Tax Havens: Releasing the Hidden Billions for Poverty Eradication
Tax havens and offshore financial centres (OFCs) have seldom figured as prominently in media coverage of economic affairs as they do today. Interest has focussed on the concerns of northern governments and the interests of powerful transnational corporations (TNCs). The main actors in the debate are revenue authorities, corporate lawyers, tax accountants and financial journalists. By contrast, the world's poorest countries are conspicuous by their absence. This is unfortunate because offshore tax havens represent an increasingly important obstacle to poverty reduction. They are depriving governments in developing countries of the revenues they need to sustain investment in basic services and the economic infrastructure upon which broad-based economic growth depends. This paper argues that off-shore centres are part of the global poverty problem - and that the interests of the poor must be brought onto the reform agenda.
It is impossible to calculate the financial losses to developing countries associated with offshore activity. Secrecy, electronic commerce and the growing mobility of capital have left all governments facing problems in revenue collection. The borderline between tax evasion and tax avoidance is becoming increasingly blurred. But at a conservative estimate, tax havens have contributed to revenue losses for developing countries of at least US$50 billion a year. To put this figure in context, it is roughly equivalent to annual aid flows to developing countries. We stress that the estimate is a conservative one. It is derived from the effects of tax competition and the non-payment of tax on flight capital. It does not take into account outright tax evasion, corporate practices such as transfer pricing, or the use of havens to under-report profit.
Revenue losses associated with tax havens and offshore centres cannot be considered in isolation. They interact with problems of unsustainable debt, deteriorating terms of trade, and declining aid. But there is no doubt the implied human development costs of tax havens are large. The US$50 billion loss is equivalent to six times the estimated annual costs of achieving universal primary education, and almost three times the cost of universal primary health coverage. Of course, ending the diversion of resources from governments into corporate profit margins and offshore bank accounts provides no guarantee that the funds released will be used for poverty reduction purposes. This will depend on governments developing effective poverty reduction strategies. But allowing current practices to continue will undermine the successful implementation of such strategies.
The extent of offshore financial activity is not widely appreciated. The globalisation of capital markets has massively increased the scope for offshore activity. It is estimated that the equivalent of one-third of total global GDP is now held in financial havens. Much of this money is undisclosed and untaxed - and the rest is under-taxed. Governments everywhere have become increasingly concerned at the implications. In Britain, the government's efforts to prevent the use of tax havens to under-report profit (and hence tax liability), has brought it into conflict with powerful transnational companies. At least one major corporation has responded by threatening to relocate their investments from Britain. Such problems have lead to a proliferation of initiatives designed to tackle various aspects of the problem. The OECD is leading an initiative to crackdown on harmful tax competition, UN agencies are trying to curb money laundering, and the Financial Stability Forum (FSF) is examining the impact of the offshore system on global financial stability.
These initiatives are useful up to a point, but they primarily reflect the concerns of northern governments. Ironically, these governments are in a far stronger position than their counterparts in developing countries. If revenue authorities in Britain and Germany feel threatened by offshore activity, how much more severe are the problems facing countries with weak systems of tax administration? And if governments in rich countries see tax havens as a threat to their capacity to finance basic services, how much more serious are the threats facing poor countries? After all, these are countries in which 1.2 billion people have no access to a health facility, in which 125 million primary school age children are not in school, and in which one out of every five people live below the poverty line.
Lack of attention to poverty is only one part of the problem with current initiatives. Another is their lack of balance. Some developing country havens justifiably see the actions of northern governments as being unbalanced and partial. Financial havens are part of a much wider problem that extends beyond the 'offshore' activity of small island states to ‘onshore’ activity in major economies such as the City of London and New York. Yet OECD efforts to address harmful tax competition have involved a crackdown on small state financial havens, while a far more light-handed approach has been applied to member countries engaging in harmful tax practices.
Tax havens may seem far removed from the problem of poverty, but they are intimately connected. There are three major ways in which offshore centres undermine the interests of poor countries.
- Tax competition and tax escape. Tax havens and harmful tax practices provide big business and wealthy individuals with opportunities to escape their tax obligations. This limits the capacity of countries to raise revenue through taxation, both on their own residents and on foreign-owned capital. This can seriously undermine the ability of governments in poor countries to make the vital investments in social services and economic infrastructure upon which human welfare and sustainable economic development depends. It also gives those TNCs that are prepared to make use of international tax avoidance opportunities an unfair competitive advantage over domestic competitors and small and medium size enterprises. Tax competition, and the implied threat of relocation, has forced developing countries to progressively lower corporate tax rates on foreign investors. Ten years ago, these rates were typically in the range of 30-35 per cent - broadly equivalent to the prevailing rate in most OECD countries. Today, few developing countries apply corporate tax rates in excess of 20 per cent. Efficiency considerations account for only a small part of this shift (as witnessed by the widening gap between OECD and developing country rates), suggesting that tax competition has been a central consideration. If developing countries were applying OECD corporate tax rates their revenues would be at least US$50 billion higher. If used effectively, funds siphoned through tax loopholes into offshore financial centres could be used to finance vital investments in health and education. None of this is to argue for a return to high tax regimes that deter investment activity. Foreign direct investment has the potential to generate real benefits for development. But without reasonable levels of tax collection, governments cannot maintain the social and economic infrastructure needed to sustain equitable growth.
- Money laundering. The offshore world provides a safe haven for the proceeds of political corruption, illicit arms dealing, illegal diamond trafficking, and the global drugs trade. While some havens, such as the Channel Islands and the Cayman Islands, have introduced anti-money laundering legislation, the problem remains widespread. Havens facilitate the plunder of public funds by corrupt elites in poor countries, which can represent a major barrier to economic and social development. It has been estimated that around US$55 billion was looted from Nigerian public funds during the Abacha dictatorship. To put the figure in perspective, the country is today blighted by an external debt burden of US$31 billion. Northern governments justifiably press southern governments to adopt more accountable and transparent budget systems, but then create incentives for corruption by failing to deal effectively with tax havens and other tax loopholes.
- Financial instability. The offshore system has contributed to the rising incidence of financial crises that have destroyed livelihoods in poor countries. Tax havens and OFCs are now thought to be central to the operation of global financial markets. Currency instability and rapid surges and reversals of capital flows around the world became defining features of the global financial system during the 1990s. The financial crisis that ravaged east Asia in the late 1990s was at least partly a result of these volatile global markets. Following the Asian crisis, the Indonesian economy underwent a severe contraction and the number of people living in poverty doubled to 40 million. In Thailand, the health budget was cut by almost one-third. Nearly three years on from the outbreak of the crisis, the economies of Thailand and Indonesia continue to struggle under the huge public debt burden that it created.
The aim of this paper is to draw attention to the implications of tax havens for poor countries and poor people. For meaningful change to happen, the international community needs to adopt a more comprehensive and inclusive approach to the issue of financial havens and harmful tax competition. The paper does not seek to make detailed policy proposals, but rather puts forward a set of guiding principles and six key policy options that should receive serious consideration by the international community.
Oxfam believes that an international framework for dealing with the effects of financial havens and harmful tax competition should include: a poverty perspective; a genuinely inclusive approach fully involving developing countries in discussions; a multilateral approach to what are global problems; and strategies to help small, poor and vulnerable economies to diversify from a reliance on harmful tax practices and to comply with standards to prevent money laundering. The following policy options could be considered by the international community to help poor countries stem tax evasion and reduce the negative impact of tax havens:
- A multilateral approach on common standards to define the tax base to minimise avoidance opportunities for both TNCs and international investors.
- A multilateral agreement to allow states to tax multinationals on a global unitary basis, with appropriate mechanisms to allocate tax revenues internationally.
- A global tax authority could be set up with the prime objective of ensuring that national tax systems do not have negative global implications.
- Support for the proposal for an International Convention to facilitate the recovery and repatriation of funds illegally appropriated from national treasuries of poor countries.
- Standards on payment of taxation in host countries should join environmental and labour standards as part of the corporate responsibility agenda. Standards requiring TNCs to refrain from harmful tax avoidance and evasion should be factored into official and voluntary codes of conduct for TNCs and for the tax planning industry.
- A multilateral agreement to share information on tax administration to help countries, especially poorer ones, to stem tax evasion. ...Link