

Policy principles for a state to raise taxation
this is not a universal truth. A contractionary policy may still yield a deficit
that has to be funded through borrowing.
Increasing taxes can create problems in the economy through increasing

deadweight losses, as the increased prices impact the supply-and-demand
equilibrium (i.e. increased taxes raise the prices, thereby decreasing demand
and increasing deadweight loss). Increased spending by governments or
funding a deficit through increased borrowings can crowd out similar spend-
ing or borrowing in the private sector in a full-capacity economy, and there-
fore can be detrimental if not carefully monitored. Increased borrowing can
also raise interest rates, reducing the disposable income of households and
businesses.
Increased taxes may also generate uncompetitive conditions for multina-

tional entities and be detrimental to the development of small businesses
domestically. Decreasing government expenditure can directly affect
employment levels and the level of social benefits that may be provided.
Increased government borrowing can remove providers of capital from the
pool from which the private sector may seek finances.
While it is clear that in designing a tax system, a holistic picture is needed

with respect to raising taxes (considering the expenditure by the govern-
ment, its borrowings, political influences, cultural aspects and interactions
with other economic aspects, such as monetary policy), this book considers
only issues concerning the levying and collection of taxes raised by states.
1.3. Policy principles for a state to raise taxation
1.3.1. What is a tax?
While the concept of “tax” does not carry a universally accepted definition
and therefore is not possible to exhaustively define, it is possible to provide
some common identifiers with respect to tax.
It should be noted that most jurisdictions do not define “tax” and that tax
should be considered as something different than a levy (which may equally
be imposed by a government).
As taxes can be considered a direct violation of the right to property and

other constitutional rights, the procedure for governments to introduce a tax
is usually subject to some form of special process. In this regard, it should

be noted that “levies” are usually not considered taxes and are therefore not
subject to discussion here. However, it is important that in the design of any
system, taxes are not disguised as levies.
For a government charge to be considered a tax, there are some common

traits observable in all taxes:
– a tax is a compulsory charge (i.e. not a voluntary contribution);
– a tax is imposed by legislation (government);
– a tax is to be used for a public purpose; and
– a tax is usually not tied to a specific service to be provided to the indivi-
dual paying the tax (i.e. the tax may support services to the collective
and not the individual).
While these elements are observable, there is no uniformity in application

among states. Also, states may well add to the requirements of this list
before the charge may be classified as a tax in the particular jurisdiction.
Critically, the legitimacy of the tax is found in its creation by legislation.
1.3.2. Theories justifying taxation
In assessing why states raise taxation, the first consideration is the justifi-
cation for a state to raise tax (i.e. the legitimacy of the tax). This is one of
the most neglected issues in defining tax principles. Taxes have become so
firmly entrenched in the collective thinking that the more common approach
is to ask what governments will do with the tax revenue rather than whether
the collection of tax is justified.
In assessing whether tax is justified, numerous theories have evolved over

the years, ranging from (i) an emergency levy, to fund particular identified
state expenditures; (ii) the benefit theory, which implies that all individuals
should contribute to the state from which they receive protection and ben-
efits; (iii) the social contract, according to which all must contribute to the
greater good of the community; and (iv) the sacrifice theory, according to
which all individuals should contribute in accordance with the wealth they
generated (the precursor to progressive tax rates) in order for the state to
redistribute (to some extent) that wealth. All of these theories are rooted in
the particular circumstances of the time and linked to individual taxpayers
rather than corporate entities. As these theories evolved, taxation moved
from an emergency measure to a regular levy on individuals. Many of these
theories are still quoted today as justification for taxation.

Over the period of development of these theories, taxes rapidly became the
main revenue source for modern states, and it is often from the accepted
norm that taxes will be levied that the discussion of tax policy begins.
However, most of these theories were developed considering the interac-
tion of individuals with the state (either one-on-one or as a collective).
Subsequent to these theories and with the advent of legal corporations, fur-
ther development in the justification of taxes has resulted.
Current writings seem to conflate these theories to justify taxation. This

combining of the theories is perhaps representative of a change from con-
sidering the individual in a relationship with the state to a wider perspective
that includes the state, the economy (including corporations and organiza-
tions) and society (representing individuals as a collective). In this triangular
relationship, individuals and corporate entities play a role in the economy,
being the generators of the economic productive activity that generates in-
come and wealth. The state will generally impose taxes on the productive
economic goods of the economy, which returns a portion of the value cre-
ated within (and implies a nexus with) the state and enables the state to fulfil
the purposes for which the taxes were levied. The state may also impose
necessary limitations on the economy, but should not overly restrict it, or
else it runs the risk of eroding the very productive element that funds it. In
this respect, one can see evidence of aspects of each of the earlier theories
justifying taxes being present in this interdependent relationship.
There is perhaps a rising fourth element with respect to taxes, and that is
the global economy and global society. Taxes are inherently restricted by
the bounds of the jurisdiction of the state, but global influences are already
directly impacting states, introducing global pressures to conform with
respect to various aspects of taxation.
Global conformity is, of course, problematic. Tax systems are inextricably

bound to the fiscal and macroeconomic policies of the state and the legal
structure in which they are housed (see chapter 3). Tax policy is driven by
more than idealist values and sound principles, as it is sensitive to political
forces, ideologies, lobby groups and international organizations.
Tax culture in a jurisdiction also plays a part in the manner in which tax
is imposed in a state and in whether the state will be able to justify the
tax to the persons it affects. Numerous forces and social challenges can
influence the tax culture in a state. These challenges may range from the
level of inequality within the state to whether the government is viewed as
legitimate. Similarly, the perception of taxes may equally impact the success

of any tax policy. Views may range between seeing all taxes as creating
distortions in the market and an unnecessary cost to seeing them as a nec-
essary interventional tool for the state to stimulate and shape the economy
(encouraging incentives; see chapter 4) or redress inequalities. Within this
broad range, many states see taxes as necessary for providing welfare ben-
efits within the state. This speaks to the justification of taxes through the
purpose the tax will serve.
All of these factors play a significant role in the balance of the theories for
the justification of tax in a particular state.
1.3.3. Justifying taxation through its use
While tax must firstly be created by a legitimate body authorized by the

public to impose taxes – which should be accountable to ensure that taxes
are not levied that would violate fundamental human rights – justification
for tax is regularly provided with respect to the purpose that the tax is meant
to serve.
The purposes for which taxes may be levied can be grouped into various
categories. The most commonly used categories include (1) providing gov-
ernment functions (also called “state building”) such as government infra-
structure and military; (2) providing other public goods and services; (3)
creating greater equality through redistributive functions; and (4) guiding
behaviour in society (as tax can serve to provide guidance as to acceptable
and unacceptable behaviour). Categories (2)-(4) are sometimes grouped as
elements of state-building or classified as “internal management”, which is
the nature of what the government is trying to achieve (management of the
economy and society). More recently, the influence of the global economy
and global society (discussed in section 1.3.2.) can also be perceived as a
need for taxation (i.e. revenue is required to respond to these influences),
which has been termed “negotiated expansion”.
The fact that taxes are raised by the state in terms of the enacted law implies
that there should be some limitation to tax as well. Three key principles
emerge, namely the following:
– taxes should not erode capital. Erosion of capital will lead to reduced
income in the future, which ultimately could destroy the productive
economy;

– taxes should not exceed that which is needed to fund the public needs.
This implies that taxes should fund service delivery and (efficient) ad-
ministering of those services; and
– however justifiable the tax may be, if it costs more than what the levied
tax would collect, it should not be levied. It is critical that the govern-
ment service be delivered efficiently, as excessive taxation to fund ex-
cessive expenditures or inflated government services cannot be justi-
fied.
While the general purpose of taxes should be justified in terms of the com-
mon good (public need), ear-marked taxes (taxes levied to fund a particular
purpose) may be justifiable, but may equally disrupt the economy by manip-
ulating economic behaviour. However, the objectives that surround public
needs may be broadly determined. Depending on the particular country, the
redistributive aspects that taxation delivers can form part of the public need
(i.e. to achieve greater social equity). Equally, taxes influencing behaviour
may be perceived as necessary (environmental taxes, sugar taxes, etc.).
Ultimately, the core of the justification of taxation largely has to do with

the (general) purpose for which the tax will be imposed for the benefit of
society and represents a blend of the benefit and sacrifice theories and the
theory of social contract. Whichever description is used to justify the tax,
governments are ideally served by a broad tax base on which taxes are lev-
ied that is fair, efficiently administered and responsive to societal challenges
and demands. The taxes levied should be levied legitimately and in an envi-
ronment in which corruption, inefficiencies and inequities are minimized
or eliminated. Developing a tax-compliant culture is equally important to
tax policy, but this is only realistically achieved when taxes are viewed as
justified and the obligations of the state with respect to the delivery of public
goods or services are met.

Chapter 2
Principles of Taxation
2.1. Features of a good tax policy
2.1.1. Introduction
Chapter 1 discussed (i) the broader fiscal policy consideration; (ii) the need
to achieve a budgetary balance when drafting a sound fiscal policy; (iii) the
justification for raising taxation; and (iv) the purposes for which taxes are
levied. It was clear from that chapter that a holistic picture is necessary to
establish a full fiscal policy, but such fiscal policy design and the quantum
of tax to be raised to meet the needs of any particular government is beyond
the scope of this book.
In the design and development of tax policy (i.e. only the revenue-raising
side of fiscal policy), there are certain universal factors that should be pres-
ent in order to levy taxes and achieve efficient collection of taxes (irre-
spective of the quantum desired or the specific goals to be achieved). This
chapter discusses these universal factors that should be present in any well-
designed tax system. These factors are often referred to as the “building
blocks” of tax policy.
While the starting point for the building blocks of tax policy are usually
drawn from Adam Smith’s 1776 work, “An Inquiry into the Nature and
Causes of the Wealth of Nations”, these initial building blocks have been
subdivided and expanded into a more modern list in line with the changes
in the economy and globalization. Despite this development, there are still
overarching themes into which these building blocks may be classified.
These are (i) equity within the tax system; (ii) economic efficiency of the
tax system; (iii) administrability of the tax system; and, more recently, (iv)
coherence of the tax system (both domestically and globally). Under these
broad categories, the building blocks are identified, defined and discussed
in sections 2.1.2.1.-2.1.5.5.
In its simplest form, tax policy attempts to achieve “fairness” of taxation

shaped by a variety of external influences and factors.

Chapter 2 - Principles of Taxation
2.1.2. Equity
2.1.2.1. Defining equity in tax policy
The traditional thinking with respect to equity within a tax system hinges on
the “benefit principle” and the “ability to pay” principle. Both of these con-
cepts are further intertwined with other concepts. In its most simple form,
“equity” is about “fairness” in the taxation system. This is a fluid concept
that depends on many other non-tax factors, such as culture, political influ-
ence and the importance of redistribution.
The benefit principle proposes that all persons contribute (pay taxes) in
accordance with the benefits that they receive from government goods and
services. The difficulty in this regard is the measurement of the “benefits”
received. Numerous functions provided by a state serve all people of the
state, irrespective of whether they contribute or not. The principle is there-
fore interpreted on the basis that persons contribute in accordance with their
ability to pay in order that all may receive access to the collective benefits
offered by the state.
This ability-to-pay concept may be defined as follows:

[A] principle of tax economics, based on the theory that taxes should be eq-
uitable, that a taxpayer’s burden should reflect his economic capacity to bear
that burden relative to other taxpayers. Income is traditionally considered to be
the best measure of a person’s ability to pay. However, alternative measures of
economic position, such as consumption and net worth, may also be used for
these purposes. The principle is used, inter alia, as an argument for progressive
tax rates, for the imposition of taxes on capital and for various allowances such
as age and disability allowances. Although it may appear inconsistent with the
benefit principle, the two may arguably be reconciled. (IBFD Glossary)
However, this concept is frequently criticized with regard to the period for
which this ability to pay should be measured. In its purest form, the abil-
ity to pay should be measured over the lifetime of a taxpayer, but this is
clearly impractical from an administrability perspective. The application of
the concept to tax policy therefore usually refers to a defined tax period. The
ability to pay should also be considered with reference to two key elements,
namely horizontal and vertical equity.
10

Features of a good tax policy
2.1.2.2. Horizontal equity
Horizontal equity may be defined as “[a] variant of the principle of indivi-

dual equity that holds that similarly situated taxpayers should receive simi-
lar tax treatment, e.g. taxpayers who earn the same amount of income or
capital should be taxed in the same way” (IBFD Glossary).
Horizontal equity is easily understood when comparing similar forms of in-

come. For example, two individuals earning the same salary should bear the
same taxation. Greater complexity arises when different forms of income
or capital appreciation need to be considered. Economic income considers
unrealized capital appreciation to be the same as income from a cash sal-
ary. Furthermore, passive income earned should also be taxed in the same
manner as a cash salary in order to achieve horizontal equity. In tax design,
passive income streams are often subject to relief that is not afforded to
earnings from labour, and thus, horizontal equity is not achieved.
This form of equity is considered intuitive and, for the most part, observ-
able. As a visible form of fairness, failure to achieve horizontal equity can
drive non-compliance levels higher. The difficulty with the concept of
equity is that tax systems provide visible evidence of equity on an annual
basis, whereas true equity may only be ultimately achieved when consider-
ing the economic income of a person over their lifetime rather than a single
period. Perceived inequity may in fact be resolved through later taxation
(such as taxes only levied on realization or estate taxes) or through the cor-
rect measurement of the “economic incidence” of taxation. The “incidence”
of taxation refers to the amount of tax that an individual ultimately has to
bear. An example is corporate taxation levied on a fictional entity. Regarding
the economic incidence of tax, the tax burden ultimately falls on a number
of persons, e.g. capital owners, employees and customers.
2.1.2.3. Vertical equity
Vertical equity, in contrast to horizontal equity, may be defined as follows:

A variant of the principle of individual equity, which holds that differently situ-
ated taxpayers should be treated differently, e.g. taxpayers with more income
and/or capital should pay more tax. This results in the proposition that “appro-
priate” differences should be made between the tax treatment of taxpayers in
different economic circumstances. The principle lies behind the imposition of
tax at progressive rates. (IBFD Glossary)
11

Vertical equity directly considers whether taxes are regressive, proportional

or progressive. Generally, regressive taxes are to be avoided, as these place
a greater burden on low and middle-income families in that a greater pro-
portion of their income is taxed. However, regressive taxes should not be
immediately disregarded, but should rather be considered within the mix
of taxes in the state to determine the overall regressivity or progressivity of
the taxes. Examples of regressive taxes include property taxes, excise taxes
and value-added/sales taxes.
Proportional (or flat) taxes, at first glance, would appear to be the most equi-
table form of taxation because for every additional monetary unit earned,
the same proportion of that additional unit is taxed. However, the applic-
ation of a proportional tax depends entirely on the tax base on which the tax
is levied. The tax base may render the tax either regressive or progressive.
Progressive taxes (such as income tax) entail increased rates of tax for
higher levels of income, shifting the tax burden onto the higher income
earners as a means of redistribution of wealth.
All states tend to use a mix of regressive and progressive taxes. However,
the level of income from each of the taxes must be considered. If regressive
taxes form the bulk of tax revenue, the overall system may well be regres-
sive, and there is a limit to how much the regressive nature can be overcome
by progressive taxes, such as income tax. Being overly reliant on a single
form of progressive tax in order to overcome regressive taxes may lead to
non-compliant behaviour of upper income earners. It would be better for a
state to attempt to minimize the regressive nature of such taxes while bal-
ancing the remaining regressive nature with progressive taxes.
Various techniques may be used to reduce the extent to which a tax is regres-
sive, such as rebates, exemptions or other forms of shields against tax for
lower income households, tax credits and other forms of relief. Generally,
subsistence income and goods should be free of taxation, relieving any pres-
sure on the poor. Another mechanism to achieve equity is that of transfers
(such as social grants). Funded from taxes levied on the tax bases, such
transfers represent a redistribution of wealth from the rich to the poor. Of
course, the existence of transfers in the system suggests a sufficient revenue
base to accommodate government expenditure and such transfers. However,
excluding transfers from the analysis of equity would provide an incomplete
understanding of equity for the purpose of taxation.
12

2.1.2.4. Legitimacy
Key to a tax system is the actual and perceived legitimacy of the levying of
a tax. While states are free to legislate any tax, taxes with no nexus to that
state will be generally unenforceable and possibly inequitable.
2.1.2.5. Inter-nation equity
Flowing from the consideration of these concepts from the perspective of

equity among taxpayers, inter-nation equity concerns the division of tax-
ing rights between states. To some extent, less attention has been given to
the issue of inter-nation equity, particularly regarding the concept of verti-
cal equity between states for the purpose of encouraging progressivity in
the division of taxing rights between developed and developing states. Of
course, the division of taxing rights must be accompanied by some nexus to
the state claiming a taxing right. Equally, issues of tax competition between
states can result in inequalities, including, for example, the so-called “race
to the bottom” as regards corporate tax rates. However, in other instances,
they may well be justified based on the economic position of the particular
state. Regularly, regional bodies mandate that their member states may not
engage in tax competition that would be harmful to other member states.
2.1.3. Economic efficiency
2.1.3.1. Defining economic efficiency for tax policy
Economic efficiency in a tax system concerns the concepts of neutrality

of the tax system, the stability of the tax system, the simplicity of the tax
system, the appropriate use of resources (productivity) and the sufficiency
of the taxes collected to fund the state’s activities.
Essentially, “efficiency” refers to the cost to society that taxation brings

through its impact on and possible distortion of economic behaviours and
the attempt to minimize these impacts and distortions while achieving the
societal goals of the particular state.
2.1.3.2. Neutrality
Tax neutrality means that tax should create no advantage or disadvantage

with regard to any transaction or investment. This concept of neutrality
13

extends to both inward-looking (capital import neutrality, implying that

investments are subject to the same level of taxes irrespective of whether
the investor is a resident) and outward-looking (capital export neutrality,
implying that investments made within or outside the country are subject
to the same taxes for residents) perspectives. Neutrality further has a direct
link to the concept of equity discussed in section 2.1.2. in that the avoid-
ance of distortions prevents a shift from highly taxed activities to activities
taxed at lower levels.
Efficiency requires that a tax policy ensures the minimization of any dis-
tortions that tax may introduce into the economy through influencing the
productive use of resources in the country.
Tax incentives are a natural example of distortive aspects of a tax system.

Incentives send market signals to the targeted sector, resulting in a poten-
tially inefficient allocation of resources and impacting productivity (see
section 2.1.3.5.). To achieve neutrality, such elements of tax design should
be minimized or eliminated.
2.1.3.3. Stability
Stability in the tax system generates certainty for taxpayers and prevents
unnecessary increases in compliance costs. Should the tax system be regu-
larly changed (not referring to minor annual changes to the tax law, but to
larger changes), the lack of stability can create adverse consequences for
commercial transactions and investments.
2.1.3.4. Simplicity
Simplicity in the tax system works with stability and neutrality. Complexity
in tax systems usually incites avoidance behaviour, as the more complex the
system is, the greater the likelihood of inequalities in the taxation of income,
leading to distortionary effects and higher compliance costs.
However, both simplicity and neutrality are often necessarily surrendered.

There is a natural complexity to tax systems, as the various taxes interface,
have different bases, applicable rates and rules and have a range of anti-
avoidance measures.
While multiple taxes certainly introduce complexity, they also add to stabil-
ity (see section 2.1.3.3.) by preventing over-reliance on one tax. An example
14

would be when a state generates sufficient tax revenue from rent on a simple
resource over that on a natural resource. When that resource is suddenly no
longer attractive to the market or is exhausted, the simple tax system has no
mechanism to quickly shift the revenue generation to other existing taxes.
Complexity in a tax system adds to both the cost of compliance and the
administrability of the tax system. Complexity can directly impact economic
efficiency (see section 2.1.3.) and enforceability (see section 2.1.4.5.).
Simplicity can also be viewed in two contexts, namely (i) simplicity in

the taxes applied (e.g. legal certainty in tax law); and (ii) simplicity in the
compliance with the law (e.g. pre-populated tax returns, transparency and a
free flow of information between the tax authorities and other governmental
bodies). The latter is discussed in section 2.1.4.
2.1.3.5. Productivity
Economic efficiency should also be considered in light of the view that

tax is ultimately a cost to productivity. Taxes create real costs, known as
“deadweight costs”, for the economy (i.e. the reduction in supply as costs
increase, caused by the increased price that the tax introduces).
Of course, deadweight losses can be minimized. When demand is inelastic,

higher tax rates can be levied on the relevant goods, as the demand will not
fluctuate, despite the higher rate of tax. Conversely, when demand is highly
elastic, the tax rates should be lower in order to minimize deadweight loss.
Such minimization of deadweight loss can naturally conflict with the con-
cept of equity when, in a developing economy with inequality of wealth, the
goods with inelastic demand are goods consumed by both low-income and
high-income persons. High tax rates on goods with such inelastic demand
place an undue burden on low-income persons and reflect regressivity.
While it is important for each citizen to productively contribute taxes, in
unequal societies, the concept of equity may play a more significant role
than in sufficiently developed economies. This is illustrated in figure 2.1,
with the middle triangle representing the deadweight loss.
15

Figure 2.1
High Price (post-tax)
Price
Cost
Dead- Tax revenue Deadweight loss

weight loss
loss
Low
Low Supply High
This diagrammatic representation further illustrates a key consideration of

efficiency, namely government intervention to adjust market reaction. Taxes
are often used to alter behaviour either by encouraging certain activities,
such as investment (through the use of incentive schemes), or discourag-
ing others, such as the use of tobacco and alcohol (through the use of high
excise duties).
Taxes have a naturally distortive effect, but some are intentionally distortive
(often called “Pigouvian taxes”). Pigouvian taxes are intentionally distortive
in order to stimulate a particular behaviour. For example, taxes on carbon
emissions are intended to discourage performing activities that produce
such emissions. Such taxes are not designed to generate revenue and should,
in theory, have a limited lifespan. That is to say, if they are fully successful,
no further revenue will be generated by the tax (as the behavioural change
will be fulfilled).
Further costs directly impacting productivity include both administrative

costs (the cost to actually collect the tax and run the revenue authority) and
compliance costs (costs incurred by the taxpayer to comply with the tax
law). For more on this, see also section 2.1.4.
The costs related to taxation and the decision-making effect that taxes
have can lead to effects known as the “income effect” and the “substitu-
tion effect”. The income effect refers to the direct impact that taxes have
16

on reducing the purchasing power of the income earner. This not only has
the impact of reducing the amount that the income earner can spend in the
market, but also reflects a transfer of the budget from the private sector to
the public sector. When such transfer of the budget is done effectively, eco-
nomic efficiency is not necessarily reduced. The substitution effect refers
to the decision to alter working hours, levels of education, retirement age
and other opportunity costs of work based on the taxation levied on such
activities. Similarly, the substitution effect, through its effect on the price of
goods, may directly impact the consumption behaviour of taxpayers.
Linked to productivity, simplicity and stability is the recognition that taxes

should contribute to efficiency in the allocation of economic resources and
the stabilization of economic cycles and should contribute to the economic
development of the state and its participants.
2.1.3.6. Sufficiency
Economic efficiency in a tax system also implies that a state should extract
no more tax than is necessary to fund (efficiently and appropriately) govern-
ment expenditure.
Sufficiency of tax revenue also suggests that, in an ideal environment, gov-

ernments should be able to raise sufficient revenue from taxes and not have
to resort to borrowing in order to fund government expenditure. Borrowing
naturally results in a future tax burden to fund the interest and capital on
such borrowings, reducing the tax contribution directly to the then-govern-
ment expenditure needs. The justification for government borrowing to fund
current expenditure is also weak in light of the principle of “no taxation
without representation” for those persons tasked with funding such borrow-
ings with their future taxes.
2.1.4. Administrability
2.1.4.1. Defining the administrability of tax policy
Key to any tax system is the administrability of that system. The concepts
within administrability equally speak to the concepts of equity and effi-
ciency (naturally so, as none of these concepts can or should be considered
in isolation). In simple terms, the cost of collection of a tax should not
be excessive. States are responsible to use the resources entrusted to them
17

efficiently, including in the collection of taxes. The inability to monitor and

enforce taxes imposed by a state renders them inefficient, creating discon-
tent between efficiency and equity.
Numerous concepts are grouped within administrability but have elements

of other building blocks.
2.1.4.2. Certainty, transparency, accountability and legality
Certainty in tax matters may be described as requiring that the “taxpayer

should know exactly what is being taxed, how much he has to pay and
how and when he has to pay it, meaning that the law should be clear and
unambiguous and the tax authorities’ interpretation of it should be readily
available” (IBFD Glossary).
Visible, transparent taxes allow taxpayers to evaluate the services received

and the accountability of the government relative to the tax burden faced.
Transparency with respect to taxes also facilitates a clear demonstration of
the redistributive elements of the tax burden.
Publications showing the data as to the incidence of taxation (that is, on

whom the ultimate tax burden falls; for example, corporate taxes are ulti-
mately borne by individuals in the form of wage taxes, higher prices, etc.)
all facilitate greater transparency and accountability.
Certainty should also be present in the manner in which returns are to be

completed and filed. Certainty for the taxpayer that he can comply with the
tax law encourages good compliance behaviour.
There should equally be certainty in the manner in which the tax law will
be interpreted and applied (especially by the tax authorities). Providing
too much discretionary power to the tax authorities will decrease certainty.
Equally, there should be transparency in respect of the manner in which the
tax authorities apply the law, which should be uniform for all taxpayers.
The concept of law versus discretion is discussed further in section 2.3.7.
Certainty further ensures that the clarity of tax laws facilitates the taxpay-
ers’ understanding of when and how tax liability arises, as well as certainty
regarding the extent of the liability.
18

Coupled with the concept of certainty is the principle of legality, which is

“[a] fundamental principle that requires the law to be clear, ascertainable
and non-retrospective. The principle may be applied in a tax context, for
example, to require that the rules imposing or providing relief from taxes
be published in legislation” (IBFD Glossary). Legality is further discussed
in section 2.3.6.
2.1.4.3. Collection cost/tax yield
The administrability of a tax should take into account the cost (to the gov-
ernment) to collect the tax versus the tax that will be achieved through the
appropriate enforcement. When the type of tax to be administered would be
expensive to administer, i.e. the cost to collect the tax would outweigh the
tax collected (the tax yield), the value of the inclusion of such a tax in the
tax system must be questioned.
The efficiency and convenience of the tax collection and enforcement mech-
anisms should also be evaluated. Tax authorities should constantly review
collection practices in an effort to improve efficiency and reduce the cost
of collection.
In a good tax system, taxes with broad bases and simple, cost-effective
administration are preferred. However, the cost to the state of the collection
of taxes should also not simply be transferred to the taxpayer or third par-
ties. High administration costs or withholding collection costs incurred by
third parties (for example, banks, medical schemes or insurance companies)
on behalf of revenue authorities all serve to make these institutions less
efficient (i.e. redirect productive resources to unproductive functions not
associated with the third party’s core business) and erode the concept of
economic efficiency in a tax system.
2.1.4.4. Simplicity
Unlike simplicity as discussed in section 2.1.3.4., simplicity in the context

of administrability refers to the facilitation of taxpayer compliance.
Simplicity with regard to compliance represents an effort to guard against

the rising cost of compliance and enforcement that complex legislation
brings. Overly complex provisions raise compliance costs and increase the
deadweight loss caused by taxes in general (see section 2.1.3.5.). It suffices
to say here that simplicity also provides a sense of equity for the taxpayer
19

in that simplicity of compliance provides greater visible equality. Complex

tax rules render the system difficult to understand, and equally difficult for
revenue authorities to enforce. Complexity frequently leads to aggressive
tax planning and abusive practices, taking advantage of loopholes inadver-
tently created. Complexity also leads to inequality, as those that can afford
the necessary tax advice may reduce their burden, putting those that cannot
at a disadvantage.
Collection mechanisms, such as pay-as-you-earn and the levying of VAT

on the acquisition of goods and services, are examples of administrative
measures seeking to ease the compliance burden on the persons liable to
tax. In the former case, the liability to income tax on the salary rests with
the employee, but the relevant tax is withheld and paid to the tax authorities
by the employer. In the latter case, VAT is incurred by the consumer, but
collected and paid to the revenue authority by the supplier. Such collection
mechanisms serve to make the payment of tax convenient for the person
liable to tax.
Further simplification can be achieved through pre-populated tax returns

based on information received by the tax authorities from third parties. Ease
of filing can greatly enhance taxpayer compliance.
Simplicity for the sake of taxpayer compliance adds a level of protection for
taxpayers against exploitation by both the tax authorities and unscrupulous
tax advisers.
2.1.4.5. Enforceability
A distinction should be made between the enforceability (and therefore,

the administrability) of taxes in a developed versus developing economy.
In formal markets, which are established and well regulated, regulation and
enforcement are generally simpler to ensure. In states with large informal
economies, compliance and enforcement mechanisms do not guarantee the
payment or collection of taxes. Any tax design must take into account the
practical enforceability of the tax to be levied.
Enforceability should take into account the simplicity of operating the tax
system from both government and taxpayer perspectives. Simple systems
requiring low compliance costs may serve to significantly reduce the tax
gap (the difference between the tax that should be collected and the tax
actually collected).
20

Frequently, in developing economies, a means of enforcement consists of

excessive sanctions for avoidance behaviour of taxpayers. Such enforce-
ment action may cause the underlying economic activity taking place in
that state to cease altogether and therefore deprive the state of any future
(legitimate) tax claims. Excessive taxes themselves may also be the cause of
evasion, abusive practices, aggressive tax planning or black-market activi-
ties. While sanctions do form a part of any good tax design, the sanctions
must be proportional to the offence; the tax should not be excessive from
the start. For more on sanctions, see chapter 6.
2.1.4.6. Information security and confidentiality
Vital to the design of any tax system and the administration of that system
are safeguards and the protection of taxpayer data. Erosion of the standards
of confidentiality will lead to non-compliant and evasive taxpayer behav-
iour. The incorruptibility and impartiality of the tax authority is paramount
to the success of information security and confidentiality.
2.1.5. Coherence
2.1.5.1. Defining coherence
In defining coherence for the purposes of this book, it should be understood

as incorporating elements such as the stability of the tax system, the manner
in which tax reform is managed, the interaction of taxes within the system,
consideration of the interaction of taxes between different tiers of govern-
ment and the interaction of the system with international tax developments.
2.1.5.2. Interaction within and between taxes
Firstly, and naturally, any tax system will have to take account of the spe-
cific realities and activities within the particular economy. Broad issues
of coherence include consistency of the tax law with the legal system and
drafting style of the specific country. Further, any tax system should aim to
avoid instances of economic double taxation (i.e. taxing the same revenue/
income twice) within a tax. For example, the tax system should be coherent
as regards deductions and income. For instance, a deduction should only be
granted when it will provide for a taxable receipt in the hands of another.
As another example, by not permitting retirement contribution deductions,
the tax system designed should exempt retirement benefits received. This
21

demonstrates the need for the tax system designer to be cognisant of the
longer-term impacts of any choice made regarding the tax design.
Secondly, domestic coherence considers the interaction of the various taxes

levied by the state (and is linked in part to equity) in order to ensure that the
overall tax burden is not skewed towards one particular group of taxpayers
(progressivity of a particular tax aside) and create economic double taxa-
tion across the system. Adjusting a tax system must take into account all
elements of the tax system. For example, a certain exemption from income
taxation may be justified by the consumption taxation of a good. Simply
abolishing the exemption without taking into account the consumption tax
may lead to skewing the tax system as a whole. This is an often overlooked
aspect of tax reform.
Thirdly, coherence of the tax system is needed in order to ensure that tax
revenue (also in relation to state borrowings) is sufficient to cover both cur-
rent operational and capital expenditure by the state. To the extent that the
state continues to borrow in order to cover current expenditures, this places
an ever-increasing burden on future taxpayers (see also section 2.1.3.6.).
Finally, with reference to federal systems, a coherent tax system should

ensure that federal and lower tiers of taxation are complementary rather than
competitive (for example, when income taxes are levied at the state level,
but consumption taxes at federal level).
2.1.5.3. Broad base
The base on which a tax may be levied should also be considered when
designing a tax system. Generally, the broader the tax base (that is, the more
taxable persons covered by the tax), the greater the stability of the tax and
the perceived “fairness”, because everyone contributes. A broad base also
serves to minimize individual tax burdens.
2.1.5.4. Tax mix
Most states have adopted three to four taxes with large yields, namely in-
come taxes, consumption taxes, property taxes and inheritance or estate
taxes. This has not prevented a multitude of other taxes from being intro-
duced for a number of policy and social reasons, such as environmental
taxes, excise duties on various products, industry protection tariffs, fuel
22

levies and wealth taxes etc. Some of these other taxes tend to be designed
for ease of collection (at the point of purchase) in order to lower the admin-
istrative costs and increase the yield.
The fundamental consideration in designing a tax system in order to gain

coherence is the use of different taxes to achieve different aims. The mix
of taxes also adds to the stability of the economy during times of varying
economic conditions. Further, in utilizing a mix of taxes, especially that
of direct and/or indirect taxes, it is more likely that a balanced system is
achieved when the various tax bases provide an equitable share for all (see
section 2.1.2.). Single taxes run the risk of there being too great a focus on a
single activity or revenue stream that, if disrupted, can undermine the entire
tax system. The canon of diversity speaks largely to the tax mix of any state.
Naturally, over-reliance on any one tax can create significant revenue risks
for that state should any underlying factors be destroyed. This has previ-
ously been observable in states over-reliant on natural resource levies when
the state did not diversify with other forms of tax revenue, such as personal
income tax or consumption tax.
It is for this reason that most states utilize personal income taxes, corporate
taxes and consumption taxes as the diverse base. With economic downturns
generally heavily impacting corporate taxes, personal taxes tend to remain
fairly stable as a result of ongoing employment. Similarly, consumption
taxes tend to be stable with regard to most necessary items with a decrease
in the consumption of some luxury items.
The design of the exact mix of taxes will vary from country to country and
depend on the specific circumstances and possible tax bases.
2.1.5.5. Adaptability and continuity
A coherent tax system must also be flexible (elastic). This means that the
tax burden can be increased or decreased in line with the demand for tax
revenue in response to economic effects within the state. Selecting taxes that
are inelastic renders the tax system unresponsive to changes in government
objectives or global economic impacts. Elasticity is often found in direct
taxes, such as personal income tax. These are also progressive taxes and
are used for redistributive purposes. Heavy reliance on corporate taxation
or natural resource taxation can often lead to the tax system being confined
to cyclical revenue flows, and hence is inelastic.
23

Tax systems need to be flexible enough to adapt to the increasing pace

of global and technological developments. This is true for developed and
developing economies, although some developing economies remain nec-
essarily focused on building a strong domestic tax system and capacity for
administration.
2.1.5.6. International coherence
The international perspective adds a further dimension to the consideration

of coherence. Clearly, domestic tax systems interact with one another in
global markets. This necessitates forms of coherence (or cooperation).
Coherence in this context may equally refer to situations in which the dif-
ferent treatment of non-residents versus residents may have to be justified.
2.1.6. Challenges in application
2.1.6.1. Tax mix to be relevant
While all the features of good tax policy should be present for any tax, it is
clear that they must be balanced with an optimal mix depending on the fiscal
policy and economic needs of the particular state. In essence, these features,
as discussed above, represent an ideal rather than reality. For example, an
administratively convenient tax may be inequitable, and an equitable tax
may be burdensome to administer. These elements must take into account
the needs of the state and sacrifice (at least partially) the relatively less
important element for the sake of the more important/relevant element.
2.1.6.2. Understanding the purpose of the tax
Key to the understanding of a tax design is that different taxes may serve
different purposes. Apart from general taxes, the purpose of which is simply
to raise sufficient revenue to finance government (efficient) expenditure and
which is governed by the broad principle of the ability to pay, some taxes
are introduced with a specific purpose or to generate a specific response.
While most taxes should interfere as little as possible with the economy,
others seek to influence behaviour.
Often, tax is a very blunt instrument with which the behaviour of taxpayers
may be changed. Care must be taken that taxes do not generate unintended
consequences and should be designed to facilitate a feedback mechanism to
24

evaluate the success of the tax where a behavioural policy has been applied.
In many cases, the tax aims to be a deterrent to a particular behaviour.
Consider taxes on plastic bags, sugary drinks, fat content in products or
“sin” taxes on alcohol and tobacco. Other taxes may serve a regulatory
purpose, for example, regulating access to goods or services. In other cases,
taxes may be used in a specific economic context (e.g. fighting inflation
by decreasing the amount of available purchasing power) in order to boost
specific economic sectors or activities.
2.1.6.3. Developing versus developed countries
Economic research has shown that prosperous countries (generally devel-

oped countries) have higher tax-to-GDP ratios. This is generally achievable
due to the broad tax base and lower levels of societal inequality. In develop-
ing countries, tax-to-GDP ratios are much lower. High societal inequality
further results in even progressive taxes being levied on few and regres-
sive taxes being (politically) unfavourable due to the impact on low-income
earners.
It is in such circumstances that the tax design becomes crucial. Over-taxing

high net-worth individuals can lead to either tax emigration or tax evasion
and avoidance, and the over-use of regressive taxes can lead to low levels of
general tax compliance. Such circumstances make it difficult for developing
economies’ governments to raise sufficient revenues to meet government
expenditures. This leads such governments to borrow funds (issue govern-
ment bonds or seek foreign aid) to cover the expenditures that tax revenue
cannot. Borrowings in turn place an increased burden on the same govern-
ment to fund the interest (and ultimately capital) repayments.
Lack of administrative capacity in developing countries plays a further key

role in the inability of the developing country to collect taxes and develop
domestic solutions and respond to global challenges. Global solutions may
not always suit the domestic circumstances of the developing country.
Extensive investment in capacity building is generally required, along with
stimulating the economy and broadening the tax base.
2.1.6.4. Reliance on external reference points
In an increasingly global economy, not only do tax systems need to cater to

the unique circumstances of the state, but the basis on which taxable income
is to be determined for income tax is becoming increasingly harmonized. In
25

this regard, a trend can be observed among income tax systems (particularly
for corporate taxation), as they are becoming more reliant on accounting
standards (namely the International Financial Reporting Standards) to set
a common base. From this common base, deviations commonly occur in
order to finalize the taxable amount and take any country-specific factors
into account. Many tax systems rely, to some extent, on accounting stan-
dards. However, two alternative extremes may occur, i.e. either (i) total
dependence on the accounting profit determination for tax purposes; or (ii)
complete independence from such external standards. Such reliance clearly
has pros and cons. Reliance on any external standard should be analysed in
light of the particular country’s circumstances.
2.2. Economics and tax policy
Taxes are a feature of modern governments. Clearly, the tax system should
be an efficient one, and further, the expenditure of the government should
be limited to that which is absolutely necessary. Economic theory demon-
strates that taxes clearly draw resources from both efficient and productive
use in the private sector (which is ensured through market forces) and less
efficient use in the public sector. As governments are not subject to the same
market forces to compel the efficient use of resources, the consequence
of the failure of policies towards which government expenditure was put
are not severe, often allowing the wasteful behaviour to be perpetuated.
Productivity of the economy suffers as a result. The greater the inefficient
use of resources, the more economic growth suffers. At various points in
history, this has been demonstrated when, in a downturn, governments have
raised taxes and maintained expenditure, leading to a longer recovery. This
can be contrasted with situations in which governments have decreased
expenditure in a downturn and decreased tax rates, leading to a swifter
economic recovery.
This does not mean that taxes should not be levied, but reminds the designer
that taxes should not be excessive, nor should the use to which the taxes are
put be wasteful. A broadening and diversification of taxes across various
bases can lower the overall burden on taxpayers. Even when the tax base is
narrow, a tipping point will be reached when the marginal return from an
increase in the tax rate slows and after the tipping point decreases. At the
point of decrease, compliant taxpayer behaviour is eroded and tax evasion
rises.
26

Economics and tax policy
As can be seen from the principles above, tax policy and the economy are
inextricably linked. States are tasked with developing broad policies that
look towards the future with regard to issues such as economic growth,
distributive effects, infrastructure, state-owned entities, incentives for the
private sector and global issues, to name a few. Once the governmental poli-
cies have been set, the tax policy serves to ensure that sufficient revenue will
be collected to serve such policies or directs the revenue to the prioritized
policies. In this respect, it should be remembered that tax should influence
the economy as little as possible (i.e. not distort economic activity).
The attempt to avoid tax distorting the economy is known as the neutral-
ity principle. Distortions in economic activity increase the deadweight loss
caused by the impact of tax on market prices. Favouring one sector over
another as a policy objective can also lead to the misallocation of resources,
introduce discriminatory practices and influence the investment or spend-
ing decisions of individuals (causing decisions to be made as a result of the
tax law rather than the economic impact). Resources are generally better
utilized when economic activity is left to the open market. However, gov-
ernments do get involved in global issues directly influencing the market
with regard to environmental and health issues (such as sin taxes on alcohol
and tobacco).
Ultimately, governments should seek to have broad tax bases with easily
collected taxes. Ideally, the taxes should not aim to influence business activ-
ity or taxpayer behaviour, apart from some exceptional cases. Further, and in
particular for developing countries, the barrier to entry into the formal sector
should be low. Presumptive taxes are often used in developing economies
in an attempt to reduce such barrier to entry and capture more of the large
informal sector in such countries.
The tax system should attempt to collect sufficient taxes to provide for the
services and capital infrastructure offered by the government and its admin-
istration. The sufficiency should be planned on the long term, with the bud-
gets reflecting the funding of the immediate needs of the state. Care must be
taken that immediate funding issues do not crowd out long-term planning or
extract too much to the extent that they prevent future tax revenue.
Such long-term planning introduces stability for the taxpayer and the gov-
ernment, and budgets are easier to draft. Stability also provides taxpayers
with reasonable expectations prior to the budget. Coupled with stability is
the need for the elasticity of taxes in order to facilitate flexibility in the bud-
get for unforeseen economic events or social needs. Elasticity in the taxes
27

levied allows flexibility in upturns and downturns in the economy. Elasticity

also implies that tax revenues will grow faster than the economy in upturns,
but reduce faster in downturns. The clear risk for states is the temptation
to spend at unsustainable levels in upturns and insufficiently provide for
needed increased spending in downturns.
Tax policy must equally consider inter-nation equity. The fact that each state
receives equitable allocation of revenue from cross-border transactions has
grown in importance in recent years. These considerations impact the tax
treaty policy of the particular state.
2.3. Rule of Law
2.3.1. Introduction and rationale for the Rule of Law
Taxation, at its heart, deals with the relationship between citizens and the
state. The Rule of Law is the main principle regulating the manner in which
the state uses its coercive power to raise funds from citizens for the purpose
of expending these resources on public goods.
The need for the Rule of Law arises when society accepts the undisputed
authority of a central government. Modern states are enormous organiza-
tions that command great power and vast resources. The Rule of Law is the
main legal constraint that checks the exercise of public power; it is the most
fundamental legal principle governing the relationship between a citizen and
the state. The social contract, which explains that consent is the basis on
which citizens surrender some of their freedom to the state in exchange for
protection, is closely correlated with the Rule of Law, but it is essentially a
principle of political theory, despite being described as a “contract”.
From a legal perspective, authority and the capacity to command are defin-
ing features of supreme central governments. During earlier periods of
human history, authority was represented by the power of monarchs, the
church or tribal rulers. A monarch, for example, was the source of law
and the maintainer of order. Such conflated forms of supremacy have now
mostly been disaggregated and passed on to sovereign states in which par-
liaments have the main law-making power, while independent courts in
conjunction with prosecuting and policing agencies maintain order. A defin-
ing feature of the Rule of Law is that it provides security for the rights of
individuals against the power of parliaments, law enforcement agencies of
the state, as well as the judiciary.
28

Rule of Law
2.3.2. Functioning and presence of the Rule of Law in a legal

system
The Rule of Law has been in existence in some shape or form since ancient
times due to its function of protecting citizens against arbitrary exercise and
abuse of power. A basic sense of order is achieved in a particular society
when the state and citizens adhere to the Rule of Law. However, societies
are not homogenous. The manner in which any society wishes to order its
affairs at a particular point in time differs from how others may wish to do
so. Accordingly, it is not possible to define the content of the Rule of Law
outside of a historical and geographical context, nor is it possible to offer
one universal meaning. The Rule of Law has been defined in different ways
over the course of history, taking its meaning from the particular exigencies
that a community seeks to assert against a state at a given point in time.
It is important to make clear that the Rule of Law can function and achieve
its purpose without a precise, comprehensive or universal definition. The
absence of a written definition for the Rule of Law in a particular legal
system does not mean that the principle is not present in that system, nor
that it does not apply to the tax law of a country. In fact, the Rule of Law
is almost never defined in legislation, as is the case for most key principles
of law. In some legal systems, the principle is expressed by different terms,
such as “government under law” or “governments of laws and not of men”;
they all seek to achieve similar results.
2.3.3. Nature and features of the Rule of Law
As in ancient times, the Rule of Law today may mean different things to
different people. At the present time, it is often – but not universally –
acclaimed to be a non-negotiable demand of human dignity or even a uni-
versal human right (although the latter claim invites considerable confu-
sion). Since antiquity, philosophers and lawyers have held many theories
about the Rule of Law. Common aspects include that the Rule of Law (i)
has the purpose or function of protecting people against anarchy; (ii) allows
people to plan their affairs with confidence, certainty and knowledge of
what the law requires and sanctions; and (iii) protects people from arbitrary
or capricious exercises of power by state officials. In present times, adher-
ence to the Rule of Law is universally seen as an essential condition for
people’s economic wellbeing, as explained in the 2012 UN Declaration on
the Rule of Law:
29

We agree that our collective response to the challenges and opportunities arising
from the many complex political, social and economic transformations before
us must be guided by the Rule of Law, as it is the foundation of friendly and
equitable relations between States and the basis on which just and fair societies
are built. […]
We are convinced that the Rule of Law and development are strongly inter-
related and mutually reinforcing, that the advancement of the Rule of Law at
the national and international levels is essential for sustained and inclusive eco-
nomic growth, sustainable development, the eradication of poverty and hunger
and the full realization of all human rights and fundamental freedoms, including
the right to development, all of which in turn reinforce the Rule of Law.
In the last two centuries, features of the Rule of Law have been articulated in
western democracies. In that context, the Rule of Law’s features are derived
from natural law inspired by moral philosophies, religious precepts and/
or reasoning. For the English lawyer A.V. Dicey (1897), the Rule of Law
meant something very specific, i.e. that nobody is above the law, mean-
ing that all persons, including government officials, politicians and judges,
are equal before the law. In some European countries (e.g. France), this
was not always the case, as separate courts had to be set up to deal with
administrators who were not subject to ordinary legal rules. Further, Dicey
emphasized that no person should be punished except if they breach the law
as determined by the ordinary courts of the land. Lastly, the Rule of Law
had to pervade the law, written and unwritten, in order to achieve security
for citizens. Judges have a special role to play in ensuring that the Rule of
Law pervades all aspects of a legal system, since they concretize the Rule
of Law through application to actual cases. Tax cases accentuate this role of
judges as the ultimate check on the state’s reach into the pockets of citizens.
More recent expressions of the Rule of Law, such as by Lord Bingham

(2010), identify a number of features embedded in the principle:
The law must be accessible and, so far as possible, be intelligible, clear and
predictable; Questions of legal right and liability should ordinarily be resolved
by application of the law and not by the exercise of discretion; Ministers and
public officers at all levels must exercise the powers conferred on them reason-
ably, in good faith, for the purpose for which the powers were conferred, and
without exceeding the limits of such powers; The law should apply equally to
all, except to the extent that objective differences justify differentiation; Means
must be provided for by the State to resolve, without prohibitive cost or inordi-
nate delay, bona fide civil disputes which the parties themselves are unable to
resolve; Judicial and other adjudicative procedures must be fair and indepen-
dent; The law must afford adequate protection of human rights; and There must
be compliance by the state with its international law obligations.
30

Rule of Law
Not all of these aspects may be universally accepted as part of the Rule
of Law by all nations that adhere to the principle. For example, it may
be questioned whether the last three aspects listed in the above quote are
universally followed. There are examples today of governments that do not
give adequate protection to human rights or fail to adhere to peremptory
norms of international law, such as not torturing citizens. Lord Bingham’s
articulation of the Rule of Law, while legal reality in some countries, may
therefore be aspirational for others. Even when Rule-of-Law countries rec-
ognize a certain number of human rights in their constitutions, this does not
necessarily translate into these rights receiving adequate protection. This
raises jurisprudential questions as to whether human rights are legal rights
or something different, such as political or moral rights, and consequently
whether they belong, as a broad family, to the Rule of Law. An ever-growing
catalogue of rights are claimed today to be human rights. This may range
from civil rights (such as the right to free speech, freedom from slavery,
equality before the law, the right to a fair trial and the presumption of inno-
cence) to rights of socio-economic nature (such as the rights to work or
education), as well as more liberal rights (such as the right to an ecologically
sound environment, the right to social transparency and the right against
poverty). It is hard to connect the Rule of Law to some of these rights.
Yet, the Rule of Law can be an important adjunct to concretize certain

types of human rights, whether they are recognized by a government or not.
Human rights, such as the rights to (i) be presumed innocent until found
otherwise by a court of law; (ii) have access to the courts and a fair trial; or
(iii) demand just administrative action are derived from the Rule of Law,
since they all concern the exercise of state power through the law. It may be
harder to use the Rule of Law in a country in which the government or its
laws do not expressly recognize these rights or even actively suppress them,
although it is not impossible, especially if the courts are willing to interpret
the law according to the tenants of the Rule of Law.
While the Rule of Law has received wide-scale attention in western coun-
tries, it cannot be monopolized by any group. Studies that have investigated
the analogies in Islamic Sharia law show that basic principles such as jus-
tice, equality and fairness are compatible. Perhaps even more telling is the
insight that the Rule of Law is prone to failure in secularized countries if it
is confined to formal legality, especially when underlying moral or ethically
reasoned principles are discredited or contested too much. By contrast, in
Islam, the basis of law does matter, because it is indisputably divine.
31

At specific points in history, it was not always apparent whether the Rule
of Law had any impact on the content of laws or their substantive impact. It
goes without saying that it is preferable to have the rule of good law and not
the rule of bad or even immoral law. Even where the Rule of Law prevails,
the substance of the law may be such that when applied strictly according to
the Rule of Law, it may lead to unjust results. The most precise, detailed and
general rules, if they are unsound, may, in their cumulative effect, threaten
the whole legal system and undermine freedom. The Rule of Law in such a
formal sense does not deal with lawfulness or justice, but merely with the
legal organization of societies. Historical examples in which the Rule of
Law in a formal sense was used to subvert freedom and basic human dignity
can be found in Nazi Germany or apartheid South Africa: clear abuses of
state power through laws that formally complied with a narrow understand-
ing of the Rule of Law were perpetuated.
An opposing understanding of the Rule of Law in its true sense postulates an

expanded function that is not merely formal in nature. For example, legality,
which is the opposite of a rule of discretion, is universally understood to
be part of the Rule of Law in its true sense. Under a rule of discretion, the
rights of persons are determined by others exercising discretion obtained
from so-called “open-ended legislation” that does not specify detailed legal
rules, relying thus, to a greater or lesser degree, on that discretion only. The
Rule of Law envisages a legal system in which a citizen must be able to plan
his or her life with some certainty and be able to establish his or her rights
according to formal detailed rules that are intelligible and publicly acces-
sible. The Rule of Law in this true sense is not a recent development, but
derives from antiquity, as can be seen in the phrase attributed to Cicero that
“we are all slaves of the law in order that we can be free”. Thus expressed,
it means that a government, in all of its actions, “is bound by rules fixed and
announced beforehand – rules which make it possible to foresee with fair
certainty how the authority will use its coercive powers in given circum-
stances, and to plan one’s individual affairs on the basis of this knowledge”
(Hayek 1944).
While the Rule of Law, in its true sense, goes some way to require that laws
actually have some meaningful content, it is not an all-embracing concept
that acts as a repository for everything that is good in a legal system, nor
does it cure all of the system’s evils.
In summary, current understandings of the Rule of Law suggest that it is

not a mere code for procedural safeguards against how a state exercises its
power through laws. In its true sense, the Rule of Law should also impact
32

Rule of Law
how the content of law is crafted by legislators and courts. Precisely how
(and particularly whether and, if so, which) human rights need to be recog-
nized in the content of the law is an evolving question. In some countries,
this may be self-evident, given constitutionally entrenched fundamental
rights, while this may be less so in others in which written laws may be
silent on the topic. The impact of the Rule of Law on the content of the law
is an important universal benchmark in taxation, as the remainder of this
chapter will illustrate.
2.3.4. “No taxation without representation”
Public consent to taxation is a key political construct of a democratic state.

In relation to England, public consent can be traced to article 15 of Magna
Carta, 1215, which initiated the transfer of the uncurtailed power of mon-
archs to omnipotent legislation created by elected parliaments. Magna
Carta set out several principles that are foundational to both the Rule of
Law and democracy. In western democracies, consent is often linked to the
slogan “no taxation without representation”, which was coined in the 18th
century when North American colonists rebelled against tax laws imposed
by the British Parliament, in which they were not represented. This historic
incident was a direct and key cause for the American Revolution. There
are several historical examples in which a lack of representation in legal
processes for the enactment of new tax laws was a key cause for social
disobedience, unrest, rebellions or wars, such as the English Civil War of
the 17th century, the Hut Tax Wars of the 19th century in Africa and the
Russian Revolution of 1905.
The Rule of Law requires that all rules or powers must derive from duly
enacted or established law. In other words, a jurisdiction in which law and
order is maintained in order to mediate conflicting interests as opposed to
anarchy or oppression requires a political society that rests on legal relations
out of free will and not out of force. Taxation brings out this feature of the
Rule of Law in the strongest possible sense. Modern democratic constitu-
tions centred on the Rule of Law provide mechanisms for substantial influ-
ence of the whole citizenry of a nation (e.g. through periodically elected
legislatures). Majorities obtain power to implement distributive taxes in this
way. The concentration of economic wealth is often skewed, such that cap-
ital ownership is concentrated in a minority. In reality, therefore, redistribu-
tive taxes democratically imposed in a nation-state context become legal
tools for (poor) majorities to appropriate the wealth of a (rich) minority.
Whilst this is the theoretical position, the reality is that especially income
33

tax systems have, for a long time, evolved in a way that they contain wide-
ranging allowances or reliefs for capital owners. These tax reliefs are often
justified on the basis that they encourage savings or are necessary for coun-
tries in order to compete for attraction of mobile or long-term investment.
Globalization has had a profound impact on the way tax laws are created
today. The Rule of Law must be accommodated by legitimizing ongoing
revisions and reforms of tax laws. The need for governments to be involved
in or cognisant of the global coordination of tax law reform is required due
to the complexity of capital and financial markets, inter-state competition
for scarce capital and the operation of modern businesses. The ability of
national parliaments to process these international factors or cope with their
pressure is often limited, and hence, there is a need to participate in global
or regional forums.
The basic problem of law-making for countries that operate and compete
in a global context is how to accommodate quasi-legislative bodies and
international organizations that may exert considerable influence over the
content of tax law but in which citizens of a particular country are not
represented. Governments frequently belong to international or regional
organizations or looser forms of associations or frameworks, which all may
aim to influence, coordinate or harmonize legal reforms or formulate model
laws. As a result, many governments, as a matter of routine, undertake to
reform their laws, and some even do so as a precondition for international
finance or investment. Actions like these may lead to political or even legal
commitments being given to external bodies or institutions, thereby con-
straining unfettered sovereign capacity to enact original tax laws. A careful
balance is therefore required in order to ensure that ongoing tax law reforms
remain legitimate in the eye of the citizens.
In the modern age, adherence to the Rule of Law means that the expenditure
of public finance is as firmly governed by law as the capacity to raise taxes.
How a government may spend tax revenues should depend wholly and solely
on pre-determined laws enacted by elected parliaments. Good governance
requires control and audits, often exercised by an Auditor General, which
is the primary means of securing that money paid by taxpayers is expended
by the government in accordance with the intention of laws democratically
established. The reality is that public finance law is often technocratic and
out of the sight of citizens, meaning that it may be less robustly checked or
contested. Civil society and the media play an important role in bringing to
light any misappropriation of the expenditure of public money.
34

Rule of Law
2.3.5. Certainty: Interpretation of law
The process by which the Rule of Law is concretized (i.e. becomes reality
for citizens and taxpayers) gives rise to legal certainty or uncertainty. This is
because the grand ideals encapsulated in the Rule of Law require the inter-
vention of fallible human beings in order to turn them into reality for others.
Dicey and others held the view that the task of judges was to ensure that
the Rule of Law pervaded a constitution, whether it was written or unwrit-
ten. The rule of law is not a mere adornment of a constitution, but has to
be realized in the actual workings of the law. This approach means that the
Rule of Law as a principle turns into legal reality for citizens and taxpayers
when laws are interpreted and applied on a daily basis.
The Rule of Law therefore involves an important practical aspect: it secures,

for citizens and taxpayers, the possibility of predicting the activities of the
law-deciding (judges) and law-applying agencies (administrators). In this
way, citizens are enabled to adapt their conduct and predict the lawful out-
come of their actions accordingly.
In other words, the practical application of the Rule of Law through legal
interpretation elicits situations in which there is or is not legal certainty. If
there is conformity between the law-applying and law-deciding functionar-
ies and the law is already laid down, a situation of legal certainty prevails.
There is thus a close connection between legal certainty and legal inter-
pretation of the law, as the Rule of Law requires that the process of inter-
pretation of the law itself should be governed by law. In other words, legal
interpretation is not based on discretion, nor is it purely subjective. The task
of formulating such a theory of legal interpretation of the law to be applied
to law generally rests with the highest courts of the land, particularly in
common-law countries in which strict rules of precedent order the hierarchy
of legal sources. A country’s senior judges are very important guardians of
the Rule of Law, as it is through their control of legal interpretation theory
that the actual effect of the law is concretized for citizens and taxpayers in
any given case.
Legal certainty established by the Rule of Law also has an impact on the
content of the law. Parliaments and legislators are thus required by the Rule
of Law to design legislation that enables citizens to know and predict their
rights. Therefore, laws must be intelligible and not overly complex or vague,
and they should be general but precise. If laws fail to meet these objectives,
35

they import or require the exercise of discretion in order to decide what they
actually mean in a given concrete case, resulting in uncertainty.
While interpretation of the law is not a purely subjective process, appear-

ances of subjectivity can indeed erode the legitimacy of judicial decisions.
The judiciary, as the final preserve of the Rule of Law, therefore needs to
be fiercely unbiased and seen as impartial. The process of judicial appoint-
ments is key in selecting appropriately skilled and experienced judicial
officers. Taxation often involves specialized courts or tribunals, which can
significantly enhance the Rule of Law and legal certainty. Compromising
appointments to such specialized tax courts or bodies need to be carefully
guarded against. For example, appointing a former activist or a family mem-
ber of a senior revenue official as a tax judge, although they may be suitably
qualified and unbiased, may nonetheless erode public confidence because
such appointments undermine the appearance of an impartial court.
A further outflow of certainty under the Rule of Law is that laws should
take effect for the future. Otherwise, citizens will not be able to know what
their rights are or how to plan their conduct. The Rule of Law therefore
serves as the basic reason why parliaments generally should refrain from
enacting retroactive or retrospective legislation. Retroactive legislation is
legislation that provides that at a past date, the law shall be taken to have
been that which it was not. Retrospective legislation imposes, for the future,
new results in respect of a past event. Both forms of legislation offend the
predictability required by the Rule of Law. Retroactive legislation is more
objectionable because, at the point in time at which a citizen undertook
action from which legal consequences would flow, it did not exist.
2.3.6. The principle of legality
In some legal systems, the principle of legality is widely written about, and
judges or commentators may view it as part of the Rule of Law or even
as the same. Further, the principle of legality is often linked to the rise
of administrative law when it may operate as a repository of fundamental
norms about how public power ought to be used. The principle generally
expresses the idea that the exercise of public power is only legitimate when
lawful. In this sense, it may act as a safety net, and it is not always written
down in formal legislation, but may be viewed as implicit whenever legisla-
tion deals with executive or administrative acts and competencies.
36

Rule of Law
There is jurisprudential discussion as to whether the Rule of Law has a

wider or the same ambit as the principle of legality. This is in part because,
in some countries, especially those without a comprehensive constitution,
the principle of legality was developed as part of administrative law, which
itself may have evolved. In a narrow sense, the principle of legality is not
understood to require the exercise of public power with reasonableness and
fairness. For example, it may not yet cover procedural fairness, such as the
giving of reasons by an administrator for decisions taken in terms of the
legislation granting discretionary power. It may also not demand propor-
tionality, which is the other half of reasonableness, unless one argues that
it would be irrational or a misconstruction of power not to give due regard
to proportionality. There is, however, clear evidence that proportionality
works in concert with the principle of reasonableness as a general principle
of international and EU law by giving specification to reasonableness in
particular cases (i.e. by requiring a rational connection between ends and
means). Proportionality may therefore apply in cross-border tax situations
as a general principle of law, whereas some tax systems may not yet recog-
nize such an overarching requirement at the domestic level.
However, what is certain is that the principle of legality has expanded with
the rise and development of administrative law and human rights in some
jurisdictions. This can be seen in how some courts view their power to
review discretion (generally termed “judicial review”). For example, in
the United Kingdom, Lord Woolf held that when a fundamental right is
engaged, the options available to the reasonable decision-maker are cur-
tailed because it is not open to such a decision-maker to risk interfering
with fundamental human rights in the absence of compelling justification.
He said that even the broadest discretion is constrained by the need for
there to be countervailing circumstances justifying interference with human
rights; it operates as a spring: the more the exercise of public power presses
down on constitutional or fundamental rights, the more the law’s resistance
increases, requiring cogent reasons for the limitation before giving way.
Thus, nowadays, there is emphasis in some countries on giving reasons and
justification for decisions by public officials. These considerations apply to
tax administrators without deviation.
Judicial review of administrative actions cover decisions (or even the failure
to decide) of tax administrators. Judicial review was developed in some
countries because the courts recognized that they determine the scope of
administrative discretion through an exercise of statutory interpretation.
Interpretation of the law, which is central to concretizing the Rule of Law,
includes the identification of fundamental rights, whether they are written
37

or unwritten. In this way, these courts consider whether administrative deci-

sions negatively or positively affect fundamental rights and whether it is
justified.
The Rule of Law can thus be seen to be expressed by the principle of legal-
ity and may, for some jurisdictions, be synonymous in the arena of judicial
review. Most courts in judicial review proceedings require that the exercise
of public power by the executive and other functionaries of the state should
not be arbitrary. Decisions must be rationally related to the purpose for
which the power was given. Otherwise, they are, in effect, arbitrary and
inconsistent with this requirement. Some courts understand this minimum
requirement to mean that executives and functionaries of the state must
always act in good faith because rationality requires that they should not
misconstrue their legislative powers. In the area of taxes, there are many
opportunities for overreach. Tax legislation, for example, grants the au-
thority to a tax administration to make regulations that will govern the pro-
cedure for handling objections to tax assessments. Such regulations become
ultra vires (beyond the powers) and breach the Rule of Law if they prohibit
taxpayers from filing an objection in specified circumstances (e.g. if a fine
is involved) because the statutory discretion is misconstrued in a way that
the fundamental rights of taxpayers may be curtailed.
An important limitation to the power of judges to review decisions by the

executive and functionaries of the state is that the courts are not able to
interfere with a decision simply because they disagree with it. This limita-
tion, however, only applies to rational decisions, and therefore, courts have
the power to set aside or declare invalid a decision that is irrational. Judges
generally should give reasons for their decisions, since they too should act
within the bounds of the Rule of Law and adhere to the principle of legality.
In this way, parliaments and courts are prevented from acting arbitrarily or
capriciously when making or interpreting laws.
2.3.7. Law – not discretion – and the exercise of

public power
Under the Rule of Law, questions of legal rights and liabilities should, as a
principle, be resolved by the application of the law and not by the exercise
of discretion. However, as the discussion of the principle of legality in sec-
tion 2.3.6. indicated, discretionary decision-making powers are awarded to
executives and other state functionaries by parliaments.
38

Rule of Law
It is worth stressing that the conferring of discretionary power on public

officials should be the exception and not the rule. This is because discretion
is contrary to several aspirations of the Rule of Law; it means uncertainty,
lower levels of predictability and a higher possibility that chance will deter-
mine outcomes. The effects of arbitrariness, which is the result of discretion,
can have a very negative and corrosive impact on a country. Corruption
often involves the criminal exercise of public discretion. Less severe coun-
terproductive use of discretion includes indecision and delay. In the area of
taxes, discretion-based rules to settle disputes between tax authorities and
taxpayers, particularly in the cross-border context under bilateral tax treaties
(e.g. the mutual agreement procedure), are prone to indecision and delay.
The Rule of Law and the principle of legality require that the exercise of
public powers be carried out in good faith, fairly and reasonably, and strictly
for the purpose for which the power was conferred and without exceeding
those powers. This applies at all levels, from ministerial to every level of
civil servant.
There is evidently tension between the Rule of Law and the wide powers of
a parliament. For example, even if a legally functioning parliament awards
absolute and wide discretion to, say, the head of the government, such a
power, although conferred legally, may still be contrary to the Rule of Law
because, in effect, such a law abrogates the Rule of Law. However, it is
also unrealistic to expect that no discretion in legislation should be allowed
by a parliament. No legal system can operate without giving discretion at
all. Accordingly, tension exists between the need under the Rule of Law to
prevent and correct administrative errors and to preserve the administrative
expertise that is necessary for the orderly functioning of the government.
In recent times, one area in which this tension has resulted in different legal
outcomes is the question of whether the Rule of Law requires that a govern-
ment foster a culture of justification and explanation for all decision-mak-
ing that affects, for example, taxpayers. As was discussed in section 2.3.6.
with regard to the principle of legality, judicial review requires courts to
check that decisions are not arbitrary, but this does not mean that the judge
must take a view on whether the given reasons are correct or not. However,
modern rights culture has been viewed by the courts of some countries as
meaning that relevant values, such as human rights, must be demonstrably
considered or given weight when deciding on the legitimacy of administra-
tive decisions. The range of results open to the official is therefore nec-
essarily constrained to only those that are consistent with the applicable
values. Evidently, written reasons, often in the style of legal reasoning, will
39

therefore be required, and courts would need to take a view on whether these
reasons are coherent and consistent with applicable fundamental norms. The
Rule of Law, in its modern understanding in a constitutional state in which
basic human rights are enshrined, thus makes decision-makers accountable
for these fundamental values without removing their discretion. It does not
extend to the capacity for judges to tell officials which results to reach. In
other words, judicial review is also evolving because of the inclusion of
human rights in the Rule of Law doctrine, as some courts are shifting their
focus onto the justifications given by decision-makers. A contested area is
that of whether a legal duty exists for decision-makers to provide written
reasons for every decision affecting, say, a taxpayer (this is particularly
contested in the area of international exchanges of taxpayer information
pursuant to discretion granted to tax administrators under treaties). A duty to
provide written reasons for every tax-administrative action affecting taxpay-
ers may threaten the use of discretion due to the range and volume of deci-
sions. However, there are also clear examples of when discretion in tax law
can never be justified under the Rule of Law. If, say, legislation that imposes
a profit-based tax (e.g. income tax) allows tax administrators to determine
“any other deduction prescribed by regulation”, the policy responsibility
and effective legislative power to establish the tax base is transferred to
unelected administrators answerable only to the executive. Tax legislation
of this nature breaches the “separation of powers” doctrine.
2.3.8. Equity in tax law
Equity in taxation was discussed in section 2.1.2. It is discussed here in the

context of the Rule of Law as it relates to two areas of tax law. The first is
justice, which reflects a community’s sense of the fairness of a tax system,
and the second is equality before the law, which refers to the tax legislator’s
ability to identify dissimilar situations and apply appropriate legal rules to
each.
2.3.8.1. Justice, fairness and ability to pay
There is a link between justice and ability to pay as economic and politi-
cal aspirations for a good tax system. Ability to pay plays a part in various
technical ways in the manner in which revenue-raising tax laws should be
designed. For example, the realization principle in income tax means that
tax liability should only be calculated, and the obligation to pay should not
be imposed before the point in time at which the taxpayer obtains ownership
40

Rule of Law
of the asset (e.g. cash or a bartered item) that accumulated from the under-
lying taxable transaction. Further, setting the rate of a tax is an important
aspect of ability to pay. The clearest example is progressive income taxes
that are imposed at higher rates on those with more income.
Ability to pay may also refer to justice (fairness) in taxation, which can be
seen in the amalgam of a community’s impression of whether a tax regime
is “fair” in respect of the circumstances during the time at which a view is
expressed. These debates are invariably more political than legal because
they concern the underlying political theory and construct, such as the social
contract. Political or popular debates about fair tax laws often concern the
linkage between revenue-raising laws (which, by themselves, may be per-
fectly just and reasonable) and the legal expenditure framework. An overall
impression of unfair or unjust tax law may form in a community due to, say,
maladministration of tax expenditure laws or the occurrence of wide-scale
state corruption. When tax laws contain too much discretion, for example, to
grant concessions to groups of taxpayers, it may equally lead to impressions
of unequal or unfair tax law.
2.3.8.2. Non-discrimination
The Rule of Law requires that the law apply equally to all, except to the
extent that objective differences justify differentiation.
Discrimination should be distinguished from differentiation. Differentiation

involves the identification of objective and rational differences as a justi-
fication for separate treatment. Discrimination, on the other hand, treats
objectively similar subjects differently based on a specific ground or feature
that the two subjects do not share. Overall, the laws of most democratic
states apply to all citizens on the same basis, namely that irrelevant distinc-
tions based on a person’s race, religion, political affiliation or influence
should not be drawn. The grounds upon which discriminatory treatment
is or should be prohibited are not exhaustively catalogued by the Rule of
Law. This prohibition may be codified in a country’s own constitution, for
example, when it enshrines human rights values, or by international law
commitments.
Legislation should not allow discrimination through awarding discretion-

based decision-making power to executives or functionaries of the state.
Discrimination based on irrelevant grounds can lead to decisions being set
aside under judicial review proceedings.
41

Equality of treatment in tax law has been translated into various types of
bans on discrimination, although the range and depth may vary considerably
between countries. For example, one may expect that an income tax system
would not discriminate based on gender or marital status by, for example,
allowing or disallowing tax deductions because of being married or unmar-
ried, male or female, and so on.
2.3.9. Other aspects of the Rule of Law
2.3.9.1. Dispute resolution and fair trial
When parties cannot resolve a disputes with an agreement, in a Rule-of-Law

system, the state has an obligation to supply means through which such
disputes may be settled without prohibitive cost or inordinate delay before
impartial judicial officers in a fair procedure.
This obligation of the state translates into tax regimes in several ways. For
example, an administrative procedure should be provided to taxpayers to
object to tax assessments, which serves to filter disputes that are not wor-
thy of a court’s attention (e.g. to correct computational errors or mistakes).
Further, countries often establish specialist tax tribunals (quasi-courts),
specialist courts and/or less formal forums to settle small tax claims. The
principle of legality and its outflows, such as administrative justice, should
permeate every such mechanism. For example, the legislation that creates
tax tribunals or small claims forums should ensure impartiality, require
rationality in the form of written reasons and justifications for decisions
based on the facts and circumstances, consider fundamental norms, etc.
2.3.9.2. International law
The Rule of Law requires that the state comply with its international legal
obligations. The sources of international legal obligations typically com-
prise treaties, custom and peremptory norms.
International custom finds expression in spheres such as tax administration.

Under the so-called “revenue rule”, no government is under the obligation
to enforce the tax claims of another government. Further, non-interference
and self-determination as principles of international custom support auton-
omy in tax policy and tax incentive settings. However, these international
law principles, as they apply to tax law, are increasingly abrogated under
42

Rule of Law
networks of multilateral and/or bilateral tax treaties, and even soft-law-

based peer review mechanisms may be said to impede self-determination.
For example, under tax treaties, governments regularly undertake to (i) assist
each other in the collection of taxes; (ii) exchange information, including
about taxpayers; and (iii) coordinate their tax law reforms to implement
model laws created by bodies external to their own national parliaments.
43

Chapter 3
Legal Systems
3.1. Common law
3.1.1. Introduction and features
Common law refers to the legal system and traditions associated with
England since the 11th century. It has become one of the main legal sys-
tems worldwide due to the influence England has had on many countries
over the course of history. Most legal systems use concepts or structures that
were, to some degree, borrowed from other systems. This process of legal
transplantation explains why many independent countries today are often
still classified as belonging to the common law tradition.
An understanding of the key features of the common law tradition is invari-

ably tied up with the history of England, as well as the particular history of
the country into which common law has been transplanted. Common law
is therefore hard to define, but essentially, it refers to law that is sourced
from customs and judicial precedents, as opposed to statutes (legislation).
The origins of English common law are, however, unique, in that it was
mostly influenced by indigenous practices, particularly the local laws about
dispute resolution. Western European legal systems, especially Roman law,
has had a marked influence on the substance of some areas of common law
(for example, the common law on partnerships). However, Roman law was
never pervasive in England, and also evolved from laws regulating dispute
resolution.
In medieval England, common law, along with local customary laws and
canon law, formed sources of law that applied to different constituents,
such as towns or the clergy. Common law gained its distinction in England
because it was administered by officials of the monarch, which included
judges who possessed their authority as deputies of the King. The law
administered by the King’s officials was not tied to a locality or specific
persons, but applied across the board, and hence was “common” law for all
who were under the authority of the English monarch.
45

Chapter 3 - Legal Systems
Historically, much of continental Europe also had a “common law”, which

today is referred to as the ius commune as a reference to the uncodified
law that was once in force and was significantly influenced by or based
on Roman law and canon law. This system evolved through commentators
studying influential texts since antiquity and making notes or glosses on
these texts, which built up common reference points over time. However, it
was also significantly influenced by philosophers and other thinkers during
the 16th-18th centuries. At the turn of the 18th century, these texts were
mostly replaced by comprehensive codes. Codification on such a large scale
never occurred in England. The tradition of the ius commune still lives on
alongside English common law in certain mixed legal jurisdictions, such as
South Africa (see section 3.3.).
Common law court practice is distinctive. For example, it entails the use
of a jury of laymen to decide on factual questions in criminal matters, as
well as the role of professions such as barristers and solicitors, who play
an important part in the development of common law. These features also
evolved over a long period in specific courts of England that were desig-
nated to preside over common law disputes. The famous rule of precedent
evolved from these court practices. Common law was initially an oral tradi-
tion that was passed down through generations through practices and mem-
ory. From the 14th century, lawyers in England started to compile records
of court proceedings and decisions. These notes about past cases were used
as a source to indicate to judges what they ought to do in cases before them.
In this manner, reliance on precedents (i.e. what has already been decided
as a principle point of law) has become one of the major sources of com-
mon law. In this lies another distinctive feature of English common law: it
is a legal system that develops based on case law – and layers of cases – as
opposed to, say, European civil law systems, which derive from expositions
by commentators about the meaning of authoritative texts or through com-
prehensive codification of the law.
Judges in the common law system play an important role in its development,
since they rely on precedents cited to them by lawyers who appear before
them. Knowledge of case law is considered indispensable for practitioners,
students and scholars who operate in a common law system. It has been
remarked that law that develops through ad hoc decisions by judges based
on specific situations is prone to lack coherence and leads to difficulty in dis-
tilling principles, although it can be highly pragmatic and helpful in bring-
ing certainty through detailed illustrations of solutions to specific cases.
Case law critique is therefore essential to the coherence of common law and
bears a resemblance to the attention given by civil law commentators to the
46

Common law
coherence of authoritative texts or codes. The development of both systems

is highly tied to the interpretation and critique of written sources of law.
3.1.2. Territorial reach of English common law
The territorial reach of English common law initially expanded to Wales and
Ireland, but later also much further afield to colonies and territories of the
British Empire across the world. This process of transplantation and recep-
tion of English common law was complex. The indigenous law applicable
in conquered territories was often not replaced by English common law, but
continued to coexist until a particular aspect was replaced by English law.
The importance of common law in territories outside of England gained
traction in the 19th century, when legal measures such as royal proclama-
tions, charters and commissions and, a bit later, legislation passed by the
Westminster Parliament, started to supplant local laws in the colonies of
the British Empire.
In some territories outside of England, European civil law applied when the
English conquered these territories, which gave rise to so-called “mixed”
legal systems (for example, South Africa and Sri Lanka; see section 3.3.).
Mixed systems are generally distinguished from systems in which English
common law coexisted with and, for the most part, replaced indigenous
law (for example, Australia, Canada and parts of Africa and the Caribbean).
In territories that became settled, English common law was thought to be
the birthright of British subjects and was simply assumed to apply. Many
territories were allowed to have colonial legislators, and English common
law was made applicable by choice through local statutes. English-style
courts were often established in conquered territories, with many of these
having the possibility of a final appeal to the Judicial Committee of the
Privy Council in London. This is still possible for some independent coun-
tries. Today, the Privy Council has appellate jurisdiction over only a handful
of Commonwealth territories, including Anguilla, Antigua and Barbuda,
the Bahamas, Barbados, Belize, Bermuda, the British Virgin Islands, the
Cayman Islands, the Cook Islands and Niue, Dominica, the Falkland
Islands, Gibraltar, Grenada, Jamaica, Kiribati, Mauritius, Monserrat, the
Pitcairn Islands, St. Christopher and Nevis, St. Helena and dependencies,
St. Lucia, St. Vincent and the Grenadines, Trinidad & Tobago, Turks and
Caicos Islands and Tuvalu.
Although many former English territories are independent or autonomous

from the United Kingdom, the system – and particularly, the procedural
47

structure – of English common law have been retained and remain an

important aspect of how these legal systems develop and adapt to local con-
siderations. Studies of these legal systems outside of the United Kingdom
have shown that they are marked by legal pluralism because of the possi-
bility of judge-made law coupled with the sources of law also comprising
indigenous law. Common law in former and current UK territories outside
of England is therefore not to be assumed to be a carbon copy of English
common law.
In 2019, there were 53 member countries of the Commonwealth, a volun-

tary association of independent states spread over Africa, the Americas,
Asia, the Caribbean, Europe and the Pacific, which represents a strong indi-
cation of the global spread of English common law. The Commonwealth’s
membership accounts for nearly a third of the world’s countries and about a
quarter of the world’s population. The Commonwealth does not have a legal
structure comparable to, for instance, the European Union. The common
law tradition is one of the prominent shared legacies in the Commonwealth.
Indeed, one of its core values expressed in the organization’s code of prin-
ciples is the commitment to the Rule of Law, which, in recent times, has
translated into the promotion and protection of human rights values.
English common law, however, is not the only legal system or tradition
encountered in the Commonwealth member countries. For example, along-
side English common law, Roman-Dutch law applies in South Africa and
Sri Lanka, European civil law in Mauritius and Seychelles, Islamic law in
Pakistan and Malaysia and Hindu law in India (see further section 3.3.).
3.1.3. Commercial and tax law in common law countries
In very broad terms, it may be said that commercial legal systems that devel-
oped in the English common law tradition are inclined to be more liberal
and less regulated. The English commercial legal system developed in incre-
ments, responding to changes in society. A good example is the deregulation
of company law in the 19th century in response to industrialization and the
expansion of the territories of the United Kingdom. Again, the absence of
grand codification signals less state interference, which translates, for ex-
ample, into the freedom of contract as an extensive concept with no general
legislative intervention except in specific areas, such as consumer protec-
tion, and a reluctance by courts to imply terms into contract (i.e. to supply
additional words in a contract that the parties did not use).
48

Common law
The philosophical approach to tax policy in some common law countries

is influenced by the same underpinnings. Tax regimes that are relatively
more liberal are encountered in former colonies of the United Kingdom
(particularly island regimes), and tax rates on the whole might be expected
to be lower in such deregulated jurisdictions. This is because the role of the
state and, consequently, its funding requirements are generally seen as being
more limited, although there is variation in this regard.
The development of tax law in countries with a historical or current con-

nection to the United Kingdom has an equally long and complex history.
Some key features of the structure of English income tax, such as the divide
between capital and revenue, the residence-and-source dichotomy and the
schedule approach to statutory design have all had a distinct impact on the
design and development of income tax law outside of England. Yet, income
tax law in common law countries is by no means a carbon copy of English
income tax law. A key binding feature is the prominence of case law as a
driver of the incremental development of tax law. There is often a marked
degree of comparative case law analysis in the jurisprudence of several
countries outside of the United Kingdom that share the English common
law legal tradition. For example, it is not uncommon for a South African tax
case to refer to case law of Australia, Canada, the United Kingdom and/or
the United States for guidance.
Several other taxes imposed in England have been transplanted with com-
mon law, for example, death duties (either in the form of an estate tax or
inheritance tax), stamp duties (which may apply to a range of transactions
involving immovable property), lease agreements and/or the transfer of
shares or securities.
3.1.4. Sources of tax law and rules of precedent
The main source of tax law in common law countries is legislation, as inter-
preted by national courts. Unlike civil law, doctrine is not a source of law,
but courts and practitioners do consider writings of commentators that may
have an influence, depending on the cogency of reasoning. When a country
has a superior constitution, it may also contain important rules applicable
to the process of making tax laws and their interpretation. This is a mere
application of the Rule of Law, under which no taxation can be exacted
without clear authorization to do so by an act of Parliament (see section 3.3.
on the Rule of Law).
49

Modern tax legislation tends to be voluminous and highly detailed. This

is due to several factors. In common law countries, tax legislation often
evolves over long periods. Statutes traditionally tend to be regarded as
encroachments on the common law. Tax legislation in common law sys-
tems are therefore drafted with punctiliousness, which adds to their length
and complexity. This style of drafting is further propounded by judges being
unwilling to fill loopholes in tax legislation, as this role is reserved for legis-
latures. Statutes are typically subject to ad hoc periodic amendments, which
contribute to complexity, as they are not often rewritten (if ever) and are
worked on by different drafting teams over time. Another contributing factor
is the ever-greater concern about tax avoidance, which means tax legislation
invariably becomes more detailed and elaborate due to legislators reacting
to particular avoidance arrangements by enacting targeted new legislation.
Further, the traditional – and now, for the most part, historic – common law
judicial approach to the interpretation of legislation has been to strictly con-
strue the literal meaning of a tax statute. Because of the rule of precedent, a
judicial pronouncement on the meaning of tax legislation binds the govern-
ment, taxpayers and lower courts, meaning that governments often change
the law in reaction to cases in which the outcome may be considered to go
against tax policy. The need for reactionary tax law changes is somewhat
diminished by the modern judicial approach to interpretation, which allows
for contextual aspects to be considered (see section 3.1.5.).
Adherence to established judicial precedents in tax cases carries the most

weight in common law courts aside from law that emanates from Parliament.
Compared to civil law, the works of tax scholars are much less influential
on courts regarding the interpretation of tax law; they are merely advisory
and not a source of law.
The rule of precedent, or stare decisis, refers to the process of legal reason-
ing that is typical of common law-style court systems. In practice, it can
constrain legal decision-making in individual cases by lower courts in light
of a legal principle demonstrated in a past decision by a higher court. It
effectively reserves the right to the incremental development of common
law for the highest courts.
The authority given to previous decisions by courts varies according to

the rules and practices of a country that has adopted a common-law-style
judicial system. However, there are some typical features of the rule of
precedent. In a formal sense, it is indeed an unwritten legal rule in terms of
which previous decisions by higher courts or even previous decisions of the
same court enjoy binding authority in any subsequent case coming before
50

Common law
the courts that bear sufficient similarity. In a practical sense, scholars and
practitioners consult previous decisions as a matter of good practice and
refer to them in their debates and arguments. Judges also may be expected as
a matter of professional duty and deference to senior colleagues to consider
and respect previous decisions. The highest courts in countries in which the
rule of precedent is an ingrained feature of the judicial system may therefore
often convene in earnest to deliberate on departures from established case
law.
Judgments of common law courts tend to be detailed and longer than, say,
judgments by civil law courts. Not all that is written by a court in a previous
judgment counts as binding precedent for future cases. The aspect of a case
that forms a precedent is the court’s ruling on the point of law that was the
justification for the outcome reached in a particular case. One is therefore
required to distil the precedent from a case, which means that the essential
reason for the decision (the ratio decidendi) needs to be separated from
other statements (obiter dicta) made in the written judgment. It is only the
ratio decidendi that binds future courts. However, it does not mean that the
obiter dicta becomes irrelevant; these statements can be highly influential,
depending on the cogency of reasoning.
Expressing the ratio decidendi from a previous case, including a tax case,
does not simply mean that a statement made in the case is reproduced word
for word. Rather, precedent derived from a case will generally include a
description of the essential facts to which the principle of law applied in
order to illustrate its scope of application. For example, the rule that a com-
pany’s tax residence is established by the location of its “central manage-
ment and control” is based on more than a century’s worth of case law, and
to express it as a rule of precedent would be incomplete without noting
that the courts developed the rule by considering where the directors of the
company perform the functions of central management and control. For a
court to rule that persons other than directors, such as shareholders, can be
expected to perform such functions will involve development of the law, and
lower courts will therefore be constrained in doing so in the absence of the
authority of a higher court.
When a court considers that precedent is not binding with regard to a matter
brought before it, the judge may tend to say that he or she is able to distin-
guish precedent derived from previous cases. This often entails the court
stating the scope of the binding rule in the previous case with an explana-
tion of why the scope of the rule is too narrow to apply to the case before
the court. Again using the example of a company’s tax residence, the rule
51

of “central management and control” derived from precedent is based on

the nature of the entity involved, namely a company. Application to other
entities, such as partnerships or trusts, would therefore require courts to
decide on whether such entities fall within the scope of the rule.
Foreign tax law and foreign tax cases are not binding sources of law, but
may be consulted for guidance. The case law of the highest courts of the
United Kingdom, however, tends to occupy a special position in terms of the
influence it may have over the courts of some countries, but court practices
vary in this regard.
3.1.5. Interpretation of tax law
The special role of common-law-style courts in the application of tax law

and its development over time means that the theory of legal interpretation
used by courts is critical in order to concretize tax law in any particular
circumstance. It is therefore of importance for students, scholars and prac-
titioners of tax law to understand the current judicial approach to the legal
interpretation of tax cases in a given country. This is because the law as
explained by a court may form a binding source of law for future cases
under the rule of precedent (see section 3.1.4.).
Moreover, the position of legislation as the primary source of tax law

becomes complicated when it involves concrete application because com-
mon law systems are marked by the absence of grand codes. The task for
lawyers is to apply the whole of the law to a specific situation. This has been
pointed out as involving three phases: (i) compiling the law; (ii) construing
the assembled law; and (iii) applying it to a specific case. This process of
legal reasoning is not linear, but often involves iteration of steps that go
forward and backwards between these phases.
For tax law (like other areas regulated by legislation), the starting point is to
assemble different pieces of legislation. Tax legislation can be notoriously
complex, involving several amending acts that must be gathered so that the
interpreter can be sure to have the authoritative legal text applicable at the
relevant point in time. This may involve gathering subsidiary legislation,
such as regulations and even informal guidance documents, like guides and
circulars, issued by tax authorities. The next step involves determining the
meaning of the legal rule so assembled. Terms used in tax legislation may
be defined, but they are also often not defined. Further, questions as to the
precise meaning often only arise when a specific set of facts to which the
52

Common law
law should be applied sheds light on a grey area in the construction of the
legislation.
Approaches to the interpretive methods of establishing the meaning of tax

legislation vary and change with judicial attitudes. However, it does not
mean that the process of interpretation is purely subjective. The Rule of
Law indeed requires that a theory of law be objectively applied to law in
order to remove discretion from the process of making law concrete, thereby
establishing legal certainty (see section 3.3.1.).
In some common law countries, there has been a shift during the last cen-
tury in the judicial attitude towards the interpretation of tax legislation. The
starting point (until not too long ago), referred to as the so-called “golden
rule”, was meant to give statutory words their so-called “literal” or “ordi-
nary” meaning. This approach was based on the assumption that language
can be “clear”. One of the traditional further justifications for the so-called
“strict approach” was that tax legislation, like criminal law, was onerous for
subjects of a state, and hence, Parliament had to clearly bring a taxpayer
within the charge to tax. Otherwise, in cases of ambiguity of the statute, the
taxpayer had to receive the benefit of the doubt (referred to as the contra
fiscum rule). The literal approach and its associated outflows are no lon-
ger followed by prominent Supreme Courts in countries such as Australia,
Canada, India, South Africa, the United Kingdom and the United States.
While there are important differences in nuances between the approaches
followed by the highest courts of these countries, they all tend to share the
understanding that the ordinary meaning of words used in a statute cannot
be interpreted in isolation, but will have to be considered in the context of
the document as a whole. Some courts would include, in the consideration
of the context, events and information extraneous to the text, such as the
circumstances of the legislation coming into existence, the so-called “mis-
chief” at which it may have been directed or even the policy that informed
it. The modern approach invariably involves consideration of the purpose
of a specific act and the objective it seeks to attain. Some courts also have
regard to the coherence of legislation in marginal cases in order to establish
whether there may be inner logic that may help explain which outcome
ought to be reached in a specific situation. Common law courts have tra-
ditionally avoided reference to debates in Parliament about the meaning
of draft legislation, but again, the attitude of some courts is changing in
this regard by, for example, allowing the consideration of materials known
to those who have been responsible for drafting tax laws. Approaches by
national courts differ with regard to the weight to be attached to all of these
different considerations that could affect the outcome of legal interpretation.
53

The justification for judges to use such extra-textual or systematic consid-

erations is that the legislator cannot foresee all possible circumstances and
that the role of the courts is to assist Parliament in making laws meaningful.
Some common law courts still regularly refer to “the intention of Parliament”
when interpreting tax legislation. Others have started to move away from
this construct, which was never meant to be understood literally, but rather
acted as a signpost that the role of judges was to look for the overall pur-
pose of legislation in its original context, but also with regard to the law
in force at the time of its application. Courts that are moving away from
this language tend to openly explain that they are applying a purposive or
teleological approach to statutory interpretation. This difference in approach
appears to be related to the presence or absence in the particular country
of a constitution that is superior in status to the country’s legislative body.
In some countries, the change in judicial attitude towards the interpretation

of tax legislation clearly resembles the rule for treaty interpretation found
in articles 31-32 of the 1969 Vienna Convention on the Law of Treaties. The
rule for treaty interpretation envisages a multifaceted and unitary process
in which several elements must be considered to in order to “arrive at” the
meaning of a treaty’s text. The ordinary meaning of terms in their context
and in light of the treaty’s object and purpose must be considered, together
with any subsequent agreement made between the parties or subsequent
practice that establishes an agreement between the parties regarding the
meaning of the text. Consideration of extraneous material is always allowed
to confirm the meaning of the text (e.g. the circumstances of conclusion or
preparatory papers) and may even be used to supplant the meaning in cases
of obscurity or absurdity of the outcome. The entire process of interpretation
must be performed in good faith.
Questions as to the applicable theory of statutory interpretation that ought

to be applied to tax legislation in common law countries often arise in cases
dealing with tax avoidance. Here, too, judicial approaches differ. For ex-
ample, some courts suggest that a special approach to interpretation should
apply in tax avoidance cases, in which an assumption must be made that
the tax legislation was designed to apply to real-world transactions or trans-
actions with economic substance. Tax avoidance transactions or elements
thereof are often unreal and should therefore be understood as falling out-
side the scope of tax legislation that bestows benefits (such as tax exemp-
tions). The reason why tax avoidance cases raise these difficulties is that
they may intensely confront an interpreter with normative questions. The
facts of these cases typically, by themselves, require an evaluation of the
54

Common law
genuineness of the transactions involved and, more broadly, can raise ques-
tions about the sense of fair play by the parties. Judicial control over tax
avoidance is therefore closely tied to the theory of statutory interpretation
applied to these types of cases.
Lastly, common law itself contains an elaborate number of so-called “rebut-

table presumptions” that aid interpretation. For example, all legislation
(including tax statutes) is presumed not to alter the existing law (consist-
ing of prior legislation and unwritten common law) more than is strictly
required. Further, it is presumed that words and phrases used in legislation
are used consistently and form part of a coherent legal system. These pre-
sumptions act as handrails for lawyers, in that they should seek to achieve
consistency and coherence whenever the law is constructed in a given case,
but they do not have the nature of hard rules. Further, legal maxims as rules
of logic aid in the process as well. For example, words of the same class,
kind or nature should be read ejusdem generis (when a general term follows
a list of particular terms, the general term only applies to similar things).
This refers to a provision in legislation that is made up of a phrase of general
application preceded by a class or string of words of limited meaning. The
possible meaning of the word of the widest potential meaning in the phrase
are then restricted to the narrower, generic meaning that is shared by preced-
ing words. For example, the phrase “donation, settlement or other similar
disposition” can either refer to a disposal of any kind or only to a disposal
that has something in common with “donations” or “settlements”. When
reading this ejusdem generis, it would refer only to disposals that contain
an element of generosity, as this feature is shared between a donation and
a settlement.
3.1.6. Relation of tax law to the general legal framework
Tax legislation in common law systems tends to draw definitional lifeblood

and meaning from pre-existing law in the broadest sense. This is partly due
to the general absence of grand codes and the use of undefined terms in
the legislation that are well known to lawyers operating in a specific legal
system. For example, if a tax statute refers to a “sale”, “lease” or “spouse”,
the law of contract or family law provide the prima facie meaning unless
the statute contains a different definition or the context provides otherwise.
This may be different in civil law systems, in which general tax codes fulfil
such a function. Furthermore, because tax legislation in common law coun-
tries tends to be amended on an ad hoc but regular basis, general reforms
are rare. The tax laws of a country as a whole therefore often require an
55

understanding of the specific legislative history and the associated wider

legal framework within which it evolved.
In common law systems, unlike some civil law systems, administrative law
has evolved in a way that does not make tax law an obvious part of it. This
is not to say that administrative law does not apply to tax law. The different
ways in which administrative law developed in common and some civil law
systems impacts the forum. In common law systems, when legal questions
arise about the exercise of administrative discretion by tax administrators,
these would, as a default, need to be decided by general courts of law unless
legislation provides tax tribunals or tax courts with specific capacity. The
position in some civil law systems, particularly those influenced by French
law, can be very different. This is based on the view that tax law provides
officials with broad discretion that needs to be controlled by a separate
system of administrative law applied by different courts because of the
inequality between the state and citizens. The classification of tax law as
administrative law (or not) can impact the evidentiary burden in tax cases
before civil law courts, whereas in common law, it generally does not. For
example, if the amount of a tax assessment is increased by a tax adminis-
trator, administrative law may require that the decision to do so must be
reasonable, which must be proven by the administrator before a civil law
court. A related further difference between common law and civil law tax
cases concerns the type of evidence that can be put before a court. Common
law rules of evidence allow both written and oral witness statements, the
cross-examination of such evidence, the presentation of expert evidence in
both oral and written form, and so on. In some civil law systems, tax cases
are decided exclusively based on written documents and oral testimonies,
and cross-examination is thus not possible.
3.2. Civil law
The civil law system draws its origins from Western Europe. Much like
the common law system described in section 3.1., the civil law system has
spread across the world, dominating Europe and South America, with influ-
ence in Asia and Africa as well. The exportation of this system from Europe
to other parts of the world largely follows the historical colonial patterns.
While the application of the civil law system varies between individual
countries, this section seeks to discuss the origins and general features of
civil law systems.
56

Civil law
The origins of the civil law system can be found in Roman law, which later
was enhanced by canon law. Medieval Italy brought about the interpret-
ers of these legal texts, i.e. the glossators. Unlike the Roman legal experts
(who came from the upper classes), the Italian glossators were teachers of
law from the general public. The glossators led to the development of law
schools and the study of law. During the time of the glossators, Italy saw
an increase in commercial trade both within and external to the country.
The application of commercial practices differed significantly. However,
the increase of the shipping of goods in particular saw the development of a
maritime code to harmonize the varying practices. On land, the development
of commercial courts for large fairs and the rise of guilds for the trades saw
the development of local commercial courts. Ultimately, these commercial
practices led to the development of specialist commercial courts that only
considered commercial matters and procedures. The development of Roman
law, canon law, local customs and commercial law (collectively known as
ius commune, or “common law”) was the precursor to the codification of
the law that is seen today as the civil law code.
Intellectual development from the Renaissance to the period of

Enlightenment in the 18th century greatly influenced the development of
the law and the codification of the law. In particular, developments in France
and Germany, such as the reduction of the influence of the church over the
state and social reform, led to the understanding that all citizens should
understand the law, but the law should equally be comprehensively written
to provide coverage over most issues. The 18th and 19th centuries can be
classified as the periods in which the body of law was to be rationally orga-
nized into codes. Key to these developments was the concept of “legal posi-
tivism”, essentially meaning that the law is as written and not dependent on
morality. Developments in France and Germany led to the development of
civil codes, dividing various legal topics into books governing those topics.
The initial codes developed did not reflect every aspect of law (such as
procedures, commercial law and criminal law), but were the basis of the
codification of the law. In this respect, a critical feature of civil law emerges,
i.e. that the codification of different branches of law is still supported by the
underlying unity of the legal system.
The codification of the law on this comprehensive basis reduced the impor-
tance of ius commune and emphasized reliance on written sources of law.
The manner of codification and its influences developed along different
lines in different parts of the world. For this reason, the countries using this
approach can be stratified into different “legal families”. The legal families
57

demonstrate greater similarities than other families but all draw from the
general features of civil law. Differences arising between legal families are
discussed further below.
The codification of different branches of law has also led to the development
of several court structures within the civil law system versus the unified
court structure found in common law jurisdictions. The development and
creation of the court structures in various countries further distinguished
between the legal families as to the status of the work of legal experts in the
court procedure. In this regard, it is appropriate at this stage to distinguish
(as examples) the role of legal experts in the court processes of France and
Germany.
The court system was put in place in France sooner than in Germany with
regard to the application of the codes. As a result, legal experts within the
court system (the practitioners) rose in prominence. In contrast, the ius com-
mune developed over a longer period in Germany before the court structure
was developed and implemented. The use of lay judges for some time led
to the rise in prominence of law professors who were regularly consulted
and were unofficial and unappointed court judges. The impact is that French
decisions are generally shorter, with reference usually only to the relevant
provisions of the code, whereas German decisions tend to explore the topic
in more depth, examining treatises and legal expert opinions as well as
codes in arriving at a decision.
However, key to the development of the court structure of the civil law
system is the reliance on codes and legal opinions in order to arrive at a deci-
sion. Each decision does not create precedential value in the same manner
as the common law courts. Lower courts may or may not refer to the deci-
sions of the higher courts but are in no way bound to follow the decisions.
Of course, a risk of the civil law system is over-codifying the law. Such
over-codification may lead to law that is too narrow or, by virtue of being
narrow, open to abuse.
3.2.2. Territorial reach of civil law
Much like the expansion to other territories of the common law system of
England, the civil law expansion followed the colonial path of many of the
European states. The civil law system was often incorporated into local laws
and generated the “legal families” found today.
58

Civil law
The current loose classification of the legal families of civil law are French,
Latin American, former Soviet Union, other post-conflict states, Northern
European (heavily influenced by Germany), Southern European (influenced
by Italy and Spain), Japanese, Korean and, finally, various Islam-influenced
states.
3.2.3. Commercial and tax law in civil law countries
A key feature of civil law countries is the separation of public and private
law. While the codes that fall within each category may be nuanced, the
essential difference is that private law considers matters between individ-
uals, whereas public law concerns the matters between the state and the
individual. Tax law would therefore generally be public law, whereas com-
mercial law would generally be private law. As indicated below, the strict
division between these areas of law can be problematic, even within tax law.
It should be noted, however, that within a civil law system, the civil law
codes provide the core of the law with particular statutes serving the pur-
pose of completing the codes (i.e. adding the specifics). This is particularly
relevant depending on whether the tax law has been drawn up as a general
code (such as in France and Germany) that governs all fiscal law (both
substantively and procedurally) versus in other jurisdictions in which the
tax law has not been drawn into a general code, which allows other general
code principles to apply to tax law.
It should further be noted that two meanings of civil law can be used. Firstly,
there is the civil law system, essentially identifying countries using the codi-
fication of the law across the entire system as the basis rather than relying
on common law or legal precedents. Secondly, civil law may also be used
to refer to branches of law concerned with the relationship between indi-
viduals (i.e. private law). In this chapter, a reference to civil law refers to
the first meaning.
The separation of private and public law extends to the court structures
governing this distinction. In a civil law system, private law issues are con-
sidered by the general courts, whereas public law matters are considered
by administrative courts. This distinction between the courts can also cre-
ate issues in tax matters, since private courts assess the rights of taxpayers,
whereas public courts can quash acts of the tax authorities.
While the broad, common classification of tax law as part of public law in a
civil law system is accepted, the branch of public law into which tax law is
59

allocated differs between countries, for example, by classifying tax as part

of administrative law versus public finance. The classification in part can
explain the manner in which tax law is treated in different jurisdictions, with
some focusing on procedural aspects more than others. However, the gen-
eral unity of the civil law system requires that tax law does not conflict with
or undermine other areas of law (all being part of the same system). Tax law
itself interacts with numerous aspects of law, and therefore, the systematic
approach and unity of the civil law system can assist in the interaction. Tax
law can interact with, amongst others, constitutional law, administrative law,
criminal law, procedural law and international law.
3.2.4. Sources of tax law and the rule of precedent
The main source of tax law in a civil law jurisdiction will be the legisla-
tion supplemented by treaties, regulations, judicial decisions and writings
of academics (doctrine) and materials of the tax authorities. However, it is
the application by the court of the legislation that provides the key differ-
ence between common law and civil law systems. In a civil law system, the
primacy of the legislation – drafted with the intent to cover all eventuali-
ties – requires the court to assess the facts of the case within the parameters
of the rules as set out. In this regard, the principle of legality is strictly
applied. Discretion or broad interpretive scope granted to or applied by
the administrative bodies is strictly limited, as too much discretion or too
broad a scope may be seen to breach the principle of legality. When the
rules do not adequately cover the particular facts, the general principles of
civil law are to be applied. Previous case law may be of limited authority,
being binding only on the parties to that case (noting that administrative
and constitutional court decisions on laws and regulations are binding on
all courts and parties). The writings of legal scholars will hold more weight
than in common law jurisdictions. However, in many civil law jurisdictions,
the relative importance of judicial decisions has increased.
With regard to constitutional issues in civil law jurisdictions, some states

utilize ad hoc courts to ensure consistency in the interpretation of the law
in line with the principles within the relevant constitution. Others facilitate
the testing of the law on constitutional grounds before its introduction, and
others still do not have a constitutional court, but rely on the application of
more universal principles, such as human rights.
The precedential value of the judgments of a civil law court is much less
than that of the judgments of a common law court. Precedential value still
60

Civil law
exists in judicial decisions in the civil law system, especially from higher
courts towards lower courts. However, it presents sui generis features, since
a lower court is not bound, in strict terms, by the precedent of a high court,
and yet, it often refers to this precedent in its interpretation. In this regard,
it is therefore clear that the court interprets the law in that case, but is not
also tasked with creating a principle of precedential value, i.e. it has no
law-making function. The civil law court is tasked with establishing the
facts and applying the law (that is, to interpret the law, not create it or make
it more specific). All actions of the court are within the applicable law, and
the court merely interprets it.
Like the common law, the statutes governing tax law tend to be extensive.
Equally, taxes should only be levied when imposed by law (the principle
of legality) as legislated by the law-making authority (usually the parlia-
ment). This principle is usually encapsulated in the country’s constitution.
While constitutions vary from country to country, the limitations imposed
thereunder apply equally to tax law. Limitations often include equality (to
treat all persons in the same circumstances equally) and non-retroactivity.
Doctrine as a source of law and its use in the courts varies from country to
country, and its use can be traced back to the early developments of civil
law in the relevant country. Using the example of Germany and France from
section 3.2.1., Germany frequently produces longer judgments, complete
with references to doctrine, versus judgments of the French courts, in which
reference to doctrine is limited or non-existent.
3.2.5. Interpretation of tax law
The process of interpreting tax law in civil law countries requires various
interpretive techniques. Firstly, should the text of the statute be clear, it is to
be followed. This reflects the adherence to a strict and restrictive approach
to the interpretation of tax law in accordance with the principle of legality.
However, the text is not always clear, requiring the court to apply an inter-
pretive approach. Secondly, the court will use various doctrine to establish
the will of the legislator. In doing so, a contextual approach will be adopted.
This will clarify the use of the provision by the legislator. Thirdly, a court
may turn to the historical development and preparatory papers (travaux
préparatoires) to discover the meaning of the provision. Finally, the court
may apply a teleological (purposive) approach when interpreting the law
in the absence of any other appropriate source. Noticeable is the lack of
61

reference to judicial precedents. This is a key feature distinguishing the

approach of civil law courts versus common law courts.
The role of the civil law court is to operate within the system of civil law and
derive from the law (as built by the legislators) one correct solution to a legal
problem according to legal science and the developed doctrine. Judicial dis-
cretion or interpretation becomes largely unnecessary. In this context, how
strict the state is with regard to the application of the principle of legality
(i.e. that the discretion or broad interpretation of administrative bodies is not
permitted) impacts the extent to which tax rulings may be issued by the tax
authorities and is found to be binding in terms of the principle of legitimate
expectations. Of course, when rulings are issued by tax authorities, taxpay-
ers may rely on such rulings in good faith. Civil law courts are bound by
the code and general civil law principles. They move from the principle to
the fact, versus common law, in which the courts move from the fact to the
principle. The principle is therefore interpreted to fit the particular facts.
Procedurally, civil law courts do not operate on a mainly adversarial basis.

The court is expected to know the law (iura novit curia), and therefore,
greater emphasis is placed on the available (often documented) evidence.
The court will assume an active role in clarifying the issues and arguments
and may introduce evidence themselves. This differs from common law,
in which the court decides based on the arguments made and precedents
referenced in support of or distinguishable from the current case.
3.2.6. Relationship between tax law and the general legal

framework
In civil law systems, the overall condition of the unity of the legal system
requires that tax law does not conflict with or undermine other areas of law
(being all part of the same system). There are strong connections with vari-
ous aspects of law outside of tax law. Tax law can interact with, amongst
others, constitutional law, administrative law, criminal law, procedural law
and international law. Normally, administrative law is suppletive, i.e. in the
case that there is no provision in tax law, the interpreter refers to adminis-
trative law to fill in the gaps (except in cases of analogy that disfavours the
taxpayer; if administrative law does not provide the answer, the following
source of suppletive law is civil law). A distinction should also be made
between federal systems in which the interaction of tax law with and at (i)
the federal level; and (ii) the state level should also be considered.
62

Mixed legal systems
3.3. Mixed legal systems
There has never been a universally accepted definition of the so-called “third
legal family” of mixed legal systems. At most, one can offer descriptions
of features shared by the legal systems of countries that do not comfortably
fall into either a classic common or civil law system. Mixed legal systems
may contain pluralistic features, but they are not classified as mixed because
of the presence of these features (legal pluralism refers to the situation in
which more than one law or legal system applies within the borders of a
nation-state).
Mixed legal jurisdictions are invariably tied to historical situations. Scotland

was one of the first countries to acquire a mixed legal system under the Act
of Union of 1707 with Britain. Intercolonial transfers during the 18th and
19th centuries formed a common defining moment for the establishment
of mixed civil/common law systems in Louisiana, Malta, Mauritius, the
Philippines, Puerto Rico, Quebec and South Africa, as the United Kingdom
allowed the continuation of local systems of law, which, in these situations,
consisted of pre-codification of European civil law. In southern Africa at the
end of the 19th century, the exportation of the Cape Colony’s mixed civil/
common law legal system to neighbouring territories under British colonial
influence established the sources of mixed law still present in Botswana,
Lesotho, Namibia, Swaziland and Zimbabwe. In the second half of the 20th
century, Israel’s legal system became mixed after independence due to inter-
nal demographic developments.
In-depth comparative studies have shown that there appear to be three char-
acteristics that are present in the third legal family: (i) the specificity of the
mixture of law; (ii) the structural confinement of civil law to the private law
sphere; and (iii) the quantitative and psychological recognition of the mixed
nature of the legal system and its traditions.
The specific mix of law found in these systems can generally be seen in the
legal edifice that is clearly identifiable as European civil law and English
common law. This is not to detract from the inclusion of other sources of
law (pluralism), such as customary law, religious law, canonical law, Roman
law or supranational law, but none of these usually represent the basic build-
ing blocks of the legal system. In fact, mixed systems are often also noted
for their legal pluralism, but notwithstanding other elements of law, civil and
common law provide the fundamental constituting features.
63

The second feature of mixed legal systems is the structural place that civil
law occupies, being confined to private law. Invariably Anglo-American law
and its institutions dominate the public law sphere. A useful metaphor that
scholars have used to describe the mixed legal system of South Africa, for
example, is that “[l]ike a jewel in a brooch, the Roman-Dutch law in South
Africa today glitters in a setting that was made in England” (Visser). In
mixed legal systems, one would tend to find a systematization of private law
as comprising the law of persons, family law, the law of things (property),
succession law and the law of obligations. This systematization of private
law has the outward appearance of pure civil law, and the substance of the
sources of law comprising these elements will often, in fact, be civil law
texts. For example, the law of things (property) will stress the distinction
between ownership and possession, as well s between real rights and per-
sonal rights. The sources of private law may be typically pre-codification
European common law (ius commune) as found in the texts of the most
authoritative commentators, but in some cases, codified civil law, especially
French codes, may have been received into the legal system. However, in
contrast to civil law systems, the public law of a mixed jurisdiction will bear
typical features of Anglo-American law. Broadly, the principle of separation
of powers will be constitutionally embedded, with an independent judiciary
that enjoys the power to review government acts and the inherent power
to regulate due process. One may therefore find that a dispute involving a
commercial transaction will be argued based on civil law authorities in front
of a common-law-style court by lawyers following legal reasoning methods
based on the rule of precedent that evolved from England’s court practice.
The third feature of mixed legal systems is that the occurrence of civil or
common law in the system involves more than mere occasional transplanta-
tion of foreign law elements. A mixed legal system contains many elements
borrowed from both civil and common law, which include non-substantive
aspects, such as legal institutions (for example, the court structure or the
configuration and traditions of the independent professional organizations
and public bodies) and even the legal style of reasoning. The intellectual
approach within such a system tends to be that legal scholars, practitioners
and judges all acknowledge the dual nature of the system. The presence of
hybridity in a legal system is thought of as not being relevant, since most
legal systems have hybrid elements.
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Supranational law and international institutions
3.3.2. Commercial and tax law
The commercial law of mixed legal systems tends to be highly Anglicized.

While civil law historically regulated commercial matters, over time, the
dominance of English or North American economic interests in governed
territories meant that Anglo-American statutes or versions thereof were
transplanted and the associated commercial legal practices were received
in these systems. Today, one may find that in mixed legal systems, fields
such as corporate law, bankruptcy, shipping, insurance, and securities tend
to embody English or American mercantile laws and concepts.
The same pattern can be observed in the field of tax law. English income tax
law was historically directly copied in some territories but later abandoned
due to its complexity and the difficulty in fusing it with the underlying
mixture of laws. In other situations, English income tax law was used as a
basis or model for developing colonial tax law, but these laws were often
truncated versions and less complex to administer. Yet, distinctive features
of English income tax law, for example, the capital and revenue divide, the
residence and source dichotomy and the schedule approach to statutory
design, have had a marked influence to this day on the fundamental features
of income tax law in mixed jurisdictions. Other forms of taxes imposed
in England, such as stamp duty or death duty, were also transplanted or
received. Over time, however, these laws evolved in accordance with local
conditions, particularly as such taxes had to be applied in the context of
underlying civil law. They can therefore be quite different from their mod-
ern English equivalents.
3.4. Supranational law and international institutions
3.4.1. Introduction
While this chapter deals with the three main legal families of the world and
their relationships with a country’s tax law, the reality is that in a globalized
environment, these neat distinctions can sometimes be difficult to discern
in the actual tax laws of countries. This may be so for a variety of reasons,
some of which will be dealt with in the following sections.
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3.4.2. Supranational law and tax law
Supranational law, which is distinct from and not the same as international
law, refers to a situation in which a country expressly binds itself to a set
of legal norms and institutions, often embedded in a treaty or convention,
which are extraneous to its legal system. The aim of supranational legal
obligations and duties is often to integrate sovereign states in a region to
achieve common political, economic, social, welfare or environmental
goals. The focus here is on regional economic integration.
Supranational law may impose an obligation on a country to refrain from

certain actions or to perform certain duties. Supranational economic legal
obligations and duties may affect a country’s tax law as well, as they are
often designed to prevail over national law.
The law of the European Union provides many examples of how suprana-
tional law may affect the tax laws of its Member States, sometimes with
far-reaching implications. For instance, the founding legal values of the
European Union include equality before the law, which has been translated
into the prohibition of discrimination between nationals or non-nationals in
what concerns employment, services, etc. Several aspects of the tax laws
of EU member States have been found by courts to unjustifiably breach the
right to free movement, such as restrictions that make personal tax relief
unavailable to non-resident EU workers. As a result, EU Member States
had to dismantle such aspects of their tax laws to comply with EU treaties.
EU law institutions also have legislative powers and may issue legislative
documents that are immediately binding (regulations) or that may require
implementation by domestic legislators (directives). In the field of taxation,
this is normally done using directives. The impact of supranational law
on national tax laws results in complex interaction between different legal
systems and their values.
Nearly all regions of the world are now covered by supranational legal
frameworks and institutions aimed at economic integration. This spans
Europe (the European Union and European Economic Area), Africa (the
East African Community, the Southern African Development Community
and the West African Economic and Monetary Union), Latin America
(Mercosor), the Caribbean (CARICOM) and Asia (the Association of
Southeast Asian Nations and the Eurasian Economic Union).
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3.4.3. International institutions and tax law
Several international institutions have been engaged with taxation since

the start of the 20th century. Initially, their work was concerned with estab-
lishing non-binding guidelines, particularly addressing cross-border taxa-
tion questions, such as the elimination of international double taxation.
Countries voluntarily either adopted or adapted these guidelines for imple-
mentation in their tax laws or started signing treaties specifically concerned
with these matters.
After the Second World War, several new international organizations were
created. Their engagement with taxation has broadened over time, and the
voluntary nature of adoption by countries has changed. Today, international
institutions regularly advise countries on structural reforms of domestic
economies, including the entire tax law, sometimes as a precondition for
financial assistance. Some international organizations have established
political infrastructure to achieve global coordination of tax laws through,
for example, peer reviews of how countries implement minimum stan-
dards in their tax laws in order to deal with matters such as transparency
(exchange of information) or international tax avoidance. These “top-down”
interactions can create complexity in a mandatory implementation of global,
non-specific model laws into domestic tax systems that are all too often
rooted in the local legal system and institutions. A great number of countries
do not (actively) participate in the decision-making structures of interna-
tional organizations when model tax laws and guidelines are developed and
prioritized for implementation, which can lead to issues of legitimacy and
exacerbate problems of fusing model norms with domestic tax systems.
3.4.4. The impact of hybridization and pluralism on tax law
The presence of various factors, such as globalization, regional integra-

tion, geographical location and/or historical development, means that a
large number of countries may be characterized by cultural, linguistic and/
or religious diversity. Diversity on such a scale impacts the legal system.
Countries in which mixed legal systems are found are, by nature, perhaps
more open and creative. It is therefore not uncommon that significant areas
of law may be derived from local customary law, religious law, canon law or
other sources (e.g. socialist law or tribal law). Pluralism of this nature may
even be formally recognized, such as under some constitutions that place
customary or religious law on equal footing with other sources of law, such
as common law and judge-made law.
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An example of the impact of constitutionally recognized legal pluralism on

the tax law of South Africa is the fact that persons wedded in terms of cus-
tomary unions, which can provide for polygamous relations, are recognized
as spouses for tax law purposes and so become entitled to tax benefits during
their lifetime and upon death that are enjoyed by spouses wedded in terms
of, say, Western religious institutions.
Sharia law is another example that, in recent times, contributed to the

hybridization of commercial law, particularly banking law, financial regula-
tion and tax law. Under Sharia law, usury charges (such as interest on loans
or charges of similar nature) are not allowed. The income tax treatment of
debt charges is one of the most significant issues that tax regimes need to
grapple with, particularly when striking a balance between guarding that
such payments do not erode a country’s tax base and allowing investors and
financiers to reduce their tax liability through interest payments up to an
acceptable level. Sharia-compliant finance products raise further difficul-
ties for income tax systems. Essentially, such finance products are based
on contractual arrangements that produce financial outcomes that imitate
the economic position if interest is charged. For example, in a Murabaha
transaction, a financial institution may acquire an asset and onsell it to a
Sharia-compliant investment fund at a markup. The markup would be paid
by the fund to the financial institution on a deferred basis. The legal form
of the transaction is purchase and sale at a profit, while economically, the
deferred payment of the profit would be like interest being paid on a loan to
the fund. The tax policy question that arises is whether a tax system should
enact special rules to ensure that such a Sharia-compliant transaction is
neutral for tax purposes. In the example of a Murabaha transaction, the
same tax rules applicable to the payment of actual interest might apply to
the payment of deferred profits.
Tax rules aimed at ensuring neutral or equal treatment of Sharia-compliant

financial products in the domestic sphere may cause complexity in a cross-
border context. When, for instance, a bilateral tax treaty applies between
two countries and only one of them regulates the tax treatment of Sharia-
compliant financial products, the outcome may be that one country sees
deemed interest being paid while the other recognizes only commercial
profits from a contractual arrangement. This may result in mismatches in tax
treatment by two countries because the transaction is classified differently
when establishing which rule of the tax treaty applies.
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Intellectual property is another area of law in which pluralism may impact

development in the future. For example, the recognition of new forms of
intellectual property that are not present in Western civil and common
law countries may have an impact on commercial and tax law. This may
impact both how ownership is understood (for instance, whether it may be
community-based instead of individualized and what may indeed qualify
as protectable intellectual property, such as cultural practices or cultural
items). Recognition of new forms of intellectual property and how it may
be owned will raise new challenges in tax policy, such as whether the source
or residence country should have the primary and unlimited right to tax new
forms of indigenous intellectual property. Novel ownership structures of
these new forms of intellectual property will also raise challenges for tax
administrations, especially with regard to how taxes are collected.
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Chapter 4
Substantive Tax Law
4.1. Introduction
The focus of this chapter is on substantive tax law. Substantive tax law
refers to the design of tax law with reference to the tax and economic poli-
cies of a country. This chapter does not consider the procedural aspects of
the enforcement of tax law (see chapter 5). This chapter begins firstly with
the institutional design elements of substantive tax law and follows with a
consideration of the design of the tax system itself.
In section 4.2. on institutional design, the principles from chapters 1 and

2 are followed to further discuss those institutional elements and conflicts
in the design of substantive tax law. The institutional design element, as
opposed to the design of the tax law itself, seeks to examine the context in
which the legal system is housed in the particular jurisdiction, taking cog-
nisance of the political structures. Despite these structures, the underlying
fundamental aspects of tax policies (examined in chapters 1 and 2) must
be present.
The political system in which the tax system is designed can certainly have
a bearing on the manner in which tax is levied. In this chapter, two funda-
mental aspects are considered: firstly, federal versus centralized (unitary)
political systems, and secondly, the division of powers that should be pres-
ent in a tax system to ensure its efficient functioning with the necessary
checks and balances in place.
Finally, in designing the substantive elements of the tax system, key ques-
tions should be asked, namely: (i) who should be taxed; (ii) what will be
taxed; (iii) when it will be taxed; (iv) how it will be collected; (v) how it will
be administered (an introduction to the procedural design is considered in
chapter 5); (vi) how to deal with tax avoidance and evasion; and (vii) con-
sideration of the international transactions in which tax treaties are signed.
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Chapter 4 - Substantive Tax Law
4.2. Institutional design
4.2.1. Federal versus central (unitary) systems
4.2.1.1. Introduction
The forms of government around the world can be largely classified into
two camps: (i) federal-type governments; and (ii) central-type governments.
Each of these types varies significantly within these broad categorizations.
The reason for the varied approaches to the types of government can be
drawn from the historical context and development of the particular country
or region. The legal base of the country does not necessarily influence the
type of government used; for example, the United States is a common law
jurisdiction with a federal government, whereas the United Kingdom is also
a common law jurisdiction but has a central government.
4.2.1.2. Federal systems
The description of federal government systems represents more of a con-

tinuum of political structures than a single form of government. For ease
of reference in this section, “state” refers to the sub-unit of the “federal”
state. The federal state, in turn, usually refers to a country, unless a regional
federation is considered.
In classifying a government as a federal system, a number of key factors are

generally present. Most critical to federal states is the division of powers
between the different levels of government. States generally operate with
significant autonomy. The division of powers is usually confirmed by the
constitution applicable to the federation. The federal powers are usually
specifically defined, with all residual powers granted to the states within
the federation. The federal level is usually only concerned with matters
that impact the country (or region) as a whole. In addition, the federal level
of government is usually tasked with an oversight function to ensure that
constitutionally protected rights are respected in all states forming part of
the federation.
The extreme (and most pure) form of fiscal federalism is one in which
full autonomy is held by the states forming the federation. Full autonomy
can be described as the presence of sufficient institutional, procedural and
economic (including financial) structures to operate independently from
the federal state. This means that the state within the federation has the
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Institutional design
structures and powers in place to make decisions separate from the federal
government, adopt certain fiscal policies and take financial responsibility
for such policies (i.e. the policy is not supported by the federal govern-
ment or other states through grants or subsidies). A classic example would
be Switzerland, in which the Constitution provides that the cantons come
together to form a federation (despite being termed a “confederation”). A
further, more extreme example of powers lying at the state level with a
looser federation would be the United Arab Emirates, in which each emirate
operates under an absolute monarch and the federal leader is elected from
these hereditary emirs. Confederations, unlike federations, are unions of
sovereign states operating on an inter-governmental basis. For such con-
federations, central authority of the coordinating or central government is
weak.
At the other end of the fiscal spectrum, the federal level exerts extensive
control over most matters, with limited powers being held by the state,
i.e. the individual states sacrifice significant autonomy to the federal level.
Examples include Australia, Canada, Germany and Nigeria. Most federal
governments fall somewhere between the two extremes described above.
The extent and form of the federation is generally drawn from the constitu-
tional framework of the federation. The federal constitution usually binds
all states with regard to certain basic rights of the citizens of the federation,
ensures the overall compliance with the Rule of Law and generally provides
for oversight to ensure that no measure by individual states undermines the
federation. This latter oversight function can take many different forms and
depends on the extent of the autonomy granted to the individual state. All
federal systems invoke certain control through the constitutional framework
over the underlying states in order to ensure cooperation, harmonization and
conformity with regard to various matters. The constitutional framework
has to balance unity with diversity. The framework must account for the
federation being the common interest of all.
Critically, in a federal system, there is decentralization of sovereign power

to both the state and the federal governments. The states in such a system
are generally free to raise taxes, but are usually subject to oversight by the
federal government to ensure that such state taxes do not interfere with fed-
eral affairs. Classic examples of such federal states include Brazil, Nigeria
and the United States.
The level of autonomy granted to the state rather than the federal level
must take into account the country’s circumstances and the interaction of
73

that country with other countries. Arguments in favour of greater autonomy

in democratic states include the limitation of political powers and deeper
representation of the people in that the smaller the constituency, the greater
the will of the people can be reflected in the election outcome. Such deeper
representation, it is argued, suggests greater accountability. However, it is
also argued, against fiscal federalism, that the autonomy results in a lack of
coordination, which, in turn, results in the inefficient use of resources on a
national level. The protection from the overreaching of political parties in a
centralized (unitary) form of government that federalism provides can also
result in the inability to effect change. In this regard, a distinction should
perhaps be drawn between developed economies with good governance, in
which change is perhaps undesirable, versus developing countries, in which
response to change may be needed swiftly and, if in a federal system, may
be difficult to achieve.
The greater the autonomy granted to the states in a federal system, the
greater the possibility of tax arbitrage between states. To counter some of
these effects, some states include a provision granting power to the fed-
eral state to ensure fiscal equality. However, the principle of the autonomy
granted to the states is to ensure that revenue raised is balanced against the
relevant state expenditure. In circumstances in which the federal govern-
ment exerts greater control (or centralized control) over tax matters, the
less likely it is that the states will have the necessary revenue. This has the
effect of disturbing the vertical fiscal balance between the federal state and
the underlying states.
Just as tax competition can occur between countries, in federal states

(where there is sufficient taxing power autonomy), tax competition can
occur between states, with observable consequences. An example would
be the significantly different rates between not only Swiss cantons, but also
between municipalities within those cantons. These significant differences
can incentivize or alter residence behaviour. This can be equated to the issue
between many countries of “frontier workers”, where the person resides in
one country but works in another. In looser forms of “federations”, such as
the European Union, these issues can be more pronounced, as the individual
states retain control over the majority of tax policy. Short distances and free
movement of persons within the European Union all facilitate tax competi-
tion, to the extent permitted, between states. This movement brings into
question which state the individual should be contributing taxes to and,
similarly, in which state such a person utilizes state services or benefits. The
linkage in such situations between revenue and expenditure is key.
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Apart from tax arbitrage, another factor to consider in a fiscal federal system
is the varied tax base between states. When states have full autonomy as
to the type and manner in which tax will be levied, the tax base may vary
significantly between states. Not only can this increase complexity, but it
can also prevent comparability between states. While there is clearly some
benefit of federal and state tax bases conforming (such as facilitating inter-
state trade, lower taxpayer compliance costs, less protectionism provisions
and less likely double taxation between states), it is against the aim of the
federal state to achieve balance between unity and diversity. By having less
autonomy, states are more subject to fluctuations in revenue based on fed-
eral laws and deviations from policies that are in the interest of a particular
state. Conformity in the tax base may also ignore the possibility that states
may be able to fund their expenditure through taxation of the resources
available in that state rather than conforming to, for example, an income tax
base. The tax policy within and between states should also take account of
the principles in section 2.1. above.
4.2.1.3. Central systems
A key distinction with regard to central systems relative to federal systems

is the retention of sovereignty at the national level and only delegation of
the exercise of certain powers to lower levels of the government in different
forms. This equally means that the devolution of power can be withdrawn.
An extreme example of devolution of powers by a centralized government
would be the United Kingdom, in which autonomy is granted to Scotland,
Wales and Northern Ireland. However, the autonomy does not translate into
a federation, as the sovereign power is retained by the UK Parliament, which
has the power to unilaterally revoke the devolution of autonomy. This is
unlike federal states, in which autonomy at the state level is guaranteed by
the constitution.
As with federal systems, with respect to central (or unitary) governments,

two extreme positions can be identified from the above. The first democratic
extreme would be the central government controlling all aspects of taxation
policy and enforcement with nothing devolved to sub-units (for example,
in Ireland and Norway). It is sufficient here to consider the democratic
extreme, but the same could also be true in countries with absolute mon-
archs.
From a tax perspective, in such intensely centralized scenarios, no taxes

may be legislated or administered at a level other than the central one.
75

Such strict powers have the effect of only permitting implementation at the
subnational level of the requirements of the central level. This represents a
potential disadvantage, in that such control prevents the subnational govern-
ment from raising sufficient financial resources to adequately execute their
functions. It may further lead to the misallocation of resources (see sec-
tion 2.1.3). The other extreme would be a central government that devolves
(still limited) taxing powers to sub-units (usually local governments). The
delegation of taxing powers may take different forms. For example, power
may be granted (i) only for the collection of taxes; (ii) to not only collect
the taxes, but also to retain part of the collected taxes for local activities;
and (iii) to collect separate local government taxes and levies through the
local governments or central legislation. In the last case, a distinction must
be drawn between permission being granted to raise select taxes and levies
versus a federal system in which the design, legislation and enforcement are
controlled by the state rather than the federal authority.
A central government is therefore free to pursue regulatory policies in tax

matters, thus encouraging some activities or some areas on a national basis,
taking into account efficient resource allocation. However, such regulatory
policies must still be reconciled with the constitutional framework and the
principles within that framework. Policies favouring, for example, certain
areas (such as special tax zones or economic development initiatives) or
providing for redress (following questionable or unfavourable past policies,
such as apartheid in South Africa) or redistribution must still have valid con-
stitutional justification. Governments in general seek to advance economic
development in the country and to provide stewardship over the country’s
natural resources and environment in order to ensure sustainability. These
aims are often entrenched in constitutional principles and must be built into
the regulatory policies pursued.
4.2.2. Regional integration
Regional integration presents a specific challenge when the regional “gov-

erning” body has elements of a government and produces binding supra-
national laws. Regions such as the European Union operate the closest to
a federal structure. Certain powers are within the mandate of the European
Union, whilst others reside exclusively in the Member States. Other regions
are working towards similar integration, for example, the East African
Community, which aspires to operate as a federation with sovereign mem-
ber states.
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Other forms of regional integration exist in the world with regard to

taxes, such as customs. These include, amongst many others, the Andean
Community and Southern African Development Community. For such
regional economic integration, there can be forms of centralized policies
using taxes for regulatory purposes. The aim of the European Union, as with
federal governments, is that any taxes or revenue generated at the federal
level should only be sufficient to sustain the relevant country’s activities
and projects. Currently, the levying of taxes at the EU level is not sufficient
to have regional development policies funded with EU taxes. However, the
European Union receives revenues from the budgets of its Member States
to spend in the regions with the highest unemployment or lowest economic
development.
Within these regional integration bodies exists legal pluralism, meaning that
there is more than one legal system (see section 3.3.3.) within the area cov-
ered by the regional body. The regional bodies attempt to harmoniously rec-
oncile the existence of legal pluralism with national sovereignty by means
of an international agreement signed by all member states. These regional
groupings are often formed for the greater good of the region, meaning that
revenue collected in one sovereign state may be sacrificed to another for
public spending purposes in line with the common goal or common good.
Examples include the European Union and, on a much smaller scale, the
Southern African Customs Union, which shares customs revenue following
a specific formula.
These forms of regional integration, whatever the purpose (usually pursuing

a common goal, which can be of economic approximation, the removal of
customs barriers or other matters), demonstrate the limits that such integra-
tion may place on the tax rules of a given system.
4.2.3. Division of powers
4.2.3.1. Overview
The principle of the separation of powers for a constitutional state is one

of the key building blocks of most – if not all – constitutional states. The
principle draws from the concern that concentrated power corrupts. In a
government, there should be various checks and balances with regard to the
use (and the prevention of abuse) of power. The division of powers is not
found in despotic governments or dictatorships, in which the power rests
77

with a single person. Even in democratic countries without written constitu-

tions, the division of powers can often be observed in practice.
In this regard, the development and clarification of the principles of the

division of power (or trias politica) by Montesquieu should be considered.
The critical functions to be split are that of the legislator, executive (includ-
ing the administrator) and the judiciary. The legislator holds the power to
make, amend and repeal rules of law, the executive has the power to execute
and enforce (usually through departments tasked with administering various
laws) rules of law and the judiciary has the power to resolve disputes and,
in that context, determine what the law is and how it should be applied in
the dispute.
In performing these functions, the legislator should not delegate law-mak-

ing functions to the executive. However, in practice, some functions are
delegated, but these are usually limited to the technical application of the
broader legislation passed by the legislator. The core reason to limit any
delegation of law-making power by the legislator is the accountability to
the electorate. As the legislator is more directly accountable to the electorate
than the executive, it follows that the power to legislate should be retained
by the accountable body. This matches the concept in taxation of “no taxa-
tion without representation” (see section 2.3., specifically section 2.3.4.).
In the purest of forms, no person should be a member of more than one of

these branches of government. However, in practice, the division of pow-
ers is rarely – if ever – absolute. There are frequently limited overlaps; for
example, the cabinet ministers forming the executive are usually members
of the parliament (the legislator). In addition, the overlap is often necessary
to facilitate the appropriate functioning of the parliament (in that the parlia-
ment may then call on members of the executive to respond to questions
from the parliament, the executive has the authority to present bills to the
parliament, etc.). Critically, however, any overlap should not extend to or
develop into the interference of one branch of government with another.
With the greatest overlap taking place in modern governments between
the executive and legislative functions, the independence of the judiciary
is of paramount importance. A detailed study of the individual jurisdiction
would be required to establish the exact extent of the division of powers, the
overlap and, most importantly, whether such overlap constitutes potential
abuse of power.
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Some differences exist between civil law and common law jurisdictions.
In common law jurisdictions, the judiciary can be seen as the guardian of
constitutionalism, the Rule of Law, the separation of powers and human
rights. The judiciary is seen as critical for enforcing the balance of power
between the branches of government, whereas such a role is reduced in civil
law jurisdictions. Within civil law jurisdictions, the judiciary is limited in
its role to perform only an interpretive function as regards written law (see
sections 3.1. and 3.2.).
In federal governments, the division of powers should be applied both hori-

zontally and vertically. This means that the divisions should be found at the
federal level (horizontally) and again at the lower tiers of power, such as
that of states (vertically), as well as in their interactions with the higher tiers.
Irrespective of the level at which taxing powers are granted (e.g. federal
or state), certain division of powers is necessary in order to preserve the
fundamental principles of tax. The concept of the division of powers is
significantly impacted by the legal environment and the application of the
concept of legality in the particular country. Powers granted to the execu-
tive, administrators and judiciary are often bound by the structure of the
constitutional laws and subsidiary statutes. The power of the judiciary to
review the acts of the executive and administrators can also vary. Apart from
the extensive variation that may be found in the legal structures, the effect-
iveness of the application of these powers may add further complications.
This latter point is beyond the scope of this book, which is not intended to
provide a comparative study of jurisdictions.
Despite the causes of variation, as noted above, this section seeks to extract

the core functions and division of powers between the various (independent)
branches of government in order to structure an appropriate tax system
(mindful of the principles expressed in chapter 2). Sections 4.2.3.2.-4.2.3.4.
follows the general division of powers as present and recognized in most
democratic societies, namely the division into legislative, executive and
judicial branches of government.
4.2.3.2. Legislative powers
Generally, in democratic states, the representatives elected by the people

form the legislative power. This legislative power can have many names and
forms. In this book, the term “parliament” is used as an all-encompassing
descriptor of the body that is granted the power to make laws.
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The principle behind the parliament holding the power to make the laws is
one of representation. The parliament is directly accountable to the elector-
ate for the laws enacted. In principle, the parliament may enact any law, but
this is generally restricted – especially in countries with a written constitu-
tion – only to enact laws that accord with the rights of the citizens.
The process of enacting a law can be drawn out. For expedience, parlia-
ments may, usually subject to some limitations, delegate its powers to the
executive. When power is delegated, the power should carry significant
limitations as to its scope and duration. The delegated authority is seen as
subordinate to the powers exercised by the parliament. Delegation of powers
may be subject to judicial review when the extent of the powers granted are
considered to have exceeded that which the parliament may delegate. The
greater the delegation by the parliament, the more the principle of legiti-
macy may be eroded and the separation of powers violated.
In more recent times, tax globalization, in terms of governance and the

development of policies, has taken a multi-jurisdictional perspective and can
be seen to be usurping some of the powers of parliaments. This is especially
apparent when legislation is passed or treaties signed that give international
bodies the power to make unilateral changes to the signed multi-jurisdic-
tional agreements on behalf of all signing jurisdictions. Such delegation
of (potentially) plenary legislative powers could be in conflict with the
authority granted to parliaments to pass legislation, and it will certainly
conflict with the principle of “no taxation without representation”. Others
may argue that no erosion takes place, as the powers are granted through a
treaty and the jurisdiction retains the authority to withdraw from the treaty
conferring sovereign power.
When parliamentary powers are outsourced (as above) or parliaments are

coerced into amending legislation or ratifying treaties under global pres-
sures or market circumstances, it is representative of a structural failure of
the system. The legislative powers granted to the parliament by its voters
are granted with the aim to secure suitable and sufficient financial resources
to fund national policies and interests (see section 2.1.3.). Good tax gov-
ernance requires the legislative authority to evaluate all claims against its
tax base against the policies and aims of the community it serves. Simple
acceptance of international norms under pressure from external sources may
deprive a community of sufficient funding that would otherwise be secured.
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4.2.3.3. Executive powers
Following from the legislative powers to make, amend or repeal rules of

law, the executive is tasked with executing and enforcing the Rule of Law.
Often, the executive will propose policies and legislation to the parliament.
The executive utilizes delegated power received from the parliament to issue
subordinate legislation necessary for the enactment or enforcement of leg-
islation passed by the parliament. Such power is usually granted in order to
overcome the practical issues with regard to the implementation of acts of
the parliament. As legislative processes are generally long and cumbersome,
requiring the legislature to issue every provision with regard to an act of the
parliament would be impractical.
The subordinate legislation issued by the executive usually takes the form of
regulations and similar formal announcements. It is rare that these powers
may significantly alter or amend the legislation, as this would provide the
executive with far-reaching powers. Regulations and similar announcements
usually give effect to or provide the mechanisms to apply the legislation as
passed by the parliament. In this regard, the mechanism through which the
power is granted to the executive may differ depending on the country’s
legal base.
In civil law countries, the executive usually receives general delegated power
to issue regulations and orders with regard to the implementation of the law,
particularly as regards procedure, based on the constitution (although this
is not true for every civil law jurisdiction). Any regulation that attempts to
alter the meaning of the legislation will be challenged, and, if it is found that
it changes the meaning, the regulation will be struck down by the courts.
The general delegation to issue regulations and orders is therefore restricted
by the limits of the law for which the regulation is issued. In common law
countries, the separation of powers is not always granted by the constitution,
but usually by delegated authority granted by the individual acts providing
for such delegation.
The technical nature of tax law and the rapid advancements in the area
necessitate the issue of various documents by the administrators of tax law
(on behalf of the executive), which may have varied status. Some documents
issued by the revenue service will bind both the taxpayer and the administra-
tion (for example, advance rulings), whilst others will bind neither.
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While generally non-binding, pronouncements and written practices of the

revenue authorities can create legitimate expectations for the taxpayer as
to the application of the tax law. However, if challenged and found to be
wrong in law by the judiciary, the reliance on such pronouncements by the
taxpayer (or the administration) may not provide adequate protection. In
some jurisdictions, certain pronouncements or circulars issued by the tax
administration are binding on the tax administration but not on the taxpayer.
In this regard, the example of advance rulings issued by revenue authorities
is illustrative.
Unlike general proclamations, regulations and other guidance documents

issued by a revenue authority, advance rulings reflect unilateral agreements
issued by the revenue authority with regard to a single taxpayer and the pro-
posed transactions. Numerous concerns arise in this context, most notably
regarding the concept of equity. Tax law should be applied equally to all
of those subject to its provisions. Advance tax rulings run the risk, mainly
in developing countries, of manipulation or lobbying to achieve a result
in favour of a strong taxpayer, such as a multinational corporation. Such
arrangements are often overlooked for various reasons, including the need to
attract foreign direct investment at any cost, corruption and tax competition
in the region. With regard to the division of powers, it is critical for such
arrangement that the principle of legality is protected and that a clear statu-
tory basis for delegation of such power exists. Certainly, any such system
should prevent – or at least be able to strike down – rulings that are either
not provided for in the tax law or contrary to the provisions of the tax law.
Further, such discretionary powers granted to the administrator should be
subject to judicial review.
Protection against over-reach by the executive usually resides in the pos-

sibility for judicial review. Equally, the rules with regard to judicial review
differ from country to country and thus do not necessarily provide equal
protection in all jurisdictions.
4.2.3.4. Judicial powers
Following the power to legislate granted to the parliament and the execu-
tive’s implementation of those laws, the judiciary is tasked with the power
to adjudicate the disputes that arise from either the laws enacted (when con-
trary to the constitution) or the implementation of the laws by the executive
(and its delegated bodies), as well as to interpret the law as written.
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In terms of the division of powers, it is this branch of government in which

the smallest overlap should be present. An independent judiciary is a critical
aspect of the effective (and accountable) division of powers. Equally, the
independence of the judiciary ensures that, in tax matters, both the taxpayer
and the revenue authority are subject to the law as interpreted by the court.
The basic principle of this branch of government is that the judiciary applies
the law, but does not make the law. However, in practice – particularly in
common law countries – the effect of the judgment in respect of the inter-
pretation of the law is to, in a limited sense, make the law. Interpretations
of the law in judgments in common law countries bind the courts in terms
of the rules of precedent and in terms of the status of the court. These
judgments then may be relied on as authoritative with regard to the inter-
pretation of the law. Furthermore, as interpretations evolve into principles
pronounced by the courts, the judgment evolves into law.
The method of interpretation of the tax law by the court can also play a
role in application of its powers. Whichever interpretative methods are
employed, the court must be mindful not to read more into the legislation
than what is implied or intended. An independent judiciary not only pro-
vides critical oversight of the enforcement of the tax law by the adminis-
trators, but equally holds the parliament accountable for its constitutional
powers. This may be done in some countries through the involvement of
constitutional courts, which, in some cases, have the power of checking
compatibility with the constitution before laws enter into force, and in many
countries, have the power to review the constitutionality of the law on a per-
manent basis. Of course, it should also be mentioned that some countries do
not have a constitutional court, and others no written constitution.
The executive, tasked with the implementation of the tax law, may provide
the first interpretation (often by the administrator). The fact that such tech-
nical interpretations may bind the revenue authority or create legitimate
expectations for the taxpayer are separate arguments that may be brought
before the court. In expressing their opinion, the courts are the guardians
of legal certainty and the Rule of Law (see section 3.3.). The role of the
judiciary is not just to secure effective enforcement of the law in the inter-
est of the tax authority, but also in that of taxpayers. World practice in
this regard differs significantly and can directly impact the level of rights
afforded to the taxpayer. However, the executive’s interpretation of the law
passed by the legislator may be challenged before the courts. In this respect,
the interpretation of the law by the courts is essentially the final interpreta-
tion. If the parliament is dissatisfied with the outcome, it is free to amend
83

the law (generally prospectively and not retrospectively). When the role of
the judiciary is limited due to a lack of cases brought before it or the fact
that the court is bypassed in a state in which the executive authority is seen
as paramount, the necessary checks and balances on power will be greatly
impacted, and the rights of taxpayers will be vulnerable to violation. It is
therefore a key structural goal of any good tax system to have an indepen-
dent and functioning judiciary.
The courts have to balance the principle of legality (in that they cannot read
more into the law that appears) against the methods of interpretation that
facilitate a teleological interpretative approach. The teleological approach
aims to interpret the legislation in light of its purpose and legal, social
and economic goals. Such an approach by the judiciary avoids strict (lit-
eral) interpretation of the legislation that may facilitate the use of artificial
structures to prevent or frustrate the intention of the parliament in enacting
the law. However, any interpretation in line with the object and purpose
must make sure that the meaning intended by the drafters is the only one
that could have been perceived from the wording actually used. Such an
approach can also ensure that the law is applied equally in all cases for all
taxpayers. World practice in this regard varies significantly.
Despite any application of interpretative methodology to seek the purpose of

the legislation, more meaning cannot be given to the words that go beyond
its intended purpose or scope. If the judiciary saw it fit to effectively ignore
the words to give effect to what they believe is the legislative purpose, that
would be in violation of the Rule of Law (see section 2.3.). It is therefore
clear that the teleological approach has some limits (key being the Rule
of Law and the principle of legality). To illustrate this point, if a legislator
seeks to pursue tax avoidance but the law as drafted stipulates the pursuit
of all forms of tax evasion, the judiciary cannot include “tax avoidance” in
the concept of “tax evasion”, as the two are different phenomena. The issue
would have to be corrected by the legislator and not the court.
4.2.4. The making of tax policy
The elements of tax policy were discussed briefly in chapter 2. This sec-
tion is concerned with the making of that policy and the players in relation
to the division of powers.
The determination of tax policy is usually developed by the executive

and parliamentary branches of the government, with varying degrees of
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Tax system design
participation between these branches of government. Irrespective of the

mix, the development of tax policy usually involves the participation of
technical experts. The design of tax policy should not only take account of
the government plans and strategies, but also recognize the interdisciplinary
nature that tax policy design necessitates.
More commonly, the executive – usually the cabinet minister in charge of

the treasury – is tasked with designing the tax policy, taking into account
the economic needs of the country and the services it must provide. The
outcome of this policy design is usually draft legislation, which must then
be presented to the parliament for intervention and approval. This maintains
the principle of legality and “no taxation without representation”.
The starting point for any tax policy is to first document the needs and desir-
able goals of the represented community. Actions and policies should flow
from that overarching strategy.
4.3. Tax system design
4.3.1. Who will be taxed?
Neutrality in a tax system ensures that the tax system raises revenue whilst
minimizing discrimination in favour of or against any particular choice.
This is based on the principle that the same principles of taxation should
apply to all forms of business and also address specific features that may
undermine the equal and neutral application of such principles. Individuals
(natural persons) obtaining income can be taxed on that income. Legal per-
sons (e.g. corporate entities), on the other hand, are representatives, created
by law, who act on behalf of their members who ultimately are individuals.
One view is that in applying the benefit principle, corporate income tax
(CIT) is the price paid by the members (shareholders) for enjoying limited
liability, or the CIT is regarded as a withholding tax on the personal income
of the shareholders, with the final liability being determined only upon the
distribution of the income (after CIT) to the shareholders. Another view is
that the corporate entity is a legal person separate from its members and has
the ability to pay. The corporate entity can therefore be subject to separate
taxation (CIT) from that of its members earning income elsewhere (legal
personality being the criterion to define liability to CIT).
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4.3.1.1. Natural persons
Drawing on sections 2.1.2.2. and 2.1.2.3., the fundamental principles of

horizontal and vertical equity are the main elements in the design of a tax
system. Horizontal equity is achieved by ensuring that taxpayers in similar
circumstances bear a similar tax burden. Vertical equity is achieved in dif-
ferent ways, but generally seeks to place a heavier tax burden on the wealthy
in relation to the less wealthy (see section 4.3.5.). Countries may seek to tax
non-residents as well as their own residents depending on the basis of taxa-
tion adopted and/or the type of income in question. Some countries may tax
spouses as a single taxable unit. Natural persons are subject to tax whether
they are running an unincorporated business, earning passive income or
earning income from employment. Natural persons are also consumers of
goods and services and therefore also bear indirect taxes, such as VAT, cus-
toms duties and levies and property taxes.
4.3.1.2. Corporate entities
Corporate entities are separate legal persons and therefore can be subject
to taxes imposed on such entities directly (see section 4.3.1.). Whatever
the underlying view may be of the role of the corporate entity, the tax base
for CIT is broad, covering all types of income, such as return on equity
capital and income from operations. Corporate entities can be divided into
two distinct groups: those that are widely held by the general public and
those that are closely held by connected persons who have direct interests
in the entity. Authorities may wish to tax closely held entities differently,
in that the entity merely represents the shareholders. In these situations, the
tax subjects are the shareholders and not the entity, so no CIT on profits
as the profits of the entity are attributed to the shareholders directly. The
shareholders will then be subject to tax on these profits as individuals. Small
and medium-sized corporations may also enjoy preferential tax treatment
to decrease their competitive disadvantage against multinational corpora-
tions. Trusts are also taxable subjects, but income can also be attributed to
beneficiaries and/or the creator of the trust, who then become(s) the taxable
subject in respect of that income.
4.3.1.3. Transparent entities
Generally, partnerships do not have a legal persona separate from the partner
members. Authorities can choose to treat a partnership as a taxable entity in
certain cases. For example, the partnership is treated as an enterprise for the
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Tax system design
purposes of VAT. This is generally for the practical application of VAT. For
general income tax purposes, the members of the partnership are the tax-
able subjects in their profit/loss-sharing ratios. Some countries may, how-
ever, recognize certain partnerships as corporate entities. Trusts may also be
treated as transparent when income is directly vested in the beneficiaries of
the trust, and the trust is a mere conduit for that income. The beneficiaries
become the tax subjects in these situations.
4.3.1.4. Permanent establishments
Another form of entity that can be a taxable subject is a permanent estab-

lishment (PE). A PE could be an entity, branch, subsidiary or business with
no formal persona established in the jurisdiction of a country by a foreign
country. The profits may be taxed as if the PE were an entity of the country
in which the business of the enterprise is carried on, allowing source taxa-
tion. The reason for such taxation would be the nexus of the income and
the expenditure inthe source country that wishes to tax. This becomes more
difficult when the activities of the business are only services, as there may
be no detectable fixed place of business, such as if all services are provided
digitally.
4.3.1.5. Geographical scope
In a worldwide tax system, all domestic and foreign income is subject to tax
for residents and may include source taxation for non-residents. In a territo-
rial system, only income arising in the source state is subject to tax for both
residents and non-residents. Equity can also refer to inter-nation equity, in
which each country receives an equitable share of tax revenues from cross-
border transactions (see section 2.1.2.5). This is important for the debate on
the division of taxing rights between source and residence countries and the
maintenance of fiscal sovereignty.
4.3.2. What will be taxed?
What will be taxed is dependent on the principle of legality, referring to

what can and should be taxed (see section 2.2.). Taxes can be based on
income, transactions, resource use or consumption. These can further be
broken down into two categories: (i) taxes on income and capital (direct
taxes); and (ii) taxes on consumption and use (indirect taxes). Direct taxes
are imposed on a person (whether legal or natural) and are paid directly by
87

that person. Examples are income tax, dividend tax and withholding tax.
Indirect taxes are levied on transactions with no regard to the nature of the
person bearing the tax. Indirect taxes are usually collected by intermediaries
who collect and pay these to the tax authorities. Examples are VAT, transfer
taxes and customs and import duties and levies. Most countries impose
taxes on income and consumption.
4.3.2.1. Income
Income can be diverse and includes income from employment (labour),

income from business operations (profit) and also passive income, such as
interest, dividends, rents and capital gains. Income can also include deemed
amounts, in which certain benefits (as opposed to monetary rewards) are
provided, for example, if an employee is given the use of a company car by
their employer. There is no universal definition of the meaning of “income”
(see section 4.3.2.5.). Persons hold or acquire assets for different reasons.
The asset/capital may be used to generate income, e.g. a building purchased
to obtain rental income or in which to operate a business or an asset acquired
for resale. The intention of the taxpayer can therefore determine the nature
of the income received. In the first scenario, if the building is subsequently
sold, this would lead to a capital gain or loss, whereas in the second sce-
nario, all income is from normal trading, regardless of the nature of the
asset acquired.
4.3.2.2. Wealth
The taxing of wealth is a deeply contentious issue. A view is that in taxing

the wealthy more heavily, a form of redistribution occurs that responds to
the maxims of vertical equity and the ability to pay (see section 2.2.). For
natural persons, increased tax rates can be applied to marginal increments
in the level of income, ensuring that those earning more bear a greater tax
burden. The transfer of fixed property can also be taxed, as it may be that
only the wealthy have access to the ownership of such property. These types
of taxes can be transfer duties (duties charged usually when immovable
property changes ownership), estate or inheritance taxes (taxes levied upon
the death of a person, payable by the deceased estate or the beneficiary who
inherits the estate) and gift taxes (payable on property donated or gifted to
someone for no consideration). Policy makers need to keep in mind that
aside from these taxes, there may be subnational taxes, such as municipal
levies on property, and this, together with other indirect taxes, may place
too heavy a burden on a select few. This can cause behavioural changes,
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Tax system design
e.g. changing one’s country residence, not buying high-end goods (which
can lead to production lay-offs affecting employment of the less wealthy)
and even avoidance and evasion. Revenue collection from wealth taxes is
generally only a small percentage of total tax revenue.
4.3.2.3. Transactions
Transactions can be taxed in various ways. This can be on consumption, use

or transfer. There could be taxes on the transfer of immovable or movable
property. These would include transfer duties, VAT, taxes on death or gifts,
and also marketable securities tax or stamp duty on the purchase of market-
able securities. Online transactions could be subject to a transactional tax in
the form of VAT or a similar type of tax based on the destination principle
(place of supply).
4.3.2.4. Consumption or use
Taxes on consumption are levied at the place of destination (e.g. the import-
ing country or the final consumer). Consumption taxes are also transactional
taxes, in that they are levied on a taxable event, on an exchange of goods
or services for consideration either to final end users (general sales tax,
retail sales tax and VAT) or on intermediate transactions between businesses
(VAT). Consumption taxes, such as import duties and customs duties, are
levied on the acquisition of particular goods or services. Taxes like VAT
have proved to be successful revenue generators for the fiscus and, after
personal income tax, raise more revenue than CIT.
4.3.2.5. Net or gross basis
There is no universal definition of what income is. Domestic tax law sys-
tems may define that income is gross income minus allowable deductions,
but this does not necessarily conform to a universal view. Income may be
actual or deemed, for example, when hypothetical rent (cadastral income)
must be calculated for a personal home and included in the income. The
hypothetical rent is based on the property description and the listed valu-
ation in a property register, to which an annual index is applied in order
to arrive at the hypothetical rental income. Normally, when this type of
deemed income is to be taxed, deductions are permitted in respect of the
mortgage burden of the property.
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In the case of business income, the earning of income would not be possible
without incurring costs and expenses, and thus, taxing net income is appro-
priate. Most domestic tax law systems have rules as to which deductions are
permitted. More generous deductions may be granted to specific industries,
such as mining, farming and research and development operations.
In counties where small and medium-sized enterprises (SMEs) are important

to the economy, a system of gross or turnover tax may be beneficial for
qualifying entities. The rate of such a tax has to be low in order for it to
be viable. It can eliminate complexity and reduce costs for the SME. Such
taxes can be a substitute for VAT and income tax.
For natural persons earning employment income only, there are no deduc-
tions to set off against their income. In this regard, domestic tax law sys-
tems can compensated for this by allowing certain personal expenses to be
deducted, such as medical fund contributions, social security contributions
and retirement fund contributions.
When the income of non-residents is taxed in the source country, it is far

easier to tax that income on a gross basis at a reduced rate and withhold the
tax at source, such as in the case of withholding taxes. Withholding taxes
are generally applied to passive income, such as dividends and interest, in
which no or very little expenditure is involved. This may not be the case
with withholding taxes on royalties and the income of sportspersons and
entertainers, in which expenditure is involved. The gross or net basis for
these last two categories is not a settled matter.
4.3.2.6. The influence of accounting principles on tax law
It must be stated upfront that the objectives of a tax system and the objec-
tives of accounting principles for financial reporting purposes are differ-
ent. A tax system needs to measure revenue over a period of time, whilst
financial reporting considers a particular point in time and serves to present
fairly, in all material respects, the financial position, financial performance
and cash flows for the fiscal/accounting year that the corporation follows for
the shareholders. This divergence in objectives means that the tax authori-
ties cannot rely on the financial reports for determining the taxable number,
and traditionally, they have not. All corporations may not interpret account-
ing principles in the same manner, causing further divergence. However,
courts have often referred to accounting information to validate or disprove
liability to taxes. Tax authorities need to be aware of where the differences
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Tax system design
lie, for example, amounts treated as capital or revenue, territorial boundar-

ies, valuation methods and the timing of accruals and expenditures. Some
domestic tax systems have chosen to follow the accounting principle of
valuation in certain circumstances, for example, for the valuation of trad-
ing stock or certain financial instruments. In country-by-country reporting,
which is required in terms of the Common Reporting Standards for many
countries following the BEPS initiative of the OECD, accounting informa-
tion is required. It is not uncommon for the reporting of tax information to
start with the accounting profits and then show the appropriate adjustments
to arrive at the taxable income. In these cases, the financial reports are also
required to be lodged with the tax return for verification purposes.
4.3.3. When will it be taxed?
The matter of when tax is to be levied is dependent on the type of tax being
imposed.
4.3.3.1. Direct taxes
For income from labour, capital or business profits, tax is an annual event,
and although advance payments of tax may be required, the final tax liability
can only be determined at the end of the year of assessment. Dividend tax
may be required to be levied as soon as the dividend is declared. The in-
come of foreign entertainers and sportspersons and royalties paid to foreign
residents will be taxed once the performance has taken place or payment is
made. This may be the only practical opportunity to levy tax. In countries in
which capital gains tax exists, the determination of the gain for tax purposes
occurs upon the disposal of the asset, and then either there is immediate
taxation or the taxation is deferred to the end of the year of assessment,
depending on the system in place.
4.3.3.2. Indirect taxes
Indirect taxes are levied on transactions or events, and therefore, once the
transaction is completed, the tax liability arises. When consideration for
goods or services is made, this includes the VAT charge, duty or levy. Upon
the registration of a transfer of immovable property, transfer duty is levied
on the purchase. Certain taxes, like subnational taxes on property, whilst
calculated on an annual basis, may be charged on a monthly basis.
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4.3.3.3. Transactional
Transactional taxes include indirect taxes, but also certain wealth or inher-
itance taxes, such as death duties and gift taxes. These events will be taxed
upon the occurrence of the event.
4.3.4. How will tax be collected?
Taxes have to be collected on an ongoing basis in order to ensure a steady

revenue stream for the fiscus. It depends again on the nature of the income
as to how the tax will be collected. Third parties can be appointed to collect
the taxes in certain circumstances, but it is still the taxpayer who bears the
final responsibility for the tax, and penalties and interest are levied when
payments are late or underestimated. See section 5.2.4.1. regarding the jus-
tification of third-party collection, voluntary collection and forcible col-
lection.
4.3.4.1. Employment
For the earning of employment income, employers are appointed as agents

to collect/deduct the appropriate tax from each employee’s remunera-
tion and pay this over to the tax authorities, usually on a monthly basis.
Employees must be given a certificate of proof of payment of the tax to
submit to the authorities upon the final assessment at the end of the year.
Taxes are therefore paid as and when the money is received. This kind of
“pay as you earn” system benefits persons not earning any other income as
well as the revenue authorities, in that said persons do not have to register
separately with the revenue authorities. This cuts down on the volume of
taxpayers to administrate and reduces attendant costs. Third parties have an
obligation to pay these taxes over to the fiscus and can be held accountable
for any infringements.
4.3.4.2. Business or other income
Total assessable income can only be finally determined at the end of the
year of assessment. To overcome delays in receiving revenue income by
the fiscus, tax systems can incorporate a system of requiring provisional
advance payments of tax, usually twice yearly, to be paid by the individual
or corporation. This advance payment can be based on the taxable income
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Tax system design
of the last year assessed or on estimated amounts. Natural persons earning

employment income may also be earning other income, such as interest or
rental income, and therefore also need to pay advance provisional payments
for their total aggregated anticipated tax liability, taking into account the tax
already deducted in respect of employment.
4.3.4.3. Withholdings
Various agents are appointed to collect withholding taxes and pay it over to
the revenue authorities. Dividend tax is deducted by the corporation paying
the dividend before paying the net dividend to the shareholder. Payers of
royalties are required to withhold the tax from the royalty payment to non-
residents. The same applies to payments made to foreign entertainers and
sportspersons. Banks withhold tax on interest payments to foreign residents.
This makes for efficient tax collection and no further responsibility for the
taxpayers receiving this kind of income. Using a gross basis for taxing
these payments can be substantiated by the fact that foreign residents do
not have to produce documentation or evidence of any expenditure incurred.
However, gross taxation of entertainers and sportspersons who do incur
expenditure, for example, cannot be compared to the earning of interest
income from an investment, for which the expenditure may be negligible.
This may lead to unequal treatment of domestic and foreign entertainers and
sportspersons, and therefore, rates of withholding taxes should be kept low.
4.3.4.4. Indirect taxes
In the VAT system, the tax is collected upon the consumption or use by the
person receiving the goods or services. The person providing the goods or
services will be the one registered in the VAT system to collect these taxes
and pay these over to the fiscus at various predetermined intervals.
4.3.4.5. Cross-border assistance
In order to protect its sovereignty, a country will not permit a foreign coun-
try to collect taxes in its territory and will itself not be allowed to collect
taxes in another country. Assistance given to a foreign jurisdiction (request-
ing country) to collect taxes within its own borders has no benefit for the
requested country, as these taxes would not add to its own revenue. Countries
therefore will not enforce the revenue laws of another country, also known
as the revenue rule. With the increasing globalization of transactions and the
93

movement of the residence of taxpayers, this rule can and has been abro-
gated by mutual agreements between countries to lend assistance to each
other. While exchange-of-information agreements have become the norm
between tax authorities, the exchange may not necessarily lead to actual tax
collection, and assistance in the collection may be necessary to satisfacto-
rily conclude the exchange-of-information procedure. Many countries do
not provide such assistance, especially when it would be too costly for no
benefit or if their laws prohibit such assistance.
4.3.5. Administration of tax collection
Efficiency and effectiveness of the tax authority are essential for ensur-
ing the collection of taxes. Automated electronic processes that handle the
submission of returns, issue assessments and enable online payment greatly
improve the ease of being compliant and paying taxes due. This, together
with risk management systems and third-party data, can also lead to uncov-
ering possible non-compliant taxpayers by the tax authority. However, it
is of equal importance in such systems that the confidentiality of taxpayer
information is maintained by the tax authorities and third parties involved
in the process.
Online returns can be prepopulated with data already received from third
parties, such as the employers of taxpayers. Options should be available
when this information may need correction. Third parties, such as com-
panies paying dividend withholding tax on behalf of taxpayers, should be
enabled to process this online via their company’s online portal. As with-
holding tax is a final tax, there is no need for the recipient of the dividend
to be involved in the recordkeeping.
In the GST or VAT system, the enterprise supplying the goods and services
is the person responsible for collecting the VAT from consumers and paying
this over to the tax authorities, preferably also through an online system.
Input VAT paid is deducted from the output VAT, and the net is paid over
to the authorities. The tax authorities can cross-check turnover information
for VAT against the accounting records supplied in support of the income
tax submission in order to detect any anomalies.
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Tax system design
4.3.6. How do you deal with avoidance and evasion?
Countries are increasingly concerned about the erosion of their tax bases,
especially in times of globalization, when business is conducted online and
persons and businesses are more mobile and can shift to jurisdictions where
the tax burden is more favourable. There are various methods adopted by
states to deal with tax avoidance and evasion. These range from conducting
tax audits to introducing specific anti-avoidance rules (SAARs), general
anti-avoidance rules (GAARs) and targeted anti-avoidance rules (TAARs).
In addition, exchange-of-information provisions in domestic legislation and
in tax treaties can be – and is proving to be – the most useful for uncovering
hidden sources of income. Voluntary disclosure schemes and tax amnesties
can also be used to allow wrongdoers to come clean as a once-off. Besides
having to determine what each country’s fair share of the tax pie is, tax-
payers will endeavour to pay as little tax as possible, whether legally or
illegally, especially where tax rates are high.
There are basically four types of avoidance, namely (i) aggressive tax plan-
ning; (ii) tax avoidance (évasion fiscale or évitement fiscal); (iii) tax evasion
(fraude fiscal); and (iv) tax fraud. Aggressive tax planning and tax avoidance
can be considered legal, in that the laws of different jurisdictions are used
to the best advantage. Tax evasion and tax fraud are illegal, and penalties
and punishments will ensue if discovery is made. Anti-avoidance rules can
be (i) statutory, i.e. legislated by the tax authority to invoke and implement;
or (ii) judicial, in that the principles were derived by courts; or (iii) a com-
bination of both.
4.3.6.1. SAARs
SAARs have become necessary in order to counteract aggressive tax plan-

ning. Generally, in this scenario, GAARs will not apply, as no abuse of
law has taken place, but nevertheless, schemes of this nature also erode the
tax base, and governments may wish to curb such planning arrangements.
SAARs therefore are very specific and relate to specific situations. For ex-
ample, in thin capitalization cases, interest deductions will be limited, con-
trolled foreign company rules may be applied when foreign shareholdings
are above a certain limit and profits have to be appropriated to the resident
shareholder. Hybrid instruments may also require SAARs when debt giving
rise to interest income is reclassified into dividend income, which may be
taxed more favourably. Limitation-on-benefits clauses may be inserted into
double tax treaties to prevent treaty abuse.
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4.3.6.2. GAARs
GAARs all have the same goal, but are different in design in many coun-
tries. These range from the underlying doctrines of abuse of law, fraus legis,
business purpose or principal purpose tests, commercial reasons, substance
over form, and others. Judicial rules usually apply a substance-over-form
test or a principal purpose test, in which the purpose of the rule or tax
avoided is compared to the purpose of saving taxes. In applying a GAAR,
tax authorities may ignore a transaction, apply a look-through approach or
reclassify a transaction and reassess the taxpayer on that basis. If a SAAR
is not applicable, the GAAR can still be applied. There is a view that merely
having a statutory GAAR is, in itself, a deterrent, as due diligence proce-
dures will be carried out to ensure that proposed transactions will not fall
foul of the law.
4.3.6.3. TAARs
TAARs are a hybrid of the GAAR and SAAR. With general application, the
TAAR is narrower, in that it may apply only to denying relief for a specific
part of a series of transactions.
4.3.6.4. Amnesties and voluntary disclosure schemes
Amnesties are mechanisms used to enable taxpayers to voluntarily come

forward and disclose assets and income not previously placed on record.
Usually, amnesties are for a limited period only, but can be repeated or
made a permanent feature of law. The theory is that past misdemeanours
are ignored (sometimes for a small penalty), but from the date of disclosure,
the income has to be declared and taxes paid within the normal tax system.
4.3.7. Treaties
In respect of cross-border activities, taxpayers may be subject to tax in

more than one country. This is largely due to different tax bases adopted by
countries, e.g. residence-based tax versus source-based tax. International
double taxation occurs when comparable taxes in two or more countries
are imposed on the same taxpayer in respect of the same subject matter.
In order to resolve the issue of double taxation, there is a growing network
of double tax treaties between countries. These treaties assist in resolving
residence and source conflicts, determining the taxing rights of the parties
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Tax system design
in different countries in respect of various types of income and setting min-

imum levels of tax where double tax is permitted. Countries can include
unilateral relief from double taxation in their domestic laws, which would
assist when no double tax treaty exists. However, unilateral relief does not
resolve all double tax suffered. Double tax relief may be granted by means
of an exemption, a deduction, a credit for foreign tax paid or by setting a
reduced rate of tax on foreign income. Most double tax treaties also deal
specifically with the concept of a PE in order to determine where the profits
of the PE should be taxed. Double tax treaties are usually based on a par-
ticular model, such as the OECD Model, the UN Model or the US Model.
The UN Model envisages agreements between developed and developing
countries, whereas the OECD Model considers developing countries.
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Chapter 5
Procedural Tax Law
5.1. The general framework of tax procedures
5.1.1. The structure of tax procedures
5.1.1.1. Instrumental function in the exercise of taxing powers by

means of tax collection
Tax systems do not only need rules that determine who pays taxes and
when (substantive rules), but also rules that give tax authorities the power
to enforce the levying and collection of taxes in conformity with the Rule
of Law (procedural rules).
The application of the Rule of Law to tax procedures allows tax authori-
ties to exercise their powers in line with the requirements established by
the legislative power. Furthermore, it protects the rights of taxpayers to
preserve legal certainty and prevents any arbitrariness that may otherwise
arise in that context.
From the perspective of tax authorities, the ultimate goal of tax procedures
is to secure tax collection, i.e. gathering the mandatory financial charges
imposed by the state. All powers of tax authorities and rules within the tax
system are instrumental to achieving that goal. However, the exercise of
such power is subject to the limits established by law in order to secure that
tax authorities collect taxes in conformity with the rules established by the
legislative power.
Therefore, although tax authorities may enjoy some degree of technical flex-
ibility as to the interpretation and application of tax law, they do not have
discretionary powers in strict terms, since such powers would potentially
undermine the goal of collecting taxes in conformity with the Rule of Law.
This means that tax procedures imply the right and obligation of tax authori-
ties to undertake the necessary action when a factual situation corresponds
to the conditions established by tax law.
However, the predominant relevance of the ultimate goal of tax collec-

tion does not prevent taxpayers from invoking the right to legal protection
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Chapter 5 - Procedural Tax Law
whenever they consider that the tax authorities are not exercising their pow-
ers and prerogatives in conformity with the requirements established by law.
Furthermore, the circumstance that the tax authorities act in the interest of
the community to collect taxes does not imply that the protection of such
interest may justify the application of measures adversely affecting the legal
sphere of taxpayers under different conditions than those established by law.
5.1.1.2. Administrative and judicial tax procedures
Tax procedures can be essentially classified into two main groups. The first
group comprises the procedural rules that determine tax assessment and
audits, including any additional or ancillary activities connected with them,
which may precede (such as in the case of tax rulings) or follow them (such
as in the case of refunds, reimbursements or reviews).
The outcome of activities exercised in the framework of this phase is gener-

ally the issuance of acts by the tax authorities, along with contributions from
or the involvement of taxpayers or third parties. However, tax authorities
may also omit the issuance of a formal act when they have no objection to
the activity of a taxpayer or third party.
In line with the ultimate goal of securing the collection of taxes, taxpayers
and third parties may be asked to provide the tax authorities with an indica-
tion of relevant facts and/or the payment of taxes before the actual moment
at which the assessment of due taxes takes place.
The most typical act issued by tax authorities during this first phase of tax
procedures is a so-called “tax notice”. Tax notices (i) elaborate the facts
presented by the taxpayer and the tax paid on such basis; (ii) compare them
with possible additional facts discovered by the tax authorities themselves
or by ancillary bodies with inspective functions; and (iii) determine the
final amount of tax due that corresponds to such facts as the outcome of a
tax audit.
Tax authorities also issue additional acts in the framework of tax procedures
with a view to secure the collection of tax in conformity with the require-
ments established by law.
When addressing facts predicted by the taxpayer that have not occurred
yet, the tax authorities may give their interpretation of the applicable rules
through so-called “advance rulings”. Such rulings constitute the expression
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The general framework of tax procedures
of an anticipated start of tax procedures and may not be disconnected from

the later developments that concern the actual facts expressed by the tax-
payer and the levying of tax in conformity with the requirements established
by law.
After the notification of tax audits, the tax authorities may need to take addi-
tional action in order to request the payment of tax whenever the tax notice
does not automatically produce that effect or taxpayers do not proceed in
that direction. Such additional actions may have the function of directly or
indirectly leading to the forced collection of tax collection.
In some cases, tax authorities have to issue acts in the framework of tax
procedures with a view to facilitate tax refunds and reimbursements. Tax
refunds occur in the cases of accidental overpayment of taxes when such
tax is no longer due because of a conflict with law or the constitution, or as
a consequence of a judicial decision. Tax reimbursements are repayments
of taxes connected with the normal application of some taxes, such as in the
case of foreign tax credits and input VAT deductions.
The second group of procedures mainly consists of the review of tax acts by
the judiciary, which secures the conformity of acts issued by tax authorities
with the conditions established by the law. The right to judicial review is
an essential component of tax procedures, since it protects taxpayers from
possible arbitrariness of the tax authorities and secures legal certainty in
line with the Rule of Law. It also secures the personal sphere of taxpayers
from any measures that can adversely affect them, giving them the right to
appeal before the judiciary. In other words, they have the right to appeal
before an impartial, permanent and independent body, established by law
with compulsory jurisdiction, that has the power to issue decisions that have
binding force within the legal system after an inter partes procedure that
applies the Rule of Law.
Access to justice should be secured within each legal system in a way that
allows each person to defend their rights in conformity with the applicable
rules, thus in line with the Rule of Law. The taxpayer generally exercises
the right to access justice by bringing an appeal, which may either reach
the judiciary directly or at the end of a preliminary review carried out by
tax authorities. The review is often referred to as an administrative review,
since it is generally carried out either by the same authorities that issued the
act or by their hierarchical superiors. The goal of the administrative review
is for the tax authorities to verify whether the act is technically valid from
a legal and factual perspective.
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In some legal systems, prior completion of the administrative review con-

stitutes a necessary condition to be met in order to access the judiciary in
respect of any claim advanced by taxpayer regarding the acts issued by the
tax authorities. Other countries allow for direct access to justice, thus admit-
ting the right of the taxpayer to have a court directly quash the act issued
by the tax authorities and simultaneously making a statement on the right
of such taxpayer. In both types of systems, the taxpayer and tax authori-
ties have the right to express their views and requests, which determine
the boundaries of the jurisdiction of the judiciary in the framework of the
litigation.
In line with the requirements of fairness, the system should protect such
right in a way that permits each party to plead in their favour and effectively
exercise the right to defence. For this reason, it is generally excluded that
the tax authorities may add, during litigation before the court, any request
or motivation that was not previously the object of a tax audit in the frame-
work of a given tax procedure. For the same reasons, in all cases in which
taxpayers exercise their right to request refunds or reimbursements of tax,
they should access the judiciary after properly presenting their requests to
the tax authorities.
5.1.2. The principles of tax procedures
5.1.2.1. Fairness and legal protection
Fairness of tax procedures generally requires compliance with the Rule of

Law. In particular, tax procedures are fair when, on the one hand, tax author-
ities pursue an effective collection of tax, and, on the other hand, taxpayers
have the right to have this action subject to the scrutiny of the judiciary.
The ultimate goal of tax procedures is to secure the effective collection of

taxes in a way that makes taxpayers bear the burden of taxes in conformity
with the conditions established by law, taking into account how such condi-
tions apply to the relevant facts. The attribution of power to the tax authori-
ties is instrumental in achieving this goal, thus establishing their right and
obligation to conform to such standard not only when the action yields the
collection of tax, but also in the opposite scenario, i.e. when it can lead to
an obligation to refund any undue payment of tax.
Legal certainty requires that actions by the tax authorities and taxpayers do
not infringe the stability of legal situations. For this reason, tax procedures
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generally establish clear deadlines for carrying out specific acts and exclude
the perpetual exposure of acts to the possibility of amendments, in line with
the concept of the so-called “statute of limitation” rules. In the framework
of tax procedures, such rules apply to tax authorities by setting a deadline
for the exercise of the power to carry out acts of auditing and collection, but
also to taxpayers, who may not request refunds and reimbursements or alter
their tax assessments after a certain point in time. The existence of deadlines
in tax procedures also reflects, more in general, the need to reconcile the
effective collection of tax with the need to have a certain legal framework
within which taxpayers and tax authorities may exercise such activities.
The compliance of tax procedures with the Rule of Law requires tax authori-
ties to exercise their activities in line with the four foundation principles
that preserve tax fairness. Such principles relate to the two main features
of fairness of tax procedures as indicated earlier in this section and present
several overlaps between them.
In particular, the purpose of the principle of proportionality (see sec-

tion 5.1.2.2.1.) is to check whether the actions of tax authorities are consis-
tent with the ultimate goal of tax collection in compliance with the Rule of
Law. The other three principles are specific expressions of the right to an
actual and effective legal remedy in respect of an action of the tax authori-
ties, securing that taxpayers may stimulate measures that protect their legal
sphere against measures that may adversely affect it. Such principles are
(i) the prohibition of double jeopardy, also known as the prohibition of bis
in idem (see section 5.1.2.2.2.); (ii) the right to be heard, also known as
the audita altera parte principle (see section 5.1.2.2.3.); and (iii) the right
to not self-incriminate, also known as the right to remain silent (see sec-
tion 5.1.2.2.4.).
5.1.2.2. The four foundation principles of fair tax procedures
5.1.2.2.1. The principle of proportionality
The principle of proportionality has wide implications in tax matters, affect-

ing substantive rules and penalties, as well as procedural rules. Its core
concept postulates a relationship between a desirable result for the legal
system and the rules that such system establishes with a view to achieve
it. This relationship affects the functioning of such rules by questioning
their suitability for achieving the goal for which they were established, but
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also the fact that the tax authorities may not go beyond it when applying
procedural rules.
In the context of procedural tax rules, the application of the principle of

proportionality has several repercussions for the dynamics between how
the tax authorities exercise their prerogatives and how the taxpayers defend
their rights. In particular, this may be observed in connection with and dur-
ing inspections and audits, but also during tax collection.
During tax inspections, the principle of proportionality establishes two

important limits as to how much the tax authorities may intrude in the pri-
vate lives and the business activities of taxpayers. First, it limits the use of
tax inspections to the strict extent that tax authorities may not otherwise
gather factual information required for the correct assessment of taxes, thus
characterizing them as a subsidiary tool within tax procedures. Second,
it requires that tax authorities limit the duration of inspection to what is
strictly needed in order to gather the factual and legal elements required for
the correct assessment of taxes.
The impact of the principle of proportionality on tax audits mainly arises

in connection with the request for documentation and seizure of potential
evidentiary materials. As for documentation, it prevents the tax authorities
from requesting information (i) that they can obtain in another manner; (ii)
that is already in their possession; or (iii) that they already requested from
the taxpayer. Furthermore, it sets a limit to what the tax authorities can
request from taxpayers by requiring that the information be foreseeably rel-
evant for the specific purposes of a given tax inspection or audit. This means
that whenever tax authorities request documentation that is manifestly irrel-
evant for the tax audit, the tax system should secure taxpayers with legal
protection against a possible violation of the principle of proportionality.
As for the seizure of documents or other evidentiary material, the principle

of proportionality should limit the power of the tax authorities to deprive
taxpayers of such documents to cases in which this is strictly necessary
for auditing purposes and no equivalent solution is available. Accordingly,
when it comes to deciding whether the tax authorities may seize personal
computers or other business assets through which the taxpayer normally
exercises his business activity, the principle of proportionality implies that
this is only possible when it is not possible to achieve the same result by
means of backup copies of all digital files stored in the hard disk.
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The principle of proportionality also affects the rules on the burden of proof
throughout tax procedures. In particular, taking into account that rebutta-
ble and irrefutable presumptions significantly alter the normal evidentiary
dynamics in the framework of tax procedures, the application of the prin-
ciple of proportionality prevents that the interest to collect taxes may jus-
tify such measures in the absence of valid grounds. Similar issues arise in
connection with the application of rules aimed at countering tax avoidance
and evasion.
The impact of the principle on tax collection is pretty clear in connection

with the forcible apprehension of assets of the taxpayer, as well as with the
temporary seizure of such assets and the payment of guarantees of the tax
credit, including pledges and mortgages. In all such situations, the need for
protecting tax collection must not go beyond what is strictly required for
such purposes, thus limiting the impact of these activities on the right to
property.
5.1.2.2.2. The prohibition of double jeopardy
The prohibition of double jeopardy is connected with the fundamental right

to protection, according to which a person may not be legitimately asked to
defend themselves twice. It is essentially a principle developed in criminal
law, which has significant implications for tax procedures, covering both
the administrative and judicial phases.
In general terms, administrative and judicial tax procedures must be seen

as a single block of measures that secure the right of the tax authorities
to assess and collect taxes in conformity with the actual situation of the
taxpayer while protecting the rights of taxpayers by means of an effective
legal remedy. Accordingly, the repetition of procedural measures during the
judicial phase that were already the object of the administrative procedure
should rather be seen as a continuation of the latter measures before a third
impartial person within the framework of the due process of law. The con-
nection between the two procedures is also confirmed by the circumstance
that judicial tax procedures presuppose the issuing or the failure to issue an
act by the tax authorities, thus showing the nature of procedures geared at
securing justice in respect of such action.
However, there are situations in which a problem of double jeopardy con-

cerning tax procedures may conflict with the prohibition. In particular, this
may occur in the case of tax violations that give rise to criminal offences.
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Insofar as a given legal system admits two judicial procedures in such cir-
cumstances, respectively aiming at assessing the due tax and penalty and
the assessment of a crime, this situation may clash with the prohibition of
double jeopardy, since it may force the taxpayer to plead twice in respect
of the same fact potentially constituting a violation.
The boundaries of the prohibition of double jeopardy vary according to the

legal system. It is not uncommon to consider that such principle is invoked
in order to avoid any unnecessary repetition of acts within tax procedures.
In such context, this principle is better known as ne bis in idem, i.e. “never
twice on the same matter”. Accordingly, it can be invoked to avoid a tax-
payer being audited twice for tax purposes in respect of the same tax and
the same year. However, it may also prevent the request for documents that
are already available to the tax authorities that were also the object of a
previous similar request.
Finally, a potential problem of bis in idem can also arise in cross-border tax
situations when the tax authorities of one country request the taxpayer to
provide documentation that they already obtained by means of cross-border
mutual assistance from the tax authorities of another country to which the
taxpayer already supplied it.
5.1.2.2.3. The right to be heard
The right to be heard prior to a measure adversely affecting the legal sphere
of a person has fundamental importance within the principles that secure the
foundational values of fair procedures and the right to a fair trial. For such
reasons, applying measures in a legal system without giving the affected
person the possibility to express their own view of the facts at least before a
third impartial person in the framework of a judicial procedure constitutes
a basic violation of the right to legal protection.
The implications of the right to be heard in tax procedures are more com-
plex. They have to take into account the existence of administrative and
judicial procedures, the connection between them and the circumstance that
in most modern tax systems, the taxpayer usually has the right to present
their facts before the tax authorities and may start the actual administrative
procedure that may lead to the issuance of a tax notice, and hence may
generate a controversy that will result in tax litigation.
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In general terms, it is easier to address the specific problems connected with

tax litigation in the framework of judicial tax procedures. This is because
all systems must grant equal rights and obligations to the parties, as well as
secure that the court reaches its conclusions after having given all parties
the right to present their views on the facts of the case and the legal rules
applicable to it.
The right to be heard should also imply, at least in the framework of judi-
cial procedures, that parties have the right to request the consideration of
specific points and arguments, as well as to object to those put forward
by the counterpart. Such rules should equally apply to cross-border tax
procedures, at least insofar as arbitration is concerned, since this type of
settlement mechanism replaces the natural function of judicial procedures
in such context.
A more complex pattern arises in the recognition of the right to be heard in

the framework of administrative tax procedures. On the one hand, the goal
of such procedures is to allow tax authorities to determine their own views
of the relevant facts and law applicable to a given case. On the other hand,
the consequences of the acts issued by the tax authorities directly and indi-
rectly affect the legal sphere of the taxpayer, also making a close connection
with the continuation of the procedure before the judicial authorities.
The two alternatives in this case are (i) securing immediate protection of the
right to be heard during administrative tax procedures; or (ii) postponing
it until the moment at which the judicial tax procedures commence. The
authors’ view favours the former option, especially considering the three
implications of administrative tax procedures that were previously outlined.
Also, the authors find that even if the taxpayer generally presents their own
view of the relevant facts, it may be appropriate for the purpose of levy-
ing taxes that they have an immediate opportunity to interact with the tax
authorities. This may allow them to question the validity of some factual
and legal reconstructions that either ignore what they previously presented
or unduly take a different view with direct or indirect consequences for
their legal sphere.
This situation becomes even more complex in cross-border tax procedures

involving mutual assistance aimed at gathering information from a different
tax authority. This situation should take into account of the fact that the tax
authorities of one state need to collect information from their counterparts
in another state in order to carry out an administrative tax procedure involv-
ing one or more taxpayers. In principle, mutual assistance for gathering
107

information is an activity that only involves tax authorities, since it permits

the obtainment of information that would otherwise be out of reach for the
tax authorities of the requesting state. Also, the circumstance that such col-
lected information will then be used in the framework of an internal admin-
istrative tax procedure of the requesting state facilitates the protection of the
right of the taxpayer to be heard in said framework. However, some issues
may potentially arise also in the cross-border tax procedure itself, insofar
as the affected taxpayer(s) is/are completely excluded from it. This means
not respecting their rights to be heard or to ask for relevant documents that
they could otherwise not obtain. Consequently, they would also not be able
to exercise the right of defence according to the principle of equality of
arms and ensure that the information collected by the tax authorities of the
requested state is always used rather than just when it is beneficial for such
tax authorities.
5.1.2.2.4. The right to not self-incriminate
Legal systems generally protect the right of all persons to state their inno-
cence and remain silent in order not to plead guilty to the accusations for
which they may be charged. The need for protecting such right may have its
remote origins in the practice of extorting self-incrimination by torture and
has particularly developed in the framework of criminal law, which is the
reason for being better known as the right to not self-incriminate. This right
has broad application within tax procedures as the expression of the general
protection in respect of actions of tax authorities (thus not only in respect
of criminal charges) that may adversely affect the legal sphere of taxpayers.
The specific implications of the right to not self-incriminate in tax proce-

dures should take into account the circumstance that modern tax systems
generally require taxpayers to inform the tax authorities about all relevant
facts for the levying of taxes. Self-assessment of taxes by taxpayers makes
it possible for the tax authorities to limit their intervention solely to cases
in which tax auditing reveals the failure to comply with the existing rules.
In line with this mechanism, business taxpayers are required to record all
information in their accounting books and make them accessible to the tax
authorities upon request. In such context, taxpayers may not legitimately
invoke the right to not self-incriminate by refusing to present such informa-
tion to the tax authorities, since the system for levying taxes relies on that
and taxpayers have the obligation to comply. However, it certainly prevents
the tax authorities from obliging taxpayers to respond to precise allegations
that may adversely affect their legal sphere. In such circumstances, it does
108

not justify a possible right of taxpayers not to cooperate with the tax authori-
ties, but only to remain silent in respect of precise allegations, allowing the
judiciary to reach its own conclusions based on the evidence put forward
by each party.
Three specific issues require further attention, namely regarding i) the per-
sons that may invoke the right to not self-incriminate; (ii) the starting point
of the protection of such right; and (iii) the concrete protection of such right
within the framework of tax procedures.
Although the protection of such right was developed in order to exclude that
an individual charged with criminal accusations may feel pressure and end
up contributing to his own incrimination, there is no reason why such right
should not apply to all persons within the framework of tax procedures.
The protection of such right should start exactly when the tax authorities
begin their enquiries that may lead to challenging the facts presented by
the taxpayer, thus certainly covering tax audits, but also the elaboration of
information submitted within the framework of advance tax rulings.
The right to remain silent should not undermine the regular functioning of
administrative and judicial tax procedures. Accordingly, in the presence of
due evidence collected by the tax authorities, it is perfectly legitimate for
the judiciary to reach conclusions against the taxpayer who opted to remain
silent throughout the administrative and judicial tax procedures or some
of its parts. However, this may not per se justify any presumption against
taxpayers, which would relieve the tax authorities of bearing the burden
of proof within the framework of tax procedures that leads to a request
for additional payment of tax by the taxpayer. This conclusion is justified
in light of the presumption of innocence, the implications of which in tax
procedures should presume that taxpayers acting in good faith are compliant
with the applicable rules unless otherwise proven.
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5.2. Administrative tax procedures
5.2.1. Tax rulings
5.2.1.1. Features, functions, effects and legal basis
Tax rulings anticipate the start of tax procedures to be at a moment that gen-
erally precedes the one at which the taxpayer supplies information giving
rise to the actual facts that are relevant to the levying of taxes.
The legal basis for issuing tax rulings is to pursue legal certainty as to how
tax authorities interpret and apply tax statutes in respect of a given situation
(specific rulings) or of a cluster of situations that may repeatedly occur
(general rulings). Tax rulings best pursue their goal when tax authorities
assign binding effects to their interpretation and application of the rules.
This also implies that local tax authorities are bound to comply with the
instructions put forward by central authorities within the framework of a
general or specific ruling.
In specific rulings, this presupposes that taxpayers first make a precise

reconstruction of the facts, in respect of which they seek the interpretation
and application of the law by the tax authorities, and then act in strict con-
formity with the facts that they previously provided. In general rulings, this
implies the need to check whether a given factual situation corresponds to
the one that was the object of the ruling.
Facts that are the object of a general ruling normally will not qualify for
a specific ruling, since in that case, the tax authorities would have in fact
already given their interpretation of the applicable rules. However, the pos-
sible existence of legal uncertainty as to whether this interpretation applies
to the facts of a given situation may nevertheless be a sufficient reason
to justify the issuance of a specific ruling. In such circumstances, the tax
authorities should secure consistency in the interpretation of rules, since
otherwise, it would go against legal certainty, which is the main reason for
justifying this additional preliminary stage in tax procedures.
The need to secure consistency and pursue legal certainty does not deprive
the tax authorities of the right to change their interpretation over time. In
such circumstances, however, it is important that the tax authorities limit
possible cases in which the existence of several tax rulings in fact yields an
opposite outcome to the one for which this type of procedural tool exists.
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Administrative tax procedures
A good practice is therefore that in such circumstances, the tax authorities

also clarify the relationship between such rulings.
To the extent that local tax authorities have the right to issue tax rulings,
one may not exclude the fact that the tax authorities of different regions
may come up with a different interpretation of the same tax rules, even in
respect of the same factual pattern. This type of problem should not affect
the relations between central and local rulings, since the former should
generally prevail with a view to securing homogeneous interpretations and
applications of the rules throughout the country.
In the light of their object and purpose, tax rulings may not operate as tools
to give taxpayers a different treatment than that which would apply based on
the law. They should rather make sure that no doubts arise as to its interpre-
tation and application in future situations. For specific rulings, which are not
necessarily publicly available, this means that when issuing a tax ruling, tax
authorities should refrain from giving preferential treatment that constitutes
a form of hidden or non-transparent tax incentive. For all tax rulings, this
also means that tax authorities should not indulge in interpreting the law in
their own favour, but rather steer such activity towards what they consider
technically correct in respect of the relevant facts.
5.2.1.2. The effects of tax rulings and their relationship with other

tax procedures
The effects of tax rulings differ according to various factors. Tax rulings
that recognize the right of a taxpayer to apply a given tax measure create
a legitimate expectation that the tax authorities interpret and apply the law
in conformity with such ruling, subject, of course, to the alignment of the
actual facts and those that were the object of the ruling.
Possible changes in the interpretation may have different implications

according to whether such changes lead to the payment of additional tax.
In such circumstances, the taxpayer may invoke the binding value of a spe-
cific tax ruling for not paying additional taxes and that of a general ruling
for at least being exempt from the obligation to pay tax penalties. Especially
in cases of corporate taxpayers, this may have considerable merits, since
the point can be made that a given business plan was enacted based on the
assumption that tax rules would be interpreted and applied as indicated in
the tax ruling.
111

In the opposite scenario, namely when a more favourable interpretation

applies at a later moment (for instance, in connection with a general ruling),
even a taxpayer who obtained a specific tax ruling should be able to invoke
the more favourable tax treatment. The main argument for this is that the
more favourable tax treatment would apply to all other taxpayers in similar
circumstances.
When tax authorities reject the interpretation provided by the taxpayer

within the framework of a specific tax ruling, no binding effects arise.
Insofar as the object of interpretation is the setting aside of a tax provision
(such as a specific or general anti-avoidance measure) that has unfavourable
consequences for the taxpayer, the tax authorities may use this interpretation
when resolving whether to audit that taxpayer who nevertheless provided
the facts that were the object of the ruling procedure.
5.2.2. Tax assessment
5.2.2.1. Self-assessment versus assessment of tax by tax

authorities: Features, functions, effects and legal basis
Tax assessment essentially consists of activities of fact and law-finding,

which determines the amount of taxes due in respect of a specific situation
based on the concrete application of tax rules. Originally, this activity was
an exclusive prerogative of the tax authorities, which assessed the relevant
facts for each taxpayer (also based on the information supplied by them)
and then requested them to pay the amounts of tax that were calculated.
In such circumstances, taxpayers had the right to request revisions of such
calculation before and after making the payment.
More recently, tax systems have come to reserve tax assessment primarily
for the taxpayer and involve third parties in such activity to a more limited
extent. In general, taxpayers have the obligation to (i) report all relevant
facts to the tax authorities; (ii) organize them in a tax return in accordance
with the categories established by law for tax purposes; (iii) determine the
corresponding tax due in conformity with the applicable rules; and (iv) pay
it in one or more instalments after officially submitting the tax return. The
submission of tax returns by third parties supplements the flow of informa-
tion concerning the taxpayer, including the tax that such parties withheld at
source and paid to the tax authorities.
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Several tax systems nowadays include e-filing tax returns, which enhances
tax assessment and facilitates the following tax procedures. Nevertheless,
tax systems still maintain some forms of tax assessment operated solely
by the tax authorities, especially for some particular types of taxes or in
situations in which the calculation of tax is more complex.
More recently, tax systems have reintroduced some forms of tax assessment
operated by the tax authorities, such as pre-populated tax returns for tax-
payers, which are based on the information gathered from the taxpayer and
also with the assistance of third parties, such as the employer. The payment
of tax in respect of pre-populated tax returns corresponds to the amounts
calculated by tax authorities. In such circumstances, taxpayers have the
right to request a correction of that information in order to make sure that
the levying of taxes corresponds to their actual specific situation rather than
that estimated by the tax authorities.
Furthermore, some tax systems include forms of shared determination of

the relevant facts, such as when business taxpayers allow tax authorities to
access their books in real time in accordance with so-called “cooperative
compliance”. In such circumstances, tax authorities and taxpayers may in
fact come to a form of shared determination of tax assessment.
In the case of self-assessed taxes, the tax authorities may regard facts
reported by the taxpayer as their own acknowledgement of relevant facts
attributable to them. However, this generally does not prevent taxpayers
from correcting possible mistakes or amending their tax returns in the pres-
ence of relevant circumstances, subject to the limits established by law in
the interest of preserving legal certainty and the stability of legal relations.
Even in tax systems relying on tax returns, tax authorities have the power
to assess taxes when the taxpayer fails, in part or in full, to comply with
their obligations. In such circumstances, the tax authorities determine the
amount of taxes due based on the best available information, gathered from
third parties or other available sources. Failure to comply with the reporting
obligation limits the right of taxpayers to acknowledge relevant facts and
may lead to some forms of lump-sum-based taxation. However, it may not
allow the tax authorities to depart significantly from the actual facts, since
this would otherwise undermine their legitimate exercise of powers, which
should pursue the ultimate goal of tax collection in conformity with the
requirements established by the legal system.
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5.2.2.2. Relationship with other tax procedures
Tax assessment should be regarded as the gateway to tax procedures, since

it affects all following acts in the framework of said procedures. In line with
such function, the relationship between the two differs according to whether
and how taxpayers comply with the obligations arising in such context. In
particular, three situations should be analysed more closely.
First, when taxpayers correctly characterize, assess and pay taxes, the mech-
anism of self-assessment requires no additional action on the part of the tax
authorities. In such circumstances, the tax procedure ends where it begins,
since the tax authorities may remain silent and limit their intervention to
tacitly endorsing the result of tax assessment done by the taxpayer.
Differently, any incomplete, incorrect or false statement contained in tax

returns should induce tax authorities to undertake tax auditing in order to
gather information that can re-establish the conformity of the actual facts
of a case with the tax due in accordance with the law.
In such circumstances, a first problem arises as to how tax authorities iden-

tify the existence of incomplete, incorrect or false statements in tax returns.
Unless the tax authorities are able to audit all tax returns and assess their
content, some mechanisms apply in the preliminary phases of auditing in
order to single out tax returns needing additional analysis. Such mecha-
nisms could be based on estimations, for example, concerning the standard
of living of taxpayers, singling out abnormal situations.
When the application of such mechanisms indicates the possible likelihood

of incomplete, incorrect or false statements, the tax authorities may activate
procedures that lead them to disregard or override the facts put forward by
taxpayers in a tax return and reassess the tax in a way that conforms to the
requirements of tax statutes. In such context, tax authorities may rely on
various forms of presumptive measures, which usually reverse the burden
of proof in the presence of reliable indicators, or they otherwise make a
simplified assessment of the tax due based on the best available information.
This may occur especially when taxpayers fail to keep track of all relevant
information in accounting records or when the information included in such
record is false. In all such circumstances, tax procedures also give rise to the
obligation of the taxpayer to pay penalties in connection with their violation
of the applicable rules. Nevertheless, most tax systems give taxpayers the
opportunity to acknowledge their errors or even wilful behaviour, linking
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the acknowledgement of facts put forward by the tax authorities to a reduced

application of penalties.
In the second scenario, tax systems sometimes apply special conditions

within the framework of tax amnesties, which allow taxpayers to submit
late returns that make up for incomplete, incorrect or false statements con-
tained in their tax returns or even for the complete failure to submit them, as
long as the tax authorities have not yet discovered such situations. In such
circumstances, the taxpayer may submit a special return that assesses the
tax as if they were in conformity with the law and the acknowledged facts
and determines the applicable penalty at a lower rate than that which would
otherwise apply.
The third scenario is opposite to the second one outlined above. In such
scenario, tax returns have a different relationship with tax procedures, which
should determine the number of refunds and reimbursements that are due to
the taxpayer. Both refunds and reimbursements presuppose certainty as to
the amounts that need to be paid back to the taxpayer. In the case of refunds,
tax procedures should therefore determine whether the conditions for the
obligation of repayment are met. In the case of reimbursement, they should
ascertain whether taxes were wrongly paid or are no longer due because of
a judgment or change in the applicable statutes. Tax systems may require
that both procedures be based on an application by the taxpayer, or they may
commence automatically. The latter situation more frequently occurs when
the tax authorities have immediate evidence of the obligation to make such
refund or reimbursement. However, the obligation for tax the authorities
to operate within the tax procedures in conformity with the legal require-
ments should prompt taxpayers to execute all acts required of them for tax
refunds and reimbursements in all other situations in which taxes may not
be legitimately gathered.
In the second and third scenarios, the existence of possible different view-
points of tax authorities and taxpayers as to the relevant facts and applicable
law is likely to give rise to a continuation of tax procedures in connection
with the acts issued by the tax authorities and the reactions of the taxpayers.
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5.2.3. Tax audits
5.2.3.1. Structure and goals
Tax audits are the outcome of fact and law-finding activity, which tax
authorities carry out in order to secure that the levying of taxes takes place
in conformity with legal requirements and reflects the actual facts of each
situation.
Tax auditing generally presupposes the assessment of taxes by the taxpayer,

taking into account the information submitted in tax returns, the character-
ization of facts for the purpose of levying taxes and the taxes resulting there-
from. Accordingly, fact and law-finding performed by the tax authorities
may override the information put forward by the taxpayer, or may simply
confirm it.
However, tax auditing may also operate when the taxpayer fails to assess
taxes, file a tax return and pay the corresponding taxes, or when serious
deficiencies affect the reconstruction of the factual situation provided by
the taxpayer, undermining its reliability. In such circumstances, tax audit-
ing usually leads to an assessment of taxes based on the best information
available rather than on a more precise reconstruction of the actual facts of
a case.
From a structural perspective, tax audits can be divided into two main
phases. In the preliminary phase, the tax authorities essentially carry out
inspections and additional fact-finding activities in order to compare said
facts with the information put forward by the taxpayer. In the core phase of
tax audits, the tax authorities elaborate such materials in light of the appli-
cable law, with a view to determine whether to issue a tax notice, take other
action or do nothing at all.
5.2.3.2. Preliminary phase
The preliminary phase of tax auditing essentially focuses on fact-finding,

in which tax authorities gather facts in order to supplement those provided
by the taxpayer and determine whether they paid taxes in compliance with
the requirements established by law.
Since tax authorities may not audit every single situation for tax purposes, it
is important to understand what may trigger their initiative to audit a given
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case within the framework of technical discretionary power to single out

particular taxpayer situations.
First, the tax authorities may receive targeted information that indicates
the existence of a potential tax violation. In such case, the high degree of
likelihood of this violation usually prompts the tax authorities to start the
preliminary phase of tax auditing. This occurs in cases of tax fraud or other
crimes, but also when the tax authorities receive information within the
framework of mutual assistance from another state.
Second, the tax authorities may take the initiative to audit some situations
that appear abnormal or difficult to justify in light of statistical data con-
cerning taxpayers and their standards of living. Despite not constituting
actual evidence of a possible tax violation, these indicators are often reli-
able elements to single out situations that are usually more worthy of being
audited for tax purposes. For such purposes, the tax authorities usually
gather information from all possible sources, including banks and other
financial institutions.
Third, the tax authorities may have some relevant information from prelimi-
nary tests for conformity with the law in the documents submitted by tax-
payers in their tax returns, also arising in connection with a cross-check of
consistency with information supplied by third parties within the framework
of their reporting obligations connected with the levying of withholding
taxes. Third parties with reporting obligations usually include employers
for income paid to their employees and banks for income from savings. In
general terms, any failed match between such data is a good indicator for
the tax authorities to proceed with auditing, except when they manage to
find documental justification for such inconsistency, such as in the case of
computation errors or typos. Additional specific issues can arise depending
on how such data corresponds with that supplied by the taxpayer.
Fourth, tax authorities also have the power of undertaking targeted auditing
campaigns, focusing on specific taxpayers or groups of taxpayers who show
potential for non-compliance, or they can just do a random check.
Once the tax authorities have decided to audit a given taxpayer for tax
purposes, the preliminary phase of tax auditing proceeds with the actual
fact-gathering, which can consist of on-site and documental inspections.
While documental inspections can be carried out within the framework of
the general duty of cooperation between the tax authorities and taxpayers,
on-site inspections have a more intrusive impact on the life and business
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activity of taxpayers and must therefore be exercised in strict conformity

with the principle of proportionality.
Fact-finding should not constitute an activity that tax authorities carry out
in complete disconnection from audited taxpayers. From the perspective
of setting the grounds for effective protection of the right to defence in
the framework of tax procedures, it is good practice for tax authorities to
establish constructive dialogue with audited taxpayers in such context. Any
remarks of taxpayers may provide the tax authorities with useful informa-
tion to address facts that could otherwise be difficult to understand. The
interaction with taxpayers may also be useful in understanding whether
additional clarifications are required or whether the collected information
allows for the closing of the audit without issuing a formal act.
The outcome of this preliminary phase is particularly important for the

tax authorities to determine how to proceed in order to secure the levy-
ing of taxes in conformity with the requirements established by law. This
phase can essentially yield two possible situations. First, the tax authorities
may decide not to continue tax auditing beyond the preliminary phase. In
such circumstance, they may refrain from issuing a formal act, formally
request the taxpayer to pay additional tax compared to the amount result-
ing from the previous assessment or issue a formal act to acknowledge the
taxpayer’s prerogative to receive reimbursement for a certain amount of tax.
The second and third option are only possible insofar there is documental
unquestionable evidence that proves the right for tax authorities to request
an additional amount of tax without further need for auditing, or obliging
them to dispose the repayment.
Second, the tax authorities may decide to proceed further with the tax audit.
In such circumstances, they summarize their fact-finding in a document
that constitutes the basis for the core part of tax auditing, in which they
elaborate such data and compare it further with the information provided
by the taxpayer, as well as with the requirements established by law. In such
circumstances, they should also decide whether the core part of tax auditing
should proceed along the normal standard or require some more intensive
form of auditing.
5.2.3.3. Main types
There are essentially two main types of tax audits, namely those that con-
stitute the normal standard for this type of activity and those that are more
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intensive. Tax authorities usually opt for conducting a more intensive audit
in line with the results of the preliminary phase of tax auditing. Insofar as
a more in-depth analysis is required, tax authorities may find it appropriate
to undertake some supplementary fact-finding with additional documental
and on-site inspections.
From a structural perspective, the dynamics do not substantially differ

between the two types during the core phase of tax auditing. Both require
the tax authorities to elaborate their own reconstruction of the facts and
motivate their position based on the applicable law, indicating clear reason-
ing and taking into account possible relevant remarks made by the taxpayer
and/or third parties. Both may result in the issuance of a formal act, which
gives the power to assess taxes in a potentially definitive way, obliges tax-
payers to conform to its content and is subject to administrative review and
judicial scrutiny.
However, more intensive audits allow the tax authorities to carry out more
in-depth investigations of the relevant facts, giving them stronger powers
and admitting methodologies that may be more suitable for facing poten-
tially serious issues of violation of the applicable tax rules. In line with the
principle of proportionality, this stronger intrusion of the tax authorities
into the lives and activities of taxpayers should be justified by the presence
of actual risks, duly backed up by evidentiary elements gathered in the
preliminary phase of tax auditing that indicate the likelihood of a violation.
Two main issues arise from the perspective of taxpayer protection in such
circumstances. First, from the moment at which tax authorities decide to go
for a more intensive audit, the protection of the taxpayer’s rights should be
correspondingly strengthened. Accordingly, taxpayers should be informed
that information gathered during the preliminary phase induced the tax
authorities to conduct a more intensive tax audit.
Second, taxpayers should have the right to question the decision of the tax
authorities to go for a more intensive audit. However, the need for effective
legal protection of such right should not undermine the smooth functioning
of tax audits. For this reason, it is not unreasonable to postpone the protec-
tion of such right to the moment at which the tax audit will eventually result
in the issuance of a formal act. At such moment, the taxpayer will therefore
have the right to challenge not only the validity of this act, but also the
reasons for which the tax authorities decided to carry out a more intensive
form of tax auditing.
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5.2.3.4. Core phase
Tax authorities may use different methodologies for conducting the core
phase of auditing. Such phase leads the tax authorities to formulate a new
assessment of taxes based on the facts gathered during the preliminary
phase. In particular, they may either determine the applicable tax treatment
analytically or initiate an overall reconstruction. In the latter situation, they
move away from the actual facts and approximate the levying of taxes to
what should, in their view, be the fair amount of taxes due by a taxpayer.
In principle, each system gives taxpayers the right to have the tax authorities
analytically determine the essential elements of the tax. When taxpayers are
obliged to self-assess their tax due and fulfil such obligation, the right to
analytical determination implies that the tax authorities essentially reiterate
all of the activities already carried out by the taxpayer and justify the request
for additional tax by using relevant factual and legal arguments to deviate
from the amounts determined by the taxpayer. In some cases, taxpayers are
obliged to keep evidence of such facts in their accounting records, such as
in respect of the determination of business income. In such circumstances,
insofar as the taxpayer keeps their record books in good order and their
content includes reliable information, the right to analytical reconstruction
obliges the tax authorities to assess every single entry and item in order
to override the facts declared by the taxpayer and request the payment of
additional tax.
In general, the right to analytical determination of tax is established by law,

which indicates the actual information to be reported in tax returns and their
characterization for tax purposes. Therefore, when the law permits forms of
estimated reporting by the tax authorities, as it frequently occurs in respect
of income from immovable property, this also affects the right to analytical
determination of tax by the authorities. This shows that the methodologies
used by the tax authorities for determining tax in connection with auditing
are, in principle, symmetrical with those that the taxpayer may use.
Failure to comply with such obligations breaks this symmetry and opens up
the possibility for the tax authorities to adopt methodologies that lead to an
overall reconstruction of the situation of the taxpayer that rely on estima-
tions and the best information available. The tax authorities may only access
the latter methodologies insofar as they give actual evidence that a specific
case meets the requirements established by law.
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All such elements must be clearly indicated in the act that concludes the
core phase of tax auditing, namely the tax notice, or in alternative acts for
which tax law stipulates an obligation of formal notification to the taxpayer
as a necessary condition for the production of their effects. Failure to com-
ply with such conditions exposes the tax authorities to possible allegations
of infringing the Rule of Law and produces an immediate impact on the
tax determined accordingly, which may be quashed during administrative
reviews and/or judicial appeals as a consequence of the remedies enacted
by the taxpayer.
5.2.3.5. Tax notice
Tax authorities have no obligation to conclude tax audits with the issuance
of a formal act. However, such obligation does exist whenever they disagree
with the determination of tax with regard to the facts or applicable law and
consequently request the payment of additional tax or dispose of the right
of the taxpayer to obtain a tax refund or reimbursement.
The formal act typically issued by tax authorities at the end of an audit for
requesting the payment of an additional tax is the tax notice. Tax notices
must contain the precise determination of tax and indicate the relevant fac-
tual and legal arguments for tax authorities to reach conclusions that are dif-
ferent from those put forward by the taxpayer in the tax return with regard to
the tax due. This content is mandatory, and any failure to meet the standards
of motivation, precision, completeness and clarity required for the effective
defence of the taxpayer’s rights may constitute justification for the admin-
istrative and judicial authorities to declare the nullity of the notice upon a
duly circumstantiated request by the taxpayer.
Since tax notices can potentially affect the legal sphere of taxpayers, tax
systems generally require them to be notified to the taxpayer as a neces-
sary condition for them to produce their effects. This may raise significant
problems in practice, especially when taxpayers are simply not aware that a
tax notice was issued in respect of them and are therefore not in a position
in which they may activate any remedy. Such problems also arise due to the
circumstance that tax procedures generally establish a deadline for (i) tax-
payers to request the administrative review; and/or (ii) promoting the judi-
cial appeal in respect of the tax notice. For this reason, tax authorities are
generally required to give precise evidence of the correct notification before
executing the tax notice or proceeding with the tax procedure towards the
forcible collection of tax. This implies that the notification may never be
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presumed. Furthermore, in cases in which the taxpayer tries to avoid the

notification, the tax authorities have to give evidence of the taxpayer’s fail-
ure to respond before employing alternative procedures.
The effects of tax notices differ according to the tax system. In some cases,
they not only determine the factual and legal grounds for the request of a
specific additional payment of tax, but also serve as a legal basis for execut-
ing this request without any need for issuing an additional act. Sometimes,
this supplementary effect is only produced once a certain period has elapsed.
In other cases, the effects or tax notices are limited to the determination of
the additional tax requested by the tax authorities. In such situations, the tax
authorities are required to issue further acts in order to execute their claim
based on the content of the initial tax notice. The existence of a series of
acts connected with tax auditing can increase the complexity of tax proce-
dures. However, it is sometimes perceived as a suitable development of the
procedure in order to allow taxpayers to have sufficient time for exercising
their right to defence.
In addition to such acts, the completion of tax auditing could also be

reflected in the issuance of acts that dispose of the right of taxpayers to
obtain the repayment of taxes through refunds and reimbursements. In such
circumstances, the issuance of this act proves the acknowledgement of the
right to repayment. Therefore, it constitutes a necessary condition to execute
the repayment of tax, for which tax systems often also request taxpayers
to issue a dedicated application in which the taxpayer indicates the specific
factual and legal reasons that justify their request.
Tax systems generally require the completion of a tax audit within a given
timeframe. Such time limit may apply in respect of the overall duration of
an audit and the time elapsed between the year in which the relevant facts
occur and that in which the tax authorities carry out the audit. Both mea-
sures are commonly justified with a view to avoid indefinite exposure of the
taxpayer to tax auditing and generally include notification to the taxpayer.
In the presence of time limits for tax auditing and notification, any violation
of the rules generally leads to declaring the nullity of any act issued within
the framework of the tax procedure.
In principle, the prohibition of double jeopardy should protect taxpayers

from receiving more than one tax notice per year, at least in respect of each
type of tax. However, tax systems sometimes include exceptions to this prin-
ciple, especially in cases in which the tax authorities prove that additional
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facts were unknown at the time of issuing the first tax notice, thus justifying
a derogation. Some problems also arise when the tax authorities issue a tax
notice, regularly notify it to the relevant taxpayers and then withdraw it after
realizing a fatal deficiency regarding its content or form that may undermine
its validity. In such circumstances, especially when the taxpayer has already
requested an administrative review or promoted a judicial appeal and the
tax authorities are still in time to notify a new tax notice, a conflict with the
prohibition of double jeopardy is rather evident, since the taxpayer is, in
fact, obliged to defend himself twice.
5.2.4. Tax collection
5.2.4.1. Collection through third parties
The involvement of third parties in tax collection is very frequent in modern

tax systems. In principle, each tax system is free to determine the rules for
involving third parties in such activity. In practice, however, the involvement
of a third party in tax collection is only justified when their relationship with
the taxpayer implies a payment of sums in connection with the relevant facts
that generate the obligation to pay tax, allowing the third party to withhold,
in part or in full, the tax that the taxpayer owes the state. In such circum-
stances, the collection of tax through third parties prevents possible forms
of tax evasion, since the third party has no interest in paying less tax than is
due and achieves an overall simplification, since one single third party may
collect tax due by several taxpayers.
Third parties frequently operate as collecting agents for the tax authorities
in the field of income tax and VAT. Their obligation to withhold, report and
pay taxes is justified in the interest of protecting the effectiveness of tax
collection and is generally not remunerated. The framework of the so-called
“pay as you earn” (PAYE) mechanism facilitates the alignment of the actual
moment of the payment of income and the start of tax collection.
In some cases, such as in respect of income from employment (especially

when the employee does not have other additional sources of income), the
PAYE mechanism may oblige third parties to collect the full amount of tax
due. In such circumstances, the third party exhausts all formal and substan-
tive obligations connected with tax collection, relieving the actual taxpayer
of having any direct relationship with the tax authorities. This may also
occur in respect of income from capital paid by a bank or similar financial
institution or in respect of income paid to non-residents in order to facilitate
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tax compliance by persons who generally do not have very strong links with
the territory of the country of source of the income. In other cases, the third
party only withholds a part of the income tax due by the taxpayer, who will
then be entitled to deduct it from the income that the taxpayer calculates
based on their tax return. In further cases, some tax systems allow the tax-
payer to opt for their income or other taxes to be entirely collected by the
third party.
In the field of VAT, collection by third parties may have broader substantive
implications, since it often turns the supplier of goods and services into the
actual and only person obliged to pay the tax due in respect of the goods
and services, the consumption of which by the recipient justifies the levy-
ing of tax.
Any failure to withhold, report or pay taxes determines a separate liability

of the third party to infringement towards the state. Failure on the part of
the third party to comply with their obligation to withhold and pay taxes to
the tax authorities generally does not relieve the taxpayer of being called to
step into the tax collection procedure. However, when the third party with-
holds taxes from the taxpayer and does not pay them to the tax authorities,
tax systems generally activate mechanisms to avoid that taxpayers acting
in good faith end up bearing a higher tax burden than that which is due
according to the actual facts.
5.2.4.2. Voluntary payments by the taxpayer
Most modern tax systems combine the obligation of taxpayers to self-assess

with that to make voluntary payments of the taxes determined in their tax
returns. Any payment by the taxpayer must therefore correspond to the
amounts of tax indicated on the tax return, which tax authorities may then
audit.
In the field of income tax, any earlier payment of tax by third parties, excess
of tax reported brought forward from previous years or entitlement to a
tax credit (also those derived from payments made to a different country)
may entitle the taxpayer to a corresponding deduction from the overall tax
due in order to avoid overpayment of tax. If an excess payment neverthe-
less occurs, the taxpayer is entitled to obtain the repayment of such tax.
Likewise, taxpayers are entitled to correct the amounts of tax indicated on
their tax returns and paid, subject to limits established by the tax system
with statute-of-limitation rules for the purpose of securing legal stability.
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Likewise, in the field of VAT, collection and payment of tax by the supplier
of goods or services entitles them to deduct input tax levied in connection
with goods or services directly linked to the supply.
Tax systems frequently give the taxpayer the opportunity to make split vol-
untary payments of tax in connection with their tax return. Sometimes the
tax systems also request an advance payment for taxes due in the following
year. This request is often justified by the circumstance that the taxpayer
normally files their tax return the year after that in which the relevant events
occur, thus at a time at which they are already in a position to anticipate
some facts concerning the latter year.
Tax systems may also allow for deferral of voluntary tax payments or for
payment in instalments, which are both usually subject to additional late-
payment interest and sometimes also the payment of a guarantee. When late
voluntary payments of tax are connected with the late filing of a tax return
or its amendment after the required date, tax systems normally also require
the payment of a penalty. The amount of such penalty generally increases
once the tax authorities determine the obligation to pay taxes within the
framework of a tax audit. However, even in such circumstances, tax systems
may include mechanisms that reduce the amount of such penalty in order to
encourage the taxpayer to make a prompt voluntary payment of tax.
5.2.4.3. Forcible collection
Forcible collection is the enforcement of the collection of taxes that the

taxpayer failed to indicate in their tax return or pay on a voluntary basis.
It presupposes the regular completion of tax auditing and the failure of the
taxpayer to execute the payment of tax determined by the tax authorities
within such framework. The consequence is the collection of taxes against
any possible resistance of the taxpayer, also up to the point of seizing their
belongings in order to execute the assessment of taxes determined by the
tax authorities.
This manner of tax enforcement generally requires a formal act by the tax
authorities that reflects the legal and factual entitlement to forcibly collect
and may be preceded by formal reminders. For that purpose, some tax sys-
tems may use a tax notice based on the consideration that the result of tax
auditing may give rise to tax enforcement after a certain number of days
have passed.
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Execution may also be delegated to third parties, such as forcible collection

agents, or even enacted with the obligation of third parties, such as banks, to
transfer amounts from the account of the taxpayer directly to that of the tax
authorities. In the framework of tax enforcement, tax authorities have the
power not only to freeze tax refunds and reimbursements, but also to seize
and sell assets and property of the taxpayer in order to collect the amount
of tax due by the taxpayer. When forcible tax collection entails the seizure
of property, it generally follows a number of formal steps, which gives the
taxpayer the possibility to avoid it.
5.2.5. Tax refunds
5.2.5.1. Main features
Usually, taxpayers are debtors of tax and the tax authorities are entitled to
receive it. However, in some cases, the opposite scenario occurs, with the
tax authorities being obliged to make a payment and the taxpayers entitled
to receive it.
Since tax law only addresses situations connected with the levying of taxes,
the latter type of situation essentially occurs in two groups of cases. First,
when a taxpayer has paid a given tax in excess or by mistake, tax authorities
have no justification to keep such amount. Therefore, the taxpayer is entitled
to request repayment of the corresponding amount of tax. This situation,
also known as a tax refund, may also occur if the levying of tax is declared
incompatible with law or the constitution, or when a judicial decision
accepts the appeal of the taxpayer and declares a given tax no longer due.
Second, the mechanism for levying taxes can put taxpayers in the position
of creditors of tax towards the tax authorities, thus generating the right to tax
reimbursement. This may, for instance, occur with VAT in respect of input
tax deductions, or in the field of direct taxes with regard to the amount of
taxes withheld by collecting agents or other countries.
The structural link with the main obligation to pay tax has significant impli-
cations on that of repayment, thus usually subordinating it to the main obli-
gation to pay tax. For instance, taxpayers may request an offset between
their tax credit and other taxes due. Furthermore, in the presence of tax
arrears, tax authorities may unilaterally proceed with the forcible collec-
tion of their credit, up to the point of depriving the taxpayer of his right to
obtain a tax repayment.
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5.2.5.2. Procedural aspects
5.2.5.2.1. Tax refunds
Although all cases of tax refunds are connected with an undue payment of
tax, in some cases, they operate automatically, and in others, their execu-
tion may be subject to the filing of an application by the taxpayer entitled
to obtain it.
The automatic application of a tax refund occurs when judicial decisions

ascertain that a certain amount of tax is not due or that the taxpayer has
made excessive or undue payment of taxes. When appropriate, such deci-
sions usually also dispose of the obligation for the tax authorities to repay
such tax. However, taxpayers may also be proactive in asking the tax
authorities to repay such tax by filing a specific form within the time limits
established by law in order to secure the stability of legal relations. In such
cases, procedural rules usually require taxpayers to provide motivation for
their request and bear the burden of proof. If the tax authorities tacitly or
expressly refuse to repay the tax, taxpayers are entitled to judicial protection
within the framework of a procedure in which the parties have opposite roles
and obligations to those that would normally characterize such procedure
when geared towards securing the payment of additional taxes.
5.2.5.2.2. Tax reimbursements
Tax reimbursements generally operate upon the request of taxpayers, who

have the burden of filing all forms required for exercising their right to claim
credit of such tax. Failure to file such requests may deprive them of the right
to obtain the tax credit.
Tax authorities may disagree with the requested reimbursement. In such

cases, insofar as the taxpayer diligently fulfils his obligations regarding the
provision of motivation and evidence, tax procedures oblige the tax authori-
ties to prove their position, which they may do in several ways. In the case
of VAT, they may, for instance, prove that the input tax was not paid and that
the taxpayer who claimed its deduction was aware of such circumstance,
thus not acting in good faith. Various situations can occur with direct taxes.
For instance, they may show that the collecting agent neither withheld nor
paid the tax. In addition, they may request an additional payment of tax in
the year in which the taxpayer carried forward the excess of tax, thus deter-
mining automatic implications for the right to request the reimbursement
127

of the excess tax paid. Furthermore, they may disallow the entitlement to
a foreign tax credit by providing information that questions the amount or
even the actual payment of tax in the country of source.
These motivation and evidentiary dynamics will produce repercussions

within the framework of judicial procedures, which will otherwise not pres-
ent significant differences from the standard pattern.
5.3. Reviews and appeals
5.3.1. Administrative reviews
5.3.1.1. Self-correction and administrative reviews
Tax authorities have to exercise their powers in compliance with the require-
ments established by law. Such obligation does not only arise in connection
with the issuance of formal acts, but throughout the entire tax procedure. For
such purpose, tax authorities enact mechanisms of self-monitoring, which
secure conformity with the legal requirements and remove the effect of
possible violations. One can define such mechanisms in a broad sense as
“administrative reviews”.
Administrative reviews may operate spontaneously upon the initiative of

the same tax authority that issued or failed to issue an act (this case would
typically occur in respect of refunds), but could also be the outcome of a
decision of its superior hierarchical authority. In all such cases, this self-
correction procedure is an instrument that allows tax authorities to align
the exercise of the administrative action with the requirements established
by law.
Since the need to collect taxes in conformity with the conditions established
by law generally limits the exercise of taxing powers of tax authorities,
administrative reviews either concern (i) motivation; (ii) compliance with
the formal requirements of acts issued by the tax authorities; or (iii) the
consistent application of tax rules to the facts of a case.
Insofar as they detect any such violation, tax authorities have the power and
obligation to (i) declare any act, such as a tax notice, null and void; (ii) carry
out a refund; or (iii) take any ancillary action connected with the objective
of conforming to legal requirements. This leads them to withdraw the act
without any need for the intervention of the judiciary. Replacing such act
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Reviews and appeals
with the issuance of a new one is a potential violation of the ne bis in idem
principle during tax procedures.
5.3.1.2. The taxpayer and administrative reviews
The position of taxpayers in respect of administrative review may signifi-

cantly vary according to the tax system. In general, taxpayers have the right
to request an administrative review in order ensure that the tax authorities
conform with good tax governance and the requirements established by
law for the exercise of their activities. They may also exercise such right in
order to request the issuance of a tax refund that the tax authorities did not
spontaneously operate or to have tax authorities consider the activation of
the mutual agreement procedure in a cross-border situation.
The right to request the review does not necessarily imply an obliga-
tion for the tax authorities to correct the act as requested by the taxpayer.
Theoretically, this problem should not arise, since tax authorities have an
obligation to exercise their powers in conformity with legal requirements.
However, tax authorities generally consider the latter goal as their own pre-
rogative, for which they are only held accountable before the judiciary.
Therefore, any different views of taxpayers are hardly reconciled within the
framework of administrative procedures and usually require intervention of
the judiciary.
5.3.1.3. The relationship between administrative reviews and

judicial appeals
Tax authorities have the power to exercise administrative reviews during the
entire lifespan of tax procedures. Theoretically, such obligation may also
exist in the presence of final judicial decisions, when facts justify such an
amendment. In practice, the protection of legal stability prevents this from
happening, especially when this may be to the detriment of taxpayers, who
have legitimate expectations based on the Rule of Law to rely on a final
judicial decision.
A more complex issue arises as to the relation between administrative

reviews and the right of taxpayers to appeal before the judiciary. In prin-
ciple, the two may be entirely independent if one considers that their respec-
tive purpose is to secure the conformity of acts with the requirements estab-
lished by law and the effective protection of taxpayer rights. Accordingly,
there may be an administrative review and a judicial appeal in respect of
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each act issued by the tax authorities within the framework of the tax pro-
cedure, whereby the judicial decision, being an assessment made by an
impartial body established by law, will normally prevail over the adminis-
trative review.
However, several tax systems around the world still require the previous
completion of an administrative review in order for a taxpayer to appeal
before the judiciary. This mechanism sets the administrative review as a
necessary condition for obtaining the effective protection of rights and may
contribute to extending the time for justice, especially if one considers that
administrative reviews may be lengthy and sometimes involve more than
one layer of review.
The possible justification for the need for prior completion of an administra-
tive review has historical roots, connected with the technical complexity of
taxation and its close connection with the exercise of national sovereignty,
which may see the effective protection of taxpayers’ rights as subordinate
to the prior elimination of an administrative act issued in the interest of the
community.
5.3.2. Judicial appeals
5.3.2.1. The system and function of judicial appeals
The goal of judicial appeals is to protect the Rule of Law in connection with
the levying of tax, giving taxpayers an effective remedy in tax procedures
against possible violations by the tax authorities. The system of judicial
appeals in tax matters gives an impartial body established by law with com-
pulsory jurisdiction the power to issue decisions with binding force within
the legal system after an inter partes procedure involving taxpayers and tax
authorities. The plaintiff in judicial appeals in tax matters is always the tax-
payer or any private person who has an interest in requesting a statement of
their rights and obligations in connection with the levying of taxes, be it in
connection with an act issued by the tax authorities or their failure to issue
it. Once the taxpayer brings the action to the judiciary, the tax authorities
defend their views, acting as respondents.
Some systems require prior completion of administrative reviews of acts

issued by the tax authorities during tax procedures. In such cases, judicial
appeals in tax procedures do not affect such act as they would otherwise
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Reviews and appeals
normally do, aside from determining how to interpret and apply taxes in a
given situation.
The system of judicial appeals in tax matters usually includes more than one
judicial instance, thus allowing for a revision of the judicial decision by one
or more courts. However, tax systems may limit the access to higher judicial
review, for instance, by (i) requesting a leave for appeal from the court that
issued the judicial decision; (ii) the application of quantitative thresholds;
or (iii) the right to a judicial revision of the decision on the appeal for sole
legal issues.
5.3.2.2. Judicial actions in tax matters
There are at least three types of judicial actions in tax matters, including (i)
actions that aim at quashing an act issued by the tax authorities; (ii) actions
that request the issuance of acts of repayment of tax; and (iii) actions that
request the judiciary to estimate the amount of tax due.
Furthermore, tax systems generally permit additional actions aimed at secur-

ing the interim suspension of the execution of tax acts and the enforcement
of tax judgments. Some tax systems may also include judicial protection
in respect of administrative reviews, advance tax rulings or similar actions
that may pursue the objective of obtaining declarative statements from the
judiciary on how to interpret and apply tax statutes in a given situation.
The dynamics of judicial procedures vary according to the action.

Accordingly, when the taxpayer brings the action before the Court of First
Instance against an act issued by the tax authorities, the taxpayer should
present their view and arguments, duly backed up by evidence. In such
context, they generally bear the burden of proof in order to overcome the
factual and legal assessment of tax that the tax authorities made in the act
that is the object of such judicial procedure. Tax authorities have the right
to object, but to not raise additional issues, motivation or arguments before
the judiciary besides those already included in the act that is the object of
the procedure.
For actions pursuing the obligation to repay taxes, the taxpayer has to
develop their judicial action in conformity with the request, motivation and
evidence already presented within the framework of the prior request for
reimbursement when such obligation constitutes a condition for obtain-
ing access to the judiciary. For other types of actions, the dynamics vary
131

according to the objective pursued, but generally impose an obligation on

the taxpayer to provide motivation for their position and the facts that jus-
tify their request. Accordingly, if they request the interim suspension of the
execution of tax during judicial litigation, they must provide evidence of
meeting the requirements established by law in order to obtain the suspen-
sion. In the case of judicial reviews of advance tax rulings, they may not
present different arguments and motivations from those that they originally
put forward in their application for an advance tax ruling, but they are cer-
tainly allowed to react to the arguments on which the tax authorities have a
different view than that which the taxpayer initially proposed.
Since there is a right to defence in respect of any single act of the tax author-
ities that may adversely affect the legal sphere of taxpayers, the existence
of multiple judicial appeals in respect of the same administrative procedure
and the same taxpayer may not be excluded.
5.3.2.3. Judicial appeals involving several taxpayers
In principle, tax authorities issue a separate act for each taxpayer. However,
there may be cases in which one or more acts issued by the tax authorities
affect several taxpayers. In such circumstances, tax systems generally allow
the right of taxpayers to decide whether to promote a joint or separate judi-
cial assessment of their rights. Specific issues arise in both cases and will
be addressed more in depth in this section.
When taxpayers intend to promote joint action for the assessment of their
rights, the main issues are (i) whether the system allows that; and (ii) if so,
whether they are obliged to continue with a joint judicial procedure until a
final judicial decision is reached.
The answer to the latter question is generally affirmative, while the answer
to the former question is more complex. The starting point is that a system
should only allow for joint action in the presence of a genuine and effective
connection as to the content of separate acts issued by the tax authorities.
A restrictive interpretation of such condition is generally advisable, taking
into account the diversity of the specific problems that may arise for each
taxpayer in connection with formally separate acts. However, tax systems
may allow for group litigation or class action in order to allow several tax-
payers affected by the same problem to collaborate. This type of measure
limits judicial expenses but may also have the advantage of aggregating
judicial interpretations on specific critical issues connected with the levying
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Reviews and appeals
of taxes. However, this solution also correspondingly increases the com-

plexity of the factual pattern, since not all taxpayers affected by the same
type of measure may find themselves in an exactly similar situation.
When taxpayers pursue separate judicial assessments of their rights in

respect of a single act, tax systems should generally respect such right in
order to ensure that each taxpayer has an effective legal remedy to protect
themselves against measures that may adversely affect their legal sphere
without external interference connected with other persons. However, a
limit to such right exists insofar as a given tax act issued by the tax authori-
ties may not produce its useful effects unless all taxpayers are involved.
This may occur in the case of litigation involving collecting agents and the
taxpayer or the value of some immovable property in connection with its
transfer from the alienator to the purchaser, or also in some cases concern-
ing VAT and connected with the supply of goods and services.
Additional issues arise in the case of separate judicial action promoted by

a taxpayer when another taxpayer affected by the same measure has not
promoted any such separate action. Insofar as the former taxpayer obtains a
favourable judicial decision, the latter one should be allowed to take advan-
tage of this decision also in the presence of a final administrative act. If that
is not the case, there would be a risk that the tax authorities might levy a
tax that is in possible violation of the applicable rules within the tax system.
The right to invoke a more favourable judicial decision should not operate
when such decision is based on personal circumstances of the taxpayer who
appealed. Differently, when two separate judicial appeals produce two dif-
ferent decisions, in principle, either procedure should not affect the other.
Such conclusions should also operate in the case of taxpayers affected by

separate acts issued by the tax authorities that share a common substance. In
such circumstances, however, different results may be reached in connection
with formal requirements affecting each of those acts.
5.3.2.4. The jurisdiction of courts in tax matters and the dynamics

of judicial appeals
The judicial appeal and its content generally determine the framework
of the judicial procedure and the jurisdiction of the court to adjudicate it.
This means that the court may not go beyond what the taxpayer requests,
except for the obligation to take into account the facts and arguments put
forward by the tax authorities. However, within the framework of judicial
133

procedures, the tax authorities may not go beyond what they already in-
cluded during the administrative procedure, except for any point that may
be required in order to defend themselves in respect of the arguments put
forward by the taxpayer.
Courts may request that the parties specify or give further clarification in
connection with any grounds or arguments they present. However, when
determining the applicable interpretation and law, they normally enjoy a
higher degree of freedom, since they should, in fact, secure that the levying
of taxes conforms with the Rule of Law and the requirements established
by the legal system.
After the introduction of the judicial appeal and the response of the tax
authorities, the parties have the opportunity to present their views, backed
up by written and oral evidence, which the judiciary may evaluate within
the framework of a public hearing, with the right to ask direct questions
and also request witness evidence or additional technical expert opinions.
A combination of notification requirements with deadlines for submissions

applies in respect of all judicial acts of the parties, from the lodging of the
appeal until the final judicial decision. This allows the dynamics of judicial
appeals to give the parties reasonable time to exercise their right to defence
and carry out all their activities required by the court in order to gather a
thorough view of all relevant issues within the framework of an inter partes
procedure.
Failure to meet any deadline within the framework of judicial appeals pro-
duces negative consequences for the parties. However, it does not raise any
violation of the right to defence in such context, but rather avoids that non-
action by either party might undermine the right to achieve expeditiously
legal stability in the situations that are the object of the judicial procedure.
5.3.2.5. The judicial decision
The judicial decision constitutes the final point of the procedure before the
court, except when the system allows for an appeal before a higher court.
Its content should address the request for justice submitted by the plaintiff
and the objections presented by the tax authorities, taking into account all
relevant points raised during the procedure and then applying the court’s
own view of the facts and its interpretation of the applicable rules, duly
backed up by motivation and supplemented by the ruling. The ruling has
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Reviews and appeals
binding force for the parties, obliging them to conform to its content from
the moment at which they receive notification of the decision.
5.3.2.6. Appeals before higher judicial courts
In all systems that allow judicial decisions to be revised by another court,

the parties of the judicial procedure have the right to bring an additional
appeal before a different court in order to obtain recognition of their respec-
tive positions. The function of judicial revision of a previous decision limits
the jurisdiction of this court in a way that may not exceed the boundaries of
the litigation before the court of first instance. However, the actual jurisdic-
tion is determined in line with action brought by the parties. The dynamics
of judicial appeal against the decision of the court of first instance vary
according to whether such court has accepted the position of the taxpayer
or that of tax authorities.
The action aims at quashing the judicial decision in full or in part. In the
latter case, the taxpayer and tax authorities may bring two separate appeals,
questioning the validity of different parts of the same judgment that were
unfavourable to each of them. In all such circumstances, judicial revisions
follow the same principle that the person who files the appeal bears the
burden of proving the reasons for which the judgment should be quashed.
5.3.3. Alternative tax dispute settlement procedures
5.3.3.1. The mechanisms for settling tax disputes
Besides securing administrative reviews aimed at steering the activity of

tax authorities in conformity with the requirements established by law and
providing taxpayers with legal remedies to be exercised within the frame-
work of judicial appeals, tax procedures usually also include additional
mechanisms that allow for the settlement of disputes.
Tax authorities and taxpayers are in different positions and have different
rights and obligations in respect of the levying of taxes. However, neither
of them has a right or obligation to access the alternative mechanisms for
the settlement of tax disputes, which constitute a derogation from the pro-
cedures established by the tax system for the levying of taxes in compliance
with the Rule of Law and therefore requires their common consent.
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Such mechanisms may operate throughout the procedures upon the request
of either party from the moment at which the tax authorities discover facts
that can lead to a different assessment of tax from that put forward by the
taxpayer(s) in their returns, i.e. that for which a judicial appeal is pending.
However, these mechanisms should not affect the obligation of taxpayers

to pay the tax that a given system has the right to levy in connection with a
given situation. If that were the case, the mechanisms would alter the way
in which taxpayers contribute to funding the state budget and could lead to
the attribution of discretionary powers to the tax authorities, which could
generate undesirable results from a good tax governance perspective. Such
mechanisms should just pursue dispute settlement in a way that addresses
the existence of different views between tax authorities and taxpayers as to
the facts and legal findings.
Three groups of solutions are normally used for this purpose, namely con-
ciliation, mediation and arbitration, Which will be addressed in more depth
in sections 5.3.3.2.-5.3.3.4.
5.3.3.2. Conciliation
Conciliation does not affect the way in which tax authorities exercise their
powers, but gives them the possibility to discuss the merits of a possible
settlement within the framework of a constructive dialogue with the tax-
payer, either at their own request or prompted by the tax authorities.
Various critical issues may arise in connection with conciliation accord-

ing to the different phase of tax procedures in which it operates. When
conducted before the issuance of a tax notice or an advance tax ruling, the
agreement on the assessment of facts and the applicable law can be effec-
tive and fruitful for both parties in terms of preventing the core parts of
the dispute. However, it offers rather poor conditions for the protection of
taxpayers, which have to face the option of taking or leaving the offers put
forward by the tax authorities without knowing the exact consequences that
they may face if the tax procedure continues and without any possibility of
involving, even indirectly, the judiciary.
After the issuance of a tax notice, taxpayers have the opportunity to choose
between settling the dispute with the tax authorities by conciliation or
requesting an administrative review and eventually a judicial appeal. The
latter elements are usually also applicable to conciliation after the issuance
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Reviews and appeals
of an advance tax ruling. In such circumstances, the taxpayer’s option of

conciliation can be based on complete awareness of the actual difference in
opinion of the tax authorities regarding the facts and applicable law.
Conciliation should not be prevented by the existence of an administrative

review or a judicial appeal, but should be possible until the moment at which
the taxpayer and tax authorities express different views on the facts and
applicable law. In principle, since the object of conciliation should not be
the object of negotiation, tax authorities should not impose heavier condi-
tions in more advanced phases of tax procedures. The object of conciliation
is connected with the exercise of administrative action by the tax authorities.
For this reason, their position and obligations are different from those of the
involved taxpayer, since they have to ensure that any conciliation does not
violate the conditions under which the levying of taxes should be secured.
Yet, in the case that the taxpayer requests it and the tax authorities reject
their proposal, the latter should clearly explain the reasons for their posi-
tion. Although the refusal should not be the object of dedicated legal rem-
edies, any unjustified refusal by the tax authorities should be duly taken
into account in the context of administrative reviews and judicial appeals.
5.3.3.3. Mediation
Tax authorities and taxpayers may request, by common agreement, the

involvement of a third party, such as a professional mediator, who can help
approximate their respective positions in order to settle the tax dispute.
Since this mechanism puts the tax dispute settlement in the hands of a third
party, tax systems do not always allow it. Just like in all other procedures
of this kind, the mediator should be independent and may intervene in the
dispute in order to facilitate its settlement, but not otherwise interfere with
the respective position of the parties.
Unlike in other disputes, in tax matters, the connection with the exercise of
taxing powers in compliance with the conditions established by the legal
system for the levying of taxes prevents the mediator from having wide
powers to settle the dispute. Therefore, the mediator can settle the dispute by
exploring the path to achieve a common vision of facts and/or the applicable
law rather than by means of reciprocal concession by the parties.
Tax ombudsmen have the institutional task of monitoring the correct

implementation of tax law. Even when they are formally part of the tax
137

authorities, they make sure that tax procedures do not violate the Rule of
Law. For this reason, they are in a perfect position to carry out the mediation
of tax disputes. Any possible institutional relationship with the tax authori-
ties allows tax ombudsmen to exercise binding powers that are similar to
those that would arise within the framework of administrative reviews, thus
adding effective support in the dispute settlement process that taxpayers
would otherwise not be able to access with the same degree of effectiveness.
Further examples of mediation can operate in connection with the starting

point of judicial procedures, whether it is required by law or by common
consent of the parties, and with the involvement of professional mediators,
when the law allows it. Since a third party settles the dispute, the implemen-
tation of mediation requires a proactive approach by the parties, who are
bound to execute it in good faith. Except for cases handled by ombudsmen
and judicial courts with jurisdiction to adjudicate the dispute, when either
party refuses to execute the mediation, the other shall have recourse to judi-
cial procedures of enforcement.
5.3.3.4. Arbitration
Unlike the other mechanisms for settling tax disputes, arbitration generally
implies the attribution of full powers to third parties that are essentially
similar to those that courts enjoy. For this reason, the application of arbitra-
tion is very controversial in tax matters, since it marks the most significant
departure from the jurisdiction of the courts established by law to adju-
dicate disputes connected with this core area of national sovereignty and
the obligation of each taxpayer to contribute to funding the state budget in
compliance with the Rule of Law.
The advantages of arbitration are connected with the advanced technical

expertise of the arbitrators and the expeditious procedures. However, just
like in mediation, the execution of the arbitral awards can prove difficult
when the parties do not execute it in good faith, thus requiring additional
involvement of national judicial courts.
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The procedures for the settlement of cross-border tax disputes
5.4. The procedures for the settlement of cross-border tax

disputes
5.4.1. The mutual agreement procedure
Tax disputes within one legal system generally involve (i) one or more
persons (generally, the taxpayer(s)) that owe tax; and (ii) the public entity
(such as the state itself or one of its political or local subdivisions) that is
entitled to receive the payment of such tax.
By contrast, cross-border tax disputes arise between entities subject to

public international tax law (i.e. states) and concern conformity with the
conditions that such countries have agreed on by means of international tax
treaties with regard to the exercise of taxing powers. This traditional view
of cross-border tax disputes just sees taxpayers as the persons affected by
(or the objects of) such disputes rather than as the holders of actual rights.
The controversial nature of such rights does not deprive taxpayers of their
entitlement to protection within each national legal system, but makes
their exercise more difficult in cross-border situations, especially when
the problem that started the controversy between states may not be clearly
attributed to one single state. In such circumstances, having justice before
two national courts may not be sufficient, since such judgments may be
mutually inconsistent, thus leaving the taxpayer with no protection.
For this reason, tax treaties have gradually included administrative and
quasi-judicial mechanisms that facilitate the settlement of cross-border tax
disputes, in particular the mutual agreement procedure and, more recently,
arbitration and similar procedures. Sections 5.4.2.-5.4.4. address the typical
features of such mechanisms and outline their relationships with domestic
legal remedies.
5.4.2. Arbitration
In the early days of international taxation, even in the presence of a tax treaty,
tax authorities did not have instruments for establishing direct contact aimed
at solving problems concerning the interpretation and application of such
treaty, but were obliged to communicate by means of diplomatic procedures.
The introduction of the mutual agreement procedure in article 25 of the 1963

OECD Model Convention was done in order to overcome this structural
139

difficulty. In the mutual agreement procedure, a joint forum is established

in which the tax authorities discuss issues concerning the interpretation and
application of the tax treaty. It is essentially an administrative procedures
that supports the functioning of domestic procedures for the tax authorities
of either contracting state and is included as a minimum standard for tax
treaties under the requirements of the OECD Multilateral Instrument.
With regard to the mutual agreement procedure, tax authorities usually are
not keen to disclose their content. In fact, such procedures operate more to
their mutual advantage than to that of the taxpayer, who may nevertheless
benefit from the settlement of cross-border tax disputes in such context. In
such circumstances, taxpayers may have legitimate expectations regarding
the implementation of the mutual agreement procedure along the same lines
that characterize their rights to execute any act issued by the tax authorities
in a purely domestic context. The technical complexity of such procedures
requires them to be handled by the competent authorities at the national
level in each country, for which developing countries often seem to lack
proper capacity.
There are essentially two types of mutual agreement procedures: (i) the
one prompted by the taxpayer; and (ii) the one in which the tax authorities
spontaneously decide to go for mutual consultation on recurrent cases rais-
ing similar recurrent issues of tax treaty interpretation.
In the first type of mutual agreement procedure, the taxpayer brings a spe-
cific case to the attention of the tax authorities of their state of residence or
nationality if they consider that there is or may be an issue of taxation not in
accordance with the convention. This type of mutual agreement procedure
operates in two phases. In the preliminary phase, the tax authority before
which the case is raised assesses the merit of such request and decides if it
can itself come to a satisfactory solution to the problem. If this is not pos-
sible, it may decide to contact the tax authority of the other contracting state
with a view to solve the case by mutual agreement. The function of the pro-
cedure and the absence of an actual obligation to solve the case by mutual
agreement prevent the mutual agreement procedure from constituting an
actual legal remedy for taxpayers in cross-border tax situations; it rather
constitutes an instrument for assisting tax authorities in correctly assessing
facts and law-finding in the presence of a treaty and in light of the position
expressed by their counterpart.
The second type of mutual agreement procedure frequently results in com-

mon joint statements released by the tax authorities of the contracting states,
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The procedures for the settlement of cross-border tax disputes
which taxpayers can rely upon in good faith in order to prevent possible
problems in the interpretation and application of the convention.
Despite being conceived as an instrument of assistance between the tax

authorities regarding the interpretation and application of tax treaties,
mutual agreement procedures concerning specific cases have more recently
come to constitute the preliminary phase for a joint settlement of cross-
border tax disputes along a quasi-judicial common pattern also involving
the taxpayer in the form of arbitration.
5.4.3. Their mutual relations
The diffusion of arbitration as an instrument to solve cross-border tax dis-

putes is rather recent. States have long objected to the fact that a person
other than the judge established by law may not settle disputes involving
tax sovereignty. While this so-called “natural judge” theory has merits in
purely domestic tax disputes, it can be criticized in cross-border tax dis-
putes, which often raise issues in more than one legal system and thus lack
one single judge with jurisdiction to settle them.
Arbitration is an effective instrument for solving legal and factual cross-

border tax disputes, but it does not represent a remedy to all problems aris-
ing in such context, especially considering the high cost connected with
its functioning, the tax-technical capacity required and, in some cases, the
limited rights of participation of taxpayers. Some of its advantages can
also be secured through alternative dispute settlement procedures, including
mediation and conciliation.
International treaties convey arbitration in tax matters mainly by three legal

instruments. First, since the 2008 update, the OECD Model Convention
includes a mandatory arbitration clause in its article 25(5). A growing num-
ber of OECD member countries are adopting this clause, which, in fact,
operates as an extension of the mutual agreement procedure in order to
secure the effectiveness of cross-border tax dispute settlement. This clause
operates upon the request of the taxpayer with the involvement of the con-
tracting states when the competent authorities of such states fail to solve a
case in the framework of the mutual agreement procedure within 2 years
from the presentation of the case. However, the right to submit a dispute
to arbitration does not operate in the presence of decisions by the judiciary
of any contracting state. The taxpayer does not directly participate in the
dispute settlement procedure.
141

Second, bilateral investment and other non-tax treaties include arbitration

clauses that protect investors of either contracting state against possible
violations of the rules of the treaty by one of the states. Such clauses also
apply to tax disputes, except when a specific carve-out is included for tax
matters. In this type of arbitration, the taxpayer directly participates in the
dispute settlement.
Third, the OECD Multilateral Instrument includes the right to submit cross-
border tax disputes to arbitration when tax authorities fail to reach a solution
in the framework of the mutual agreement procedure. The main features of
arbitration resemble those of the first type of arbitration but are the object
of a much more specific regulation in Part VI of the OECD Multilateral
Instrument. However, the types of arbitration also include the possibility to
use so-called “baseball arbitration”, i.e. a simplified procedure with limited
motivation requirements in which the arbitrators have to choose one of the
possible solutions put forward by the parties. There are also additional arbi-
tration instruments that can be used, such as mediation and conciliation. The
taxpayer does not directly participate in the dispute settlement but has legal
remedies to exercise his rights by invoking the domestic laws of either state.
Additional forms of tax arbitration are available in further international trea-

ties or in regional contexts, such as the 1990 EU Multilateral Tax Arbitration
Convention and the 2017 EU Tax Arbitration Directive. The latter instru-
ment constitutes supranational law of the European Union and grants some
rights to taxpayers as affected persons of the dispute.
5.4.4. Relations with domestic administrative and judicial

procedures
Domestic administrative and judicial procedures have a close connection

with international procedures involving cross-border tax disputes, which
generates a mutual influence. In particular, mutual agreement procedures
and arbitration require implementation into national law in order to pro-
duce their effects. Accordingly, although they do not normally participate
in international tax procedures, the taxpayer can pursue a claim under the
applicable domestic legal remedies and thus, in fact, block the effects of
mutual agreements and arbitration. Furthermore, judicial procedures can
freeze the access to international tax arbitration. This generally occurs when
a national court of either state involved pronounces a decision at the time
at which the affected person may intend to submit the case to arbitration.
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Chapter 6
Sanctions
6.1. Introduction
Tax obligations as such are not voluntary. In an effort to promote voluntary

compliance and enhance tax collection, tax systems need to impose penal-
ties for failure to comply with tax rules. They are triggered by a lack of
payment of the tax due (the primary tax obligation), but also by the failure to
comply with any other ancillary tax obligations. Sanctions may be triggered
by (i) failure to provide something; (ii) doing something that is prohibited;
or (iii) not doing something that is required (dare, facere and non facere,
respectively).
The main aim of sanctions is to promote compliance and deter infringe-

ments, having both a preventive and a repressive function. They are preven-
tive in the sense that they aim to avoid any effective harm to any underlying
protected values (such as the integrity of the tax revenue or the proper func-
tioning of the tax system), as well as to avoid future infringements. They
are repressive in the sense that they aim to punish actual infringements of
tax rules.
However, deterrence relies not only on the sanctions (or their severity), but
also on the likelihood of the offender being caught. This is the reason why
just increasing sanctions does not lead to a proportional increase in deter-
rence.
Important elements to consider alongside sanctions are (i) the moderniza-

tion of the procedures, as well as that of the functioning of the tax authori-
ties; (ii) improvement of the relationship with taxpayers; (iii) mechanisms to
exchange information with other authorities (domestic or cross-border, tax
or non-tax); (iv) the modernization and frequency of tax audits; and (v) the
proper functioning of the judicial system. Sanctions are a crucial element
for promoting compliance, but alone, they are not able to achieve that goal.
For many years, the case law of many jurisdictions recognized the right
of taxpayers to organize their own conduct in order to reduce their tax li-
ability. As long as this is done observing the law and its object and purpose
(intra-legem conduct, or tax planning), no sanctions are triggered. The same
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Chapter 6 - Sanctions
usually applies when the taxpayer reconstructs their actions in a way that
meets the formal requirements of the law but goes beyond its object and
purpose (praeter legem conduct, or tax avoidance). In these cases, tax sys-
tems often react by means of anti-avoidance rules aimed at neutralizing the
benefit sought by the taxpayer. Sanctions are typically triggered in cases of
deliberate infringement of a rule (contra-legem conduct, or tax evasion). The
goal of this chapter is to examine all of these sanctions comprehensively.
A good sanction system is essential for the proper functioning of a tax sys-
tem. It provides an adequate response for those that, either with fault/guilt
or neglectfully, fail to comply with the rules, and deters others from defaults.
It also reinforces the validity of the rules and the tax system. Sanctions
have to achieve a tough balance: they have to be severe enough to pass the
tipping point and induce compliant behaviour, but they cannot be so harsh
as to become disproportional, deterring ordinary people from developing
their economic activities normally. It is important that in the future, efforts
to increase deterrence focus more on the proper functioning of the tax sys-
tem and less on the harshness of sanctions (which, in many cases, already
exceeds what is legitimate in modern societies).
6.2. Principles and corollaries
6.2.1. Introduction
Tax sanctions constitute the harshest intrusion by the tax system of a tax-
payer’s freedom of property. Several principles of law apply in this specific
field and contribute to completing and correcting the normative legal frame-
work provided by rules.
Some jurisdictions and scholars distinguish between principles and rules

applicable to criminal infractions and those relevant to administrative vio-
lations. In some cases, tax infringements follow the general methodology
of similar administrative or criminal infringements. In other cases, there is
a specific law laying out principles and methodologies for tax violations.
Given the vast diversity in this area and taking into account the recent devel-
opments in this field (namely an increasing confluence of the methodology
applicable to each category), the authors will discuss the general concepts
without distinguishing between criminal and administrative violations.
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Principles and corollaries
For the purposes of this chapter, the focus will be on the principles of
legality (section 6.2.2.), proportionality (section 6.2.3.), the prohibition of
double jeopardy (section 6.2.4.), individual culpability (section 6.2.5.) and
due process of law (section 6.2.6.).
6.2.2. Legality
Legality is essential to any system of sanctions. In fact, no conduct can be

considered, due to its nature or effects, as an inherent infringement. An
infringement only exists regarding an action or omission that is considered
as such by the law (nulla poena sine lege).
Legality has certain requirements, such as the following:

– lex scripta, i.e. the requirement that sanctions are adopted in parliamen-
tary law (or by an organ recognized in the constitution as having the
power to regulate ius puniendi);
– lex certa, i.e. the requirement that sanctions can only be applied to
conduct that is specifically and completely typified in law in a way that
allows the person to fully understand the possible consequences of their
conduct – it is not possible to apply a sanction by analogy to another
one foreseen by law; and
– lex praevia, stating that the sanction needs to be adopted before the
conduct takes place, i.e. prohibition of unfavourable retroactivity; how-
ever, if a new law is more favourable to the offender, they can rely on
that rule even if enacted after the fact.
6.2.3. Proportionality
Penalties involve interference with private property and freedom. As a con-

sequence, any action of the state must be proportional. The scale and inten-
sity of the sanction needs to relate to the severity of the infringement. This
relationship between the infringement and the sanction is provided by the
standards of each tax system and the intensity of the conduct of the offender
in damaging the underlying protected value. Based on this, infringements
affecting higher-ranked underlying protected values should receive a
greater punishment than those affecting lower-ranked ones. Also, harsher
infringements to those protected values should be punished more severely
than less offensive or merely negligent conduct. Proportionality does not
require a mathematical relationship between the infringement and the sanc-
tion, but rather a reasonable ratio. It takes into account the hierarchy of the
145

underlying protected (constitutional) values, the interests that the society

considered worthy of protection, the damage that the conduct inflicted to the
underlying protected values and interests and the culpability of the offender.
6.2.4. Prohibition of double jeopardy
No one can be sanctioned twice for the same conduct. This amounts to a
universal principle. It requires a seamless articulation between administra-
tive and criminal sanctions, as the same behaviour cannot trigger an admin-
istrative and a criminal sanction simultaneously (substantive prohibition
of double jeopardy), nor can the same conduct be prosecuted more than a
single time (procedural prohibition of double jeopardy).
In the case that the law foresees a specific tax infringement, one should con-
sider that this particular rule will apply (lex specialis derrogat lex generalis),
and the offender should be punished in accordance with the autonomously
foreseen infringement of tax rules, regardless of whether the sanction is
more or less favourable to the offender (specialization rule).
There are cases in which one action (or a unified set of actions) may deter-
mine, at the same time, an infringement by the individual and an infringe-
ment of the company they represent. As it involves two different persons,
it will not infringe the prohibition of double jeopardy. However, when a
single action (which can comprise several actions) infringes more than one
underlying protected value, the application of more than one penalty will
not violate the prohibition of double jeopardy (multiple offensiveness).
6.2.5. Individual culpability
No one can be charged with an infringement that they did not voluntarily
commit. Additionally, no one can bear the consequences of a sanction
applied to another person. As an exception in some systems in which some
of the penalties are seen as a mere compensation for extra expenses incurred
by the tax authorities due to the failure of a person to comply with a tax
obligation, it is possible for penalties to be passed along to the person’s heirs
via inheritance. Insofar as these old-fashioned conceptions are overturned,
sanctions should remain a burden for the offender, and its inheritance should
not be allowed.
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Principles and corollaries
6.2.6. Due process of law and its corollaries
Another cornerstone principle is the due process of law, which requires the
authorities to act in accordance with proceedings or procedures set by law.
It comprises not only procedural but also substantive rights of the person.
From this general principle, one can extract several dimensions (and cor-
responding rights and guarantees) for proceedings and procedures applying
sanctions, namely the following:
– the right to be informed at the onset of the procedure of the charges
brought against them;
– the right to a timely proceeding/procedure and determination of the
sanction (prohibition of unjustified delays);
– the right to be heard and to participate (in writing or orally);
– the right to be notified of the proposal or draft of the decision (facilitat-
ing the previously mentioned right to be heard) and of the decision it-
self;
– the right to appeal to a judicial organ that has full jurisdiction and ef-
fective capacity to quash the appealed decision;
– the right of the presumption of innocence;
– the right to provide, request, examine and challenge evidence;
– respect for the rules on the burden of proof;
– prohibition of probatio diabolica, i.e. requesting proof of the absence
of actions that may be relevant for the criminal procedure or of actions
that are particularly difficult or impossible to prove;
– prohibition of analogia in malam partem, i.e. prohibition of legal anal-
ogies that are unfavourable to the person;
– the right not to self-incriminate (and to keep silent in respect of ques-
tions that might lead to one’s incrimination);
– prohibition of unfavourable retroactive application of the law (in the
sense that if the law is changed before the final decision of the case
(stare decisis), any change that worsens the person’s position is not
applicable); and
– Prohibition of (procedural) double jeopardy (ne bis in idem), in the
sense that the same person cannot be sanctioned twice for the same
conduct and on the same grounds (and hence, usually administrative
and criminal sanctions may not cumulate).
One should highlight the importance of a proper independent judicial

review. The person (who may or not be the taxpayer, since there are tax
obligations that are also imposed on non-taxpayers) needs to be able to
147

challenge the sanction, and this works as a guarantee for the person against
ill-grounded prosecutions by tax authorities or governments. Namely that:
– the organ applying the penalty did not act ultra vires;
– discretion in the application of the penalty was exercised in a reasonable
manner;
– the time limits for the application of the sanction were respected;
– a specific favourable circumstance was not taken into consideration;
and
– the sanction is not otherwise disproportionate.
An effective judicial review requires that the independent court has the
power to quash or modify the sanction. The appeal shall cover not only the
sanction (main or ancillary), but also the refusal to suspend or waive the
penalty. Some systems determine the suspension of the execution of the
sanction until the moment at which all of the appeals are over (eventually
conditional upon the provision of some bank or other financial guarantees).
As mentioned, there are jurisdictions that do not recognize all of the above-
mentioned corollaries of administrative sanctions. Besides being debatable,
this may lead to situations of legal tension. For instance, if the right to
not self-incriminate is reserved for criminal sanctions, the person may be
forced to cooperate and disclose information about their conduct at an early
stage. Said information might reveal that the offence has a criminal nature.
That being the case, the evidence thus obtained can no longer be used, as it
infringes the (criminal-only) right to not self-incriminate.
6.3. General framework
6.3.1. Introduction
This section aims to describe the general framework for the design of tax
law infringements and related sanctions. The framework will deal with the
elements that need to be satisfied in order to establish an infringement,
which person may be culpable, the expression of the transgression and pen-
alty in clear and certain law and the typical infringements of tax law.
Conduct can be punished with a sanction if it is typical, illegal and done

with culpability. It must be typical in the sense that it falls within the types
of conduct described by law (objective typification) and was done either
with guilt or fault or neglectfully, i.e. the person anticipated or should have
anticipated that the infringement as described by law would result from
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General framework
their actions (subjective typification). It must be illegal in the sense that it

infringes the legal order and harms the underlying protected values of the
system (in this case, the tax system). Punishment also requires culpability,
i.e. the conduct was performed by a capable person who was fully aware
of the unlawfulness of the conduct performed under normal circumstances.
A lack of any of these requirements will qualify such conduct as non-pun-
ishable.
In the next sections, the authors will assess some general features of the
infringements and sanctions, bearing in mind that punishment will always
depend on the conduct being typical, illegal and performed with culpability.
6.3.2. Objective and subjective element
Conduct can only be the object of a sanction in the presence of an objec-

tive (act or omission) and a subjective (intentional) element. In some sys-
tems, the mere verification of the objective element may suffice. However,
a proper system should always rely on the presence of these two elements
(which should be present in the wording of the corresponding legal provi-
sion).
The objective element (actus reus) consists of the action or omission of the
agent (i.e. objective typification and illegality, as stated in section 6.3.1.). It
may consist of omissions, concealments, inaccuracies, destruction of docu-
ments, simulation of facts (in what concerns the nature, amount or persons
involved), among others.
The subjective element (mens rea) consists of the intention of obtaining a

certain benefit, such as the reduction in tax liability or a reimbursement. In
these cases, from the objective elements, it should be possible to provide
evidence that the person aimed to obtain a particular benefit.
In the following sections, the authors will describe only the objective ele-
ment of the infringements, noting that in many cases, intention is also
required in order for an infringement to be committed.
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6.3.3. Responsibility of corporate officers for sanctions for

legal entities
As it occurs with general administrative or criminal law, infringements can

also be committed by entities other than individuals. In all cases, legal sys-
tems must expressly provide for this responsibility and the standards appli-
cable to its assessment. The sanctions are only monetary and, in most cases,
higher than those applicable to individuals. In these cases, a more restrictive
number of ancillary sanctions apply.
If entities other than individuals fail to pay the sanction (either voluntarily
or due to bankruptcy), the law may establish the responsibility of officers of
those companies (in particular, of the executive and supervisory boards) for
those sanctions, mainly due to their neglect of duty of care in supervising
the company’s tax compliance (culpa in eligendo or culpa in vigilando).
That secondary responsibility may cover officers in the functions that they
served at the moment at which the infringement was committed or at the
moment at which the sanction was not paid.
6.3.4. Codification
There are three primary models for the legislator to list infringements and
their corresponding reactions. One is listing them in the tax legislation/
code alongside the rules (when listing an obligation, the law also sets the
response to cases of default), or, alternatively, the sanctions can appear in
a separate chapter of tax legislation/codes. In the second model, sanctions
for defaults of tax rules are just included in the general administrative or
criminal law/codes. In the third model, tax sanctions are gathered in a spe-
cific law/code, independent of the nature of the sanction (administrative
or criminal) or the tax at stake (these laws may include a broad range of
contributions, namely social security taxes and customs duties). It is also
possible to have mixed systems, combining elements of the three models.
Regardless of the model used, one should note that tax infringements are
just a subset of administrative infringements or crimes. The procedure and
methodology generally established for such infringements continue to
apply, either directly or by subsidiarity.
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Classification
6.4. Classification
6.4.1. Introduction
Infringements can be classified in many different ways, depending on the

criteria used. This section aims to explain the structure behind the design
of the penalties. For the purposes of this section, the authors will take into
account the several applicable criteria and refer to the main specificities
derived from said classification.
6.4.2. According to the nature
Tax infringements may be classified into two groups: administrative and

criminal. In most jurisdictions, each one observes a different methodology.
There may also be differences in the applicable normative framework (rules,
principles and procedures).
The first group includes minor offences and is aimed at ensuring the proper
functioning of the tax system. These offences are often regulated by admin-
istrative laws, the application of which is entrusted to tax authorities. They
mainly seek to induce voluntary compliance, although a deterrent element
is always normally present. Some jurisdictions have an “in-between” type
of entitled administrative sanctions with explicit repressive functions.
The second group, criminal sanctions, covers major offences (against the
state or the community as a whole). They are sometimes regulated indis-
criminately in criminal law and are prosecuted by criminal authorities. They
usually aim at specific deterrence, general deterrence and reinforcement of
the validity of the rule. Individual deterrence is achieved when the sanction
dissuades the person from committing the action or repeating it in the future.
General deterrence is achieved when the general population is discouraged
from committing the action. Finally, applying a sanction also reinforces the
validity of the rule by providing evidence that there is a real and effective
negative consequence attached to the violation of a certain rule. In the end, it
is up to each jurisdiction to define which actions may fall under these groups
and the methodology and normative framework applicable to each of them.
Some guarantees or special procedures may be reserved only for crimes.
One possible supranational criterion for distinguishing these types of

sanctions is the one used by the European Court of Human Rights, or the
151

so-called “Engel” criterion, according to which a sanction will have a crimi-

nal nature if:
– it is classified as such under domestic law;
– the offence has a criminal nature; or
– the penalty has a degree of severity identical to criminal penalties.
The penalty will have a criminal character if it no longer compensates for

damage, but aims to punish and deter future offenders. The guarantees
foreseen for criminal sanctions by the EU Charter of Fundamental Rights
are therefore extended to these sanctions, despite their classification under
domestic law.
6.4.3. According to the need for a material result
The statutory offence may require the production of a result (infringement

resulting in damage), such as the non-payment of tax. However, in other
cases, the mere action of the person, even without a possible result, is suf-
ficient for the infringement to be considered committed (infringements not
resulting in damage), such as providing an inaccurate informative return.
The differentiation between the two situations is not always necessary in
order to produce damage to the tax revenues constituting infringement. Of
course, that absence of damage may be relevant, and it may constitute the
reason to suspend or even waive the application of the sanction (whenever
this is allowed by that legal system).
Delivering a return with inaccurate information that does not lead to any
financial advantage may also constitute an infringement of the result.
Although there is no impact on the revenue, there is an impact on another
underlying value of the system, which is the proper functioning of the tax
administration system. For example, that apparently harmless return may
prevent the tax authorities from cross-checking the information of another
taxpayer properly and will most likely increase the burden of the tax author-
ities regarding the correct determination of that taxpayer’s liability.
6.4.4. In respect of the person
As tax law sets out obligations for both sides of the tax equation (the tax-
payer and the tax authorities), there are sanctions applicable to both.
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Classification
On the one hand, the action may be committed by the taxpayer themselves,
by their legal representatives (civil representatives, tax accountants, consul-
tants or lawyers). It may also be performed by third parties with a special
relationship with the taxpayer, for instance, the withholding agent, which
may be the employer, banks and other financial institutions or pension funds.
On the other hand, the action can be committed by agents of tax authorities
or other (public) agents taking part in tax proceedings or procedures. This
will be the case when a civil servant (deliberately or by neglect) discloses
private information of the taxpayer (for instance, his annual income or his
health expenses).
6.4.5. In respect of the underlying protected value
The tax system is composed of rules that aim to protect different underlying
interests. In addition to those oriented towards protecting the tax revenue,
others are aimed at protecting several other interests, namely the coopera-
tion between the taxpayer (or other related parties) and tax authorities, or the
accuracy and integrity of the documentation needed for a proper assessment
of taxes (or the functioning of the tax system).
An increasing number of tax proceedings are currently performed by the

taxpayer themselves (or a related party like self-assessment returns, provi-
sions of information based on requests by the tax authorities, withholding
taxes and representation). In this context, if sanctions addressed by private
parties’ actions arise without said cooperation, the system just collapses. In
general, the tax system wants to ensure that private parties do the following:
– duly inform the administration regarding all cases of tax liability and
provide accurate information about the activity generating that liability
(including the disclosure of offshore income) and about the cessation
of said activity;
– maintain accurate bookkeeping and related documents;
– provide timely and accurate returns;
– deliver the due amounts in a timely manner;
– cooperate in tax assessments (including audits and inspection proceed-
ings); and
– cooperate in the tax collection procedure.
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6.5. Infringements
6.5.1. Introduction
Infringements must be described in the law. The consequence of an infringe-

ment (i.e. an act of a person that infringes a specific command or prohibition
adopted by the legislator) is a sanction. Following the legality principle,
this conduct must be described in the law. This section describes the most
common conduct listed as infringements.
There will be no distinction between conduct leading to administrative or

criminal sanctions, mainly due to two reasons. The first one is because each
jurisdiction has its policy, and what is classified as an infringement within
each one of those categories varies substantially (moreover, there is no in-
ternational instrument harmonizing these matters). The second reason is that
within one jurisdiction, the same conduct may lead to an administrative or
criminal sanction, depending on specific factors (e.g. administrative if the
tax savings were below a certain threshold and criminal in all other cases).
The expression “tax fraud” will not be used, as its meaning differs among
countries. In some jurisdictions, it is used to describe any default, while in
others, it is used to describe criminal infringements. In other jurisdictions,
fraud is used to describe a specific type of tax crime (normally, conduct
that voluntary misrepresents the economic reality of a certain transaction or
business towards the tax authorities, aimed at reducing tax liability).
Finally, as mentioned above, only conduct that is specific to or common

in tax matters will be covered. No reference will be made to other types of
sanctions that may take place in the normal process of the administration of
taxes (such as passive and active corruption and criminal association). Some
generalization is made in the discussion of the essential elements.
6.5.2. Failure to pay taxes in due time
Failure to pay the correct amount of tax due at the end of the stipulated
payment period is an infringement. Conduct of this nature may comprise
several transgressions, namely in respect of the following:
– the amount of self-assessed tax;
– the amount of tax assessed by the authorities;
– amounts connected with the tax due, such as interest and non-sanction-
atory surcharges; and
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Infringements
– failure to pay any instalments of the due amount of tax (when payment
in instalments is possible).
These infringements may be committed even in cases of partial non-pay-

ment or late payment (even in cases of minor delays). These circumstances,
however, may be taken into account in the determination of the specific
quantum of the sanction.
These infringements may be committed by the taxpayer or by related par-

ties, such as withholding agents. In the latter situation, sometimes the law
distinguishes between cases in which the withholding agent failed to remit
an amount of tax that they already collected from the taxpayer and cases in
which this amount was not collected/withdrawn from the amount of income
paid to the taxpayer.
6.5.3. Obligations regarding reporting and other formal

obligations
6.5.3.1. In general
Payment of the due amount of tax requires calculation. Failing to correctly

calculate the tax due or deliberately providing inaccuracies in returns,
accounting records, transfer pricing dossiers or other relevant documents
constitute infringements. In general, a document will be considered relevant
insofar as the tax authorities are likely to rely on it (with or without further
enquiry) in order to assess the agents’ position.
If the document has more than one inaccuracy, each one of them may con-
stitute an infringement, provided that there is evidence that there was a
separate deliberate action for each inaccuracy. There are normally special
rules for grouping and determining the sanction in the case of multiple
infringements. An inaccuracy resulting in an understatement (and underpay-
ment) of tax cannot be waived or compensated by an overstatement (e.g.
in the same or another return on which the person failed to claim a certain
allowance or deduct certain costs).
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6.5.3.2. Tax returns
Returns are a pivotal element in the administration of taxes. Failure to file

or the late filing of returns qualify as infringements. The same applies for
inaccuracies in returns that lead to the following:
– understatement of the liability to tax (misrepresentation of the tax base,
tax rate or other relevant elements);
– false or inflated losses;
– false or inflated claims for the repayment of tax (namely if the condi-
tions for a certain benefit are met).
Any errors in declaring the correct amounts in bookkeeping or other docu-

ments (namely declaring less income, profits or gains or overstating deduc-
tions and credits) will be considered infringements. Failure to notify the
chargeability of tax will also constitute an infringement.
6.5.4. Obligations regarding documentation and accounts
6.5.4.1. Bookkeeping and invoices
Failure to organize the accounts and other tax-relevant records in terms

of the applicable legal provisions or accounting standardization rules is
considered an infringement. The same applies to the manipulation of the
accounts or of the systems used to keep the accounts (including bookkeep-
ing software), as well as to inaccuracies, misrepresentations or a lack of
reasonable care in the conservation or destruction of documents necessary
for the bookkeeping.
Many jurisdictions further specify infringements related to invoices, as fol-

lows:
– failure to issue or a delay in issuing a legally due invoice;
– Issuing invoices without all the mandatory information (such as the
identification of the parties or the transaction and its amount);
– issuing invoices that do not correspond to economic reality;
– taking into consideration invoices issued by non-existing or bankrupt
companies; and
– forging invoices from existing or non-existing companies.
In some countries, it is an infringement not to ask for an invoice in cases

in which the supplier must issue it. This serves as a mechanism to promote
compliance in issuing the invoices, even in cases in which the recipient does
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Infringements
not have a specific interest in that invoice (namely because it is irrelevant for
the determination of their tax liability). This goal can be supported by less
restrictive measures, such as allowing for a small income tax deduction for
each of the collected invoices or for invoices collected from areas of known
widespread tax avoidance.
6.5.4.2. Transfer pricing documentation
Transactions between associated companies have dramatically increased.

Transfer pricing is crucial for determining the arm’s length price that should
be attributable to a specific transaction. The obligation to set prices accord-
ing to the arm’s length standard may be done according to domestic law or
by domestic law remission to international standards. Legal systems often
require the taxpayer to show how the prices were determined. Failure to
provide evidence that the standards were observed is considered an infringe-
ment.
If there is a remission to international standards, the domestic law should

provide a clear indication of the standards that need to be taken into account,
as a mere remission would breach legality. Additional problems arise when
the standards are incomplete, unclear or written in a language that is not
one of the official languages of the jurisdiction, since in it may be hard to
provide evidence that the taxpayer was capable of anticipating that their
conduct would constitute an infringement.
6.5.4.3. Omissions or false documents/declarations
Besides returns, there are several other documents that need to be delivered
to the tax authorities. Omissions and inaccuracies in these documents are
considered infringements. Any false declarations (in writing or orally) will
also be considered infringements. This may happen namely in the frame-
work of cooperation requested by the tax authorities. It may also be an
infringement to provide inaccurate information in the framework of coop-
eration, which may be done either in writing or orally. In these cases, this
is easier to prove if the oral declarations are put into writing and signed by
the person.
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6.5.4.4. Failure to use approved forms or other documents
It constitutes an infringement to use returns, accountancy books, invoices

or other documents that are not allowed by law. This is the case when they
need to follow a certain form or the agent has to use forms provided and
sold by the tax authorities. It will also be an infringement to design, print or
sell official forms by non-authorized entities. In other cases, (non-) official
documents may need to be authenticated by a public body before their use.
Failure to do so will constitute infringement. Failure to have these books or
documents at all, if mandatory, is also considered an infringement.
6.5.4.5. Failure to display certificates of payment of taxes
For certain types of taxes, e.g. road circulation tax, consumption taxes
and stamp duties, a certificate of the payment of tax needs to be provided.
Failure to do so or the improper conservation of those certificates will con-
stitute infringements.
6.5.4.6. Accounting software
It is an infringement to create, lease or transact software that has not been

certified by the tax authorities if used for tax purposes. This occurs in many
countries where most bookkeeping is done digitally. It may be equally pun-
ishable if the use of the software is aimed at preventing the normal function-
ing of the certified software or preventing or obstructing an audit based on
digital data.
6.5.5. Obligations regarding due cooperation
As taxpayers and their service providers perform more tasks related to the
administration of taxes, there is an increasing need for ensuring coopera-
tion. Most jurisdictions consider the failure to cooperate in time with the
tax authorities an infringement. This cooperation may refer to information
regarding the taxpayers’ conduct or that of someone with relations with the
taxpayer (for instance, information used to confirm that an invoice found in
another taxpayer’s account was effectively issued by the company making
the request). Failure to cooperate should be distinguished from false decla-
rations (see in section 6.5.4.3.).
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Infringements
Cooperation may be requested at different moments, such as for an audit or

inspection or tax assessment and collection. The circumstances under which
failure to cooperate with the tax authorities will result in an infringement
must be clearly specified in legislation. This is especially relevant when
considering the taxpayers’ fundamental right to not to self-incriminate.
Also, ultra vires or disproportional requests for collaboration will not be
considered infringements.
Recently, some systems establish that private parties (for instance, the tax-
payer, tax advisers or consultants) should disclose to the tax authorities
any (aggressive) tax-planning scheme in which they are involved. In other
cases, the law requires the disclosure of loopholes or other failures in the
tax system that are being legitimately taken advantage of by the taxpayer.
6.5.6. Other infringements
6.5.6.1. Mandatory use of bank accounts
Sometimes the law requires the taxpayer to own and use a bank account.
It also requires that compensation regarding transactions above a certain
amount should be paid by bank transfer. The infringement may be (i) the
absence of a bank account in a financial institution located in that juris-
diction; or (ii) the failure to perform certain transactions using that bank
account. Regardless of the bank account, it may also be an infringement
to make payments through means different than those foreseen by the law
(e.g. cryptocurrency).
6.5.6.2. Appointment of legal representatives
Non-residents or residents that move abroad for a relevant period may be

required to appoint a legal representative in the jurisdiction. Failure to do
so will constitute an infringement.
6.5.6.3. Withholding agents or other related parties
In many cases, the collection system relies on private parties that, before
making a certain payment of income (salaries, dividends, interest, royalties,
etc.), have to withhold a certain amount that amounts to the tax that is or will
be due by the recipient. It is normally considered an infringement if any of
the following are apparent:
159

– failure to properly identify the recipient of the income (from whom the
amount was withheld);
– withholding a lower amount, based on legal provisions, without verify-
ing the fulfilment of the conditions stated for that benefit or if the con-
ditions are not met/evidenced at the moment of the payment;
– failure to remit the taxes withheld. In many jurisdictions, aside from
committing an infringement, the withholding agent will be primarily or
jointly responsible for the amounts that should have been withheld. The
same will apply to legal representatives when they need to be employed.
6.5.6.4. Transfer of money abroad
The law may also consider the mere transfer of an amount (even if due)
as an autonomous infringement if that transfer triggers the payment of a
specific tax and the transfer takes place before that tax is paid. This will
usually occur in respect of the payment of passive income subject to with-
holding taxation.
6.5.7. Infringements by tax authorities or other public

servants
Tax authorities can also commit infringements in the administration of the

tax system or in connected proceedings. These infringements result from
breaching applicable taxpayer rights, for instance, by disclosing private
information or failing to hear the taxpayer when required by law. It can
also be an act that is favourable to the taxpayer (e.g. an omission of noti-
fication at the end of a procedure or recognition of a certain benefit when
the requirements were not met or the necessary documentation was not
available). Moreover, it is often an offence to conduct unannounced inves-
tigations of taxpayers and confiscate their private information or property
without the required approval, often by a judge. The law also normally
prohibits accepting any form of gratification (e.g. a bribe) not to investigate
or assess a particular taxpayer. Of course, any form of passive or active cor-
ruption normally triggers a sanction.
Besides tax authorities, infringements may also be committed by other

dishonest agents, such as public servants or parties to the proceedings of
administration of taxes. For instance, a notary may be required to check
if real estate tax was paid before concluding the purchasing contract of
immovable property.
160

Sanctions
As private data becomes more easily accessible, there is growing concern

regarding how it is used, also for tax matters. The use of (big) data dispro-
portionately or beyond legality will also constitute an infringement.
6.6. Sanctions
6.6.1. Main sanctions
Tax sanctions affect one of two constitutionally protected values. One of

them is property, and the relevant sanction will assume the form of a mon-
etary penalty or surcharge. The second one is freedom, and the relevant
sanction will assume the form of imprisonment. The latter should be seen
as a last resort (ultima ratio of the sanction system).
All sanctions have, in the end, a punitive character (although in some juris-
dictions, this is only said regarding criminal sanctions). This is the reason
why sanctions can never be relieved, i.e. sanctions against freedom cannot
be borne by others, and sanctions against property cannot be offset by costs
and deducted from the tax base. Monetary sanctions need to be borne by the
offender from the amount they are left with (for consumption or savings)
after paying all due income or similar taxes.
Sanctions for crimes may affect both freedom and property. Imprisonment is
usually limited to a small number of years, although in some jurisdictions,
it can go as high as 10 years. Monetary sanctions fluctuate from low to
very high percentages, reaching 600% of the non-paid tax; this corresponds
to the difference between the true tax position and the position declared
by the person. Sanctions may also be set as a specific abstract monetary
framework and can fluctuate from minimal amounts to amounts as high as
USD 150,000.
Primary sanctions for administrative penalties are only monetary and can
also be set as a percentage of the tax or taxable base or a specific monetary
framework. These amounts also vary, but are significantly lower than those
applicable to crimes.
If sanctions are set by reference to an abstract framework (e.g. from 1 month

to 2 years of imprisonment or from 1% to 10% of the unpaid tax), the organ
applying them needs to determine their specific amounts, normally using
the procedure that will be explained in section 6.7.
161

In some countries, the penalties increase with time (for instance, per month
or year of late filing), while in others, interest starts to be levied from the
moment at which the penalty is calculated.
6.6.2. Ancillary sanctions
In addition to monetary sanctions and imprisonment, many jurisdictions

allow the adoption of ancillary sanctions related to the specific infringement
that was committed. These include namely the following:
– temporary interdiction of the exercise of certain activities or professions
(or temporary loss of the licence or authorization to exercise those ac-
tivities or professions, for instance, to be a tax accountant or chartered
accountant);
– temporary loss of the entitlement to receive certain subsidies granted
by public bodies (for instance, tax incentives for the creation of new
jobs);
– temporary bans on the right to contract with public entities;
– temporary bans on the right to participate in fairs, auctions or similar
events organized by public bodies;
– temporary loss of the entitlement to receive tax benefits or incentives;
– dissolution of legal entities or closure of certain establishments, ware-
houses or similar premises of those entities;
– publicity of the default and of the corresponding sanction (namely in
public announcements and newspapers, often at the expenses of the
offender). One should be particularly careful with the effects of this
“naming and shaming” technique, which should be reserved for par-
ticularly severe cases; and
– a loss of the property of the instruments used for the crime (namely
equipment, means of transportation and premises).
The law should comprehensively foresee cases in which these sanctions

can be applied. Moreover, there should be a reasonable link or connection
between the additional sanction and the conduct of the offender.
6.6.3. Sanctions and interest
In cases of late payment, late filing or late fulfilment of certain requirements,

interest is also charged. Although this is paid on top of the main amount, it
should not be considered a penalty. In fact, the aim of claiming interest is to
compensate for the delay in the payment of the principal amount.
162

Determination of the sanction
One should note that interest may also be due by the tax authorities in cases
of excessive pre-tax payments or (judicially declared) undue tax assess-
ments. This interest does not have the nature of a sanction.
6.7. Determination of the sanction
6.7.1. Introduction
Some systems have simplified procedures applicable to some sanctions,

namely to administrative penalties. Insofar as the competent organ assesses
a default, a penalty is applied without any possibility of taking into account
other circumstances (e.g. USD 100 for late filing of a return or 10% of the
due amount of taxes in the case of late returns). These “automatic” penal-
ties raise concerns by some scholars that consider them as an infringement
of proportionality.
Most sanctions allow for certain discretion of the organ. The sanction is set
up between a maximum and minimum amount (abstract framework), and it
is up to the organ to determine the final sanction after taking into account
several circumstances. The determination of the sanction will usually have
three steps: (i) determination of the abstract legal framework; (ii) determi-
nation of the specific statutory framework; and (iii) determination of the
particular amount of the sanction.
6.7.2. Abstract framework
Imprisonment is typically set within a bracket, between a minimum and a

maximum amount of months or years. Monetary sanctions are set as percent-
ages of the tax due or the unreported tax base and/or between a minimum
and maximum amount. In some cases, the law only sets the maximum.
This means that the legislator allows for any solution up to that maximum,
including a waiver of the sanction.
When the sanctions are set at a specific amount, it is useful to implement

mechanisms to automatically update these amounts in order to avoid that
the deterrence effect corresponds with inflation. Some scholars point
out that this automatic updating may constitute an infringement of the
principle of nullum crimen, nulla poena sine lege praevia, certa et stricta
(“no crime without previous, formal and precise law”), as well as that of
proportionality.
163

One should note that sanctions applicable to members of the tax authority,
public servants and other officials involved in the tax administration system
usually are harsher than those applicable to taxpayers. In fact, since these
agents represent the state, infringements at that level can undermine the trust
that all stakeholders place in the system of tax administration.
6.7.3. Adjusting the framework
The abstract tax framework needs to be adjusted taking into account the
culpability of the person and other circumstances connected with the
infringement. Any infringement requires there to be a person to blame for
the default. The degree of culpability that needs to be proven depends on the
nature of the infraction and, ultimately, the wording of the provision. The
tax authorities need to provide evidence that the person performed the action
deliberately or carelessly, although in some jurisdictions, it is sufficient to
provide evidence that the infringement occurred at all.
Depending on the degree of culpability, the law may require an adjust-

ment (upward or downward, in its upper or lower threshold) of the abstract
framework. Mere negligence normally allows a reduction of the maximum
or minimum threshold (or both) of the abstract framework.
In general terms, the infringement may be committed deliberately(fault or

guilt, i.e. the person was aware of the adverse consequences of their actions
and still decided to act) or by negligence (i.e. the person did not know the
adverse consequences of their actions). Both categories can be subdivided.
The person is considered to have acted with gross culpability (deliberate

behaviour) if they anticipated the adverse consequences of their actions for
the state or tax authorities but still purposely acted towards achieving those
consequences. They are considered to have acted with moderate guilt if they
anticipated that an infringement of law would be an adverse consequence
of their actions but still decided to act, even if this action was not directly
aimed at infringing the law. There is minor guilt if the person foresaw the
infringement of the law as one of the possible adverse consequences of
their actions but still decided to perform that action, but it was not primarily
aimed at committing the infringement.
Negligence can be further categorized into gross negligence (the person

was not but should have been aware of the consequences of their actions)
164

Determination of the sanction
and minor negligence (the person was not in a position to foresee the con-
sequences of their actions).
Concealment may also play a role in this framework. One should distinguish
cases in which the person (i) simply acted carelessly; (ii) acted deliberately
to commit the infringement but did not conceal it; and (iii) acted deliberately
and concealed the infringement.
To ascertain the severity of the conduct, one should verify if the action was
done by fault or neglect. There are two types of fault, i.e. direct and indirect.
Regarding neglect, there are also two types, i.e. normal negligence and
higher-than-ordinary negligence.
6.7.4. Determination of specific amount
The third step (after the abstract framework and adjusting the framework)
consists of the determination of the specific quantum of the sanction. This
takes the following into account:
– the benefit obtained by the person as a result of his conduct (amount of
taxes not paid or of the unreported taxable base);
– the degree of culpability, taking into account all of the context surround-
ing the infringement; a deliberate action is more heavily sanctioned
than a careless mistake;
– the existence of a reasonable excuse or attenuating circumstances;
– the economic and social situation of the person (assessed as the sanction
is determined);
– the knowledge and experience of the person;
– sophisticated means used to commit or conceal the infringement;
– any prior criminal history of the person;
– the behaviour of the person after the infringement and their cooperation
with the authorities;
– possible disclosure by the person of their actions; and
– induced infringement, i.e. the offence committed by the person was
produced by an error attributable to a third party that provided false
information to or willingly withheld relevant information from the per-
son, e.g. a bookkeeper not employed by the agent that deliberately pre-
pares fake accounts based on which the agent fills in and delivers the
return to the tax authorities.
Based on all of these factors, the organ applying the sanction reaches a final
and univocal amount of the sanction.
165

6.8. Exclusion or reduction of the sanction
6.8.1. Exclusion of punishment
A sanction may only be applied if the conduct foreseen in the law was com-
mitted. However, there are certain circumstances that may exclude punish-
ment even if the material action or omission took place, including (i) errors
regarding the facts; (ii) errors in the law; (iii) uncertainty; (iv) the action of
a third party; and (v) major force.
The person will not be punished if, without fault or neglect, they were
not aware that their action or omission would constitute an infringement.
The same applies if they did not know that their action infringed the law.
Uncertainty may also play a role if the person could not anticipate that their
action would infringe the law or could not reasonably understand their tax
obligations, in which case they be excluded from punishment. They may
also not be punishable if the infringement is due to the actions of a third
party (for instance, if the agent requested his accountant to pay the tax,
providing him with the required amounts, and the accountant fails to do so,
providing the person with a false receipt of payment). Also, cases of force
majeure exclude punishment.
In certain jurisdictions, mere formal inaccuracies that have no impact on the

tax liability or the functioning of the tax system may exclude punishment.
6.8.2. Waiver of the sanction
In a restricted number of cases, the sanctions may be waived altogether.

This waiver may be subject to different conditions, namely the following:
– a low degree of fault or neglect;
– little impact of the infringement on the underlying protected value
(little or no effect on the revenues);
– recognition by the person of the infringement;
– reconstruction of the situation as if the infringement did not occur, with
the full payment of the due amount or restitution of all benefits; and
– restriction to cases in which the abstract framework of the sanction does
not exceed an absolute limit.
In general, waivers should not be granted in cases in which said concession

would erode the perception – of the public or the person – of the validity of
the infringed rule, even if all other conditions are met.
166

Exclusion or reduction of the sanction
6.8.3. Self-disclosure schemes
The sanction may be mitigated or discounted if agent enters into one of

the disclosure schemes set out in the law. It is crucial that the benefits are
described to ensure that the person understands the advantages of cooperat-
ing with the authorities and reconstructing the situation as if the infringe-
ment did not occur. This can be applied in cases of regret (the agent was
culpable for the infringement when committed) and circumstances of the
later discovery of inaccuracy (the agent did not act carelessly or deliberately,
but later finds a mistake or inaccuracy).
These schemes present advantages to the person, but also to the entity apply-
ing the sanction. For the person, it reduces the overall sanction and prevents
the application of a high sanction at the end of the procedure. For the apply-
ing agent, it decreases the time spent and overall costs of the procedure. In
several instances, voluntary disclosure is the only possibility for the authori-
ties to detect and sanction infringements committed either by the person
alone or in cooperation with others.
The disclosure may take place at several moments, and the timing of the
disclosure (and whether it was prompted or unprompted) will be relevant
for the mitigation. Firstly, it is possible to disclose (and to reconstruct the
facts as they would appear without the infringement) before any action is
taken by the authorities. Secondly, it is possible to disclose after notification
or any other action takes place (e.g. control or audit). Thirdly, it is possible
for the agent to disclose during the tax audit or inspection procedure, but
before the proposal/draft of the decision is known (e.g. when the agent
cooperates with the tax inspector). Fourthly, disclosure is also possible after
the proposal/draft of the decision is known, but before the final decision is
rendered.
The discount or reduction for disclosure is customarily graded taking into

account those moments. It can be set as a fixed amount, as a reduction in
the percentage of the lower amount of the abstract framework or as a new
abstract framework (generally with a smaller interval). It is typically condi-
tional on the reconstruction of the situation as it would appear without the
infringement (e.g. the person has to pay the amount due, deliver the accurate
and timely return or provide the missing information; interest may also be
required). The person should also allow access to any relevant documents
to confirm that the reconstruction is been adequately done.
167

In some systems, the discount is different for individuals and companies.

Finally, it is possible that self-disclosure up to a precise moment precludes
criminal prosecution, converting the infringement into a minor administra-
tive penalty.
Self-disclosure schemes should not be confused with one-off amnesties.

These regimes follow different rules and may or may not result in a certain
reduction or waiver of the applicable penalty.
6.8.4. Settlements
In a limited number of systems, it is also possible to settle on the amount

of tax due and the sanction. Even in these cases, and to avoid unnecessary
compressions of equality and fairness, the law has to precisely define the
conditions and limits under which these settlements can be reached.
6.9. Suspension
6.9.1. Suspension of the determination of a sanction
In cases in which the determination of the abstract or concrete framework

depends on the amount of tax due (potential lost revenue) or the unreported
tax base, the administrative or criminal proceedings may be suspended until
the moment at which the tax authorities calculate this amount. After the final
determination (which may include the exhaustion of appeals), the proceed-
ings resume. In these cases, there should be particular concern for the col-
lection and preservation of the evidence of the infringement, as a substantial
amount of time may be required for the final determination of the amounts.
6.9.2. Suspension of the application of a sanction
Suspension of the sanction for a specified period may be possible for minor
or first-time (administrative or criminal) infringements. Sometimes it is
available for cases of careless but not of deliberate acts. This suspension
is often conditional upon the reconstruction of the situation as it would be
without the sanction and lasts for a specified period (e.g. 2 years). If the
agent resorts to the same type of infringement during the suspension, the
two infringements will be taken into account in the determination of the new
sanction, and often, suspension will no longer be available. Suspension may
168

Extinction
also be conditional upon the reconstruction of the situation as it would be if

the infringement had not been committed.
6.10. Extinction
Sanctions are considered extinct when they are fully paid or when the
imprisonment period is over, i.e. when the person bears the sanctions as
foreseen by law. However, there are other causes that also extinguish the
sanction. In the case of individuals, this is triggered by the death of the per-
son (unless the system specifically allows for the transmission of the sanc-
tion to the heirs, which something that should be restricted to administrative
sanctions and, in general, should be phased out).
In all cases, the sanction may be extinct due to the statute of limitations, i.e.
the passing of a certain amount of time between the infringement and the
application of the sanction or due to the time elapsed between the applic-
ation of the sanction and its execution. It is up to domestic law to determine
the amount of time required for the statute of limitations, which is normally
done by reference to the statute of limitations in force in respect of other
matters within that jurisdiction. Some circumstances may suspend or inter-
rupt the counting of the period.
169

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This multi-authored book is the result of the scientific cooperation between

In the interest of transparency, the initial division of work is recorded as

Peer Review Process and Statement

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Chapter 1: Introduction to Tax Policy 1

1.1. Fiscal policy and tax policy 1

Chapter 2: Principles of Taxation 9

2.1. Features of a good tax policy 9

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This eBook is licensed to Neni Susilawati, neni.susilawati@gmail.com

Chapter 3: Legal Systems 45

3.1. Common law 45

Chapter 4: Substantive Tax Law 71

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4.3. Tax system design  85

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Chapter 5: Procedural Tax Law 99

5.1. The general framework of tax procedures 99

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5.2.5. Tax refunds 126

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Chapter 6: Sanctions 143

6.1. Introduction 143

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6.5.5. Obligations regarding due cooperation 158

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Often, the revenue-raising function overshadows the legal dimension of

When examining the fundamentals of taxation, this book explains them in a

In adopting this fundamental basis method, the authors aim to strengthen

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taxation is about. People with a solid legal culture or members of civil

After a comprehensive overview of the principles of taxation, chapter 2

In particular, substantive tax law consists of the rules through which a

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Chapter 6 elaborates on a thorough analysis of tax sanctions, which

Because of such features, this book constitutes an experiment for a global

Amsterdam and Cape Town, May 2019

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Introduction to Tax Policy

1.1. Fiscal policy and tax policy

Fiscal policy is generally defined as the policy to use government revenue

Tax policy touches on a number of disciplines, including, but not limited

1.2. The budgetary balance of tax, debt and expenditure

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Governments must therefore preserve a delicate balance of tax revenue and

In contractionary policies, governments decrease expenditure and/or

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Increasing taxes can create problems in the economy through increasing

Increased taxes may also generate uncompetitive conditions for multina-

While it is clear that in designing a tax system, a holistic picture is needed

1.3. Policy principles for a state to raise taxation

As taxes can be considered a direct violation of the right to property and

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For a government charge to be considered a tax, there are some common

While these elements are observable, there is no uniformity in application

1.3.2. Theories justifying taxation

Chapter 1: Introduction to Tax Policy 1

1.1. Fiscal policy and tax policy 1

Chapter 2: Principles of Taxation 9

2.1. Features of a good tax policy 9

Chapter 3: Legal Systems 45

3.1. Common law 45

Chapter 4: Substantive Tax Law 71

4.3. Tax system design 85

Chapter 5: Procedural Tax Law 99

5.1. The general framework of tax procedures 99

5.2.5. Tax refunds 126

Chapter 6: Sanctions 143

6.1. Introduction 143

6.5.5. Obligations regarding due cooperation 158

1.1. Fiscal policy and tax policy

1.2. The budgetary balance of tax, debt and expenditure

1.3. Policy principles for a state to raise taxation

1.3.2. Theories justifying taxation

1.3.3. Justifying taxation through its use

2.1. Features of a good tax policy

2.1.2.1. Defining equity in tax policy

2.1.3.1. Defining economic efficiency for tax policy

2.1.4.1. Defining the administrability of tax policy

2.1.4.2. Certainty, transparency, accountability and legality

2.1.4.3. Collection cost/tax yield

2.1.4.6. Information security and confidentiality

2.1.5.2. Interaction within and between taxes