Global Tax Shelters, the Ethics of Interpretation, and the Need for a Pragmatic Jurisprudence

• Published date: 01 December 2016
• Date: 01 December 2016
• DOI: http://doi.org/10.1111/ablj.12088

Global Tax Shelters, the Ethics of

Interpretation, and the Need for a

Pragmatic Jurisprudence

Daniel T. Ostas* and Axel Hilling**

INTRODUCTION

This article examines economic, ethical, and jurisprudential issues posed

by global tax shelters. During the 1990s, tax shelters in the United

States often involved esoteric legal instruments and exotic financial

arrangements designed to exploit hyperliteral interpretations of the

Internal Revenue Code (“Code”) in ways never contemplated by Con-

gress.

1

Today, tax shelters have gone global, typically using multiple

layers of corporations, partnerships, and trusts to shift income from

high to low tax jurisdictions.

2

As one scholar observes, “Tax shelters

*James G. Harlow, Jr. Chair of Business Ethics and Professor of Legal Studies, Michael F.

Price College of Business, University of Oklahoma, Norman, Oklahoma, USA.

**Associate Professor of Business Law, School of Economics and Management, Lund Uni-

versity, Lund, Sweden.

The authors thank Professor Laurie Lucas, Dr. Ed Hymson, and two anonymous reviewers

for helpful comments on an earlier draft. Appreciation also goes to the Ragnar S€

oderberg

Foundation for the financial support needed to complete this article. Responsibility for all

errors and omissions remains with the authors.

1

See generally Joseph Bankman, The New Market in Corporate Tax Shelters,83TAX NOTES

1775 (1999) (describing the typical tax shelters of the 1990s); Tanina Rostain, Sheltering

Lawyers: The Organized Tax Bar and the Tax Shelter Industry,23Y

ALE J. ON REG. 77 (2006) (dis-

cussing the role of the legal profession in creating tax shelters).

2

See generally NICHOLAS SHAXSON,TREASURE ISLANDS:UNCOVERING THE DAMAGE OF OFFSHORE

BANKING AND TAX HAVENS (2011) (discussing the rise of offshore tax shelters). See also

Reuven S. Avi-Yonah, Corporate Taxation and Corporate Social Responsibility, 11 N.Y.U. J. L. &

BUS. 1, 4–11 (2014) (using the “Caterpillar profit-shifting case” to illustrate the mechanics

of global shelters).

V

C2016 The Authors

American Business Law Journal V

C2016 Academy of Legal Studies in Business

745

American Business Law Journal

Volume 53, Issue 4, 745–785, Winter 2016

bs_bs_banner

today seem bolder and more complicated. At the same time, they are

lacking in substance to such a degree that the creators of these newer

strategies must surely know they have little to litigate if their clients are

caught.”

3

Not surprisingly, both international bodies and governments

around the world are seeking to limit overly aggressive tax shelters and

to close loopholes.

4

This article seeks to advance policy discussions of

global tax shelters with a particular emphasis on the need for a prag-

matic jurisprudence, or interpretive legal philosophy, with which to

invigorate traditional antitax avoidance (ATA) doctrines in the United

States and to supplement ATA initiatives worldwide.

5

The analysis proceeds in three parts followed by a conclusion. Part I

offers a taxpayer’s perspective. It begins with the economic allure of tax

shelters and then outlines some basic tax-avoidance strategies, including

the construction of potentially abusive step transactions and the use of

international tax havens. Part I also explores whether it is ethical to use

such strategies. The discussion of ethics draws on recent Organisation

for Economic Co-operation and Development (OECD) directives

regarding the social obligation to cooperate with taxing authorities and

considers the role of professionals who advise on such matters.

Part II shifts the focus to ATA policy. It begins with the traditional

ATA doctrines developed by U.S. courts, including “substance-over-

form” and the “business purpose” test. These doctrines invite courts to

close legal loopholes and to disallow overly aggressive tax strategies.

Part II also surveys attempts to combat abusive tax shelters in jurisdic-

tions around the world. The discussion of ATA policy, whether domestic

or international, highlights the role of legal philosophy by comparing

and contrasting a jurisprudence of positive legal formalism, which limits

the use of ATA doctrines, with a more pragmatic legal philosophy, which

encourages their use. An argument is advanced that, given the current

trends in tax avoidance, the more pragmatic jurisprudence is preferred.

3

Richard J. Kovach, Taxes, Loopholes and Morals Revisited: A 1963 Perspective on the Tax

Gap,30W

HITTIER L. REV. 247, 277 (2008).

4

See infra Part II.B (examining antitax avoidance (ATA) efforts in several countries and

recent EU directives addressing the matter).

5

See infra Part II.C.2 (defining and discussing the judicial philosophy of legal pragmatism

and explaining how it might work in the tax arena).

746 Vol. 53 / American Business Law Journal

Part III illustrates the importance of judicial legal philosophy with a

case study. Part III examines a tax controversy currently working its

way through Swedish courts. The controversy involves the application

of a “true business purpose” test to intragroup loans to establish wheth-

er interest payments on such loans are deductible. Embracing the Swed-

ish tradition of positive legal formalism, taxpayer advocates seek to limit

the use of the true business purpose test, while policy-oriented propo-

nents contend that an active use of the test could help reduce interna-

tional profit-shifting.

6

The Swedish example was chosen because

Sweden has recently enacted broadly worded ATA legislation, the Swed-

ish courts have a strong tradition of positive legal formalism, and the

current controversy illustrates that the battle against international tax

avoidance needs the cooperation of all branches of government. More

particularly, the Swedish case underlines the need for any country—civil

law or common law—to use a pragmatically oriented legal philosophy to

advance the policy goals behind broadly worded ATA legislation.

Overly aggressive tax shelters threaten to derail economic policy in

three ways. First, to the extent that tax shelters reduce tax revenues

that the legislature had intended to collect, fiscal deficits worsen. Sec-

ond, to the extent that tax shelters are predominately used by wealthy

people and multinational enterprises, concerns of income polarization

exacerbate.

7

Third, and perhaps most importantly, to the extent that

tax shelters are seen as manipulations of one’s legal obligations, general

6

See generally Maria Hilling, Justifications and Proportionality: An Analysis of the ECJ’s Assess-

ment of National Rules for the Prevention of Tax Avoidance,41I

NTERTAX 294 (2013) (presenting

the general arguments for and against the recent reforms both in a Swedish context and

in relation to EU law). See also infra Part III.D.

7

The recent “Occupy America” movement focused public awareness on distributional

issues. See generally TODD GITLIN,OCCUPY NATION:THE ROOTS,THE SPIRIT,AND THE PROMISE

OF OCCUPY WALL STREET (2012) (discussing the recent social movement); LISA A. KEISTER,

WEALTH IN AMERICA:TRENDS IN WEALTH INEQUALITY (2000) (discussing the root causes of

wealth polarization). In 1976, the top 1% of U.S. income-earners earned 8.9% of total

income; in 2007, it was 23.5% while at same time the average real hourly wage declined

by 7%. See Robert H. Frank, Income Inequality: Too Big to Ignore, N.Y. TIMES (Oct. 16, 2010),

http://www.nytimes.com/2010/10/17/business/17view.html. President Obama highlighted his

concerns with maldistribution in the 2015 State of the Union Address. Barack Obama,

President, Address Before a Joint Session of the Congress on the State of the Union (Jan.

20, 2015), in DAILY COMP.PRES.DOC., Jan. 2015, at 5, https://www.gpo.gov/fdsys/pkg/DCPD-

201500036/pdf/DCPD-201500036.pdf.

2016 / Global Tax Shelters 747