The drivers of tax avoidance in Malaysia

Tax avoidance refers to the legal practice of using various strategies and mechanisms to minimise the amount of taxes owed to the government. This is achieved by exploiting loopholes, deductions, exemptions, and other provisions in tax laws to reduce taxable income. Unlike tax evasion, which involves illegal activities such as under-reporting income or inflating deductions, tax avoidance operates within the boundaries of the law. Tax avoidance has been a persistent issue in Malaysia because it involves legal strategies that let taxpayers reduce their tax payments (Hamzah et al., 2021). Each year, tax avoidance cases in Malaysia have increased, leading to lower national revenue (Mohamad Ariff et al., 2024). To combat this, Lembaga Hasil Dalam Negeri (LHDN) has set higher tax collection targets and increased audits of individuals and companies (LHDN, 2017). The government has also introduced fines and penalties to reduce tax avoidance and encourage compliance, as these measures effectively control tax avoidance and evasion (Hassan et al., 2021). Incorrect tax filings, like under-reporting or over-reporting income, can result in fines and penalties. However, the Income Tax Act 1967 does not impose fines or penalties for tax avoidance, as it is considered legal tax planning. Tax avoidance is a significant issue in Malaysia, as highlighted in an article from the New Straits Times titled "IRB: 80,000 individuals did not pay tax" (dated 13 Nov 2018). The article reveals that many taxpayers do not comply with tax laws and engage in tax avoidance and evasion. Understanding the factors that drive such behaviour is essential for developing effective tax policies and enforcement strategies. In addition, the tax evasion provision still allows for planning through tax avoidance schemes, as demonstrated in the 1999 case of the Inland Revenue Board (IRB) director general versus Rakyat Berjaya Sdn Bhd. The federal court judge clearly expressed this.