There are about 70 tax havens in the world. Although we hear a lot about tax havens, there are no unambiguous and universally accepted definitions of them. Conventionally, tax havens are seen as countries or jurisdictions where there is nominal or no taxation, which exempt themselves from the international exchange of tax information, where strict banking secrecy prevails and which do not require any substantial activity by companies operating in them.
The biggest tax dodgers are multinational companies. They normally do tax planning, for instance to avoid double taxation in two countries. When this planning becomes aggressive, it can be called conscious tax avoidance or straight out tax evasion. Both are means to minimise taxes, and they move in a grey area between legality and illegality.
With the networks of subsidiary companies spreading throughout the world, multinational companies have considerable scope for avoiding taxes and regulation of different countries. Methods used for tax avoidance are the abuse of transfer pricing, trickery of internal loan and interest payments and tax treaty shopping through holding companies in transit countries.
Another side of the story is that countries compete with tax breaks. The justification given for tax competition is that attracting companies using low taxation creates the basis for long-term industrialisation. There is also the belief that placing foreign factories in low tax Special Economic Zones will bring employment and help transfer skills and technology to boost the local economy.
Research shows that tax breaks have hardly any effect in attracting investments to countries where governance is weak and the business environment poor. Instead tax exemptions decrease the national revenue income.
Providing tax haven services is a lucrative line of business for many enterprises. This vast field of business is concentrated in the hands of just a few big corporations. The 'Big Four', Deloitte, Ernst & Young, KPMG and PricewaterhouseCoopers (PwC), wholly dominate the international audit market.
Apart from examining their clients’ [companies] accounts, they also advise them on tax planning and various other activities. Accountancy companies also play a big role in setting ground rules. They advise and lobby decision makers, fund political campaigns and are key power brokers in areas such as the setting of international accounting rules by the International Accounting Standards Board (IASB).
Capital flight is a special problem for low income countries. Their tax revenues and asset ratios are low, and many countries are unable to finance vital basic services or infrastructure. While lack of tax revenue sustains development dependency, many donors have cut their aid budgets due to economic recession.
Currently, half of sub-Saharan countries in Africa collect less than 17 per cent of their GDP in the form of tax revenue. If all developing countries were able to collect even 15 per cent of their GDP in tax revenue, they would increase their annual income by at least €136 billion.
Tax systems are regressive in many countries, meaning that the tax burden does not increase in relation to ability to pay. Such systems maintain inequality, as the tax burden is proportionally heavier on low-income sections of the population.
Importantly, paying tax creates a relationship of accountability, or a social contract, between citizens and government. Therefore tax is important for democracy.
On the global level, there is little democracy in tax policy making. The OECD, in which only rich countries have official representation, determines largely the direction of international tax policy. A model tax agreement for use between countries, rules on transfer pricing and a blacklist of tax havens have been drawn up within the OECD. Rich countries consider the OECD to be the most important actor in international tax policy.
The UN is also active on tax issues. An expert committee under the UN Economic and Social Council (ECOSOC), inspects tax agreements, tax evasion and avoidance, further international cooperation on taxation and provides support to the tax authorities of developing countries.
The committee has no resources to speak of, however, and many rich countries oppose strengthening its work and upgrading it to an intergovernmental body.
What do we suggest should be done to all this? Governments need to demand corporations to disclose annual country-by-country financial reports and promote similar regulation internationally, establish public beneficial ownership registries and promote similar regulation internationally, support the establishment of a multilateral, automatic tax information exhange agreement, support the establisment of an intergovernmental UN Tax Body in order to ensure that all countries are represented in international tax policy making, curb tax competition by ending harmful tax incentives, renew harmful double taxation agreements (DTAs) and strengthen tax administrations nationally and regionally.
All we need is political will. Let's demand for it.
Kepa Policy Brief: Tax avoidance and how to get rid of it