This morning I have published a short new book entitled The Finance Curse: how oversized financial centres attack democracy and corrupt economies. Co-authored with John Christensen, the former economic adviser to the UK tax haven of Jersey and director of the Tax Justice Network (TJN), The Finance Curse combines elements of my two previous books, Treasure Islands and Poisoned Wells, and brings a raft of fresh analysis to our understanding of financial centres.
This book emerges from our long-running work on tax havens, and differs from much of the work that we’ve done in the past. Previously I have generally focused on the global impact of tax havens or secrecy jurisdictions: that is, the impact that one haven has on the citizens of other countries, elsewhere. The Finance Curse, by contrast, looks at the domestic impacts of hosting an oversized financial centre: for example, how Britain as a whole has fared as a result of hosting an oversized financial centre.
The book find that finance is (obviously) beneficial to an economy up to a point, but once it grows too large a range of harms start to emerge. Much of the damage, and the underlying processes at work, are similar to those found with a Resource Curse that afflicts many countries that are overly dependent on natural resources.
The graph below (click on it to enlarge it) provides a taster illustrating just one of many aspects of the problem. The press release is pasted below.
The Finance Curse
How oversized financial centres attack democracy and corrupt economies
A resource curse casts a shadow over certain mineral- and oil-rich nations damaging their economic growth and development. Now a new e-book by Nicholas Shaxson, author of the acclaimed Treasure Islands, and John Christensen, Director of the Tax Justice Network, shows that countries with oversized financial services suffer similar fates.
As the resource curse stalks Nigeria, Angola and the Democratic Republic of Congo; so a finance curse has captured the UK, Cyprus and Jersey.
The new work argues oversized finance sectors harm their host countries by, among other things:
- weakening long term growth and development;
- acting like cuckoos crowding out productive, sustainable industrial sectors;
- exaggerating and routinely overstating their economic contribution to gain distorting tax subsidies, lax financial regulation and influence crucial political decisions;
- playing a key role in creating a “spider’s web” of tax havens;
- capturing whole political systems, in some cases leading to authoritarianism; and
- generating and extracting unproductive and harmful economic ‘rents’.
For decades, the expansion of a country’s financial sector was widely thought to benefit its economy. But The Finance Curse presents the first comprehensive analysis of the many harms that flow from hosting oversized financial centres.
Symptoms of the Finance Curse
Despite the trillions flowing into and through the City of London and Wall Street, Britain and the U.S. perform worse in inequality, infant mortality and poverty than Germany, Sweden, Canada and most of their rich peers.
Several new studies from the IMF and Bank for International Settlements show when finance gets too big – such as when credit to the private sector reaches 100% of GDP or more – growth suffers. The U.S Ireland, the UK, Spain and Portugal and Cyprus, all hit hard by the financial crisis, were all close to or above 200%.
Claims that the UK’s finance sector contributes over £63bn in tax annually are wildly exaggerated and disingenuous. The true figure policymakers should reflect on is at most £20bn, and could be as low as £2.7bn.
Likewise, policymakers must disregard claims the UK finance sector employs two million people. The relevant figure is a fraction of that. Against these smaller gross ‘contributions’ are a host of tax losses, not only from the bailouts. The true net tax ‘contribution’ of finance in the UK is negative.
The near total ‘capture’ of politics in small island states lead to authoritarian tendencies that aggressively scapegoat dissenters. The British tax haven of Jersey, as one former minister puts it, is run by a “gangster regime” and a “crypto-feudal oligarchy captured by the international offshore banking industry.” In the UK, critics of the City establishment are subtly ostracised, and financial law enforcement is strongly discouraged.
Finance has severely worsened imbalances between regions in Britain, with the “metropolitanisation of gains and the nationalisation of losses.” The financial lobby’s insistence on new transport infrastructure focused on London means more money is spent lengthening platforms at one London train station than on all the upgrades to Manchester’s rail network and the all-important link to Liverpool.
In Jersey, where finance makes up over 50% of GDP, finance has decimated other industrial sectors and dramatically increased inequality. House prices grew by a stunning 29% annually in the 25 years to 2010. In Cyprus, well over 40% of all student enrolments feed its tax haven sector.
In larger jurisdictions like Britain or the U.S these issues are clouded by background noise from large, complex democracies. But in small financial centres and tax havens like Jersey or the Cayman islands, the Finance Curse is much easier to understand because finance is more dominant, and the issues are easier to spot. Tax havens therefore carry strong lessons – and warnings – for Britain and the United States in particular.
As the well-remunerated finance sector recruits ever more graduates, in technical disciplines in the United States, there has been a steep decline in science, mathematics, engineering and technology – and a reduction in “entrepreneurial intentions” among skilled workers.
The “financialisation” of large parts of the British economy has undermined business stability, productivity and employment prospects for large sections of the workforce, creating an ever-deepening economic trap that will be hard to escape.
John Christensen, director of the Tax Justice Network, said:
“The economic collapse in Cyprus highlighted how the Finance Curse hollows out the domestic economy of small islands and corrupts their entire political systems. I’ve seen exactly the same processes at work in my former home of Jersey.
Alarmingly, the City of London is having similar effects on Britain. The Finance Curse presents a clear and present danger to social and economic development.”
Nicholas Shaxson, author of Treasure Islands, said:
“After spending 14 years living in and studying the Resource Curse in oil-rich countries in Africa, I was astonished to find the very same things happening in rich countries with big financial centres.
Having an oversized financial centre in your neighbourhood is a bit like striking oil. It may well bring lots of money. But it will bring huge problems. And the evidence is overwhelming: too much finance is bad for you. Britain, the United States and many other countries need to shrink their financial centres dramatically.
This goes way beyond the damage caused by the latest global financial and economic crisis. Once our politicians understand this, they will see that they can tax and regulate our financial sectors appropriately, with no loss of ‘competitiveness’ – even if other countries don’t.
When the financiers cry: ‘We will run away to Geneva or Hong Kong’ then that is to be welcomed. For if they do so, the financial sector will shrink and many benefits are likely to ensue.”
For further comments, please contact:
Nicholas Shaxson: +41 79 477 10 70 shaxson (at) gmail.com
John Christensen: + 44 (0) 7979 868 302 john (at) taxjustice.net
Nick Mathiason: +44 (0) 77 99 348 619 nmathiason (at) financialtaskforce.org
For Online News Media – free standalone Finance Curse Podcast
Finance Curse Podcast available for easy download free and reposting to accompany your Finance Curse web coverage here. Produced by the Tax Justice Network’s @Naomi_Fowler
A big finance sector is good for an economy – isn’t it? Actually, no.
In this Tax Justice Network podcast we discuss the Finance Curse – how an oversized financial sector can weaken growth, slow the economy, erode democracy, foster corruption and increase inequality. Produced by @Naomi_Fowler
For monthly Taxcasts go to www.tackletaxhavens.com/taxcast
[i] Nicholas Shaxson is author of Poisoned Wells, a book about the Resource Curse based on 14 years’ research in West Africa; and also author of Treasure Islands, a book about tax havens and financial centres.
John Christensen is the former economic adviser to the British Crown Dependency of Jersey, a pre-eminent British tax haven. He is now the director of the Tax Justice Network.
Cross-posted with the Treasure Islands blog
The Financial Times is carrying an important and fascinating story about the tax haven of Ireland. It focuses on a particular issue which is dear to my heart, and the subject of a whole chapter of Treasure Islands.
This is, at heart, a story about how small financial centres become entirely ‘captured’ by financial services interests, with the deliberate removal of democratic checks and balances and carte blanche given to financial services interests to write laws in secret. This is exactly why I call offshore the ‘smoke-filled room,’ where gentleman arrange the world’s financial affairs over cognac and cigars.
In the ‘Ratchet’ chapter of Treasure Islands I compared Delaware’s Big Bang of 1981 with another episode in the British tax haven of Jersey a decade later, and discovered a remarkable, even astonishing similarity between the two. I would boil that down to three words: the Captured Financial State. And that is exactly, precisely what has happened in tax haven after tax haven. Cyprus, it turns out, was exactly the same: see here (and take a look at this astonishing and telling picture here.) And now the FT is reporting exactly, precisely the same thing in Ireland.
If you had time, a read (or re-read) of the “Ratchet” chapter in Treasure Islands will provide the necssary background. Then take a look at this latest, from the FT, discussing a meeting in November 2011 of top civil servants with top officials from the financial sector, amid painful austerity:
They met under the auspices of the “Clearing House”, a secretive group of financial industry executives, accountants and public servants formed in 1987 to promote Dublin as a financial hub.
This sentence will ring alarm bells with anyone who’s read the “Ratchet” chapter. But there’s more.
The participants thrashed out 21 separate taxation and legal incentives sought by the financial industry at the meeting, which took place in room 308 in the prime ministers’ offices.
. . .
“The lobbying was done in secret behind closed doors,” says Nessa Childers, an Irish member of the European parliament, who got minutes of the meeting using freedom of information laws last year. “The bankers and hedge fund industry got virtually everything they asked for while the public got hit with a number of austerity measures”.
There you have it. The minutes of the meetings, along with a statement from Childers, are provided by Childers here. The last sentence epitomises the captured financial state. For more details on how Ireland got captured, see this special report for TJN’s Financial Secrecy Index.
Now take a look at what happened in Cyprus. The very same phenomenon, in different form. It’s just the same in Jersey. And in Delaware. And the same, in more diluted forms, in Switzerland, the United States, and the UK.
This is what’s happening, all over the world. Anyone wanting to understand the offshore phenomenon needs to understand: this is what it is all about.
I’ve co-authored an article in the UK’s Guardian newspaper, which is attached to a longer paper, dissecting those calls that we always hear from corporate bosses and many politicians that our countries should have ‘competitive’ tax systems.
In short, these calls are based on simple economic fallacies and it makes no sense at all to aim for a ‘competitive’ tax system – at least in the sense that it is usually understood. As the Guardian article summarises:
“A myth we’re repeatedly told is that a country must be “tax competitive” in order to support a successful economy. It sounds so reasonable. We’re taught that competition between companies keeps them on their toes and pressures them to produce better products and services, at better prices.
But here’s the problem: competition between companies in a market bears no economic resemblance whatsoever to “competition” between countries on tax. They are completely, utterly different economic beasts.”
I reviewed the theory, the evidence, and the actual practices of businesses, and it turns out that tax competition is always harmful – not just for the world as a whole, where it involves a race to the bottom that leaves all countries worse off – but also for individual countries participating in this race. Even if people understand the first point, it is the second point that is so often misunderstood.
In brief, tax competition always widens economic inequalities inside countries, and it distorts markets, reducing efficiency and increasing large corporations’ monopolistic or oligopolistic pricing power. It undermines democracy, creating a sense of unfairness in the application of tax laws, and by driving tax systems diametrically in the opposite direction from where voters want them to be.
Tax competition drives down effective tax rates on capital – and all the evidence shows that while this does increase inequality, it does nothing to boost economic growth. As effective tax rates on capital (and therefore on wealthier sections of society) are driven relentlessly lower, taxes on less mobile factors such as labour – and therefore poorer members of society – are driven upwards.
From a business perspective, here is Paul O’Neill, former head of the aluminium giant Alcoa and former U.S. Treasury Secretary under George W. Bush:
“As a businessman I never made an investment decision based on the tax code… if you are giving money away I will take it. If you want to give me inducements for something I am going to do anyway, I will take it. But good business people do not do things because of inducements.”
Countries should not attempt to ‘compete’ with others on tax. This is clearly significant for every country in Europe.
The published article is somewhat shorter than the original. Here’s one bit that was cut out, but that we’d like to highlight.
“Let’s tackle the economic illiteracy behind those calls for a ‘competitive’ tax system. If you write about it, always put ‘competitive’ in quote marks, to signal that you understand. And when a politician wheels out the ‘C’ word – get them to explain exactly what they mean. Or run for the hills.”
And if you want further arguments about why it’s a particularly bad idea right now to cut taxes on corporations, see this article from last year which is even more relevant today than it was then, or this more recent one.
Cross-posted with the Tax Justice Network.
Austria’s Finance Minister Maria Fekter has been patting herself on the back and comparing herself to a lion – promising on the occasion of an Ecofin meeting on April 12-13 that she has had to ‘fight like a lion’ to protect Austria’s status as a tax haven, by insisting on making no concessions on banking secrecy. She is certainly combative, as showed by her fights with fellow European leaders, all of whom want to push forwards with financial transparency to help cash-pressed governments start to collect some proper tax revenues from their wealthiest citizens.
We at TJN are not comfortable with her self-bestowed title ‘lion’ We don’t believe that that noble animal would want to be chosen as an emblem as the protector of the global criminal underworld. For – and make no mistake – that is what Fekter is fighting for.
We considered a few animals as alternatives to ‘lion.’ We discarded ‘snake,’ even though her words (see below) are filled with devious misrepresentations of reality and her core message is poisonous. ( ‘Snake’ is not a particularly worthy or clever insult to use in such a case – nor are ‘vampire’ or ‘weasel’ or a few of the others that we considered.)
But we know that Fekter is pushing against a powerful tide of history-in-the-making here. She is refusing to see the obvious. Luxembourg and Switzerland have for years insisted that their banking secrecy is not up for discussion – but have eventually understood that providing a hothouse for the tax evaders and other criminals of other nations is not a particularly wise course of action. We don’t think that vowing to persist in engaging in economic warfare against other nations – which is exactly what Austria is doing by clinging so violently to its banking secrecy model – is defensible in the modern world.
So we’ve settled on ‘ostritch.’ (Thanks Markus!) And she certainly does have her head in the sand.
Essentially, what’s at stake here is a massive EU-wide transparency initiative, the EU Savings Tax Directive, which came into effect in 2005 and under which 43 territories in the EU and elsewhere automatically share relevant information with each other about the cross-border incomes earned by each others’ citizens. The current EUSTD is full of holes but powerful amendments are waiting in the wings, ready for approval, which will plug the main loopholes. Further broadening of the scope of the directive is in the offing too, as EU Tax Commissioner Semeta notes (in an interview that’s worth reading in its entirety):
SPIEGEL: The European Savings Tax Directive, which is meant to regulate the taxation of savings across the EU, leaves many loopholes for tax evaders.
Semeta: The savings directive has many merits, but it is true that we identified important loopholes which were being exploited by tax evaders. Already in 2008, the Commission set about trying to close these loopholes and strengthen the EU rules. But, up until now, member states have not managed to agree on a revised directive, because Austria and Luxembourg have blocked efforts. Now that Luxembourg has changed its stance on bank secrecy, and with Austria hopefully soon to follow suit, I hope we will see the fast adoption of a stronger savings directive.
SPIEGEL: But dividends and other investment income are excluded from the exchange of information?
Semeta: The new rules that entered into force this year foresee a gradual but significant expansion of the automatic exchange of information. Starting in 2014, it will apply to labor income, pensions, director’s fees, life insurance and revenue from property. The next step is to extend the information exchange to dividends, royalties and capital gains. But maybe now with the current appetite to move quicker and harder against tax evasion, the member states will seek to speed up the wider application of automatic exchange foreseen in our legislation.
Those words of Semeta’s are tremendously important, and we’ll return to them.
For some time a complex political chess game has been playing out where Switzerland, outside the EU, in partnership with Austria and Luxembourg inside the union (with various other secrecy jurisdictions riding on their coat-tails), have been blocking the progress of the all-important Amendments. Whereas most of the 43 jurisdictions transmit information, these recalcitrants have clung to a model where they merely levy withholding taxes on cross-border income and remit it to the account holder’s home jurisdiction. They are blocking the Amendments, which would require them to switch to automatic information exchange.
Now, though, the political winds have changed decisively, and Luxembourg has thrown in the towel, saying it will accept automatic information exchange. Switzerland can’t directly block what the EU does – so that leaves Austria, the last blockage to be removed. And in truth, despite the Ostritch’s bombast, her country is divided on the issue. As Reuters reports:
“Austria has sent mixed messages on this ahead of a EU summit in May supposed to address the matter.
. . .
Conservative Finance Minister Maria Fekter has defied pressure on Austria to automatically exchange data on foreigners, while Chancellor Werner Faymann, a Social Democrat, has said Austria may do so as long as its citizens’ details stay confidential.
. . . “We want to preserve banking secrecy for Austrians. That is the big difference we have to other countries,” he said.”
This Reuters exploration of Austria’s long and unhappy history of a love for financial secrecy is worth reading, even if it doesn’t put in much effort to skewer the arguments of those who are saying it’s a good idea.
There is the clear makings of a compromise here: Austria can keep its secrecy for its own citizens (if it’s happy to tolerate criminality in its own country) while ending it for foreigners. That should satisfy the EU and unblock the blockage. Why doesn’t Fekter just throw in the towel now, rather than backing herself into a corner and bringing down opprobrium on Austria’s head?
The Austrian Ostritch is clearly deeply confused, and doesn’t really understand her brief very well.
First, she says clearly that “Austria is not a tax haven” and then fights furiously for banking secrecy. Yes, well, she might like to reflect briefly on the teensy-weensy contradiction there. And of course when it comes to the term ‘we are not a tax haven’: they all say that.
Next, she says that “all this data exchange will not put one red cent in my tax coffers.” She is quite free to say that – just as she is quite free to say that she is a lion, or the Queen of Sheba – but that doesn’t change the fact that she is talking complete nonsense. (She might try reading this paper on automatic information exchange, for instance, or looking at pp12-14 of this one.) Which clearly demonstrates, among other things, the clear deterrent effect brought about by automatic information exchange.)
And if you think that’s confused – then try this, from Austria’s Finance Secretary Andreas Schieder, last year, concerning blockages in efforts to push the EU transparency project forwards:
“We can not wait until all tax matters with Switzerland are negotiated by the European Union. This has taken 20 years and we think this is certainly far too long.”
Yes, Mr. Schieder: that’s because your country has been helping Switzerland block progress.
We can also point to the unedifying spectacle of what happened when Austria was signing a useless bilateral deals with Liechtenstein (as one element of the chess game aiming to kill progress on transparency). Fekter insisted that loopholes be carved out for trusts administered in Liechtenstein, helping Austrian tax evaders. (Rough web translation of that here.) Astonishingly, she insisted on a move that would damage Austria’s tax revenues, not those of other countries’. A rather odd move for a finance minister, one might think.
Austria is a relatively small tax haven in global terms, but because of its ability to block transparency in Europe it is currently a very dangerous player, and the friend of the world’s criminals.
It is now essential that Austria – and its resident Ostritch – be ostracised from polite society in Europe.
Endnote: a number of countries in Europe have promised to push forwards an alternative U.S.-designed transparency model that has been mis-named as “Fatca” bilateral agreements, supposedly similar to the Fatca model designed by the U.S. but in practice much narrower. However at this point we believe these will not conflict with the EUSTD, but could serve as useful if limited addtional tools.
That is an important topic in its own right but not in the scope of this blog. Read more on that here.
The key point is that these bilateral deals should not distract from progress on the Savings Tax Directive, and from the need for a truly multilateral, increasingly global system of automatic information exchange that includes the most important ingredient: deep, comprehensive and detailed customer due diligence procedures and protocols for identifying the beneficial owners of accounts, entities and arrangements.
From the excellent series of reports on Cyprus’ richest man, John Fredriksen, in Norway’s Dagens Næringsliv (DN.NO – see my earlier blog on this, which I think explains a lot of things about Cyprus that has eluded the large majority of the world’s media).
Norwegian-born Fredriksen is a shipping tycoon whom Forbes described as “King of the tanker trade.” He became a Cypriot citizen in 2006 to benefit from Cypriot tax laws even though he reportedly lives in The Old Rectory in Chelsea in the UK, which has at least ten bedrooms, a ballroom and gym. The Sunday Times rich list describes him as Britain’s seventh richest man.
Until 2006 Fredriksen’s main holding company, Greenwich Holdings, was based in Cyprus, and in 2006 it paid a dividend of US$ 4.5 billion. The dividend went to a Panama-company with undisclosed owners. It has been impossible to confirm who actually received the money.
Although Cypriot holding companies themselves incur no taxes on dividends paid from overseas, individual Cypriot company owners are supposed to pay some tax on dividends they receive. As a Cypriot citizen at the time, if Fredriksen had been the recipient of that $4.5 billion, he would have been liable to a 15% tax on the dividend. However, he did not pay this: he told the Cyrpus tax authorities that the owner of that Panama company was not him but another Panama company – even though he told the U.S. Securities and Exchange Commission (SEC) a different story: that he was the ultimate owner of the company (though Fredriksen’s folk have also rejected DN’s interpretation of that).
Still, the Panama company register shows that colleagues and close allies of Fredriksen are on the board of both Panama companies. As DN reported it:
“According to Fredriksen he received no dividends himself. So he paid no tax. The Dividend could have resulted in a tax payment up to US$675 million. The sum equals around ten percent of the five billion Euros Cypriot authorities now need to collect from budget cuts and bank customers on the island, to save Cyprus from financial collapse.”
Fredriksen’s close collaborator has denied that Fredriksen received the proceeds.
But given all we know about the slipperiness of offshore structures, it’s quite possible that those words are quite true in technical legal terms (or perhaps in an uncertain area of tax legality) but not at all true in genuine economic terms. (It should also be noted that Fredriksen has two daughters who may be beneficiaries of his fortune.)
Could the Cypriot tax authorities collect this money? The trouble is: Cyprus has made its living by not enforcing its own (as well as other countries’) laws, as far as rich foreigners are concerned: it is a captured state (as outlined in detail here).
And the Cypriot authorities appear to have already signed off on this deal.
Oh well. Still, hard-pressed Cypriot taxpayers ought to be asking some hard questions of their own tax authorities about this.
Tax havens in trouble: Liechtenstein
On the subject of tax havens in trouble, this recently, from Liechtenstein, seems to have got relatively little attention:
“The prince warned that forecasts for 2013 show a deficit of 172 million Euros which represents nearly a quarter of spending.“
Phew! And this follows a limited clean-up in Liechtenstein following a whistleblower-led scandal in 2008 which saw, as The Economist reports:
“Liechtenstein banks’ client assets declined by almost 30% in the five years to 2011, to SFr110 billion ($118 billion).”
The new pressure on European tax havens will make it still harder for Liechtenstein on secrecy. Liechtenstein’s Prime Minister Adrian Hasler told Swiss TV yesterday that in the context of all the changes happening in Europe they were considering something that had previously rejected outright: automatic information exchange.
“The financial centre knows that things may go in that direction,” he said. This would presumably put a big dent in Liechtenstein’s business. They know, too, that a steamroller is coming: amendments to the EU Savings Tax Directive. I expect that this will hit Liechtenstein foundations and other structures – and state revenues – pretty hard.
This tiny, weird little principality, another quintesssentially ‘captured state’, has now outlined a strategy, described in that Economist article (which is quite interesting in its own right,) to shift the emphasis away from facilitating individual tax abuses towards more aggressively selling corporate tax abuses, based on signing ‘as many tax treaties as possible.”
Nobody should sign a double tax treaty with Liechtenstein, for reasons outlined here (India) and here (Germany.) Let’s hope the world’s tax authorities are awake to these dangers. If so, it will get harder for that little Alpine centre of criminal money.
More trouble in ‘paradise.’
This is a modified, expanded version of a blog published by the Tax Justice Network, with permission.
A massive data dump of tax haven information, published via the Washington-based International Consortium of Investigative Journalists in collaboration with 86 media organisations around the world, is the biggest of its kind in history. I believe we will see more of this kind of thing: in the past few years we’ve seen a real sea change in the world’s understanding of and tolerance for the offshore system of tax havens, and many offshore practitioners who previously wouldn’t have questioned what they were doing will now be realising that they may well have been doing the world a dis-service. I expect more whistleblower information to come forward. (I was contacted by a potential one not so long ago, though I decided not to engage.)
A headline in The Guardian newspaper tells us probably the most important thing we need to know about this explosion of new tax haven information.
Quite so. And explains:
“It’s easy to imagine the villains of the piece to be irresponsible foreign nations – happy to shelter the mega-rich in offshore secrecy, unconcerned about the tax avoided in other, larger countries.If only the British government can prevail in these overseas battles, things will get better, it seems.But such a stance ignores that one nation in particular has ties to offshore havens everywhere. It’s a veritable nexus of offshore influence, related to havens in the Caribbean, and much closer to home. That nation is, of course, the United Kingdom.”
This is very much the subject matter of my book, Treasure Islands, which outlines how Britain in the past half century or so became the most important single player in the global system of offshore tax havens. It is fantastic to see this analysis emerging in the British newspapers now.
Another story from the Guardian, underscores what the Tax Justice Network has been urging for years:
The [British] prime minister has come under pressure to act against Britain’s secretive offshore industry at June’s G8 summit, as leaked evidence continued to mount that politicians and tycoons from all over the world have used the British Virgin Islands to hide funds.
The premier of Georgia, Bidzina Ivanishvili, was the latest to be named, along with prominent Pakistani, Indian, Thai and Indonesian figures – while there was fresh evidence of Britons acting as front directors for companies based in offshore havens such as the BVI.
A senior Liberal Democrat figure said the leaks showed the secret haven of the BVI “stains the face of Britain”, as anti-corruption campaigners called for action.
Lord Oakeshott, the Lib Dem peer and a former Treasury spokesman, said: “How can David Cameron keep a straight face calling for the G8 to make big business pay tax when we let the BVI use British law and British protection to suck in billions in dirty money?”
He asked: “How much British aid paid to corrupt countries like Pakistan ends up behind a BVI brass plate?”
Among many other things, the revelations confirm – as if any confirmation were needed — that these jurisdictions have not only been selling secrecy services – but they have been deliberately disgregarding their own laws. The very latest example comes from a story today about the famous Magnitsky case:
“authorities in the British Virgin Islands failed for years to take aggressive action against CTL, even after they concluded the firm was violating the islands’ anti-money-laundering laws.”
(Read the rest of the story to see the context. A similar story is evident in Cyprus.) More revelations continue to emerge, with more to come: keep up to date with the ICIJ’s feed here. BVI spokespeople have, as typically happens in scandals of this nature, taken the ‘a few rotten apples’ defence: most of them are clean, and we’ll root out the few bad apples.
This will get us nowhere. The BVI is far too ‘captured’ by offshore finance to have a hope of mustering any kind of serious response. This is one of the great global scandals of our age.
So what can be done? Well, Britain, which partly controls matters in the BVI, must now act. It certainly has the ability to do so. A former senior legal practitioner in the BVI, who wished to remain anonymous, told today’s TJN blogger recently, in a telephone interview:
“The governor has complete power of disallowance, he can disallow any legislation passed and he obviously takes his orders from Whitehall, but I think the UK government just keeps a benign eye on us, and makes sure we don’t do anything too outrageous. But on the whole the legislation is locally produced, although we would get advice from top people in the UK for the finer points: I think it is largely driven by the BVI and the UK only interferes if it thinks it’s entirely inappropriate for some reason.”
“The United Kingdom Government are responsible for defence and international relations of the Islands, and the Crown is ultimately responsible for their good government. It falls to the Home Secretary to advise the Crown on the exercise of those duties and responsibilities. The United Kingdom Parliament has the power to legislate for the Islands. . . “
If ever there were a call for intervention to ensure good government, this is it.
The latest revelations show beyond doubt – as if any further evidence were needed — that what is needed now is revolutionary change. Current international efforts to tackle this remain little more than fig leaves. Every tax haven in the world — except for the giant financial centres of Nauru and Niue — is on the OECD’s white list. Nearly every tax haven in the world is clean, apparently. The ICIJ and 86 media organisations around the world would beg to differ.
This is not good enough. We need major public mobilisation, and not just in Britain, to call the offshore establishment to account. Not just for the British Virgin Islands: for all its tax havens and semi-tax havens. Although the recent media revelations show abuses by many tax havens that are far outside Britain’s responsibility, Britain, by virtue of its partial control and influence over around half the world’s big tax havens, is the single biggest player in the offshore system. If Britain were to act, a big part of the problem could be seriously addressed. Global Witness said in a statement:
“This revelation of the extent of financial secrecy should act as a wake-up call to us all. Hidden company ownership enables corruption, state looting and dodgy deals that directly deplete state budgets and entrench poverty. Arms traffickers, drug dealers, and corrupt politicians all use shell companies to carry out their illicit activity.”
“By requiring the names of the ultimate beneficial owners of all companies to be made public, G8 leaders could provide a huge boost to efforts to reduce corruption and financial crime globally and to promote development worldwide. There is no excuse for them not to act.”
So what is the British government, for its part, planning to do about all this? The Guardian continues:
“Ministers insist they are not ready to act.”
To repeat: that isn’t good enough. It is ultimately the City of London, the greatest beneficiary of Britain’s offshore tax haven empire, which is lobbying against any serious change. The City is so strong that Britain can’t manage this, politically speaking, alone. Even though Europe is fighting its own internal struggles against its own tax havens such as Luxembourg and the Netherlands, that’s not to say it can’t help Britain tackle its offshore Empire. It is time for European governments – and their citizens – to start calling Britain to account.
Via the Treasure Islands blog:
Courtesy of the Norwegian Business Daily Dagens Næringsliv (dn.no), with thanks to David Officer for the tip, we have this remarkable photograph of the Cyprus company registry. A rough web translation of the caption reads:
“PAPER JUNGLE. The employees at the company inspection register of Cyprus, drowning in documents that should have been public.”
The story explains exactly what I and a few others have pointed out: that Cyprus has been pretending that it is a ‘clean’ financial centre, while serving as an offshore tax haven for dirty, murky and clean money by the simple expedient of its willingness to disregard its own laws. This is possible because Cyprus is one of those quintessentially ‘captured’ states: what has happened here is a far purer, more distilled version of, say, the capture of the political process in Washington, D.C. by Wall Street (and by the way here’s a really superb article about some of that.)
Because Cyprus is in the EU, it is supposed to have signed up to all kinds of cleanliness operations and is consequently on all sorts of ‘white lists’. DN writes:
“In 2004 Cyprus became an EU member. Countless EU directives, which supposedly will ensure transparency and safe conditions, have since made Cyprus a “clean investment country” for even more companies. . . Although Cyprus is now obliged to follow EU standards for transparency, companies on the island still seems to enjoy an extensive secrecy.”
The newspaper is tracing the activities of John Fredriksen, one of Norway’s richest people, who has taken out $7.3 bn in dividends from his companies in eight years. They ought to be able to find out what they are looking for:
“The European Commission for the internal market confirmed to DN that the company register in Cyprus must share the information it collects. . . Press Attaché Carmel Dunne said that all registers of companies in the EU are obliged to publish “a set of documents.” These include “accounting documents for each financial year.” Documents showing control and management of companies should be available together with audited financial statements of all companies that are required to deliver them.”
It sounds quite good: thus the white listing, and Cyprus’ relatively low secrecy score on the Tax Justice Network’s Financial Secrecy Index.
So what happens when the journalists want to get the information? The whole article is a fabulous, brilliantly conveyed description of what really goes on in the “clean” Cyprus company – though I’ll only paste a few short excerpts.
“Zenios” – hospitality – is the name displayed on the facade of the building that houses the company register in Cyprus. There is, however, little goodwill from the public servant who decides to take the law into his own hands one day in June 2011.
- Are you the police?
- Are you a detective?
- But who are you?
- I’m a journalist.
- These documents are secret.
The story isn’t as simple as that, of course. The boss said they should be able to get the information, but:
“For the second time in one year The Norwegian Business Daily orders the folders for over 30 companies, including all the key Fredriksen companies. The result is the same as in 2011. None of the 30 folders contains a single statement for the years after 2000.
. . .
In the middle of the room you can just make out one of the company register of employees – right under a poster with the message “Customers are not always right.”
- We are working as quickly as we can. But there is very much to do, says the woman. She looks, abashed, at her keyboard and explains that she cannot say much about the accounts.
- We are about five years behind, I think, said the woman – still with her eyes fixed to the keyboard. That proves to be a mild understatement.”
The boss, Spyros Kokkinos, admits that there is a ten-year backlog. He continues, in the process explaining very clearly what the world’s tax havens are about:
“When a company comes to deliver its accounts it is followed by a form. But the Treasurer who receives the document does not care about what actually is the form. So when the time comes, two, three, five, or a hundred years later, when we go through this, we may see that something is missing.
- Do you think anyone will exploit this situation?
- The fact that Cyprus is a good place to be if you have something to hide?
- If you want to cheat, you will try anything. We want to be a financial center that will all work with. We want to ensure that people can establish companies and businesses. Therefore, we will cut the bureaucracy, he said.”
And there you have it. Cut “red tape” to speed things along. But what is this ‘red tape’? Well, amont other things: that rather pesky nuisance requirement, which called transparency. Or those ever so tiresome checks for criminal activity. And so on.
Tax havens, in the eyes of their defenders, are supposed to make the world more ‘efficient.’
I challenge anyone to explain how this set-up is or was ‘efficient.’
This enquiry was, of course, a special case. Here was a media institution seeking information from the registry, amidst the greatest political and media firestorm the Cyprus tax haven has ever seen. Everything is in the process of change. The boss promises to get the documents – and the following day he does hand some over. That would probably not have happened even a few months ago.
The story has an endnote, which is also telling:
“DN wrote on Saturday that John Fredriksen in 2010 shifted control of their stock values from Cyprus to Jersey. Then it got old parent company Greenwich Holdings a new parent company: GHL Greenwich. British Controlled Jersey is outside the EU and will not disclose the financial statements of companies on the island.”
So that’s OK then. He will continue to manage his companies in an ‘efficient’ way, via the British tax haven of Jersey.
But ‘efficient’ for whom?
The British press is awash with stories about corporate tax avoidance, involving Google, Starbucks, Microsoft, Amazon and many others. Much of the avoidance takes place through European tax havens – notably Luxembourg, Ireland and the Netherlands – or through British dependencies such as Bermuda and (to a lesser extent) the Cayman Islands. Parliamentarians have grilled corporate executives and the tax authorities, and protesters have taken to the streets in a number of British towns and cities. There has been similar concern, even if not at quite such a high level, in other European countries, as well as in the United States, Australia and elsewhere.
The essence of the problem is that the international tax rules, originally framed about a century ago, have failed to keep up with massive changes in the global economy. A system overseen by the OECD is no longer fit for purpose. Countries will never be able to tackle corporate tax avoidance seriously under the rules jealously guarded by the OECD and by vested interests in favour of the current status quo.
There is a clear, radical, and tried-and-tested alternative available: unitary tax
The UK’s Observer newspaper on the weekend carried an article about a new report on taxing transnational companies, in which Professor Sol Picciotto, Senior Adviser to the Tax Justice Network, makes the case for shifting to Unitary Taxation, with profits being apportioned to the various countries in which the TNCs have a genuine economic presence.
The European Union is already pushing ahead with a version of this proposal – the Common Consolidated Corporate Tax Base (CCCTB) but its scope needs to be expanded.
The report is briefly summarised below.
Towards Unitary Taxation of Transnational Corporations – a 21st Century blueprint for taxing multinationals
Today’s international tax rules, which were drawn up nearly a century ago, have not kept pace with the massive changes in the world economy.
Separate Entities and the Arm’s Length ‘Principle’
The system is governed by two broad principles. First, it treats transnational corporations (TNCs) as if they were loose collections of separate entities operating in different countries. Because there is only weak co-ordination between tax authorities, however, this ‘separate entity’ approach allows TNCs scope to shift profits around the globe to escape tax.
Second, entities within a multinational trade with each other across borders at prices governed by the so-called Arm’s Length Principle (ALP) – as if they were independent actors trading with each other in the open market.
Yet TNCs enjoy unique global synergies and advantages that come from combining economic activities on a large scale and in different locations. These advantages cannot be attributed to a single location, but to the whole global entity. So treating each affiliate as a separate entity for tax purposes is impractical and does not reflect economic reality; and their internal cross-border trades typically bear no relation to any supposed “arm’s length” trade between independent actors in an open market. It is, as a top U.S. tax expert puts it, “delusional” to think this principle can be applied effectively.
This international tax system is dominated by the Organisation of Economic Cooperation and Development (OECD). The OECD’s Fiscal Committee, consisting of unelected state officials, presides over an increasingly complex set of rules which they are also responsible for applying. Its often arbitrary decisions involve billions of dollars of taxes – yet it is effectively unaccountable.
This press release introduces a new report, Towards Unitary Taxation of Transnational Corporations by Sol Picciotto, emeritus professor at Lancaster University, senior adviser with Tax Justice Network and author of International Business Taxation (1992), and Regulating Global Corporate Capitalism (2011).
A historical section charts howthe international tax rules, despite significant opposition and viable alternatives, were established in the early 20th century, at a time when TNCs were in their infancy and loans were the main form of international investment. As TNCs became more dominant in the second half of the century, however, they increasingly took advantage of the ‘separate entity’ principle to set up affiliates in convenient low-tax jurisdictions (tax havens,) to cut their taxes.
In response, increasingly diverse and complex and rules have been elaborated to patch up the system, which has consequently become ever more arbitrary and opaque.
Many experts now argue that a fresh approach is needed, starting from a recognition that TNCs are not loose collections of separate entities but operate as integrated businesses under central direction. This approach, which a majority of U.S. states (and many others) already use successfully, is known as Unitary Taxation.
It is time for a system fit for the 21st Century to be rolled out internationally. The paper outlines how the change could be phased in quite quickly.
Unitary Taxation and Profit Apportionment
Instead of the current system where multinationals are taxed according to the legal forms that their tax advisers conjure up for them, unitary taxation would see TNCs being taxed according to the genuine economic substance of what they do and where they do it. This not only fits economic reality and is a far more legitimate basis for international tax, but it is much simpler to administer, a particular benefit for developing countries. It would massively reduce tax abuse and dramatically curb TNCs’ use of tax havens, thus removing much of the political cover protecting these secretive jurisdictions, and consequently making them easier to deal with on secrecy and a wide range of other issues.
Under unitary taxation a TNC engaged in a unified business submits a single set of worldwide combined or consolidated accounts, in each country where it has a business presence. This overall global profit is then apportioned to the various countries, using a formula that reflects the TNC’s genuine economic presence in each country. This allocation is often called ‘formulary apportionment’ or, much better, ‘profit apportionment’. (The formula typically considers the TNC’s assets, labour and sales in each jurisdiction.) Each country involved sees the combined report and can then tax its portion of the global profits at its own rate. Widespread international co-ordination is not necessary for this to work, though it would help.
Unitary taxation would place on a sounder basis the `territorial’ principle, where profits are supposed to be taxed by the countries in which the business activity takes place. This apportionment would be done according to factors measuring real economic presence in each territory, rather than according to the fictional devices and entities devised by the fertile minds of highly paid lawyers and tax advisers.
Tax experts have long known that this unitary approach makes more sense. It has long been applied in federal systems, notably in the United States: a pioneer was the State of California which was missing out on revenues thanks to Hollywood film studios siphoning profits through their use of Nevada incorporated affiliates.
But the approach has not yet been rolled out internationally. Indeed it has not even been seriously studied by the closed groups of tax specialists running the system. Powerful vested interests support the current system.
Preparing the ground
Even in the 1930s when the “separate entity” approach was first agreed internationally it was accepted that in practice national authorities could look at the firm’s overall financial accounts in order to ensure a fair split of the total profits. However, this was never done in a systematic way but through this increasingly complex array of often ad hoc, unworkable methods.
Some techniques allowed by the OECD already go a fair way towards profit apportionment, the basis for unitary taxation. Indeed, the European Union has already prepared proposals for adopting a version of unitary taxation, though with a restricted scope.
A phased roll-out of Unitary Tax transition would see:
· expert studies exploring economic and legal aspects of the change;
· the requirement by countries that transnational companies publish full trading information – a Combined Report – to eliminate abusive transfer pricing and profit shifting.
· one or more major international trading blocs adopting the change. The EU project could be the first. Its scope could be steadily expanded.
OECD under fire
The OECD has for decades stubbornly refused even to consider the viability of the approach, strongly influenced by lobbying, such as in a campaign led by British TNCs in the early 1980s against worldwide profit apportionment by US states, especially California. The system is also defended by a large and growing avoidance industry including the Big Four accounting firms, which derive large fees helping TNCs navigate the increasingly complex arena of international tax. TNCs defend what they know is a dysfunctional system, because it helps them avoid tax.
The OECD Committee, for its part, consists of national tax officials working closely with private sector tax specialists and advisers from large accounting firms with a vested interest in the status quo. Officials often leave public service to take up lucrative private sector jobs, in a revolving door; each has invested huge intellectual capital in understanding the complex rules they helped devise – so they are understandably reluctant to reform the system.
The OECD says its Arm’s Length Principle (ALP) expresses an international consensus and deploys it to close down debate elsewhere, especially in the UN Tax Committee, which is potentially an alternative forum for setting international tax rules.
Developing countries hope to tackle TNCs’ international tax strategies, but they find the ALP difficult or impossible to administer in practice. India has 3,000 cases challenging transfer pricing adjustment pending before its tax courts. Brazil has modified the rules in ways the OECD disapproves of. China is taking a similarly independent-minded approach. Persisting with this failing system of rising complexity is a recipe for international conflict.
Meanwhile, banks and other financial firms are the main users of the tax haven system: their systematic tax avoidance, by reducing their cost of capital, significantly contributed to the liquidity that fuelled the speculative bubble which resulted in the financial crash.
Until now, tax authorities have not pushed for a unitary approach because they have felt that political will is lacking. So instead they take upon themselves the responsibility for deciding, on a case-by-case basis, how each large company gets taxed.
That political will is now within reach. The time has come to reform international tax for the modern era.
• It is impossible to calculate the amount of money multinationals avoid globally not least because there is no agreement over what constitutes avoidance. In the UK, the TUC estimated 700 of the largest corporations avoid tax worth £13bn.
• This approach has been widely endorsed. See Sol Picciotto and Nicholas Shaxson recently in the Financial Times. See Respected finance thinker John Kay, also in the Financial Times, who commented: “The repeated revelations that many major companies pay little or no tax, even if they do so by legal means, fuels a public sense that tax is mainly for little people. We need only look at Greece to see how socially, politically and economically corrosive that perception can be. . . . Well conceived apportionment is the best – perhaps only – answer to the problem presented by multiple company tax jurisdictions.” See also this FT editorial, also endorsing the concept.
• Please click here for a series of quotes about the scale of tax abuse through TNC’s use of transfer pricing.
Switzerland, now recognising that its poisonous “Rubik” spoiler strategy to protect financial secrecy is dying, has rapidly swiveled its position, and its politicians and bankers are now pushing hard for what is being calling a “White Money” (Weissgeld) strategy to try and persuade other countries to go easy on the secrecy that it provides. The clear and regular message now is ‘don’t worry about our secrecy: we’re going to take care of this ourselves.’ Trust us.
Now who could argue against a “White Money” strategy for Swiss banks? Not me, certainly. Unless, of course, that label is a fig leaf: a dose of reassuring Alpine spin layered over a world of business as usual.
So which is it? Alpine spin, or real change?
Start with this headline from a Swiss online newspaper, which reflects the thrust of a number of articles currently out there. Tax evaders become pariahs for Credit Suisse. The mighty Swiss bank is going to be turning away tax evaders from its doors, apparently:
Credit Suisse does not intend to allow tax evaders to remain on as clients, he stressed. If potential clients refuse to report their assets to the tax authorities in their countries, “the bank will clearly tell them that it does not want their business,” Rohner said, adding that the bank would also ask existing clients to leave if they did not declare their assets.
It sounds good, but consider the first problem. What happens when the “client” is, say, a Liechtenstein foundation or a (more Anglo-Saxon-style) discretionary trust? Under Swiss rules, there is literally no beneficial owner at all for these structures. Germans who stash money in these things — which are bread and butter structures for the tax evasion industry — place themselves firmly outside the scope of legislation that is supposed to relate to Germans. These assets are not, from the Swiss banks’ perspective, “German.” They are, to be precise, legally “ownerless”, even if ultimately some Germans have the power to enjoy the income. (For a further explanation of the slippery nature of these structures, see Section 3.1 here). So if this money has no owner, who is going to declare it to their tax authority? Nobody: ownerless money doesn’t have a home tax authority. That is, of course, the whole point.
But one can go a lot further than this.
“Not all banks go so far. Especially smaller private banks are balking at a self-declaration, and they are supported by the Swiss Bankers Association. According to the trade association, this system [self declaration] does not exist anywhere else in the world. It also offers no guarantee against new black money. If someone is prepared to deceive their own tax offices, then it will not be hard for them to lie to the bank. The banks have to take the information provided by their customers at face value: they cannot, may not and should not check the declarations.“
That bit in bold is key. And this brings us to the following wonderful piece of logic.
Take a European tax evader with assets in a Swiss bank. Under the European Savings Tax Directive, they have two options: either they submit to the ‘declaration’ option whereby information about their income will be transmitted automatically to the home country’s tax evader, or they choose the ‘withholding tax’ option, where tax is withheld but their identity is kept secret from their home tax authorities.
Consider each option in turn. First, if the client opts for ‘declaration’ under the current system, then the ‘self declaration’ described by Credit Suisse is quite pointless. They are already declaring.
As for the ‘withholding’ option, consider this. What client is going to want to declare their income to their home tax authorities (and hence be taxed) – then get the Swiss bank to withhold taxes on it? What ever would the point of that be? If you choose the information exchange option, you don’t get the taxes withheld. So you would certainly not do this for tax reasons, and you would not do it for non-tax confidentiality reasons either: the client has already declared that they have broken confidentiality by self-declaring.
To conclude: if you see Switzerland subsequently handing over any money to Germany from this withholding tax option, you will know that the white money strategy is a hoax.
So what ever could the point of this white money strategy be?
Not a whitewash, surely!
If Switzerland were serious about having ‘white money’ in its banks, the solution would be very simple indeed: sign up for full automatic information exchange under the EU Savings Tax Directive.
And why not renounce banking secrecy while they are at it? Then we can start talking about white money.
There have been major debates in Britain in recent weeks following a series of stories showing how multinationals including Starbucks, Amazon and Google have been using the international system of tax havens to cut their UK tax bills, often down to zero, while reporting big profits to their shareholders there.
I have a comment article in the Financial Times today, co-authored with Professor Sol Picciotto, entitled Make Corporate Tax Rules Fairer For All. It’s about corporate tax avoidance and a proposal for reform, known as unitary tax. The article is a fair bit shorter than what was submitted but still they did a good edit. It states:
“The world’s tax rules have not kept pace with profound changes in the global economy.”
Then it goes on briefly to describe the hocus-pocus of international corporate income tax avoidance, and our original article (though not the published version) went on to say:
“The rules, dominated by the OECD club of rich countries, are supposed to tackle this prestidigitation by pretending that it is possible to set an “arm’s length,” market-determined price for these transactions, based on comparables elsewhere. But multinationals generally produce unique products and services and enjoy economies of scale and scope, so even the world’s most sophisticated tax authorities cannot find appropriate comparables. Developing countries find it nigh on impossible.”
The OECD’s methods are, as former top US international tax official Michael Durst explains, “based on a fundamental misunderstanding of practical economics.” The published version then notes a better, simpler alternative: unitary tax.
“Instead of taxing multinationals according to the legal forms that their tax advisers conjure up, they are taxed according to the genuine economic substance of what they do and where they do it.”
Europe’s proposals for a Common Consolidated Corporate Tax Base (CCCTB) is a version of this, but its scope is too narrow, as the article continues:
“Tax experts have long argued that this approach is better. It is proved, too: most US states already use it successfully for state taxes. The EU’s proposal for a common consolidated corporate tax base goes a long way towards this, though its geographical focus should be expanded to require a worldwide combined report. It is possible to move towards unitary taxation without widespread international co-ordination, though that would certainly help.”
If you want to know more about unitary tax, see Prof. Picciotto’s draft paper here. It has some discussion of the CCCTB, but it far broader. A substantially edited final version of the paper will be available soon.