Sometimes people wonder why the legis­lation surrounding various taxes is so complex, given the relatively straight-forward nature of those taxes. The Tax Foundation provides a telling example in a recent post about the defin­ition of a cigarette:

Cigarettes are taxed in New Mexico, as every­where else, and at a pretty hefty rate. As the tax goes higher and higher, there’s more of an incentive to get out of it, and one way is to alter cigarettes so they no longer fall under the state’s tax code defin­ition. When the state catches on, it adds more to the defin­ition to encompass the new products, and the cycle then repeats itself.

So now, New Mexico’s defin­ition of cigarette is either a roll of tobacco wrapped in paper, or a roll of tobacco wrapped in a substance containing tobacco, weighing no more than 3 pounds per 1,000 stocks, and having three or more of the following characteristics:

1. it has a typical cigarette size and shape;
2. it has a cellulose acetate or other cigarette-type integrated filter;
3. it has a filler primarily consisting of flue-cured, burley, oriental, or unfer­mented tobaccos or has a filler material yielding the smoking charac­ter­istics of any of those tobaccos;
4. it has a filler, binder and wrapper that together contain three percent or more by weight of total reducing sugars and four percent or less by weight of non-reducing sugars;
5. it is sold in soft packs, hard packs, flip-top boxes, clam shells, or other cigarette-type packages;
6. it is sold in a package that labels the product as a cigarette or a cigarette substitute, or in a package that does not clearly and conspic­u­ously declare that the product is a cigar;
7. it is available for sale in packages of five, ten, twenty or twenty-five sticks;
8. it is available for sale in cartons of ten packages;
9. it is marketed or adver­tised to consumers as a cigarette or cigarette substitute.

There are entire sections of the Canadian Income Tax Act devoted to defin­i­tions like this. Usually there is a Defin­i­tions subsection where certain terms specif­i­cally related to a given section are defined.

Is it ethical for corpo­ra­tions or individuals to try to produce what is essen­tially a cigarette that is outside the letter of the law but clearly violates the spirit? Clearly no. Unfor­tu­nately I think principles-based tax law is a non-starter, but I’m a big believer in principles-based GAAP as the tool we profes­sionals need to use to accurately reflect economic reality.

(By the way, the ‘P’ in GAAP stands for principles. How can we have principles which are not principles-based, you might wonder. Well, that’s a question for the FASB, Canada’s AcSB, and the IASB!)