Generally by tax evasion economists mean actions of individuals, businesses or any other entities to evade tax payments in illegal ways. Usually these actions involve intentional underestimation or hiding of the tax base and in this way decreasing tax liability. Tax evasion is illegal practice and is subject to severe criminal charges in vast majority of countries excluding offshore banking centers and tax havens, where due to nonexistence of taxes such behavior is not defined by tax legislation.
Unlike tax avoidance that is reducing tax base by legal means though taking advantage of loopholes in the legislation, tax evasion results in the violation of criminal, civil or tax legislation and classified as committing a crime. Tax evader’s actions are illegal and usually results in different forms of legal prosecution.
Tax evasion differs across countries. In developing countries like tax avoidance it mainly concerns firms and not individuals as in western-type economies. The key point about developing countries is that such practices in these countries is virtually risk free, due to underdeveloped taxation system and weak tax administration. Consequently scales of such actions are much higher in this group of countries, than in developed countries, since the incentives are much higher.
There are several psychological reasons, why people engage in tax evasion:
No trust in the government: the public often does not have a clear idea about the role and functions of the government and see no sense in paying taxes, since they believe that “state only take away their money and does nothing for their families and businesses”. Some point to the ineffectiveness of governmental agencies stating that government only wastes money instead of producing public goods and services.
High tax rates: economic agents may be regarding tax rates as very high and their paying decisions may be based on this.
Many developing countries have high tax rates, complex or ever-changing tax legislation that is often an obstacle for economic growth.
Weak tax administration: in this group of countries tax authorities have following weaknesses: insufficient funding, unqualified personnel, inability to conduct large-scale audits and concentration of taxpayer under certain tax official. Taking into consideration this tax evasion may be the only natural response to the weakness of state apparatus.
The temptation to cheat is strong if individual thinks that everyone is doing so. In other words, evasion imposes an externality on others. This results in large scale evasion epidemics and gradually ends up in tax evasion being part of the culture of the country and society. Separating an individual evader becomes difficult and insensible. If evasion is common, it begins to hamper the development of the economy, the simple need to get things done calls for a serious approach to improve tax collection.