Tax and morality – fellow travellers in an uncertain world?

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The following are the speaking notes for a lecture I am giving this morning at the Treasury


The title of this lecture has, I note been advertised as “Tax and morality — fellow travellers in an uncertain world?” But let me make clear, I’m not here to give a lecture on morality, per se. I think it fair to say I know something about tax, accounting and economics, having been trained in each of them. But I am only an amateur philosopher. And I have no real intention of moving out of my comfort zone, especially when there are some here who, no doubt, know rather more of philosophy than I do. Despite which my core argument today is not just that tax and morality are essential bed-fellows: I argue that if that is the case then what we really need is an ethical taxation policy for the UK, and right now I see no evidence real that we have anything like that.

So let’s get some terminology on the table straight away. Tax is “a payment from a person to a government made to settle a liability whose quantum is fixed by statute without consideration of the benefit received in exchange”. That covers a multitude of sins.

Morals, meanwhile, are those principles that inform how we behave in carrying out our activities. They are the principles we use to assess right and wrong behaviour. But I stress, I am not saying they indicate right or wrong: those are characteristics as I understand it of logic. Morality guides the subjective response of the individual in determining what they wish to do.

So what then is ethics? I suggest that is the standard used to determine whether something is worthwhile doing.

Morality is not enough: ethics allow us to decide whether the decision we are asked to undertake is of benefit, or not, and not just to us, but to others as well.

I am sure others can and will wish to challenge such definitions: some could make doing so a lifetime’s work. Let me be more pragmatic than that: the reality as I see it is this: morality is about the personal response made to a particular situation and ethics relate to the goals that inform that response. Translate that to the economic environment and one is micro, the other macro, give or take.

Both are, of course, important, is important that I’m going suggest that all but a tiny minority in society do have a moral code and do, by default, subscribe to an ethic, whether or not they appreciate it.

So what, you might ask? Why make this point? I do so for one very good reason, which is core to my argument this morning. The current economic crisis has made it very clear to many people, in some cases for the first time ever, that we do not live in a certain world. Certainty does not require the subjective choices informed by ethics and morality: in a certain world all is known.

It seems almost absurd to me to have to say this. Candidly, I thought that a statement that the world is uncertain was a statement of what might politely be called ‘the bleeding obvious’ until, that is, I went to university to study economics. Now this was back in the days before the Chicago Boys took complete control of this subject and a certain J M Keynes was still on the syllabus, but let’s also be candid: the Keynesianism that was taught was that of Samuelson and not that of the great man himself. And this meant that as an undergraduate I was fed a diet of assumptions that were simply a foretaste of all that has now become, for the vast majority of economists, the only mantra they know. So, with reluctance, it is on a short diversion into economics that we must go.

That mantra of economists is one of certainty. Economic modelling is based, as I see it, on just two fundamental premises, and I’m aware I’m simplifying, but not, I think by much. These premises are:

¬? That future events are known;

¬? That people act rationally — and are, therefore, predictable.

The consequence is that behaviour can be modelled rationally and mathematically.

Now, the assumptions may have had a use to those who wanted to develop approximate models of economic behaviour with some predictive ability. They ceased to be useful when the assumptions ceased to be assumptions — which have inherent within them the awareness that they are, at best, approximations to reality — and became the axiomatic basis for policy and, in turn, prevailing economic thought.

I stress, I think this has happened. Let me give, as example, this from the Turner Review (p39):

At the core of these assumptions has been the theory of efficient and rational markets. Five propositions with implications for regulatory approach have followed:

(i) Market prices are good indicators of rationally evaluated economic value.

(ii) The development of securitised credit, since based on the creation of new and more liquid markets, has improved both allocative efficiency and financial stability.

(iii) T

    he risk characteristics of financial markets can be inferred from mathematical analysis, delivering robust quantitative measures of trading risk.

(iv) Market discipline can be used as an effective tool in constraining harmful risk taking.

(v) Financial innovation can be assumed to be beneficial since market competition would winnow out any innovations which did not deliver value added.

Emphasis added by me. And in saying this the FSA only reflected prevailing norms in thinking, of which Turner said:


he analysis of the causes of the financial crisis implies the need for major changes in our approach to capital, liquidity, accounting, and institutional coverage, which are addressed in Chapter 2.

    But the crisis also raises important questions about the intellectual assumptions on which previous regulatory approaches have largely been built.

Again, emphasis added by me. What Turner failed to mention was taxation - but he should have done. And so, now returning to my main theme, the influence of rational expectations on taxation has to be explored.

Time and again we hear the demand that H M Revenue & Customs deliver certainty for business, that tax must be predictable. Take this, the second tenet of the Institute of Chartered Accountants in England and Wales’s Ten Tenets for a Better Tax System:

Certain: in virtually all circumstances the application of the tax rules should be certain.

Why do they ask for that? Because, they’ve been told, this is the condition for the existence of efficient markets. Without certainty you can’t do the maths — so certainty is what we need, they think.

But, with the greatest of respect to those who ask for this ‘certainty’ these arguments are hardly worthy of the name. The claims they make suggest that the only purpose for tax is raising revenue and that when raising revenue the interest of the taxpayer must come above that of all others with interest in the issue. That is not true.

At which point I have definitely made an ethical claim — which is that there is more than one purpose for raising tax and that there are more interests involved than those of large shareholders. I profoundly disagree with both suggestions.

In my opinion there are five reasons for taxing[1]. They are to:

1) Raise revenue;

2) Reprice goods and services in pursuit of social objectives (tobacco, alcohol, carbon emissions etc.);

3) Redistribute income and wealth;

4) Raise representation within the democratic process because tax is the consideration in the social contract between those governed and the government; and to facilitate

5) Reorganisation of the economy through fiscal policy.

As a matter of fact it will, I think be hard for anyone present to disagree: I would suggest that the first three of these are current, obvious and explicit features of the UK tax system. It does raise revenue. It does as a matter of fact reprice a great many activities within the economy to suit social and economic policies promoted by governments over many years, and as a matter of fact post tax Gini coefficients in the UK are lower than pre-tax coefficients. Tax does redistribute income in this country, and maybe wealth as well — although not as obviously.

So I would make the point straight away that we have an ethical tax system in the UK. It does define goals for the assessment of outcomes: this is what ethics does. I do not have to ask for the creation of such a system - it is already in existence. But, as I will note before I finish, we have failed to communicate this fact.

And we have, if I might be so bold as to say so, rather forgotten just how important tax is in our history and in the struggle in this country for a democratic system of government. Magna Carta, the English Civil War, the demand for a universal franchise and more — all reflect the demand in this country that parliament must have control of taxation — and that the people of this country have a right to be represented by democratically elected representatives in that parliament. I will note below my response to those who argue that ethical tax ignores this fundamental part of our unwritten constitution: far from it, I think ethical taxation enhances this quality.

As for fiscal management: this aspect of taxation may have been forgotten after the demise of the Keynesian era, but then Lehman fell over and we had a fiscal stimulus based on a cut in VAT — a stimulus that according to the Institute for Fiscal Studies has had a real impact even if it was not the mechanism I would have chosen.

But this has given me opportunity to mention again the almost forgotten name of Keynes — he who once stalked the corridors of this building and who was, like much else, long forgotten until this crisis developed.

What’s the relevance of Keynes to tax? Simply this: that he built his economics on the basis of the idea of uncertainty, and not of risk. This resulted in a profoundly different view of economics from that which has prevailed for the last thirty odd years.

In his 1921 Treatise on Probability he suggested there were three types of probability. The first was measurable. This is the type where you can say ‘there’s a 20% chance of X happening’. This is a quantitative judgement. The second is ordinal probability: this suggests X is more likely than Y — but we can’t calculate the exact likelihood — there just isn’t enough data to do so. Indeed, it is instinct and experience that is used to asses likelihoods making this a qualitative judgement. And the third form of probability was, he thought, the unknown variety — the world of uncertainty where no one knows what is going to happen.

Why does Keynes differ from neo-liberal economists? Because, if my reading is correct, he recognised that uncertainty which renders any form of mathematical prediction impossible not only exists, but that managing it is a fundamental part of the economic equation and the real challenge of our human existence. Neo-liberal economists simply deny this. Recall that quote from the FSA I noted just a few minutes ago — they assumed risk characteristics of financial markets can be inferred from mathematical analysis. That assumption is wrong. They ignored the existence of uncertainty. And that, to be candid, made a mockery of their modelling, as we now all know.

And in that case the call for certainty in tax is also wrong. More than that — it is, I suggest unethical. Despite the real world being fundamentally uncertain it would seem that the tax profession and their large business customers would like tax to be certain. That means, if I am interpret their demands correctly, that they most certainly do not want tax to be used for the proposes of fiscal management. And nor, as far as I can see, do they think that tax law should change very often. We’ve heard calls for one Finance Act a parliament, for example. The consequence is obvious — change in tax in response to change in the world should not be allowed if this logic is to be followed.

And at the same time they ask for prior agreements on issues like transfer pricing, transactions and other matters of significance — and yet would wish to deny HMRC the right to respond to what they learn.

I find this extraordinary, I will admit. More than that, I actually find it incomprehensible. If HMRC were to agree to such a request its power to manage tax would disappear. The government’s power to manage its budget would be foregone - it would then become a victim of circumstance. The prospect of delivering any electoral mandate, or the social services upon which our society depends would disappear.

Now that of course, may be the agenda. It would accord with much of the neo-liberal view, as I see it if that were true. But what is undoubtedly true is that if tax was to be certain as defined by the tax profession then tax could not have those ethical objectives I have already outlined — and would instead be subject to the whim of economic fortune, the fortune of abuse to which the tax authority could not respond and the fortune of interpretation of statute before the courts — and as we all know — that is fortune in far too many cases.

And yet certainty is, without exception what I think the major tax lobbies in the UK are calling for. The mood music of each varies a little — but the theme is consistent. And it’s a fundamentally flawed logic. If you want certainty you can’t have an effective tax system: that is my hypothesis.

What though does this mean? What if we do accept that there is uncertainty and that tax cannot be managed in the way that the corporate world and it agents demand? What if we build a model of tax based on the fact that we really do not have the faintest idea what is going to happen in the future — as recent events have proven all too starkly? This I think is the challenge we have to face if we are to build a proper tax system for the UK.

I go back to Keynes. He suggested that we are not lost in the face of uncertainty. Despite the apparent crushing unknowns that we all face every day we do manage to live our lives — most of most of the time without undue anxiety or stress, and with outcomes that quite surprisingly are also acceptable to most of us most of the time. The reality of successful human living is that we can manage extraordinary levels of uncertainty quite successfully. Indeed — the one thing we are probably very badly equipped to handle is certainty.

How do we achieve this? My suggestion, and it accords again with my understanding of Keynes, is that we do so using conventions, beliefs, habits, rules of thumb, precedents — call them what you will: they are what comprise the narrative of life. And we use our judgement to determine which of the narratives available to us best suits the circumstance with which we are faced. Of course sometimes we find the situation we are faced with fits no narrative we know but that is the exception, not the rule. And yet as that observation itself proves — there are no rules in the face of uncertainty.

And that is why tax cannot exist without ethics. Ethics are the narrative that informs how we manage tax. That tax is about revenue raising, and much more: about redistribution, repricing, reorganising and representation through the democratic process as well. Those seem to me to be the current narratives within which we weave our response to tax law. And that response is, contrary to all the assumptions made by the tax profession, a moral one.

And if this hypothesis is true — and I think it is — then the challenge for those in this building, those engaged in creating political narratives that inform tax and those who seek to frame the response to that tax, is to work out how future tax management can best respond to this framework of uncertainty — whilst preserving some characteristics of the tax system that I would really rather not throw out of the window.

Of course Adam Smith was right, at least in part, to say in 1776 that a good tax system should be equitable, certain, convenient, and efficient. But let’s not give him too much credit. It would be quite absurd to promote tax systems that are Inequitable, uncertain, inconvenient and inefficient so there’s nothing that radical in what he said. The qualities he noted are obviously desirable, even axiomatic. But equally these are technical design qualities of a good tax. They are not, I suggest, ethical qualities of a good tax: I think Adam Smith — one of the great moral philosophers would agree with me. A careful reading of his work with regard to tax showed that he did, undoubtedly, bring moral philosophy — ethics in the terminology used here — into this thinking on the subject.

And to go back to a point I made some time ago: we have forgotten we have an ethical tax system. In the face of the onslaught from the tax profession, from neo-liberal economics, from multinational corporations, there has been a marked reluctance by anyone, be they a politician, civil servant, civil society leader or anyone else to make clear that tax is a good thing.

So I’ll break the mould right now. I think tax is a good thing. I like what it pays for. I do want it spent wisely — but again, I think that axiomatic, not a desirable quality, and I think that with odd exceptions the world would be worse off without much of what tax pays for. But I also like the fact that tax does redistribute wealth: I think that the word is better for that redistribution. And I like repricing of things I consider harmful, I wholeheartedly approve of tax as an instrument of fiscal policy — especially when interest policy ceases to have much impact. And I am a democrat. So tax is something that I think unambiguously good.

What I want is someone else to say this: to say, along with me that tax is a good thing. And then I want to design a tax system that takes this fact into account.

That tax system will look a lot like the one we have got, you’ll be pleased to hear. But that said a tax system that recognises that there is uncertainty, and recognises that this can only be managed if we have principles that guide those in charge of the tax system — which those who are asked to pay the tax know and understand so that their own moral response is an informed one — will require some real changes to the way we do manage tax.

So let me be bold and offer a few suggestions as to what we need to change. First of all I want to change forever the way in which tax law is interpreted by our courts. As far as I can tell this was established as long ago as 1869 in the case of Partington v. Attorney-General (1869), L.R. 4 E. & I. App. 100, per Lord Cairns at p. 122 where his Lordship said:

If the person sought to be taxed comes within the letter of the law he must be taxed, however great the hardship may appear to the judicial mind to be. On the other hand, if the Crown, seeking to recover the tax, cannot bring the subject within the letter of the law, the subject is free, however apparently within the spirit of the law the case might otherwise appear to be. In other words, if there be admissible, in any statute what is called an equitable construction, certainly such a construction is not admissible in a taxing statute.

That is the basis of what is called ‘legal’ interpretation of the law. It is one that rejected the spirit of the law 140 years ago and had to explicitly state that it was doing so because this concept is, of course, pretty alien in English law. We have a common law system. We interpret most law purposively so it’s worth thinking for a moment about what Lord Cairns seems to be saying because it seems to have had such influence on taxation thinking.

I suggest that firstly he said that the right to hold property is sacrosanct and that taxation violates that property right. As such tax may only be charged when specifically sanctioned irrespective of the equity of the resulting payment, or absence of it.

Second, he implies that the letter of the law can be determined without reference to the intent of those who created it or the context which gave rise to it, even if the circumstance in which it is used was not envisioned by those who created it.

Thirdly he seems to say that it is equitable as a result that some will, or will not, fall out of the charge to tax on the basis of the strict interpretation of the meaning of words which could not have been envisaged by those who passed them into law and whether or not the resulting charge to tax is equitable or just.

Candidly, I think it amazing that we tax on that basis. After all, our common law seeks to do away with such abuse, interpreting law on an equitable basis. And so could we. Australia took a step in this direction in 1901. It passed a law in that year — the beautifully titled Acts Interpretation Act that said

In the interpretation of a provision of an Act, a construction that would promote the purpose or object underlying the Act (whether that purpose or object is expressly stated in the Act or not) shall be preferred to a construction that would not promote that purpose or object.

Heady stuff: and dating from 1901. In this context interpretation ‘looks though’ the strict structure of the words in the law to determine their just and equitable meaning, and uses that meaning in deciding upon the application of the law.

Now let’s for a moment consider what it might mean if it were to be used as the basis for UK tax law.

First, I suggest it would require a government to set out the ethical framework within it wished tax to be interpreted, to specify the priority they attach to the competing aims within which they propose to tax and to give clear guidance on interpretation to the courts on such issues. In other words an over-riding purpose would be said to exist within tax law within which statute would be required to be interpreted.

Second, it seems to me that the Ramsay principle would be, or certainly could be, revived, and at the same time the European concept of the ‘abuse of law’ might explicitly appear in the UK. I, for one, would warmly welcome that. It would be very clear that a taxpayer would be taxed on the effect of their transactions, not upon the way they had chosen to organise them for tax purposes.

Third, would make a general anti-avoidance principle meaningful — and I stress principle please — not rule. I’m hoping we can leave the rules behind.

But in so saying I also explicitly reject Judith Freedman’s arguments when proposing such a principle. She has argued that:

Support of the GANTIP does not imply agreement with the argument that the obligation to pay tax should be based on the `spirit of the law' (which suggests something coming from outside the law as properly interpreted by the courts) or `morality'.

I admit I find that a baffling interpretation, albeit one I suppose entirely consistent with Lord Cairns in 1869, who was equally, in my opinion, misguided.

How is it possible to be sure what the words of a statute mean without context? What sense does any statute make without facts being considered? Why is it that it is possible in much of our law to interpret statute as the Australians require — in a common law system - and yet in tax it is not? Is the claim we do not interpret statute in this way just a conceit anyway? How otherwise could we have got Ramsay and then so carelessly have lost him again, without statute ever having dictated the change?

The reality is we do have opinion from outside the Court inform judgment within the Court. It is very obvious we now have what I might term neo-liberal judges — people who choose to see the trees but not the wood — who choose to follow the structure but not the form — to be rational but miss the point. I defy anyone to describe Lord Brightman in that way. The reality is all judges bring their world view with them. And that is of course a problem. Those who argue as Lord Cairns and Judith freedman do allow judges their say. I think that wrong: I want parliament to be king in this relationship. It can only be so when an ethical approach to interpretation — with that ethic being defined by parliament — holds sway, which is precisely why those who argue that what I propose would result in taxation outside the law are wrong. I want taxation by law — law created by parliament and interpreted in accordance with its wishes.

The problem we need to overcome to achieve this is, I suggest inherent in believing Judith Freedman’s claim that the spirit of the law is somehow separate from the law and therefore unacceptable in tax law. I suggest that notion is just wrong. Judith almost gives that game away herself. In the same article as that in which she wrote the words I have already quoted she said:

The GANTIP would be broader than a detailed rule and would modify the specific rule in that it would provide the authority to apply the rule in a certain way in certain circumstances. It would be more than purposive interpretation because it would look beyond the language of the statute at the surrounding facts.

If that isn’t seeking the spirit of the law I do not know what is.

And that process is necessary because the law is, and always will be inherently uncertain. Words cannot be ascribed specific meaning. Even if they have them at a moment in time they change over time. And circumstances change too. Law written for one era is necessarily applied in another — and no one but a fool would ignore the impact of the passage of time when offering interpretation because judges are — despite all rumours I have heard to the contrary — human too. So if law is inherently uncertain we must have mechanisms to deal with that or we abandon the right to tax equitably — which is, of course, purposively.

So that brings me to the fourth implication of this change. Codes of Conduct now become meaningful. More than that, they become necessary.

First, and most importantly of all though, they should apply to government.

Second, they must apply to tax payers, and third to agents. This is not an either / or. If we are to accept there is an ethic that underlies tax and that in the face of uncertainty we need an ethic to inform the interpretation of tax legislation, whether it be new legislation or that already in existence, then we also need a Code of Conduct which lays down the clear parameters of what is acceptable and unacceptable conduct when interpreting that ethic.

I happen to have written such a Code. At my prior request I think you all have a copy. I stress, this is the short form. The notes that support it are somewhat longer than the two pages to which I reduced the Code itself. Nor do I now propose to go through all elements of that Code — please either read the notes that support it which are available free on the web or ask me questions afterwards. All I want to do now is highlight a few issues that I think important.

Most important, I think are the duties on government. I didn’t come here to give anyone an easy ride. Government will have the biggest problem complying with this Code — and yet its compliance is essential.

At this moment people don’t want Codes that look like service level agreements. They want clear messaging about why they’re being taxed, that tax is being applied fairly to all taxpayers and that the proceeds of tax are being used appropriately. That’s why we need a GAntiP to beat tax avoidance. That’s why we need ethical statements of purpose for tax so that people can align their goals with those of the government — or vote them out of office — and that’s why I put so much emphasis in the Code on government accountability for tax because I’ll tell you now I think that is dire. If you really think that reporting much of what government does as percentage changes is meaningful when no clue is ever given on quantitative values in far too many cases then you’re wrong. Please do her this one - if you want to collect tax ethically the most extraordinary communication effort is required to ensure this defect in accountability is remedied.

But of course others are affected too. I want clear, unambiguous accounting for tax and transactions — including, of course, country-by-country reporting. I had at some point to mention one of my favourite topics.

And I want practitioners to be required to be significantly more accountable for what they do — with penalties attached to non-compliance. Yes — penalties. This might be about morality — but as our banks have shown they first of all have remarkably little grasp of the public’s perception of that issue and what might be judged right and wrong and secondly have even less willingness to learn. I have no greater confidence about the rest of the financial services sector. As such Codes have to be enforced.

I’ve spoken for almost long enough. And when I talk of enforcement have I really made the case for a moral tax system? I hope I have. Let me conclude, briefly.

We have endured and continue to a face a crisis that has challenged all our economic perceptions. One such perception has been that we exist in a state of certainty where all we are required to do is manage quantifiable risk. We don’t. We live in a state of uncertainty. The economists who assumed certainty were wrong. And so are all those who have followed in their footsteps. Life is uncertain. So is tax.

We manage that uncertainty using narratives to which we relate. Tax compliance —seeking to pay the right amount of tax (but no more) in the right place at the right time where right means that the economic substance of the transactions undertaken coincides with the place and form in which they are reported for taxation purposes is dependent upon the taxpayers belief in that narrative. Call that narrative an ethic but publish it please.

Then change the basis of legal interpretation of tax law to allow for the existence of uncertainty. And of course, create a general anti-avoidance principle.

And set out what response is required to that ethic in a Code of Conduct which binds all parties to the tax equation.

And take power to ensure those who do not share the prevailing view are penalised.

This, I suggest is the way to manage tax in the new age of uncertainty — the one we’re living in, now.

Thank you — and for those who want to check what I’ve said — these comments were published on my blog five minutes ago.


[1] The first four of these are the work of Alex Cobham, I added the fifth

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