Poor countries are losing billions
Developing countries are losing at least US$ 50 billion annually as a result of tax evasion and damaging tax practices. This is six times the amount needed to pay for the education of all the children in the world. - Article published in: Swiss Coalition News, No. 27, June 2001
Bruno Gurtner, Swiss Coalition of Development Organisations (Alliance Sud)
Oxfam, the renowned British relief agency, estimates that developing countries are losing US$ 50 billion as a result of tax evasion, international competition to provide tax relief, and damaging tax practices . This is roughly the total amount allocated for development cooperation by the world's industrialised countries. It is six times the amount needed to provide all the children of the world with a basic education, and three times the amount that would be needed to provide basic health care in all developing countries. Tax evasion and damaging tax practices not only hinder human development but also the effort to alleviate poverty.
Although it is not easy to calculate the exact extent of revenue losses to developing countries, the estimates made by Oxfam are plausible. Moreover, these estimates do not include practices common among multinationals, such as intracompany manipulations (transfer pricing) and the use of holding companies as offshore tax havens to hide profits.
International tax competition is becoming more intense as a result of economic liberalisation and globalisation. While every country pays a price for this, the effect on developing countries is especially severe. In order to attract direct foreign investment, these countries offer transnational companies increasingly lower taxes on profits (and other privileges), in an attempt to become more attractive than other locations. The result is a downward spiral of ruinous competition. Thus the rates for taxes on profits paid by US multinational companies operating in the South dropped by about half, from an average of 54% to 28%, between 1983 and 1996.
This has disastrous consequences for the national treasury in the countries affected. According to the World Investment Report of UNCTAD, the UN trade organisation, total direct foreign investments in developing countries amounted to US$ 1,219 billion in 1998. If we assume (quite realistic) average profits of 20%, this level of investment would produce an approximately return of US$ 244 billion. If all developing countries levied taxes on profits at the rate that is normal in OECD countries (averaging 35%), tax revenues would amount to around US$ 85 billion. In reality, developing countries collect only US$ 50 billion. Oxfam thus estimates that these countries lose US$ 35 billion as a result of intensified international tax competition.
Flight to tax havens
In recent years and decades, there has been a worldwide shift from taxation of capital to taxation of labour and consumption. Taxes on corporate profits and high incomes have dropped, while taxes on consumption (value added) and withholding taxes (social security contributions) have risen, sometimes dramatically. The rich have been the main beneficiaries, as taxes on consumption place a relatively higher burden on low incomes. These developments have taken place not only in industrialised countries but also in the South.
Taxes usually account for a considerably lower proportion of gross domestic product in developing countries than in industrialised countries. However, the rich avoid taxation according to law on income and assets in their home countries whenever possible by moving capital abroad. Oxfam estimates that capital flight from developing countries amounts to about US$ 700 billion (1990), and calculates that the countries affected lose US$ 15 billion in tax revenues. Oxfam's calculations are made as follows: an average return of 10% is assumed on US$ 700 billion. This results in taxable income of US$ 70 billion. Assuming a (realistic) tax rate of 22%, the tax revenues would amount to approximately US$ 15 billion. Thus, when this amount is added to the losses resulting from competition among tax havens, developing countries lose a total of US$ 50 billion in potential income.
The threat from «fiscal termites»
Various international organisations (UN, OECD, World Bank) have set a goal of cutting absolute poverty in half by the year 2015. But this goal can only be attained if tax evasion and tax dumping are curtailed. If no effective countermeasures are taken, countries in the North as well as the South will become even less able to secure the resources needed to finance public expenditures and make necessary investments in education, health care and infrastructure.
Vito Tanzi, who was director of the Fiscal Affairs Department of the International Monetary Fund (IMF) until January 2001, refers to «fiscal termites» when describing the problems of tax evasion and tax dumping. According to Tanzi, «These termites are part of the evolving "ecosystem" of globalisation, and whether they will eventually damage the fiscal houses remains to be seen»". Tanzi uses the term «fiscal termites» to designate developments such as e-commerce, electronic money (credit cards), intracompany trade – and especially offshore financial centres, derivatives and hedge funds – that continue to make it easier for companies and individuals to evade taxes. Tanzi concludes that it will be necessary to find new ways of raising tax revenues.
Offshore centres – Special services for influential customers
Offshore centres (OFC) offer «advantages» to foreign customers such as banks, insurance companies, businesses and wealthy individuals that are unavailable or illegal in their home countries. People with non-resident status in OFC countries (and only those with this status) benefit from special «freedoms». These include loose regulations and control, minimal disclosure obligations, strict bank secrecy, no obligation to report to tax authorities or, in many cases, to law enforcement authorities in other countries, and little or no taxes.
These «advantages» attract capital. It is estimated that some US$ 6,000 billion is now «parked» in offshore centres – an amount that represents one-third of the gross domestic product of the entire world. Half of this belongs to wealthy individuals. But offshore centres are also highly favoured by multinational companies for «optimising» their taxes. An entire «industry» of «tax optimisation» came into existence as a consequence of the deregulation of financial markets, based on advice to companies and individuals. This intensifies international tax competition and is responsible for considerable loss of revenue to national treasuries (see main article).
OFCs destabilise the international financial system and help precipitate financial crises. They make it possible to conduct high-risk transactions in speculative financial products such as derivatives and hedge funds without adequately covering the risks. When losses occur, they trigger a domino effect that can destabilise the entire international financial system. OFCs hamper monitoring and regulation of the highly volatile global financial system.
Finally, OFCs also attract capital generated by criminal activity. Money earned from corruption, theft and traffic in drugs, weapons and human beings can be easily laundered in OFCs. Often it is impossible to distinguish between legal and illegal business transactions.
The popular image of OFCs is usually that of small, exotic islands in the Caribbean or elsewhere. These venues are the focus of critical discussion. But all such territories and islands are dependent on financial centres in countries that were once their colonial rulers. Offshore practices can also be found in major financial centres such as London, New York and Tokyo, and in medium-size centres such as Luxembourg, Hongkong, Singapore and Switzerland.
Contact: Alliance Sud