taxtax usus ifif yyouou cancan

the true story of a global failure Introduction to the Tax Justice Network

The Tax Justice Network (TJN) brings together organisations, social movements and individuals working for international tax co-operation and against tax evasion and tax competition. In an era of globalisation, the Tax Justice Network is committed to a socially just, democratic and progressive system of taxation. TJN campaigns from an internationalist perspective for a tax system which is favourable for poor people in developing and developed countries, and finances public goods and taxes public bads such as pollution and unacceptable inequality. Our objectives and demands are detailed in the TJN declaration (www.taxjustice.net).

Our network grew out of the global social forum process and the international Attac movement. TJN is a pluralistic, diversified, non-governmental, non-party and multilingual network. Local, regional and national civil society and social movement organisations as well as tax justice campaigners, researchers, journalists, development specialists, trade unionists, concerned business people, tax professionals, politicians and public servants are members and supporters of the network.

TJN is campaigning for social change through public debate and education. Public understanding of tax matters is the precondition for international tax justice. The network makes information available through mass media as well as through conferences and seminars, the internet, newsletters, publications in print, symbolic actions, demonstrations and advocacy. We base our activities on expertise and sound research.

TJN facilitates co-operation, communication and information sharing between its members. Our network organises international exchange and policy debates in order to harmonise the views and concerns of our members. This process forms the basis for powerful global campaigns in international tax policy.

TJN is run by its member organisations as well as individual supporters. The network functions on the principles of participatory democracy, empowerment, transparency, accountability and equal opportunity. TJN encourages and where necessary supports member organisations and individuals to participate in the decision making. The network supports the building of national TJN campaigns in particular in developing countries. An international secretariat coordinates the network's activities.

www.taxjustice.net tax us if you can

A Tax Justice Network Briefing paper September 2005 Comments on this briefing paper should be addressed to:

Tax Justice Network International Secretariat, c/o New Economics Foundation, 3 Jonathan Street, London SE11 5NH, Great Britain or by email to the contact authors:

Richard Murphy - [email protected] John Christensen - [email protected] Jenny Kimmis - [email protected]

Design, layout and artwork by Karl Rodgers:- Fandango Graphics - [email protected]

World map design by Ianiv Wainberg:- [email protected]

The Tax Justice Network would like to acknowledge the support of Christian Aid in preparing and producing this briefing paper, which is also available in Finnish, French, German, Portuguese and Spanish. CONTENTS

Page

Foreword 1

Introduction 3

1. Tax Justice: An Overview 8 1.1 What is a tax? 1.2 The concept of tax justice 1.3 What is a just tax? 1.4 Why tax justice matters 1.5 How to test for tax justice 1.6 Conclusions

2. Causes of Tax Injustice 22 2.1 Onshore is important 2.2 Comprehensive taxation systems are crucial 2.3 Regressive taxes should be avoided 2.4 The challenges posed by international income 2.5 How tax administrations might fail to ensure tax justice 2.6 Tax havens are a root cause of tax injustice

3. Key Players in Tax Injustice 28 3.1 The origins of the tax avoidance industry 3.2 The accountants 3.3 The lawyers 3.4 The banks 3.5 The transnational companies 3.6 Tax haven jurisdictions 3.7 Tax payers

4. Agencies Addressing Global Tax Issues 39 4.1 The OECD 4.2 The European Union 4.3 The United Nations 4.4 Governments 4.5 Civil Society

5. Towards Tax Justice 43 5.1 Corporate social responsibility 5.2 Automatic information exchange 5.3 Citizenship and personal taxation 5.4 Corporate taxation 5.5 Country level actions to improve personal and corporate taxation 5.6 General anti-avoidance principle 5.7 World Tax Authority 5.8 Tax assistance for developing countries 5.9 Holding governments to account 5.10 Publish who you are 5.11 Trusts 5.12 The national agenda

6. Glossary 58

www.taxjustice.net FOREWORD 'You see things; and you say "Why?" But I dream things that never were; and I say "Why not?"' George Bernard Shaw his is an excellent study on health, education and a very important subject, infrastructure, subsidies for Ton which both research and housing for the very poor and policy action has been extremely social safety nets are amongst key limited as well as clearly categories of such essential insufficient. spending. Cutbacks in public spending are often extremely When most economic activity was damaging and inequitable, as is domestic, national tax authorities increasing taxation on the less covered the majority of relevant well-off and less mobile. economic units. In the era of globalisation, capital, as well as the This state of affairs is by no means wealth of rich individuals, has inevitable. Strengthening become highly mobile. This international tax coordination mobility has been further between governments in order to enhanced by capital account reduce international tax evasion is liberalisation and technological a very valuable first step. In the advances. As tax authorities longer-term, a single world tax continue to be mainly limited to framework may be necessary to powers within their own deal with some aspects of countries, the result has been a international tax policy as well as massive loss of tax revenue. desirable to address large-scale Indeed, tax us if you can estimates global tax evasion. Steps in this that as much as US$255 billion is direction by tax authorities – such lost every year to governments as those outlined in this study – around the world because of the would make a major contribution no or low taxation of funds in to a world economy that would be offshore centres. more equitable, efficient and modern. Above all, those who With so much tax revenue lost have so little could potentially gain due to international evasion and so much, whilst those who have so avoidance, governments are forced much would lose only a little. to either reduce public spending and/or increase taxation on less mobile small companies or poorer individuals. This outcome is Professor Stephany Griffith-Jones particularly harmful in developing Institute of Development Studies countries where government Sussex University spending is essential to finance sustainable development and poverty reduction; spending on

www.taxjustice.net 1 INTRODUCTION

he associated problems of wealth was held offshore by rich capital flight, tax individuals. A large proportion Tavoidance and tax of this wealth is managed from competition are emerging as the approximately 70 tax havens in next major global issue requiring order to either minimise tax or attention. As public concerns avoid paying tax altogether. If about the widening divide the income from this wealth was between rich and poor escalate, charged to tax in the countries and the international community where those rich individuals comes under increasing pressure were resident or derived their to eradicate poverty, civil wealth, the additional tax society is paying far greater revenue available to fund public attention to the rising share of services and investment around global wealth that is now held in the world would be in the tax havens beyond the reach of region of US$255 billion national tax authorities. annually. Importantly, this estimate of revenue loss does Tax havens are part of a much not include tax avoidance by deeper problem facing the transnational corporations or globalised economy. As a result the lowering of revenue income of technological change and caused by tax competition. capital market liberalisation, rich individuals and transnational To put this figure into corporations (TNCs) can move perspective, the UN Millennium their money freely around the Project report stated that a world. Many have chosen to tripling of the global aid budget locate their wealth and their to US$195 billion a year by 2015 profits in offshore jurisdictions would be enough to halve world that offer minimal or zero tax poverty within a decade and rates. This has created prevent millions of unnecessary problems because in a world of deaths in poor countries. Over 50 per cent of globalised markets, tax regimes the total holdings of remain largely based on national Until quite recently laws and attempts to improve international initiatives to tackle cash and listed international cooperation in tax the problems posed by offshore securities of rich matters have been undermined finance and tax havens, the individuals in Latin by intense lobbying. majority of which are directly or America is reckoned indirectly connected to financial to be held offshore. The scale of capital flight to the centres in OECD countries, This figure rises to 70 offshore economy is immense. have paid insufficient attention per cent in the case of In March 2005 the Tax Justice to the position of developing Network (TJN) published countries. This situation the Middle East. research findings showing that changed in June 2000 when a US$11.5 trillion of personal major development NGO

www.taxjustice.net 3 published a report drawing the start-up. It follows, simply attention to the harmful impact because most businesses in the Proponents of tax of tax havens on developing developing world are smaller countries and identifying why and newer than those in the competition have their negative impacts are felt developed world and typically never answered the most forcefully in the South. more domestically focussed, that crucial question of this inbuilt bias in the tax system how far it should be Tax havens impact upon generally favours multinational allowed to go before developing countries in four businesses from the North over it compromises the major ways. their domestic competitors in functioning of a viable the developing countries. First, secret bank accounts and and equitable tax offshore trusts encourage Third, banking secrecy and trust regime. wealthy individuals and services provided by global companies to escape paying financial institutions operating taxes. Studies of offshore offshore provide a secure cover wealth holdings have shown that for laundering the proceeds of rich individuals in the South hold political corruption, fraud, a far larger proportion of their embezzlement, illicit arms wealth in offshore tax havens trading, and the global drug than their North American and trade. The lack of transparency European counterparts. For in international financial markets example, over 50 per cent of contributes to the spread of the total holdings of cash and globalised crime, terrorism, listed securities of rich bribery of under-paid officials by individuals in Latin America is western businesses, and the reckoned to be held offshore. plunder of resources by business This figure rises to 70 per cent and political elites. Corruption in the case of the Middle East. clearly threatens development, and it is tax havens that facilitate Second, the ability of the money laundering of the transnational corporations to proceeds of corruption and all structure their trade and types of illicit commercial investment flows through paper transactions. subsidiaries in tax havens provides them with a Fourth, the offshore economy significant tax advantage over has contributed to the rising their nationally based incidence of financial market competitors. In practice this instability that can destroy biased tax treatment favours the livelihoods in poor countries. large business over the small Offshore financial centres one, the international business (OFCs) are used as conduits for over the national one, and the rapid transfers of portfolio long-established business over capital in to and out of national

4 economies which can have a when paid for by reducing highly destabilising effect on public services – stimulate financial market operations. economic activity or create Many developing countries are jobs. There is evidence, required to hold large hard however, that increases in currency reserves to protect taxes, when used to expand their economies from financial the quantity and quality of instability. These reserve public services, can promote holdings are an expense that few economic development and developing countries can afford employment growth.i but, in the absence of international agreement on If this conclusion applies to a other more effective measures relatively high tax economy like to reduce market volatility, they the United States, it is even have little choice. more applicable to economies in south Asia and sub-Saharan Faced with the pressures of the Africa, where social and globalisation of capital economic development is held movements and the threat that back by under-investment in companies will relocate unless infrastructure, education and given concessions on lower health services. Proponents of regulation and lower taxes, tax competition have never governments have responded by answered the crucial question of engaging in tax competition to how far it should be allowed to attract and retain investment go before it compromises the capital. Some states with limited functioning of a viable and economic options have made tax equitable tax regime. Taken to competition a central part of its logical extreme, unregulated their development strategy. This tax competition will inevitably inevitably undermines the lead to a race to the bottom, growth prospects of other meaning that governments will countries, as they attract be forced to cut tax rates on investments away from them, corporate profits to zero and and has stimulated a race to the subsidise those companies bottom. The role of tax choosing to invest in their competition as a sustainable countries. This is already development strategy is happening in some jurisdictions. considered further in section1of The implications of this for tax this report, but a recent regimes and democratic forms empirically based study in the of government around the United States has found: world are dire.

There is little evidence that The problems that capital flight, state and local tax cuts – tax avoidance and tax

www.taxjustice.net 5 competition pose for poorer The Monterrey Consensus countries have been exacerbated included a call for: If developing by what appears to have been a failure on the part of the Strengthening international countries are to multilateral institutions to pay tax cooperation... and benefit from sufficient attention to the greater coordination of the globalisation, implications for the tax regimes work between the governments must of developing countries when multilateral bodies involved regain the capacity to promoting trade liberalisation and relevant regional tax their citizens as policies. Political pressure from organizations, giving special well as businesses the World Trade Organisation attention to the needs of (WTO) and the International developing countries and operating Monetary Fund (IMF) to countries with economies in within their borders, liberalise trade regimes has led transition. ii and to use the to a dwindling of revenues from revenues to finance trade taxes such as taxes on Strengthening international tax infrastructure, imports and exports. Unable to cooperation is a crucial part of essential public increase the relatively low remedying the current imbalance services and revenue yields from direct between globalised businesses taxation because of capital flight and nationally based tax regimes. necessary wealth and tax avoidance, poorer This does not have to mean redistribution. countries have switched the tax common tax rates, but it does burden on to consumers require agreement on a set of through sales taxes. This trend universal ground rules that will has become increasingly enable countries to reduce the pronounced over the past 30 scope for tax avoidance and years and is widely agreed to be illicit activities. If developing regressive since lower income countries are to benefit from households spend a higher globalisation, governments must proportion of their income on regain the capacity to tax their consumption. Unfortunately this citizens as well as businesses issue has not been adequately operating within their borders, addressed by the multilateral and to use the revenues to development agencies. finance infrastructure, essential public services and necessary The problems outlined above wealth redistribution. were also discussed in the report of the United Nations In their joint report on International Conference on Developing the International Financing for Development Dialogue on Taxation,ii the IMF, which called on developing OECD and World Bank have countries to mobilise resources, referred to providing technical especially domestic resources, assistance to improve the for development. effectiveness of tax

6 administrations in developing society in general was perfectly countries. What their report summed-up by a British did not make clear, however, is accountant who told the press how developing countries can in 2003 “no matter what effectively tackle the much more legislation is in place, the pressing issue of how to prevent accountants and lawyers will find capital flight to tax havens, the a way around it. Rules are majority of which are closely rules, but rules are meant to be linked both politically and broken”.iv This attitude is economically to OECD unacceptable in any context, but countries. Nor are there is particularly inexcusable when currently any global initiatives the victims of this predatory under way to abolish banking culture are the poorest and secrecy in tax matters, whether most vulnerable people on de jure or de facto in the case the planet. of offshore companies and trusts, or to implement a global The aim of this briefing paper is framework for automatic to help readers understand the information exchange of relevant issues underlying the global tax information. campaign for tax justice. The paper begins, in section one, by The absence of a global policy exploring the meaning of tax framework for discouraging justice before moving on to capital flight and aggressive tax examine why tax justice matters avoidance by TNCs has left nationally based tax regimes – particularly for poorer floundering. The legions of tax countries. Section two sets out planners who operate through the key systemic causes of tax havens are able to run circles injustice, and section three around officials in developing builds on this discussion by countries who are constantly looking at the key players of the hampered by the lack of tax avoidance industry. The transparency and cooperation roles of the principal agencies from the financial services that are trying to tackle global industry. Lawyers, accountants tax injustice are discussed in and bankers abuse their section four, and a range of professional status to facilitate options that TJN believe would harmful and anti-social behaviour help address the problems are purely for the sake of the high outlined in section five. Finally, fees that they can earn by a glossary of terms is included working in tax havens. Their to help with understanding the attitude towards democracy and language of tax.

www.taxjustice.net 7 1. TAX JUSTICE: AN OVERVIEW

ax justice means different 1.2 The concept of tax things to different people. justice Where there is an Some people think it means T income tax, the just paying little or no tax. Others Tax justice is like an elephant think it means that each person because you recognise it when man will pay more pays the same tax, either in you see it but it’s hard to define. and the unjust less on absolute amount, or more likely, That may be one reason why the the same income. at the same fixed percentage rate issue has taken so long to come whatever their income. And on to the agenda of civil society. Plato some people think it means that taxes should only be paid on a Tax justice has three components: limited range of things, such as income from employment or the duty of the taxpayer consumption, whilst other the duty of the state sources of income, usually international obligations derived from investments, are untaxed. None of these options The taxpayer offer a system that most people For the taxpayer, tax justice would regard as socially just or means that they accept their fair. This diversity of view does duty to the states in which they however demonstrate the need to be clear about reside to declare all their income fairly and openly and to what a tax is pay the taxes they owe as what tax justice is defined by the spirit of the law what duties these create in of that country or countries. combination for This means that: governments, individuals, corporations and other they never evade their taxes tax payers they do not seek to avoid their taxes, whether aggressively or not 1.1 What is a tax? they seek to comply with the taxation law of the A tax is any payment made to a states that applies to them government for which no direct benefit is provided in exchange, The state for example a payment based on The state has to create a a percentage of income earned system of taxation that: from an employment is a tax. Conversely, the payment of a Requires each person licence fee to a government, for (whether a real person or a example, to enable a person to corporate entity or trust) to use a car on the highway, pay tax according to is not a tax. their means;

8 Imposes no undue cost on rates when received by them to comply with that law; individuals or the Provides them with corporations they own and reasonable certainty as to the “ring fenced” tax regimes what is due; of most tax havens, which Provides a system of access mean that different tax to information and arbitration regimes are offered to when the law is not clear; companies and trusts owned Imposes a duty to ensure that by non- resident people when taxes are applied impartially, compared to those available meaning that: to people resident in the administration of tax has tax haven. to be and be seen to be Incomplete tax systems that free of corruption; are either not comprehensive collection of tax has to be in their scope or allow enforced, but within the income to fall through loop spirit of the law; holes. Both encourage taxes received are openly aggressive tax avoidance and and transparently non-compliant tax behaviour. accounted for, as is their use; The international dimension State expenses are budgeted There is an international and accounted for through dimension to the affairs of a democratic and transparent state which requires that the ‘By eroding the processes. following are avoided: revenue base, tax In addition a state has to avoid Creating competing tax competition can the following: systems. Nation states are become too much of not in competition with each a good thing. Bidding Regressive tax systems that other in the way that the wars between charge people on lower economic theory suggests countries can incomes to a higher should give rise to optimal undermine the proportional rate of tax than economic behaviour. As a those on higher incomes. result competing tax systems collective revenue Oppressive tax systems can give rise to seriously base. This increases which charge a source of sub-optimal behaviour on the the tax burden on the income to tax more part of governments. For less mobile industries than once. example, as research referred and on labour, relative Inconsistent tax systems to in this report shows, to capital.' which charge similar types of governments in tax havens income in different ways or that seek to attract capital to at substantially different rates. their financial services Financial Times Examples include taxing industries by offering low or identical income at different no taxes on the income

www.taxjustice.net 9 derived from those sources and savings choices. In such are denying substantial real world circumstances Taxes have to be taxation revenues to both governments should not rely developed and developing on one tax to meet all or planned as part of a nations. Since those even most of their needs. system which includes governments need revenues Comprehensive on the welfare benefits and to relieve poverty and fund source of revenue that it is not in isolation, and healthcare, education and supposed to charge. Income they have to cover other social services, taxes that let some income the broad scope of competing tax systems cannot be untaxed, sales taxes that economic activity. In be beneficial. ignore some sales, and tax Offering its sovereign space systems that ignore income tax terms this means to the citizens and legal flows derived from the sale of a just tax system has entities of other states so capital assets all provide the to have what is called that they can avoid any perfect opportunity for abuse a ‘broad tax base’. obligation to the state in because they are not which they reside or to any comprehensive. Importantly, other state in which they however, this trade. To do so is an act comprehensiveness has also that undermines the right of to take into account other governments to exemptions and reliefs in exercise their own support of social policy. sovereign will. Progressive when viewed as part of the whole system of This report seeks to explore taxes. This means that ways in which taxpayers and overall, taking all taxes into states can act in accordance account and having regard to with these principles of those who they are likely to tax justice. affect taxes start at low overall rates and with low absolute amounts due for 1.3 What is a just tax? those on low income and both the absolute amount of A just tax is: tax due and the absolute percentage rate at which it is Part of a system of taxes that paid increase with income. A meets the overall objective of tax system that derives a high tax justice. This means a percentage of the total tax variety of taxes are bound to revenue from indirect taxes be needed. Taxes are applied disadvantages poor people as to populations made up of they pay a higher proportion different people with a wide of their incomes in sales variety of incomes, values, taxes than those who preferences and consumption are wealthier.

10 Not significantly different in has sufficient revenue to fund rate from other taxes on the the physical and social nearest equivalent form of infrastructure essential to income operated by the same economic welfare, and also to state. Charging substantially enable a degree of wealth different rates of tax on distribution between rich and earned and unearned income, poor in order to promote or on corporations and equity and security. Significant individuals will inevitably issues of social and economic provide opportunities for concern are also affected by the what tax professionals call tax systems, including: ’tax planning‘. income inequality This means that taxes have to inequality of treatment be planned as part of a system gender equity (which includes welfare benefits) international relationships and not in isolation, and they the international have to cover the broad scope trading regime of economic activity. In tax sound investment terms this means a just tax management system has to have what is sustainable development called a ’broad tax base‘. Box 1 provides a startling indication of the scale of global 1.4 Why tax justice wealth that escapes taxation and matters the losses, in terms of tax revenue, that are involved. This Tax justice matters because the indicates just how far we are sustainability of any modern from achieving tax justice economy requires that the state at present.

www.taxjustice.net 11 Box 1: The value of wealth held offshore

Data on the value of wealth held offshore is hard to come by since neither governments nor the international financial institutions seems either able or willing to research the global picture.

The Bank for International Settlements (BIS) records bank deposits by country. According to their estimates, in June 2004 out of US$14.4 trillion total bank deposits, some US$2.7 trillion were held offshore. This means that approximately one-fifth of all deposits are held offshore. However, this figure relates solely to cash. It excludes allother financial assets such as stocks, shares and bonds, and the value of tangible assets such as real estate, gold and even yachts held offshore as well as shares in private companies. These assets are typically controlled through offshore companies, foundations and trusts, the latter not even being registered let alone required to furnish annual statements of account. The value of these assets is therefore unknown and harder to determine.

In 1998, Merrill Lynch / Cap Gemini’s World Wealth Report estimated that one third of the wealth of the world’s high net-worth individuals (HNWIs) is held offshore. According to their most recent wealth report, the value of assets held by HNWIs with liquid financial assets of US$1 million or more was US$27.2 trillion in 2002/3, of which US$8.5 trillion (31%) was held offshore. This figure is increasing by approximately US$600 billion annually, which brings the current figure to about US$9.7 trillion.

A slightly lower estimate was published by the Boston Consulting Group (BCG) in their Global Wealth Report for 2003. BCG estimated the total holdings of cash deposits and listed securities of HNWIs at US$38 trillion, which is broken down by geographical region of origin as follows:

Total wealth Probable amount offshore Continent (US$ trillions) (US$ trillions) North America 16.2 1.6 Europe 10.3 2.6 Mid East and Asia 10.2 4.1 Latin America 1.3 0.7 Total 38.0 9.0 These figures exclude real estate, non-financial assets and privately owned businesses. There is a third way of estimating the value of liquid assets held offshore. Data published in a report by the research arm of the global consulting group McKinsey & Company, shows that the total global financial capital amounted to US$118 trillion in 2003. This was split by asset type as follows: Value Asset type Per cent of total (US$ trillions) Quoted equities 32 27 Private bonds 30 26 Gov’t bonds 20 17 Bank deposits 35 30 Total 118 100

12 Whilst it might appear hard to reconcile the McKinsey figure for deposits with that of the BIS, it should be noted that McKinsey’s figure apparently includes the balances banks owe to each other which are not included in the BIS data quoted earlier. This means that the BIS data is a reflection of the sums held by individuals, non-banking corporations and trusts and is therefore more accurate for these purposes.

The ratio of cash to total financial assets has, according to McKinsey’s, ranged from between 3.3 to 3.85 over the past 4 years. An average of 3.5 would seem reasonable. Applying this average to the BIS offshore holdings yields a figure for total financial assets held offshore amounting to US$9.45 trillion. This provides a third estimate within the range US$9 to US$10 trillion. However, this estimate does not include real estate and other tangible assets, the ownership of private businesses held offshore, or other intangible assets such as the rights to receive royalties and licence fees. No one can be sure of the precise value of these assets, so they use a modest estimate that would add no more than US$2 trillion to the value of offshore holdings (which in view of the value of real estate may well be very modest indeed).This provides the basis for our estimate that the value of assets held offshore lies in the range of between US$11and US$12 trillion. We consider this to be a conservative estimate.

Income from offshore wealth According to the various wealth reports already referred to, wealth holders currently expect their assets to grow at between seven and eight per cent annually. An average rate of return of 7.5 per cent would therefore seem appropriate. US$11.5 trillion invested at 7.5 per cent yields a return of about US$860 billion a year. This is a reasonable measure of the offshore investment income each year.

Tax lost on offshore income The tax loss arising from US$860 billion being held offshore is estimated as follows. In 2003 Cap Gemini stated that 7.7 million people around the world held more than US$1 million in financial asset wealth. Normally these high net-worth individuals would be paying the highest rates of personal tax. Forbes magazine in 2004 stated that the average marginal tax rate for a person earning e100,000 that year was 37.5 per cent. However, this figure would be too high an estimate of overall tax losses since some assets held offshore will have been invested in ways that involve taxes being withheld rom payments made. We estimate that the average withholding on a portfolio of the type Cap Gemini refers to would be in the region of 7.5 per cent, On this basis we use an average tax rate of 30 per cent to calculate the overall tax loss.

US$860 billion at 30 per cent yields an annual tax loss of approximately US$255 billion resulting from wealthy individuals holding their assets offshore. This estimate does not include tax losses arising from: tax competition corporate profit-laundering

www.taxjustice.net 13 Tax justice and inequalities At the same time the rise in the of income use of tax havens by wealthy The subjects of every Global tax systems have become people and corporations has state ought to increasingly regressive over the caused a significant shift in the contribute toward the last 25 years. In the developed distribution of the tax burden, support of world this has been caused by a with a very large number of policy shift away from taxing super-rich people being able to government, as nearly business towards taxes on simply avoid paying tax or being as possible, in consumption and labour, such as given differential treatment. Tax proportion to their VAT and payroll taxes. In havens are justified by their respective abilities; contrast, the IMF and World proponents on the grounds that that is, in proportion Bank have required many they offer a legitimate way for to the revenue which developing countries to drop people and companies to avoid they respectively many of their tariffs on imports unfair tax burdens and enjoy under the and to introduce taxes like VAT regulation, but this assumes that protection of the on consumption in their place. all citizens and companies are state. In many cases the new taxes equally mobile, which is not the have not raised as much as case, and ignores the free-rider those they have replaced. This Adam Smith problem. has resulted in less spending on education, health and other Promoting equity through crucial services. This in turn has the tax system led to increased unemployment. Justice requires that people be treated alike if their These changes have been circumstances are similar. Many regressive because business of the world’s current taxation profits and capital income are largely earned by the rich, many systems do however encourage of whom are concentrated in dissimilar treatment of people developed countries, whereas who should be treated alike. poor households spend Examples include: proportionately far more of their disposable income on Not all income is subject to consumption and have been tax. If people on similar paying more of their income in income derive it in different tax as a result. The poorest ways and some income is households are in developing taxed and some (for example, countries. This trend towards from capital gains) is not, more regressive tax systems then they will have different partly explains why income and tax bills. wealth inequality has increased Different tax structures are in many regions of the world. taxed in different ways e.g. in

14 some countries self-employed bribe tax officials to agree income received through their affairs when others private corporations is taxed do not. more favourably than that Advantages are given to received directly by the foreigners. Many tax taxpayer. systems, especially in tax Unclear law allows different havens, provide benefits to tax deductions to different people temporarily resident people. If the law is badly in a country which are not drafted or poorly available to those born in it. administered it may be Those with different possible for some people to consumption patterns pay claim deductions against their significantly differing amounts income which others cannot of sales tax. secure. Corruption is a fact of life in Issues such as these can be a many parts of the world. serious cause of political tension Some people may have to and even conflict within society.

The rich pay less and the poor pay more: Cardoso’s tax legacy in Brazil During the years of Cardoso’s presidency of Brazil the employee’s income tax rate rose by 14 per cent and social security contributions by 75 per cent. Tax on profits, however, were reduced by 8 per cent over the same period.

The regressive nature of Brazil’s tax regime has been magnified by a value added tax regime that biases the tax burden towards lower income households, which pay approximately 26.5 per cent of their disposable income on VAT whilst high income households pay 7.3 per cent of their disposable income on VAT.

Source: Assessoria Economica de l’Unafisco, Brazil, 2004

www.taxjustice.net 15 The gender implications of often suffer the lowest levels tax justice of income in society. This Women and children Tax injustices impact on happens because sales taxes almost always suffer individual welfare throughout are charged on expenditure the world, but especially on by all consumers even when first when there are poor and lower income the level of income of a cuts in government households, many of which are household is below the spending. headed by women. Inequality of threshold at which income tax treatment matters to such tax becomes payable. people in particular because: The shift towards greater use of sales taxes has arisen in people need to be able to live response to increased tax on their after-tax income; competition. Because income is unfairly distributed businesses are mobile they around the world; 2.7 billion can exploit opportunities for people live on less than US$2 tax competition which a day; consumers and normal the distribution of tax as well citizens cannot. As a result as the distribution of income corporation tax rates have has an impact on welfare; been falling steadily and the some taxes, and especially shortfall in government those on consumption, can income is often made up by have a higher impact on increasing sales taxes or by welfare than others. cutting state expenditure. Women and children almost These issues are of particular always suffer first when there importance to women. Women are cuts in government typically earn less than men, but spending. Both use more the bulk of the responsibility for healthcare than men, and childcare falls on women in most children need education, societies and, in many cases, the which is expensive. economic burden of bringing up Benefit systems are often children also falls on mothers. poorly designed and badly This means women are often integrated within the tax particularly vulnerable system resulting in many economically. Many taxation women and children being systems exacerbate this in effectively trapped into several ways: patterns of poverty. This occurs even in wealthy Sales and consumption taxes countries because the are particularly penal on effective rates of tax they women and children who suffer as they start to work

16 are punitive due to the Nations do not compete with combination of tax being each other for the loyalty of charged and benefits being their citizens. Nor do they withdrawn. compete in the provision of services. The vast majority of The insidious impact of tax people must use the services of competition the state in which they live and Many in business and the concept of introducing pro-business political actors ‘competition’ between states argue that nations should makes no sense in terms of compete with one another to promoting meaningful choice for attract inward investment from users of public services. Instead, international business by creating downward pressure by offering: on tax rates, tax competition reduces the capacity of states to lower tax rates on profits finance public services tax holidays effectively. accelerated tax allowances for spending on capital assets In addition, tax competition subsidies does not, contrary to the relaxation of regulations; argument of those who support the absence of withholding it, exert competitive pressure taxes on governments to be more other forms of tax efficient. Governments are not inducement profit-maximisers in the economic sense of that term and This process, called tax competition, has been widely do not collude with one another adopted across the world and to raise tax levels in the way has become a key element in that businesses frequently shaping world-wide investment collude to raise price levels. In flows. The IMF, World Bank and a democratic system EU have all, in varying ways, governments are accountable to encouraged developing countries their electorate, who are highly to compete in this way for conscious of tax levels and must resources. Tax competition is, be allowed to decide between however, fundamentally flawed high tax / high spend and low as a development strategy tax / low spend governments. because it limits the control any Seeking to create an artificial country can have over taxation ‘competition’ between different policies and creates harmful states undermines the ability of distortions. electorates to choose between

www.taxjustice.net 17 these options and is Most tax systems are biased fundamentally anti-democratic. towards older companies which have frequently been Large, old, Distorting the international set up using structures that international trading system are now illegal, but which companies obtain In addition to being remain unchanged since the many tax advantages fundamentally anti-democratic, time they were created. This that small, new and tax competition is also harmful often allows them to operate nationally based offshore when new to the functioning of global trade companies do not, companies cannot. in two ways. First, tax Tax systems are biased which undermines any competition distorts investment towards transnational possibility of there flows by diverting investment to companies: being a level playing territories where, in many cases, TNCs find it much easier field in trade taxation. it is inefficiently used. That to abuse transfer pricing inefficiency is only compensated rules since these require by the tax subsidies the at least two countries to investment attracts. The only be involved. winners in such a process are TNCs are more able to the mobile businesses that can lower their tax rates using play one government off against licensing and thin another in order to secure tax capitalisation advantages and subsidies. This is arrangements. why the rise of tax competition TNCs can exploit tax has been so closely related to arbitrage techniques. the growth of globalised business. Very often all three characteristics combine so that Second, poor taxation systems large, old, international can affect the international companies obtain many tax advantages that small, new and trading regime because: nationally based companies do not, which undermines any Most tax systems are biased possibility of there being a level towards larger companies playing field in trade taxation. which can: As a result the start-up Set up offshore companies businesses are placed at a without question in cases disadvantage and additionally where individuals or small suffer the greatest tax companies cannot. compliance costs in proportion afford complex legal advice to their trade. to make it appear they acted in accordance with This tax distortion is to be the law. found around the world in

18 countries large and small, cost to be minimised in order to developed and developing, tax maximise shareholder value. haven or not. Since the world But this assertion is wrong on a economy is driven as much by number of counts: small businesses as large ones, tax injustice is clearly a First, shareholders benefit significant impediment to from tax paid by businesses around the world as corporations. That tax well as to a more just provides health, education, international trading system. welfare, the maintenance of peace and stability and other Small investors are benefits on which disadvantaged communities depend. Whilst Ordinary stock market brokers, analysts and investors, not all of whom are company directors might wealthy, can also be prejudiced argue for tax minimisation by current taxation practices. this does not necessarily Much of the wealth invested in reflect the views of the real the stock exchanges around the shareholders, who are world is controlled by pension seldom if ever consulted on funds and life assurance this matter. companies. Many of those who Second, because corporations save through such institutions have to make very little are on relatively modest disclosure about the taxes incomes. they pay in most countries there is no way of knowing Tax justice concerns arise for whether the tax figure they many ordinary people because declare to be due is their savings are being invested sustainable or not. If the in companies that are not being figure is not sustainable a transparent about the taxation current under-declaration will risks they face. Recent research lead to an overvaluation of suggests at least 75 per cent of shares because companies the largest UK quoted tend to be valued on post-tax companies do not pay tax at the earnings. If companies are notional tax rate of 30 per cent overvalued those with that applies to them. Some pay long-term savings, such as less than half this rate. people saving for retirement, tend to lose out. Those who manage these Third, the possibility for companies suggest that tax inflating share prices by should be treated as another reducing tax charges

www.taxjustice.net 19 encourages senior development NGO estimated management to aggressively this cost to be US$35 billion avoid tax because their share a year. That is the money options are triggered by lost because developing increases in the stock value. countries cannot charge the This puts their interests in tax rates they would wish direct conflict with those of because corporations refuse shareholders seeking to pay them or they negotiate long-term rates of return on special rates, or the countries their investment. This led to are told to offer reduced many of the problems of rates by the IMF or World corporate abuse of the tax Bank as a condition of system seen in the US, in obtaining financial support. particular in the late 1990s, US researcher, Raymond which imposed a heavy price Baker, reported in the on many shareholders in the Financial Times in 2004 that subsequent collapse of the up to US$500 billion of stock market. capital flight funds flow out of Fourth, investors might want developing countries each to invest in companies that year. He has suggested this are managed on an ethical figure has three components: basis. Many aggressive tax US$50 billion of funds avoidance practices would be flowing from corrupt considered ethically practices unacceptable, but without up to US$200 billion greater disclosure investors arising from commercial do not know which exploitation of taxation companies are engaging in weaknesses within the such practices. developing world e.g. extraction of profits by Sustainable development way of transfer pricing depends on tax justice abuses Tax policy is an essential US$250 billion of ‘capital element of the sustainable flight’ money arising from development agenda and tax criminal activity injustice represents an important obstacle to poverty Most of this ends up in tax reduction. havens where it can be held anonymously.v Tax competition is imposing a direct cost on developing countries. In 2000 a major

20 1.5 How to test tax behaved as we do would we justice consider their actions a threat to the welfare of our It is important to have tests state or its taxation revenues? available that will help to assess the tax justice of an action. Two such tests are needed. 1.6 Conclusions

The test for a taxpayer is that Unjust tax practices incur costs they should ask the question: which fall most heavily on poor If any government knew of what people. They also threaten the I am doing is it likely that they fabric of our society and would either: undermine the commercial trust that is the basis of the market think it illegal, or economy system. think it was legal, but they In combination, tax would want to change the These are costs the world competition, law to prevent others acting cannot afford. But there are aggressive tax in the same way in the winners in this process and it is avoidance, tax evasion future? to these that we now turn our and the associated attention and ask fundamental illicit capital flight to The test for anyone in questions such as: offshore finance government considering their centres imposes a taxation system is also in two Who created unjust taxation massive cost on parts and is: practices? developing countries. What exactly do these 1. Is our tax law just, taking practices consist of? This cost exceeds aid all its components into Who now promotes unjust flows by a consideration? taxation practices? considerable order of 2. If another government What can be done about it? magnitude and also distorts investment patterns to the extent that it undermines growth in developing countries whilst also stimulating asset market bubbles in developed and developing countries.

www.taxjustice.net 21 2. CAUSES OF TAX INJUSTICE

ax injustice is widespread. about this list is that more of it The figures we refer to relates to what happens within The outcome of these Tabove makes that clear. states than what happens But tax injustices happen for offshore or in the international failures has been the specific reasons, all of which arena. Tax justice is both a creation of the gaps, arise from human interventions. domestic and an international spaces and loopholes So who are the people that issue. The two are related, but in which abuse occurs. benefit from tax injustice and it is important to remember that The entire tax how have they shaped tax most people in the world never policies to obtain their goals? avoidance industry is leave the country in which they Before we consider this based on exploiting were born. This means that for question we need to identify in most people tax is a domestic these gaps, spaces and broad terms the reasons why issue determined by their loopholes. Sustainable tax injustices occur. place of birth. development is not The most common roots of tax possible without their injustice are: removal. 2.2 Comprehensive the failure to promote taxation systems are comprehensive tax systems crucial the promotion of regressive taxes Tax is the ultimate political the failure to charge all battleground. Conflicting income to tax interests need to be resolved failures of tax administration equitably if justice is to be the promotion of tax havens achieved. It is important that no to hide income from tax and government is allowed to to shelter criminal practices preserve systems of tax injustice lack of taxation on natural which could be amended resource use because they can argue, without fear of challenge that ’there is The outcome of these failures no alterative‘. There are always has been the creation of the alternatives in tax. gaps, spaces and loopholes in which abuse occurs. The entire Any government seeking to tax avoidance industry is based on exploiting these gaps, spaces pursue the cause of tax justice and loopholes. Sustainable would promote the following: development is not possible without their removal. Income tax, probably split between federal (or national) and local levels and charged 2.1 Onshore is on income from: important employment self-employment The most obvious thing to say any form of trade

22 investment income such comprehensiveness is rent essential: profits not taxed by other taxes With a broad range of taxes A corporation tax on no single tax is overly company profits if not important in the income of covered by income tax. the government. That means A capital transaction tax or each tax can be charged at a Tobin tax. reasonable level, so reducing Capital gains tax. the incentive to avoid or Inheritance or gift tax. evade it. A sales tax (although with With a comprehensive range specific exemptions for of taxes if one tax is avoided essential items such as food, there is a high probability housing, heat and light, that another catches the education, health, and basic income instead. For example, clothing, at least for children). income which a tax payer Environmental taxes, seeks to reclassify as a capital including and especially gain is caught by a capital energy taxation. gains tax. But in the absence Withholding taxes on income of a capital gains tax the paid abroad. temptation to wrongly Stamp duty. describe income in an attempt to avoid tax rises Payroll taxes may discourage substantially. employment, but in many cases These taxes address different they can raise substantial sections of the economy, and revenue. If it is necessary to in combination achieve an ensure overall tax rates are kept even spread of taxation at a reasonable level, then a across the economy. This payroll tax may also be added increases the chance that to the list. taxes are equitable in that each contributes in a Nine or ten taxes do not make progressive way. for a simple tax system, and the Some taxes are included less situation is further complicated for their contribution to by the fact that any taxation revenues (this is probably system must be integrated with true of most gift and state benefits. This integration inheritance taxes and, at is essential to ensure very high present, many environmental tax rates are not created when taxes) but more because the benefits are withdrawn as chance of avoidance is much earnings increase. There are, higher without them because however, good reasons why the information they provide

www.taxjustice.net 23 gives an overview of a the proposal is made will raise taxpayer’s affairs and its income, and what tax rates Much of the work therefore helps to ascertain will be required to enable it to undertaken on tax whether other tax liabilities do so. A ‘flat rate’ tax system is are being fairly assessed. likely to result in a considerable havens, and a large overall shift of the tax burden part of the tax In principle the base for each tax on to people with lower planning industry, should be: incomes. involves exploiting legal loopholes for tax as broad as possible planning purposes, subject to as few exemptions 2.4 The challenges which ultimately and incentive deductions as posed by international involves tens, and possible to prevent loopholes income being created, subject always maybe hundreds, of to the need for those Even when a country has thousands of trained allowances needed for the established fair taxation within accountants, lawyers, implementation of its boundaries there remains a and bankers in an social policy risk that the resulting system activity that is wholly could be unjust because it may unproductive and not charge international income 2.3 Regressive taxes anti-social. should be avoided to tax appropriately. This might arise for two reasons: All comprehensive tax systems First, it may fail to charge to include some regressive taxes. tax income arising within its Sales and carbon taxes, for territory but which belongs example, may well be regressive, but, if they form part of a to people resident elsewhere, comprehensive system of taxes or; and benefits, regressive Second, it may fail to charge outcomes can be mitigated to tax income belonging to through other parts of the people who are resident in its taxation system. territory where that income is earned elsewhere. It is important that arguments put forward in favour of having Both these failings are just one or two ‘simple’ commonplace, and both give rise (typically ‘flat rate’) taxes are to considerable tax injustice. It resisted. Almost invariably such is obviously contrary to the taxes are promoted by those principle of fairness that people with wealth, or those who act should be treated differently for the wealthy, and are rarely from each other on similar accompanied by any analysis of sources of income because how the government to whom either:

24 They live in different places Tax systems can also fail to which happen to be divided charge all income to tax even by an international border when a government has sought even though the income in to be comprehensive internally question is earned in the and in its international same place. dimension because the tax law They can shift the source of of the country has loopholes their income outside the and flaws within it which can be country in which they live but exploited by people who aim to it is otherwise similar in all abuse the spirit of the laws. respects to an income which This process, called aggressive would have been taxed within tax avoidance, occurs when that country if it had been people and companies undertake earned in it. transactions which fall within the loopholes in the law in order to For this reason countries have avoid tax on the transactions. to adopt rules to tackle these Much of the work undertaken issues. No one rule can tackle on tax havens, and a large part this problem comprehensively: of the tax planning industry, just as a range of taxes are involves exploiting legal needed to ensure tax is fair, so a loopholes for tax planning range of rules are needed to purposes, which ultimately ensure different sorts of income involves tens, and maybe are taxed fairly when hundreds, of thousands of international issues are taken trained accountants, lawyers, into account. What this means is that a country cannot rely on and bankers in an activity that is just a source or residence basis wholly unproductive and of taxation. A combination of anti-social. both is needed. Even then, a further set of provisions are required to capture those who 2.5 How tax might exploit any remaining administrations might gaps. This might require a fail to ensure tax justice citizenship basis for individuals and a unitary basis for Tax administrations can fail at companies, both needing to be numerous levels: used when the tax payer or company has a substantial Tax law is not clearly written. international dimension to their Tax law is not readily taxation affairs. It is only available to everyone who through a ’layering‘ approach to wants it. taxation that the problems of It is not fairly applied. tax injustice can effectively There are few or excessively be tackled. expensive means of appeal

www.taxjustice.net 25 against decisions made by for this reason that no African taxation authorities. country has raised a successful It is not possible to Tax is not collected in an attack on a transfer pricing even-handed manner. arrangement although it is have flourishing, Tax authorities fail to known that transfer pricing corruption free states coordinate with each other, abuse is rife within that in the developing either within a country or continent. world without strong internationally to ensure fair administrations to taxation is applied to a Tax justice requires that these provide them with the source of income either administrations get the revenues they need to within, or from outside, resources they need to fulfil the the country. task asked of them by their fulfil the reasonable Tax administrations do not citizens. It is not possible to expectations of their have the resources they need have flourishing, corruption free peoples. to undertake their work states in the developing world properly. without strong administrations Strengthening tax The burden of tax to provide them with the systems in developing administration is passed to revenues they need to fulfil the countries should the private sector without reasonable expectations of their clear guidance being given, peoples. Strengthening tax therefore become a but with penalties being systems in developing countries high priority. imposed for failure to comply should therefore become a high with the law. There is priority. Funding and technical particular risk of this in the assistance is urgently needed to administration of payroll make this possible. taxes, taxes on employed income and all forms of sales tax. 2.6 Tax havens are a The tax administration root cause of tax is corrupt. injustice

These are serious issues. If a tax There is little that has system is not backed by fair law contributed more to tax it cannot result in tax justice. injustice than the promotion of Whilst the tax administrations of tax havens. Tax havens are, in many developed countries are many senses, fictional spaces. generally good, those in many Of course there is a physical developing countries are not. reality that bears their name, This is not, it should be but the tax haven operations stressed, down to corruption, they promote have in most rather it is the scarcity of cases an unusual common resources to tackle the characteristic: although a problems of raising tax inside company might be registered in those territories. It is probably a tax haven, under the terms of

26 its constitution it is not allowed There is a further benefit in the to trade there. The pretence is eyes of the person who sets up made that they trade such an arrangement. Officially somewhere else, whether that is the company, trust and trustees the case or not. might each be located in a different territory, but equally In addition, although a company each of them might suggest that might be registered in a tax their activities do not take place haven territory almost no in the country in which they are information about it needs to be located. The outcome is that recorded with the government the tax haven activity appears to of that tax haven. Even if the take place nowhere. Which names and addresses of the means it is accountable to no shareholders and directors must one, pays tax to no one, and has be reported, it is almost never no duty to report anything required that these be on public because it can deny it record, and nominee names are is anywhere. allowed. A nominee name is a person who is paid a small fee In the secretive, parallel to say they are a director of a universe of tax havens, tax haven company when in fact structures can be set up to they have no real involvement in carry out real functions in the its operation. real world but without any In the secretive, requirement for a transparent parallel universe of To add to this air of secrecy and legal presence that confirms artificiality, many tax haven their existence or the nature of tax havens, structures companies are owned by trusts. their activities. This creates the can be set up to carry These trusts are themselves set opportunity for all sorts of illicit out real functions in up offshore, but often in a activities by: the real world but different territory from that in without any which the company they own is allowing tax evasion to take requirement for a registered. The trustees of that place largely undetected transparent legal trust (who will, almost certainly, facilitating capital flight also be nominees) will typically allowing other crimes such as presence to confirm be located in a third tax haven money laundering, drug their existence or the territory. Within the tax trafficking, people trafficking nature of their planning industry it is generally and so on to take place activities. This thought that involving three tax largely undetected creates the haven territories in such a opportunity for all structure will make it very All these things undermine sorts of illicit difficult for outside authorities civilised society. The offshore to investigate what is really economy of tax havens is a activities. happening, and who is benefiting massive cause of tax and social from it. injustice.

www.taxjustice.net 27 3. KEY PLAYERS IN TAX INJUSTICE

ax injustice does not the rich and for businesses to happen by chance. It avoid paying taxes. It is for this Ttypically happens as a reason that civil society has result of careful and deliberate decided to tackle this issue in planning, especially in the case of order to counteract the trend the aggressive tax avoidance towards greater tax injustice. industry. Huge resources are By raising the issue on the devoted to this industry because international agenda, civil society the profitability of tax avoidance aims to generate the political is far higher than that of most will to tackle abusive other types of financial tax practices. services activity.

The following are the main 3.1 The origins of the players who promote tax avoidance industry tax injustice: It is important to understand accountants some of the historical lawyers background to the current banks situation. transnational companies tax haven governments The ‘offshore’ phenomenon tax avoiders and tax evaders probably began in the US when states such as New Jersey and The following are trying to Delaware realised that they tackle the problem: could lure businesses from more prosperous states by offering tax the Organisation for advantages on condition that Economic Cooperation they register in their states. and Development Incredibly, this practice began in the United Nations the late nineteenth century but the European Union was similar to many modern tax tax authorities who are losing haven practices. revenue as a result of the abuse The first real cases of civil society international tax planning occurred in the British Empire in At present those who promote the early twentieth century tax injustice have the upper when wealthy people started to hand in this battle because use offshore trusts established in globalisation and technological places like the British Channel change has made it easier for Islands to exploit the curious

28 British phenomenon of the banking secrecy, a concept separation of taxation residence which they developed at the and domicile. time of the French Revolution (for the benefit of the French In the 1920s the UK added new aristocracy) but which became ways for the internationally enshrined in Swiss law in the mobile person to avoid tax. 1930s. The Swiss believed at This happened when a UK court the time that it provided them ruled that a company with a competitive advantage as incorporated in the UK was not a small, land-locked state in a subject to UK tax if its board of hostile European environment. directors met in another country and it undertook all its None of these things happened business overseas. At a stroke, by chance. They were thought the concept of the separation of up by lawyers and accountants the place of incorporation of a and were exploited by them and company and its obligation to their bankers for commercial gain. pay tax had been created. This concept survived in UK law until the 1990s, by which time it had 3.2 The accountants become the basis for the operation of most tax haven Accountants have played the corporations throughout largest part in promoting tax the world. injustice. Much of the planning that has created the current The idea of splitting the duty to environment of tax injustice pay tax from the concept of took place within the British taxation residence was finally commercial and legal severed for individuals in the environment in which Enron declared profits 1930s, when Switzerland began accountants rather than lawyers of US$2.3 billion to offer internationally mobile tend to be at the forefront of between 1996 and people residence in that country tax advice. Accountants have 1999 but paid no tax. and only required them to pay a increasingly organised It employed a fixed amount of tax a year, themselves into transnational network of up to agreed in advance and not companies or partnerships, 3,500 companies to varying with income, details of largely driven by the need to be achieve this aim, at which did not need to be able to audit their transnational least 440 of these disclosed. This concept has client companies under the been widely copied. statutes of most developed being registered in the countries. Cayman Islands alone. The other major Swiss contribution to tax injustice is After many consolidations,

www.taxjustice.net 29 mergers and the failure of Treasury up to US$85 billion in Arthur Andersen, there are now lost revenue. just four large firms of accountants in the world. They Deloittes and Andersen (a firm are (in current order of size): it has now substantially absorbed) were criticised for PricewaterhouseCoopers the work they did for Enron by (PWC) the US Senate in its report on Deloitte Touche Tohmatsu the failure of that company. KPMG Enron declared profits of US$2.3 Ernst & Young billion between 1996 and 1999 but paid no tax. It employed a These firms have combined network of up to 3,500 annual revenues of US$55 companies to achieve this aim, billion. Each operates in at least at least 440 of these being 139 countries. KPMG had registered in the Cayman Islands offices in more than 30 of the alone. states identified as offering unacceptable tax practices by KPMG was heavily criticised by the OECD in 1998, although it the US Bankruptcy Court for its has closed or renamed a few of role in creating tax saving those offices since then. All schemes which lacked economic have offices in all the major tax substance on behalf of havens of the world. WorldCom before it failed. These schemes were designed Each has been heavily involved in to save it billions in tax through promoting tax haven activities. what were subsequently PWC, Ernst & Young and most considered entirely artificial particularly KPMG were heavily arrangements involving the criticised for promoting the sale licensing of what KPMG called in the US of what the US Senate ‘management foresight’. Given Permanent Subcommittee on the spectacular failure of that Investigation called ‘tax company it is not hard to see products’ in 2003.vi That that this management foresight committee found that some of had little real worth. these products were almost certainly illegal. They found that In addition, the evidence of the KPMG may have made at least inappropriate behaviour of these US$180 million from the sale of firms does not come from the some such schemes and that US alone. In 2005 the European collectively the schemes they Court of Justice offered an sold had probably cost the US opinion on a KPMG promoted

30 scheme for avoiding the UK's they appear to play in sales tax, or VAT. In their sales promoting corporate social promotional literature for the irresponsibility in tax scheme KPMG admitted that avoidance. they knew that the UK taxation Although they no doubt avoid authorities would consider the dealing with the more sordid scheme to be ‘unacceptable tax and more criminal end of the avoidance’. They nonetheless offshore taxation and promoted it as a tax product to accounting market, the people who were not previously respectability their presence clients of their firm. The court bestows on many of the opinion concluded that KPMG’s world's tax havens means tax shelter was an improper that these are provided with attempt to avoid VAT. Of an apparent legitimacy that course these firms are not alone they do not deserve. in promoting a culture of tax These firms wish to appear avoidance, or in suggesting the to be bastions of society, use of tax havens. But they frequently promoting the have a particular responsibility arts, academic chairs, and to bear for a number of reasons: even institutes of ethics, but appear not to wish to have Their size means they the critical eye of scrutiny dominate the world-wide passed over their own accounting profession. activities. For example, They are so big that another KPMG is operated from a failure would now effectively secretive Swiss base whilst mean that the world-wide PWC's international audit market would collapse operations are hidden behind for lack of choice of firms to an obscure company in undertake the work. They London which claims to have plead special privileges for no income but does operate themselves because of this, its global web site. Although but appear not to recognise the firms do publish accounts, their duty to society this has been a very reluctant in return. move which has only They heavily promote the happened in the last two cause of corporate social years in the case of PWC and responsibility, no doubt the data supplied is by no because they see an means that needed to opportunity to make money understand and scrutinise from it, but do not appear to commercial operations of recognise the critical role their size;

www.taxjustice.net 31 These firms use their tax havens, aggressive tax privileged positions as planning or the promotion of None of the ethical government advisers to non-compliant taxation codes of conduct promote their own and their behaviour by its members. In client’s special interests. For view of their privileged position, promoted by the example, in 2004 partners accountants have a duty to professional bodies of from KPMG and PWC in support a change in the ethics of accountants Jersey lent their names to a the accountancy profession so condemns the use of paper supporting the that all these activities are tax havens, aggressive introduction of a regressive banned. tax planning or the sales tax but lobbied for their promotion of own exemption from this tax non-compliant in order to ’protect their 3.3 The lawyers taxation behaviour by competitive position‘. It is its members. clear that these firms are Lawyers have undertaken the politically active in creating following critical roles in the taxation structures that creating tax injustice: cause much of the taxation injustice in the world. they have written the laws that have allowed much of it Because of this, these firms to take place have a special responsibility to: they have sought to enforce those rules abandon their support for tax they have created a climate haven practices of fear in which it is believed stop all forms of taxation that a person must act in tax planning that are not non-compliant ways if tax compliant they are to act in cease promoting taxation accordance with the law policies that increase (although that is not true) tax injustice they are to meet shareholders expectations They have a further duty. (although shareholders are Their members dominate the not asked if that is true) administration of the most of they are not to breach the the professional institutes of secrecy rules that lawyers accountants around the world. have themselves drafted in These professional bodies many of the tax haven promote ‘ethical codes of territories conduct’. TJN research suggests they write the commercial that none of these ethical codes contracts which incorporate of conduct condemns the use of the use of offshore and other

32 steps that seek to use the representation and the Pacific secrecy space of the offshore territories see more Australian world and New Zealand banks. But they usually create the trust nowhere does a territories’ deeds and other documents banking service operate that allow the abuse that in isolation. these types of structure allow they act as nominee directors People bank offshore because and shareholders, or arrange they recognise and trust the the services of those who do names of the banks to whom they give their funds. Without As is the case with many these banks operating in this way accountants, there are lawyers the offshore world could not who prefer to avoid using the exist. And without the banking offshore and tax haven world. secrecy which all these banks But unfortunately that is not support, the administration of true of the profession as a the world’s tax system would be substantially cheaper and more whole, and many of the larger, effective. For this reason the more commercial firms are leading transnational banks, heavily involved in promoting without exception, play a major practices which use offshore role in the offshore world. structures. They also play a substantial role in the world of aggressive tax 3.4 The banks avoidance and evasion. In the official reports in the US that The world of offshore finance, have criticised the roles of most and the tax abuse that goes with of the major firms of it, is dependent upon the accountants in supplying abusive presence of mainstream banks in tax products many major banks the offshore territories. were named for knowingly providing the funding to facilitate The banks tend to cluster in these transactions. Those Without banking havens that are geographically named included Deutsche Bank secrecy the located close to the regions in which knowingly financed tax administration of the which they operate. Thus the products produced by KPMG. world’s tax system Cayman Islands attract South JP Morgan Chase and Citigroup would be substantially American banks, for example, were also criticised in various whilst Bermuda and the Bahamas cheaper and more ways for their role in the Enron have a large presence of US debacle, including providing effective. banks, the Channel Islands have finance through offshore strong British and European vehicles.

www.taxjustice.net 33

3.5 The transnational First, tax is not a cost and companies accountants demonstrate this when they declare a pre-tax Transnational companies profit in the profit and loss deserve special mention amongst account and subsequently show those who promote tax two distributions from that injustice. They are, of course, figure. The first distribution taxpayers, but their role can be being tax and the second being highlighted for several reasons: dividends paid to shareholders. The tax due on a company’s they are, or should be, the profits is not described as a cost largest taxpayers in any accepted accounting they have greater opportunity standard. Like dividends, it is a to abuse the world’s tax return to a stakeholder out of systems within the letter of the surplus made by the the law than any other company. taxpayer when they transgress it is In that case it cannot follow that eventually very obvious, and there is an obligation to imposes costs on a great minimise the tax cost in a many people company because tax is not a cost. This statement is consis- This gives transnational tent with company law in most corporations a special countries in the world. That responsibility to ensure that law says, in most cases, that a they pay the taxes they owe in company must be run for the the countries in which they benefit of the shareholders. In make profits. There is however many cases that obligation is overwhelming evidence that this also qualified by a requirement is not what they do. Instead in to take the interests of other almost every case TNCs stakeholders into account. argue that: What is certain, however, is that company law does not require a tax is a cost company to: costs must be minimised their duty to their operate outside the spirit of shareholders requires them the law to do this take the risk of breaking they must in consequence the law avoid tax wherever possible hide what it does from view (including that of the This is a disingenuous argument. shareholders)

34 undermine the tax systems responsibility for the problem of which support the societies in tax injustice. All have which its stakeholders live by contributed in some way failing to make appropriate towards creating a system which payment towards them contributes to the imbalance of wealth distribution in the world, Nor, unfortunately, is there which hinders sustainable evidence that TNCs or their tax development. advisers have consulted Some of these microstates see shareholder views on this no way out of the dilemma matter. It is fair to assume that which they have created for many shareholders in pension themselves. In places like funds, mutual funds and Cayman and Jersey more than structured savings schemes, who 50 per cent of the economy is own - albeit indirectly - the dependent upon the financial shares in most transnational services industry. If tax haven corporations, would not want a activities were to stop the company to minimise its tax bill. economy of the country would They most certainly would not collapse in the short-term. want it to do so if that involved However, these places are small risk of: and the cost of providing them with economic support during a The OECD has tried illegal action, as much tax transition to the creation of a to take action against planning does more gainful economy is miniscule in proportion to the some of the smaller underpayment to developing countries, as much transfer costs they currently impose states who have pricing does upon the world economy. abused the world tax the creation of artificially For countries such as system through the inflated short-term share Switzerland, the UK and use of harmful tax prices which the Luxembourg, all major tax practices, including understatement of current havens, the problem is one of classic tax haven tax liabilities usually will political will. The OECD has activities. The OECD higher taxes being paid by all tried to take action against some and the EU have been other members of the of the smaller states who have less successful at community abused the world tax system bringing their own through the use of harmful tax members to book practices, including classic tax 3.6 Tax haven when they have haven activities. The OECD and jurisdictions undertaken the same the EU have been less successful at bringing their own members activities. The tax havens and microstates to book when they have listed in Box 2 carry a burden of undertaken the same activities. page38

www.taxjustice.net 35 Box 2. Tax Havens of the World

The Caribbean and Americas Anguilla Montserrat * Antigua and Barbuda * Netherland Antilles Aruba * New York The Bahamas Panama Barbados Saint Lucia * Belize St Kitts & Nevis * Bermuda Saint Vincent and the British Virgin Islands Grenadines * Cayman Islands Turks and Caicos Islands Costa Rica Uruguay * Dominica * US Virgin Islands * Grenada

Africa Liberia São Tomé e Príncipe * Mauritius Somalia * Melilla * South Africa * The Seychelles *

Middle East and Asia Bahrain Macau * Dubai * Singapore Hong Kong Tel Aviv * Labuan Taipei * Lebanon

36 Europe Alderney * Isle of Man Andorra Jersey Belgium * Liechtenstein Campione d’Italia * Luxembourg City of London Madeira * Cyprus Malta * Frankfurt Monaco Gibraltar Netherlands Guernsey Sark Hungary * Switzerland Iceland * Trieste * Ireland (Dublin) * Turkish Republic of Ingushetia * Northern Cyprus *

Indian and Pacific Oceans The Cook Islands Niue * The Maldives * Samoa * The Marianas Tonga * Marshall Islands Vanuatu Nauru *

Source: Economist Intelligence Unit, OECD, John Christensen and Mark Hampton (UK academics working in this field)

Note: This list of 73 countries and territories excludes territories which have some tax haven features but are not commonly used as such, e.g. New Zealand. Those 34 territories marked with an asterisk have developed their activities in the last 25 years according to Christensen and Hampton, representing almost a doubling in the number of tax haven territories during that period.

37 There is an urgent need to would not occur without create consistency in the individuals who want to exploit approach towards harmful tax the system. In a just world one practices including low tax rates, might hope that an appeal to the failure to apply withholding reason and the common good taxes for non-residents and the would discourage those who use refusal to exchange tax data tax havens and other aggressive between countries. All havens, tax planning practices. In reality, large and small, developed and however, where an opportunity developing, share this exists some will exploit it. responsibility without exception, but the richer nations have the That is why we concentrate the greater responsibility because recommendations we make later they maintain their systems at in this report upon: the cost of imposing a direct burden upon the poor of stopping the supply of these the world. services making it harder to benefit from them ensuring the penalties from 3.7 Tax payers seeking to exploit such activities are sufficient to Of course, tax injustices of the discourage those considering type we have described above doing so

38 4. AGENCIES ADDRESSING GLOBAL TAX ISSUES

he problem of tax injustice progress has been made, much is rising on the agendas of remains to be done. That is Tmany organisations and largely because of conflicts civil society groups. The principal between the tax havens that the agencies tackling tax injustice are: OECD had targeted and the inability of the OECD to stop some of it principal member 4.1 The OECD states from pursuing the very practices the OECD has The Organisation for Economic described as harmful. Cooperation and Development (OECD) issued its report called Nonetheless, the progress that Harmful Tax Competition in 1998. has been made is to be It defined the factors to be used welcomed. The environment in in identifying these harmful tax which tax havens operate has practices, many of which it changed because of the OECD associated with tax havens and initiative. made wide-ranging recommendations to counteract such practices. In doing so the 4.2 The European OECD added its voice to that of Union the Financial Action Task Force, which has been criticising tax The European Union (EU) also havens for their role in money identified problems of harmful tax laundering since 1989. They practices within its borders were joined in this mutual during the 1990s. It made little critique of havens in 1999 by the sense for the EU to promote a Financial Stability Forum which single market between its concentrated on international members if they were competing financial stability through with each other on tax. information exchange and international cooperation in The EU has done two things. financial supervision and First, it has called on its member surveillance. states to end preferential tax regimes, and this has restricted The OECD approach has been to some of the more esoteric tax seek to eliminate harmful structures offered by some of its practices, and it largely sought to member states, especially in do this by obtaining mutual Ireland and the Benelux undertakings to do so, conditional countries. This step has also upon agreement between all the resulted in pressure being participating jurisdictions by 2005. brought to bear on the UK to require it to stop some of the That deadline is now approaching more abusive behaviour of some and it is clear that whilst of the tax havens operating in its

www.taxjustice.net 39 Overseas Territories and Crown As a result bank customers in these countries can choose Dependencies. Because of this The European Union pressure these havens are being between their country specific required to offer the same rates withholding tax or voluntary Savings Tax Directive to companies owned by their disclosure. The rate of has established the citizens as they offer to those withholding tax is to increase principle of automatic companies owned by over time, so encouraging information exchange non-residents. In many cases this disclosure. between nations and appears at present to have been is therefore a counterproductive because these The current state of the havens have reacted by offering European Union Savings Tax welcome step low or zero corporation tax Directive (EU-STD) is far from towards a global rates, but many of the ideal. The withholding tax option framework for mechanisms they are adopting undermines the system of automatic information automatic information exchange, appear unsustainable and it is exchange. likely that this action might have a but more importantly the serious impact on the future of Directive only applies to accounts some of these territories. held by individuals. It does not relate to funds held in trusts and companies, which is how most The second initiative the EU has offshore assets are held. But the promoted has been to facilitate EU-STD has established the the automatic exchange of principle of automatic information information between member exchange between nations and is states on bank and other deposit therefore a welcome step holdings held in other member towards a global framework for states. This has caused automatic information exchange. considerable political difficulty, This provides a policy framework partly because this provision does that can be expanded to include not just apply to the EU, but also all bank accounts and extended to some dependent territories to include all countries. such as Jersey, Guernsey and the Isle of Man as well as some non-EU European countries such 4.3 The United Nations as Switzerland and Liechtenstein. Furthermore some EU countries The role of the United Nations and Switzerland have not yet (UN) in taxation is not very accepted the concept of widely understood. Its first automatic information exchange. contribution has been to As a result Belgium, Luxemburg encourage nations to agree and Austria have all opted to double tax treaties to ensure the apply a withholding tax on such smooth running of international interest payments rather than taxation. The League of Nations participate in automatic began this process in the 1920s. information exchange against the The UN has published a model wishes of their banks’ customers. double tax treaty although it has

40 largely been supplanted by that anyone to participate in such published by the OECD, on activities whilst seeking to which most double tax treaties provide as fair a tax system as it are now based. can for its own citizens and those who undertake business within The UN’s second role is as host that territory then it is on the of a little known committee now right path. called the Committee of Experts on International Cooperation in There are increasing signs that Tax Matters. This committee has the governments of the world are met in several forms since 1967. willing to tackle the issue of tax To date its influence appears to injustice, at least to the extent have been limited, but its status that it might help them to was upgraded in 2004, apparently recover lost taxation revenues. in accordance with the wishes of As a result there are notable UN Secretary General Kofi trends towards: Annan. The significance of this move is high. This is the only The introduction of general global committee that considers anti-avoidance provisions in international taxation matters and taxation law. Jeffrey Owens, head could potentially form the basis of Stiffer penalties for tax of tax at the OECD a World Tax Authority, discussed avoidance and evasion. in the final chapter. Limits upon the rights of was quoted in the accountants, lawyers and Financial Times in others to sell tax planning November 2004 4.4 Governments schemes without disclosing saying “the emergence what they are doing to of non-governmental Some governments promote tax taxation authorities. organisations intent haven activities. Others expend International cooperation to great efforts in challenging them. tackle these abuses, both at a on exposing Some do both; for example the multilateral level through the large-scale tax States of Jersey are introducing OECD, EU, etc, and also at a avoiders could some of the most draconian bilateral level. For example, eventually achieve a anti-avoidance tax measures in the tax authorities of the US, change in attitude the world in 2005 to stop their UK, Australia and Canada are comparable to that citizens taking advantage of the now cooperating to tackle tax haven services that Jersey international tax avoidance. achieved on promotes for sale to the citizens Governments taking action to environmental and of other countries. tackle tax haven abuse. The social issues: Tax is case study from Ireland where the This clearly suggests one way in included later in this report is environment was which the attitude of a country a good illustration of this. 10 years ago”. towards tax injustice can be assessed. If it is consistent in its These moves are welcome, but it approach, making it hard for is also true that many countries,

www.taxjustice.net 41 and international organisations, France, has since 2000 developed remain committed to policies into an international pressure which result in tax injustice, such group which is actively tackling as tax competition. The US and the problems of tax fraud, UK, for example, have such a financial crime and the misuses of commitment, as does the OECD. tax havens. ATTAC-Deutschland This means that their parallel took a lead role in forming TJN. attacks on harmful tax practices are intellectually flawed. All Until recently international tax governments need to have a policy was a relatively lonely area consistent approach to these in which to campaign. Perhaps an matters so that their example helps demonstrate this. commitment to tax justice is When the G8 met in Evian in unambiguous. June 2003 over 300,000 demonstrated in Geneva, 3,000 registered to lobby the delegates 4.5 Civil society and Geneva virtually ground to a halt. In December 2003 the UN Civil society is increasingly Committee of Tax Experts met in engaging with the issues of Geneva. The Tax JusticeNetwork capital flight, tax avoidance, tax was the only civil society evasion and tax competition, organisation to attend and which are widely seen as address the meeting. impediments to the mobilisation of domestic resources for However, this situation is starting developing countries. In June 2000, one of the major to change. Aid agencies are development NGOs published a recognising the importance of report entitled Tax Havens: these issues and are offering Releasing the hidden billions for support to TJN or are promoting poverty eradication. The their own work in this area. creation of the Tax Justice Jeffrey Owens, head of tax at the Network was partly a OECD was quoted in the consequence of the publication of Financial Times in November 2004 that report. In the US Citizens as saying ‘the emergence of for Tax Justice has been non-governmental organisations undertaking a not dissimilar job, intent on exposing large-scale tax though with a national focus. In avoiders could eventually achieve contrast the TJN has a primarily a change in attitude comparable international focus. to that achieved on environmental and social issues: ATTAC, which grew out of Tax is where the environment support for a Tobin Tax in was 10 years ago.’vii

42 5. TOWARDS TAX JUSTICE

here is much that can be improve personal and done about the problem corporate taxation Tof tax injustice at both the general anti-avoidance national and international levels. principle All that is needed is the political World Tax Authority (WTA) will to do it. The role of civil tax assistance for developing society campaigners is to create countries the environment in which that holding governments to political will exists. The range of account issues to be addressed is huge publish who you are and includes the following: trusts the national agenda corporate social responsibility automatic information One of the most successful tax exchange authorities at combating tax citizenship and personal evasion and avoidance by its taxation citizens is that in Ireland. In Box corporate taxation 3, they present an outline of their country level actions to approach and its achievements.

Box 3. Tackling Tax Evasion: Ireland case study

The Irish Revenue Commissioners established the Offshore Assets Group (OAG) in summer 2001. Its role is to:

identify methods and means of offshore tax evasion and avoidance develop appropriate and effective means to counter offshore evasion and avoidance develop systems to identify persons who use or have used offshore means of evasion and avoidance

Early research showed it would be difficult to obtain information from offshore jurisdictions, which promote confidentiality and do not have exchange of information agreements with Ireland. OAG focused instead on getting onshore information about untaxed money transferred offshore.

Its first success was to obtain a High Court order in Ireland requiring a clearing bank to provide details of transactions through an account, which OAG knew was used to transfer funds offshore.

Then, the group became aware that an offshore subsidiary of an Irish bank was withdrawing its trust services to Irish clients. It identified how this change might make it possible to get information about untaxed money transferred to the trusts.

www.taxjustice.net 43 The OAG informed the Irish parent company that Revenue would launch a formal investigation, and if its clients with tax liabilities wished to avoid prosecution, avoid being publicly identified as tax defaulters, and have penalties for submitting false tax returns substantially mitigated, they should make a “qualifying disclosure” and calculate and pay their full liability to the Revenue by 28 July 2003. The offshore subsidiary company informed its Irish resident customers of this investigation. Over 250 taxpayers made payments to Revenue totalling e105 million.

OAG obtained another High Court order to get information on money transfers between Ireland and the Isle of Man subsidiary of an Irish financial institution. Following discussions between OAG and the bank’s Irish parent, the offshore subsidiary wrote to its customers in similar terms to the letter issued in the earlier investigation. By the deadline date of 16 January 2004, some 1,250 customers had paid Revenue over e45 million.

Following meetings between the Chairman of the Revenue Commissioners, Mr Frank Daly, and the CEOs of the ten major Irish financial institutions, the banks agreed to request their subsidiary or sister companies outside the State to inform their customers that an investigation by the OAG would commence on 29 March 2004, and that to avoid prosecution, publication and higher penalties, their account holders should submit a computation and full payment of liabilities. The OAG issued a booklet and tax computation sheets to assist calculations. Under this scheme some 11,500 taxpayers have made payments of over e600 million. The total received by OAG to date in its investigations is over e750 million.

Following the OAG’s initiative, it was reported that Ireland was “the only territory in the world whose residents have run down their individual deposits in the Isle of Man”.

The OAG’s next move is to pursue those who failed to come forward under these disclosure programmes. The group has obtained the names of Irish residents who did not come forward in the first investigation. These cases are currently being investigated with a view to collecting outstanding liabilities and prosecution. OAG will also seek further High Court orders to require financial institutions to provide details about money transferred offshore by Irish residents.

This innovative approach used by the Irish Revenue to track transfers from domestic to offshore bank accounts could be replicated in many countries. Ireland is a fairly small country, with its own set of tax haven policies. However, to have raised e720 million from tackling tax avoidance has made a significant contribution to its exchequer and made clear that cheats are not acceptable within its economy. This is an action that other governments around the world are urged to follow.

44 5.1 Corporate social behind and other leading responsibility developed countries following in their trail. But in almost no The Publish What You Pay case is it possible to find out campaign has begun to achieve with ease: success in calling on companies working in the oil, gas and The names of all countries in mining sectors to publish what which a transnational taxes and other revenues they company operates. pay to the governments of The names of the subsidiaries developing countries. They have through which it operates in made notable progress, but their those countries. work serves to highlight the What sales they make in need for further action. Whilst those countries, both to there have been particular people other than themselves problems of corruption in these (third parties) and to other sectors and the countries in group companies (inter-group which they operate, the problem sales). of corporate taxation abuse is How much they spend on universal. Companies are not labour costs in each country. paying the taxes they owe to How much they spend on countries around the world. other goods and services within each country, both Despite this the corporate purchased from third parties world has a particular duty to and on an inter-group basis. lead the way in setting an What profit they make in example in paying the tax that is each country in which they due by them to the governments operate. of the countries in which they What tax they pay there. operate. Nothing better reflects What level of assets they Nothing better the corporate responsibility of employ in each country. reflects the corporate any company than its payment of responsibility of a taxes that are due. Tax Yet it is the case that every payments are a major transnational company has this company than its tax component of a company’s information available for internal payment. Tax economic footprint in the accounting and management payments are a major country or countries in which it purposes. This information component of a operates. should be published because: company’s economic footprint in the Records of tax payments are not A transparent company country or countries being made available at present. should be prepared to The US probably leads the way acknowledge where and how in which it operates. in disclosing information on tax it operates. payments, with the UK close Crucially, if this information is

www.taxjustice.net 45 published it will be clearwho tax havens but most of the is, and who is not, shifting sales and purchases that took profits for tax advantage. place there were undertaken For example, if the profit on an inter-group basis and rates declared in developing few people were employed countries were significantly then it would be very likely below the average for the that transfer pricing activities company as a whole this were taking place. would suggest that profit was being transferred out of This information would these countries. And if enable shareholders, employees, profits were being declared in suppliers and governments

Box 4. Transparency works – The Cofina case

In early 2004, the Swiss development advocacy group Berne Declaration received documents showing how the coffee trading firm Volcafé (now part of the ED&F Man group) used a postbox company on Jersey to book profits tax free.

The leaked Instructions to the Offshore Invoicing at Volcafé illustrated how the Jersey subsidiary Cofina (COF) was used for profits laundering purposes. Cofina was simply a postbox company. Coffee was delivered straight from the producer countries to the end customers, yet Cofina was apparently the seller.

The Instructions to the Offshore Invoicing reminded managers of Volcafé’s subsidiaries in exporting countries: ‘Please take care that all communication with the final buyer is made in the name of COF and mention clearly towards your customers that they receive all documents in the name of COF.’

Subsidiaries in producer countries were given instructions on how to give Cofina the appearance of real company. It started with the fax machine: ‘You should program your fax machine in a way that your name does not appear on faxes dispatched in the name of COF. If it is cost wise justifiable you should install another fax machine for the dispatch of “COF Faxes”.’

On Jersey there was only one person who signed important documents on behalf of Cofina. Cofina also kept the document files. The instructions

46 who have relationships with idea which is available from TNCs to assess the risks the website. involved in dealing with them as well as to let governments Box 4 presents the case of understand where and how international coffee trading firm profits are being declared in Volcafé which went to the group as a whole. The issue considerable lengths to avoid of accounting transparency is a disclosing how it used an off- vital element of tax justice, and shore subsidiary to launder its TJN has published a draft profits in a tax haven. International Accounting Standard to promote this

reminded export country managers: ‘During the handling of the contracts you may keep documents for easy reference and information with you, but they should be kept separately and strictly confidential. The complete filing and documentation has to stay with COF.’

The Cofina case gained public attention with a report on Swiss Television which was based on the material received by Berne Declaration. Only three months later Volcafé /ED&F Man dismantled Cofina Jersey. In August 2004, the company confirmed that they no longer conduct ‘any business through so-called tax havens’. The Cofina transactions are now booked through Volcafé International Ltd, based in Winterthur. Volcafé stated that ‘any such profits arising from that business will consequently be taxable in Switzerland’.

Berne Declaration remains concerned that earnings from the international commodities trade are distributed fairly. The offshore structure of Volcafé was just one example of the use tax havens by firms in the sector. Despite the dissolving of their offshore structure, Volcafé’s profits are still taxed at headquarters rather than in the producing country.

Clearly, a change in international standards on the use of offshore companies in commodity trading is essential. A first step could be the agreement of voluntary guidelines by companies operating in the coffee sector. Berne Declaration has produced concrete proposals for the inclusion of the issue of tax in codes of conduct.

www.taxjustice.net 47 5.2 Automatic receive income without being information exchange taxed, or the right to enjoy Any move towards a Information exchange between the benefits of double tax global framework for countries would go a long way relief. In combination these towards tackling the culture of measures would be sufficient tax cooperation tax evasion and tax avoidance. to encourage most countries should involve the The European Union has made to comply. extension of the some progress with the principle of automatic European Savings Tax Directive, These requests are not information exchange but this is restricted in scope unreasonable. The principle of to corporate bodies and needs to be extended to automatic information exchange and trusts as well as cover all countries. It is is being established in the EU, therefore proposed that: albeit that it has a long way to to individuals since a go yet, and bilateral treaties to lot of tax planning All banks and other financial allow more limited information involves trusts and institutions should be exchange are now becoming corporations. required to disclose as a more commonplace, even with matter of legal duty all some tax havens. interest, dividends, royalties, licence fees and other income Any move towards a global (including that from framework for tax cooperation employment) that they pay to should involve the extension of citizens of another country the principle of automatic each year, with sufficient information exchange to information being provided to corporate bodies and trusts as ensure that the recipient can well as to individuals since a lot be identified. of tax planning involves trusts This information should be and corporations. This is both automatically exchanged desirable and practicable, and between countries so that such measures will also assist in each country has access to tackling organised crime, data on the income paid to corruption, terrorism and its citizens in other countries money laundering. to ensure that it is properly taxed. If a country refuses to do this 5.3 Citizenship and then it should be denied personal taxation economic favours until compliance is forthcoming. High earners who travel These favours might be frequently with their jobs can access to markets without easily avoid paying tax. This is tariffs, the right to receive often possible because in most tax information in exchange, countries someone who is the right for its citizens to neither a citizen nor long-term

48 resident is typically only charged unrestricted. Access to offshore tax on that part of their income financial services has been which is earned there, which extended to a far wider range of means that income received wealthy individuals. The sums of elsewhere in the world will not money lost to governments, be taxed unless it is sent to that particularly those of developing country. This opens up the countries, are too large to opportunity for such people to be ignored. divert large parts of their income to tax havens where it is There is an answer, and it is held untaxed. There are several provided by the US. This is that problems with this: every country should require its citizens to pay taxes on their It means that the world’s world-wide incomes whether wealthiest people, including they are resident in the country rock stars, set a poor of which they are a citizen, or example by appearing to not. This is discussed in more spend much of their time detail in section 5.5 below. endorsing the process of tax avoidance. It means that the people 5.4 Corporate taxation most able to pay tax in the world often pay little or A new basis for taxing no tax. corporations is also required. It establishes a wholly parasitical industry of A national basis for corporate lawyers, accountants and taxation makes no sense when bankers who service the companies can operate in 150 or desires of these people who more states simultaneously. It is act as economic free-riders. inevitable that taxation problems It undermines the ability of will arise in circumstances any country to charge where the company acts globally progressive rates of income but taxation is imposed locally. tax because the wealthy threaten to leave. Of course, local taxation works quite acceptably for local This situation, which was companies. In their case no unacceptable in the days when change is needed to the way in travel was difficult and the which they are taxed, and that number of truly mobile people means around 95 per cent of in the world amounted to a few the world’s firms will remain thousand, has deteriorated to unaffected by any changes. In the point of being a global crisis. the case of TNCs, however, Travel has become easier. further research is necessary to Capital movements are virtually identify a viable basis for

www.taxjustice.net 49 establishing a common definition 5.5 Country level of taxable profits and a common actions to improve basis for agreeing how much personal and corporate profit is attributable to each taxation country in which the corporation operates. In order to enhance equity as well as the effectiveness of This basis for taxation will be taxation systems, as a minimum complex, but so are the countries should: activities of major corporations. It is likely that: Have a precise definition of who is and is not resident in Trading profits will need to its territory. There are many be taxed on a unitary basis. such rules at present but the Interest and other investment following are likely to give income will initially have to the fairest result: be taxed on a source basis. All people who are There will need to be a citizens of the country fallback of a residence basis should be considered for investment income and resident within it, whether gains. they are physically present or not, and should be Of course this will require a subject to its taxes whether present or not. high degree of international This is not a common rule, cooperation on tax, which will but is used by the US, for take time to achieve, not least example, at present. because this basis of tax will Exception could be made if mean that tax haven activity will the person were resident cease to be attractive to most in another ‘acceptable’ companies. The achievement of country. this objective would mean that: Of course, credit should be given for taxes paid Corporations would pay tax overseas. Additionally, it on all their profits. should be possible for a Those profits will be person to apply to be a allocated to the countries in citizen of another state if which they are earned. the move is a genuine one. Each country will then be All people who spend able to set its own tax rates more than 183 days in any to determine how much tax country in a tax year they wish to collect – so this should be considered to suggestion does not in any be taxable by that country, way undermine the autonomy whether they are citizens of individual governments. or not.

50 Using these rules it quickly companies with international becomes apparent that: income that operate within Becoming a tax exile is its territory are taxed on a quite difficult because in fair part of their world-wide many cases it would mean income. This means that giving up citizenship, and most issues arising from many people would be transfer pricing, thin reluctant to do that capitalisation and licensing because this may deny abuses cease to be a concern. them the right to return Have strong arrangements for to their country of origin, international cooperation on to which however they do tax which as a minimum not want to pay tax. would require that: It is possible for a person Information is to be tax resident in more automatically exchanged than one country at a between tax authorities so time. This is already a that income earned in one reality for many people in territory and which the world, and gives rise belongs to a person to the need for other resident in another provisions to ensure tax territory is automatically justice referred to below. reported by the first Tax all its residents on all country to the second. their world-wide income and Credit is always given gains, without exception. for tax paid in a country in This means adopting what is which an income arises called the ‘residence basis of when calculating the tax taxation.’ due on it in the country in Ensure that all income that which it is received. This arises in their country is would mean that income is subject to tax before it is only taxed once at the paid to a person who is not maximum of the higher of tax resident. So, for the two rates. example, bank interest paid Full cooperation is by a bank within the country provided by each tax should be subject to a authority to ensure that withholding tax before being tax evasion and tax paid to a non-resident avoidance are detected person. This means that the and prevented. country also uses a source Each country helps the basis of taxation. other to collect any tax Ensure that all groups of due to it.

www.taxjustice.net 51 5.6 General to tax. This is because whilst any anti-avoidance principle tax system has to be rule-based The idea of a general to make the detail of its anti-avoidance arrangements work, eventually Aggressive tax avoidance can be principle is countered through the creation rules are not enough to make exceptionally of what are called general the system comprehensive. anti-avoidance principles within Principles have to be built-in to unpopular with the taxation law. A number of ensure that the rules do not tax planning industry. countries have such principles in create their own problems. As one tax accountant place, although with varying said to the press in degrees of success, depending This suggestion is exceptionally March 2004: ‘No largely upon how rigid they are. unpopular with the tax planning matter what legislation The more rigid they are, the less industry. As one tax accountant said to the press in March 2004: is in place, the likely they are to work since a ‘No matter what legislation is in accountants and rigid provision looks more like a place, the accountants and lawyers will find a way rule and merely creates its own lawyers will find a way around it. around it. Rules are set of new loopholes that the Rules are rules, but rules are tax planning industry seeks rules, but rules are meant to be broken.’ It is to exploit. meant to be broken.’ harder to break principles, It is harder to break which is precisely why they are A general anti-avoidance principles, which is so useful in this context. principle is based on the precisely why they are following logic: It is to tackle this sort of abuse so useful in this by professionally qualified people context. if any transaction is that we suggest a major undertaken primarily to extension of professional ethics secure a tax advantage, or to make clear that many current any step in a transaction is practices are considered added for that purpose unacceptable professional then the benefit that conduct in the future. transaction gives for taxation purposes can be ignored, and tax can be charged as if it 5.7 World Tax had not taken place. Authority

Such a legal principle should be a There is a clear need for a vital part of the law in every World Tax Authority (WTA) to country if the struggle on tax monitor the impacts of fiscal evasion and avoidance is to be policies on trade and investment won. It is also an essential part patterns, and to protect national of any tax system that seeks to tax policies from harmful ensure that all income is subject practices.

52 Despite evidence of the failure Work with international of the international tax policies accounting bodies to define a to tackle transfer mis-pricing, common basis for thin capitalisation, tax determining profits. competition and tax avoidance, Work to establish a common none of the existing multilateral basis for determining taxable organisations such as the World income. Trade Organisation, the World Help set rules for allocating Bank or the International the profit income of Monetary Fund have intervened transnational companies. to prevent market distortions. Assist international exchange This has been recognised at the of taxation information. highest of levels. In 1999 Help to protect national tax former director of fiscal affairs at the IMF, Vito Tanzi, proposed regimes from predatory that the prime function of an practices such as tax international tax organisation competition. should be to ‘make tax systems Collate relevant statistics and consistent with the public act as a forum for discussion interest of the whole world and sharing of best practice. rather than the public interest of specific countries’. These tasks are essential in the Despite evidence of interests of tax justice and the failure of the One organisation that has would not undermine the international tax attempted to remedy the autonomy of the state, an auton- policies to tackle situation is the OECD, which omy which is in any case being transfer mis-pricing, has a considerable expertise in threatened to a much greater thin capitalisation, tax this area, but this poses degree by tax havens. competition and tax problems because the OECD only represents the rich nations avoidance, none of A WTA could also carry out the of the world and many nations task of recommending best the existing are consequently excluded from practice in creating taxation law. multilateral its decision-making process. organisations such as The IMF and World Bank the World Trade The most appropriate body to already disseminate best practice Organisation, the take on the functions of a WTA in many areas. Tax law should World Bank or the would be the United Nations, also be an area for application of best practice standards. This International which could and should evolve would make possible the Monetary Fund have its existing Committee of Experts on International establishment of an international intervened to prevent Cooperation in Tax Matters to benchmark for the achievement market distortions. fill this role. Such a body could of tax justice against which undertake the following tasks: progress could be monitored.

www.taxjustice.net 53 For a WTA to be successful, it accountants would need to establish policies local tax officials feel unable in the areas referred to above. to challenge international In many of these areas more companies for fear they will research into best practice is remove their investment needed. This is because these are areas that have been For these reasons there is a substantially ignored by the pressing need for international academic world to date. There assistance to be provided to is, therefore, an immediate need developing countries to ensure for more research into what they can establish: would constitute a just international tax system. sound taxation systems good tax administrations rigorous procedures that 5.8 Tax assistance require international for developing companies to account for countries what they do (which would be greatly assisted by our Developing countries rarely have proposed international the resources to implement accounting standard) appropriate taxation policies. international enforcement This is because these take time procedures that ensure to develop, require well paid international corporations personnel who can feel secure in pay what they owe their employment, and need sound career paths for key legal backing to ensure that personnel so that they can when demands are made of afford to stay in their jobs international taxpayers these are met. Unfortunately these resources are not available at 5.9 Holding present because: governments to account cash resources have to be used for other, more It is not sufficient to ensure that immediate, priorities countries can raise the taxation tax officials are often lured they need. It has to be seen away from their posts by that this is done, that the offers of higher paid process is free from corruption, employment in the private and that the funds raised are sector, frequently with used for the purpose for which international firms of they are intended.

54 This means governments have to standards and audited if account openly and activity exceeds transparently for their actions. internationally agreed levels Many initiatives, in part headed by the International Monetary Many states defend this lack of Fund and supported by the disclosure by saying that the Extractive Industries corporations in question are Transparency Initiative are privately owned and therefore driving this process. These entitled to privacy. This initiatives are indicative of action proposition is not acceptable in needed in an essential area of a modern world that needs to international tax reform that protect itself from capital flight, does, however, have a national money laundering and the entire focus. range of illicit commercial activity. Any corporation that is given rights and privileges in law 5.10 Publish who you that allows them to impose a are burden on others has a duty to account for how it exercises It is incredibly difficult to tax those rights. Limited liability is a people without knowing who massive privilege to enjoy, and it Many states defend they are, what they do, and can impose a cost on anyone the lack of disclosure what their financial situation is. who deals with the entity. As of accounting Most tax havens and a great such the obligation to account information by saying many other countries do not transparently always arises when require the limited liability a limited liability entity of any that the corporations corporations they allow to form is registered. For this in question are operate under their laws to file reason the above information privately owned and the following information on should be disclosed. therefore entitled to public record: privacy. This proposition is not the constitution of the 5.11 Trusts acceptable in a organisation modern world that names of the real members Trusts are a principal vehicle of needs to protect itself (not the nominees) tax injustice: from capital flight, the names of those really money-laundering and running the corporation (not They are used to hide wealth the entire range of the nominees) from tax. the annual accounts of the Discretionary trusts hidden illicit commercial organisation prepared in behind nominee trustees activity accordance with create a secrecy space that is internationally accepted hard to regulate.

www.taxjustice.net 55 In common law countries, Trusts are given rights and trusts are equivalent to privileges similar in many secret bank accounts. This is respects to those of limited a valid complaint of those liability companies. These rights countries that are being and privileges should be asked to remove their balanced by a requirement for banking secrecy laws. transparency and social Incredibly, charitable trusts responsibility. own many of the offshore ‘special purpose vehicles’ that are used by so many 5.12 The national companies as part of their agenda international tax planning. This is an abuse of the The international agenda is concept of charity. important, but tax reform has to be national (and even local on occasion) if tax justice is to be Trusts have been widely abused ensured. This publication does and they clearly need to be not offer suggested reform of better regulated. They serve any individual tax system. useful functions in such areas as: Decisions regarding such issues will be decided by campaigns at The promotion of genuine a national level. However, there charities. are a set of issues which should The protection of children not be overlooked: and the disabled who are unable to look after their Does the country have a own affairs. comprehensive system of taxes? There is no reason why every Does it have appropriate tax trust should not be required to rates that ensure a disclose on public record the progressive tax charge? following: Are there too many loopholes or significant rate who created it changes that allow income to what the trust deed says avoid tax in some way? who the trustees are Are corporate structures or who the beneficiaries are, and trusts unduly favoured by the in the case of discretionary tax system? trusts any potential Is any sales tax fair and are beneficiaries listed in the essential items free of tax? settlement Are the tax and benefit trust accounts systems appropriately linked

56 to avoid the creation of a have to file details of their poverty trap? constitutions, management Are the bases on which tax is and ownership on public charged (source or residence, record, and do they have to arising or remittance) fair and file annual accounts which are consistent between all audited if their income is citizens, residents and types above agreed thresholds? Is of entity so that all this information available opportunities for abuse do at modest cost at most? not arise? Does the government offer Is the country undertaking tax incentives, holidays and information exchange with other arrangements to attract other countries on a fair inward investment and so basis? favour some businesses over Is tax legislation clear, others, meaning unfair tax available to all, and is there a competition is created? fair appeals system in the Is the country on our list of case of misunderstandings? tax havens? If so, how can it Is the administration of tax remove itself from the list? fair and free from corruption? Does the country have a Many of these questions will general anti-avoidance require detailed research but provision that allows tax some are easier to campaign on abuse to be challenged than others. For example, in quickly and effectively? many countries there is Are professional firms inadequate disclosure of the appropriately regulated within ownership, management and the country? Are they held to accounts of companies and account for their actions? trusts, so this is a Do all companies (however straightforward target for a described in law) and trusts campaign on transparency.

www.taxjustice.net 57 GLOSSARY

Affiliate A related company or subsidiary.

Aggressive tax The use of complex schemes of uncertain legality to avoidance exploit taxation loopholes.

Arising basis Treating income earned outside the country of residence as liable to tax in the year in which the income is earned, even if it is not remitted to the country where the tax is payable. Compare with the remittance basis.

Banking secrecy Banking secrecy laws strengthen the normal contractual obligation of confidentiality between a bank and its customer by providing criminal penalties to prohibit banks from revealing the existence of an account or disclosing account information without the owner’s consent. Can be used to block requests for information from foreign tax authorities.

Capital gains tax A tax on the profits from the sale of capital assets such as stocks and shares, land and buildings, businesses and valuable assets such as works of art.

Capital flight The process whereby wealth holders deposit their funds and other assets offshore rather than in the banks of their country of residence. The result is that assets and income are not declared in the country in which a person resides.

Charitable trust A trust established for purposes accepted by law as charitable.

Citizenship basis of Tax is charged on the worldwide income of all citizens of taxation the state irrespective of whether they are resident or not in the territory during the period for which the taxes are levied. The most obvious example is the USA.

Company or An entity treated as a separate legal person from those who corporation set it up, established under the rules of the country in which it is registered.

Controlled foreign A subsidiary company or corporation registered in a tax corporation (CFC) haven or other territory where little or no tax is charged on the profit the subsidiary makes. Profits declared by the subsidiary can in some cases be subject to tax in the country of residence of the parent company if it has the appropriate controlled foreign company legislation to enable it to do so.

58 Coordination A special form of company with taxation advantages, often centres used to attract corporate headquarters to a country. Most notably found in Belgium, the Netherlands and Ireland.

Corporation tax A tax on the profits made by limited liability companies and other similar entities in some countries, but otherwise usually being similar in application to income tax.

Currency A tax levied by a country that issues a currency on all the transaction tax trades in that currency worldwide at very low rates e.g. 0.005 per cent. Considered the most likely form of the Tobin Tax to be effective in practice.

Deferred tax A fictional tax which only exists in company accounts and is never paid. Deferred tax does not, as such, exist. But the rules of accountancy generally require that income be matched with expenses. If an expense is recognised for tax purposes more quickly than it is for accounting purposes (which is common with much plant and equipment) this means that the tax cost for the years when this happens are understated. Conversely, when all the tax allowances have been used on the assets there might still be accounting charges to make and the tax cost would then be overstated. To balance this equation a notional tax charge called deferred tax is charged to the profit and loss account in the earlier years and put on the company’s balance sheet as a liability. The liability is released as a credit to profit and loss account in the later years and supposedly over the life of the asset all should balance out.

Discretionary trusts Most offshore trusts permit payments to be made at the discretion of the trustees, which means that the identity of beneficiaries can remain a secret. In practice, trustees normally follow a ‘letter of wishes’, provided by the settler, instructing them whom they are to pay money to, when and how.

Domicile The country identified as a person’s natural home, even if that person has not been resident there for extensive periods of time.

Double tax relief Tax relief given by the country in which the taxpayer resides for tax paid in another country on a source of income arising in that other country.

www.taxjustice.net 59 Double tax treaty An agreement between two sovereign states or territories to ensure, as far as possible, that income arising in one and received in the other is taxed only once. Includes rules to define Residence and Source, and limits on Withholding Taxes. Also usually includes provisions for cooperation to prevent avoidance, especially information exchange.

Effective tax rate The percentage of tax actually paid in relation to the total income of the person paying the tax.

Export processing Artificial enclaves within states where the usual rules zones relating to taxation and regulation are suspended to create what are, in effect, tax havens within larger countries.

Flags of The flag of a country with easy or lax maritime regulations convenience and low fees and taxes, flown by ships registered in such countries, even though they have no substantial connection with the country.

Flat tax A tax system in which as income rises the amount of tax paid remains constant in proportion to total income. Compare with progressive taxes.

General A legal principle that seeks to prevent a tax payer from anti-avoidance obtaining the taxation benefit arising from any transaction if principle they undertook it solely or mainly to obtain a tax benefit. It does so by looking at the motivation of the taxpayer at the time of entering into the transaction, for which reason the concept of tax compliance is important. If the person was seeking to be tax compliant then they should probably keep the benefit they obtained from the transaction. If they were tax non-compliant then they should not. Compare with a general anti-avoidance rule.

General A general anti-avoidance rule seeks to tackle those who try anti-avoidance rule to break the rules of taxation through the use of further rules. Rather than considering intention, it lays downs ways of interpreting series of events to determine whether the benefit of tax legislation can be given to the tax payer. Rules are invariably open to interpretation, however, hence a general anti-avoidance rule runs the risk of increasing the opportunity for abuse.

Gift tax Taxes charged on gifts either during life or on death. The charges may be on the donor or on the cumulative value of gifts received by the recipient.

60 Hedging A strategy intended to reduce investment risk using call options, put options, short selling or futures contracts. Often refers to taking a futures position that is equal and opposite from a position in the cash market. A hedge can be used to lock in existing profits. It is often claimed that hedging is best done offshore, but there is no evidence to support this assertion and most hedging expertise is onshore.

High net-worth Otherwise known as HNWIs (pronounced hin-wees). individuals Generally categorised as individuals with more than US$1 million of liquid financial assets available for investment.

Holding A company that either wholly owns or owns more than 50 companies per cent of another company, the latter being called a subsidiary. An intermediate holding company is a holding company which has one or more subsidiaries but is itself owned by another company. The term ‘ultimate holding company’ refers to the one that is finally not controlled by another company.

Income tax A tax charged upon the income of individuals. It can also be extended to companies. The tax is usually charged upon both earned income from employment and self employment and unearned income e.g. from investments and property.

Inheritance tax A form of gift tax charged upon the estates of people upon their death.

International A type of company offered by many offshore finance Business centres and tax havens, usually one which receives all or Corporations (IBC) most of its income from abroad. IBCs usually pay an annual registration fee but are subject to minimal or zero tax rates.

Inversion The act of a parent company whose headquarters are located within one jurisdiction switching registration with an offshore subsidiary they own to secure location within that offshore jurisdiction in order to secure a tax advantage. Mainly occurring in the USA.

Land value A tax on the rental value of a site, assessed as if it were taxation undeveloped and unimproved - in other words, as if it were bare land.

www.taxjustice.net 61 Licence (Licensing) A contract for the use of property, often intellectual property, such as a patent, copyright or trademark. If ownership of the property is transferred to a holding company located in a tax haven, the licence fee income paid to the licensor may be exempt from tax, as well as reducing the taxable profits of the operating company (often a subsidiary) which is the licensee.

Limited liability A partnership that provides its non-corporate members partnerships (LLP) with limited liability. LLPs are frequently based offshore for tax avoidance purposes.

Loophole A technicality that allows a person or business to avoid the scope of a law without directly violating that law.

Money-laundering The process of ‘cleaning’ money from criminal or illicit activities to give it the appearance of originating from a legitimate source.

National insurance See social security contributions. contributions Offshore Offshore relates to any jurisdiction (regardless of whether they are islands) which provides tax and regulatory privi- leges or advantages, generally to companies, trusts and bank account holders on condition that they do not conduct active business affairs within that jurisdiction. The term is very broad and normally includes ‘onshore’ tax havens such as Andorra, Lichtenstein, etc.

Offshore financial Although most tax havens are Offshore Finance Centres centre (OFCs) the terms are not synonymous. Tax havens are defined by their offering low or minimal rates of tax to non-residents but may or may not host a range of financial services providers. An OFC actually hosts a functional financial services centre, including branches or subsidiaries of major international banks. States and microstates that host tax havens and OFCs dislike both terms, preferring to call themselves International Finance Centres.

Partnerships Any arrangement where two or more people agree to work together and share the resulting profits or losses.

Payroll taxes See social security contributions.

Permanent An office, factory, or branch of a company or other establishment non-resident. Under double tax treaties business profits

62 are taxable at source if attributable to a permanent establishment. May include construction sites or oil platforms in place for over six months.

Poll tax A tax that levies the same sum on each person irrespective of their means to make payment.

Preferential tax A situation in which individuals or companies can negotiate treatment their tax treatment in the state in which they have a tax liability. Pioneered by Switzerland in the 1920s, the arrangement is commonplace in the offshore world.

Private company A company not quoted on a stock exchange. Shares cannot usually be sold without the consent of the company or its owners; in many countries little or no information need be disclosed on the activities of such companies even though their members enjoy the benefit of limited liability.

Profit laundering The process of transferring profits from a territory in which they would be taxed to another in which there is either no tax or a lower tax rate. Mechanisms for achieving this include transfer-pricing, re-invoicing, licensing, thin capitalisation, corporate restructurings and inversions.

Progressive taxes A tax system in which as income rises, the amount of tax paid increases in proportion to the income as well as in absolute amount i.e. the percentage tax rate increases as the income rises. Also referred to as graduation. Compare with flat and regressive taxes.

Public company A company whose shares are quoted on a recognised stock exchange and are available to be bought and sold by anyone who wishes without consent being required from the company itself. Generally required to be more transparent than private companies.

Quoted company See public company.

Race to the The downwards trend of tax rates and regulatory bottom requirements on capital arising from competition between sovereign states to attract and retain investment.

Regressive taxes A tax system in which as a person’s income from all sources rises, the amount of tax they pay reduces in proportion to their income even if it increases in absolute amount i.e. their percentage tax rate falls as their income goes up. Compare with progressive taxes and flat taxes.

www.taxjustice.net 63 Reinsurance Some large companies decide not to insure their risks with the conventional insurance markets but instead set up their own insurance companies. When insurance companies do this it is called reinsurance. By setting up a captive or reinsurance company offshore, a tax deduction for the premiums paid is available in the country where the risk is and the premium is received offshore where there is little or no tax. This can, therefore, be viewed as another form of transfer-pricing.

Re-invoicing Re-invoicing involves invoicing a sale to an agent, typically based in a tax haven or OFC, who subsequently sells on to the final purchaser. In practice the agent pays part of their mark up to the original vendor or to the purchaser, usually to an offshore account. This is a widely used process for laundering profits to a tax haven. The process is dependent upon secrecy for its success.

Remittance basis Concerns income earned outside the country of residence. The remittance basis says that tax is only due in the year when income is remitted to the country in which the tax payer is resident and not when it arises. Enables a person to avoid tax indefinitely in their country of residence provided it is kept and spent abroad. Compare with the arising basis. Both have relevance within the context of the residence basis of taxation.

Residence For an individual, the person’s settled or usual home; for simplicity a presumption may be applied based on a rule-of-thumb, such as presence within the country for six months or 183 days in any tax year. It may be possible to be resident in more than one country at one time (though double tax treaties aim to prevent this). Some individuals may also try to avoid being resident anywhere. For companies, residence is usually based on the place of incorporation but can also be where the central management and control of the company is located, if they are different. Tax haven companies formed for non resident owners are usually defined not to be resident in their country of incorporation.

Residence basis Taxation of residents of a territory on all their worldwide income wherever it arises, usually with a credit for tax already paid overseas. The aim is to discourage residents from investing abroad in lower tax countries, by ensuring that income is taxed at the residence country rate if it is higher. Compare with source and unitary basis.

64 Ring-fencing Different and preferential tax and regulatory treatment given by tax havens to companies and trusts owned by non-residents as contrasted to companies and trusts owned by residents.

Sales tax Taxes on sales can be levied in two ways. Firstly, as a general sales tax (GST) added to the value of all sales with no allowance for claiming a rebate on tax paid. Secondly, as a value added tax (VAT) charged by businesses on sales and services but which allows businesses to claim credit from the government for any tax they are charged by other businesses. The burden of VAT therefore falls almost entirely on the ultimate consumers. GST and VAT are both regressive taxes since lower income households always spend a higher proportion of their income on consumption and therefore invariably spend a greater proportion of their income on this tax than do the better off. VAT is the most widely used form of sales tax.

Social security Payments made towards a fund maintained by government contributions usually used to pay pension and unemployment benefits. Health benefits are sometimes covered as well. Social security contributions are generally considered to be taxes.

Source basis Taxation of income in the territory where it is earned. Under double tax treaty rules, income attributable to a permanent establishment is taxable at source. Some countries tax only on a source basis, and consider income earned outside the country exempt; but some tax on the basis of both source and residence (subject to a foreign tax credit). Compare with residence and unitary bases.

Special purpose Any company, trust, LLP, partnership or other legal entity vehicles set up to achieve a particular purpose in the course of completing a transaction, or series of transactions, typically with the principal or sole intent of obtaining a tax advantage.

Stamp duty A tax on the value of contracts. Usually charged on contractual dealings on shares and other stocks and securities and on dealings in land and property.

Subsidiary A company 50 per cent or more owned by another company company which is its parent company.

Tax arbitrage The process by which a sophisticated tax payer plays off the tax systems of two different countries to obtain a tax benefit as a result.

www.taxjustice.net 65 Tax avoidance The term given to the practice of seeking to minimise a tax bill without deliberate deception (which would be tax evasion or fraud).

The term is sometimes used to describe the practice of claiming allowances and reliefs clearly provided for in national tax law. It is, however, now generally agreed that this is not tax avoidance. If the law provides that no tax is due on a transaction then no tax can have been avoided by undertaking it. This practice is now generally seen as being tax compliance. So what the term tax avoidance now usually refers to is the practice of seeking to not pay tax contrary to the spirit of the law. This is also called aggressive tax avoidance.

Aggressive tax avoidance is the practice of seeking to minimise a tax bill by attempting to comply with the letter of the law whilst avoiding its purpose or spirit. It usually entails setting up artificial transactions or entities to re-characterise the nature, recipient or timing of payments. Where the entity is located, or the transaction routed through another country, it is international avoidance. Special, complex schemes are often created purely for this purpose. Since avoidance often entails concealment of information and it is hard to prove intention or deliberate deception, the dividing line between avoidance and evasion is often unclear, and depends on the standards of responsibility of the professionals and specialist tax advisers. An avoidance scheme which is found to be invalid entails repayment of the taxes due plus penalties for lateness.

Tax base The range of transactions that a country chooses to tax. A broad base includes a wide range of transactions. A nar- row base includes relatively few transactions.

Tax competition The pressure on governments to reduce taxes usually to attract investment, either by way of reduction in declared tax rates, or through the granting of special allowances and reliefs such as tax holidays or the use of export processing zones. Applies mainly to mobile activities or business, but the competition to attract investment may result in an overall decline of corporation tax rates and in the amounts of corporation tax paid, often resulting in an increased burden on individuals.

66 Tax compliance A term that is acquiring a new use. It can mean payment of tax due without engaging in tax avoidance or evasion. It is used in contrast to the terms tax avoidance and tax evasion. Tax compliance in this context is used as a test of a person’s intention before they undertake a transaction. It asks whether the person is seeking to comply with the spirit of the legislation concerning the transaction into which they are entering. If they are, then it should be presumed their intent was to be legal. If they are seeking to comply with the letter but not the spirit of the law (and it is usually possible to determine this from the form the transaction takes) then it should be presumed their intent was to break that law, the onus of proof otherwise falling upon them. This test is then used in connection with a general anti-avoidance principle to determine whether that principle should be applied to a transaction or not. A person who has used an appropriate motive is ‘tax compliant’.

Tax efficiency A term used by tax professionals to suggest getting away with paying as little tax as possible.

Tax evasion The illegal non payment or under-payment of taxes, usually by making a false declaration or no declaration to tax authorities; it entails criminal or civil legal penalties.

Tax haven Any country or territory whose laws may be used to avoid or evade taxes which may be due in another country under that country’s laws. The Organisation for Economic Cooperation and Development defines tax havens as jurisdictions where:

non-residents undertaking activities pay little or no tax there is no effective exchange of taxation information with other countries a lack of transparency is legally guaranteed to the organisations based there there is no requirement that local corporations owned by non-residents carry out any substantial domestic (local) activity. Indeed, such corporations may be prohibited from doing business in the jurisdiction in which they are incorporated.

Not all of these criteria need to apply for a territory to be a haven, but a majority must.

www.taxjustice.net 67 Tax holidays A period during which a company investing in a country does not have to pay tax under an agreement with its government.

Tax mitigation A phrase used by tax professionals when describing the desire to pay as little tax as possible.

Tax non-compliant A person who is not seeking to be tax compliant.

Tax planning A term used in two ways. It can be used as another term for tax mitigation. When, however, tax legislation allows more than one possible treatment of a proposed transaction the term might legitimately be used for comparing various means of complying with taxation law.

Tax shelter An arrangement protecting part or all of a person’s income from taxation. May result from pressures on government or a desire to encourage some types of behaviour or activity, or may be a commercial or legal ruse, often artificial in nature, used to assist tax planning.

Thin capitalisation Financing a company with a high proportion of loans rather than shares. Used by transnational corporations to reduce the business profits of a subsidiary, since the interest on loans is usually allowed as a deduction, but dividends on shares are paid out of after-tax income. The interest is usually paid to another subsidiary of the transnational corporation located in a tax haven where no tax is paid upon its receipt, resulting in an overall reduction in the tax charge of the group of companies.

Tobin tax The Tobin Tax or Currency Transaction Tax (CTT) is a proposed tax on the foreign exchange market named after the late James Tobin, the Nobel Prize winning economist, who proposed the idea.

Transfer-pricing A transfer pricing arrangement occurs whenever two or more businesses (whether corporations or not) which are owned or controlled directly or indirectly by the same people trade with each other. The term transfer pricing is used because if the entities are owned in common they might not fix prices at a market rate but might instead fix them at a rate which achieves another purpose, such as tax saving. If a transfer price can be shown to be the same as the market price then it is always acceptable for tax. What are not acceptable for tax purposes are transfer prices that

68 increase the cost or reduce the sales value in states which charge higher tax rates and increase the sales value or reduce the costs in states with lower tax rates. The difficulty for many corporations at a time when over 50 per cent of world trade is within rather than between corporations is that there is no market price for many of the goods or services that they trade across national boundaries. This situation arises because they are never sold to third parties in the form in which they are trans- ferred across national boundaries within the corporation. This gives rise to complex models in which attempts are made to allocate value to various stages within the supply chain within a company, a process which is open to potential abuse. For this reason it is argued that such firms should be taxed on a unitary basis.

Transnational A corporation with subsidiaries or divisions in two or more corporations (TNCs) nations. Also known as multinational corporations (MNC).

Trusts A trust is formed whenever a person (the trust settlor) gives legal ownership of an asset (the trust property) to another person (the trustee) on condition that they apply the income and gains arising from that asset for the benefit of a third person (the beneficiary). Trusts can be established verbally but typically take written form. Trustees are frequently professional people or firms charging fees. Trusts are usually of one of three types:

discretionary trust charitable trust interest in possession trust.

Trustee A person who holds the legal title to assets held in a trust and administers it.

Trust beneficiary Anyone who may obtain a benefit from a trust. A person who has the right to a benefit has an ‘interest in possession’; a discretionary beneficiary can get income or benefits only when and if the trustees decide to pay it to them.

Trust settlor The person who establishes a trust by gifting assets to it.

Unitary basis Treating the income of related entities within a single firm or corporate group on a combined or consolidated basis, and applying a formula to apportion it for taxation by the

www.taxjustice.net 69 different countries or territories from which it derives. Each may apply the rate of tax it wishes. An alternative to the residence and source bases of taxation. It has been used in federal countries such as the USA, applying an allocation formula based on a ratio of sales, employment costs and assets employed within each state. It has been opposed by tax authorities (and TNCs) because they consider that it would be too difficult to reach international agreement especially on the formula. However, taxation of highly integrated TNCs may in practice entail a formula-based allocation of profits, due to the difficulty of finding appropriate arm’s length transfer prices.

Value Added Tax Known as VAT. See sales tax.

Wealth tax A tax on a person’s declared wealth, typically imposed annually at a very low rate. Once commonplace in Europe these are now rarely used since they are thought to encourage people to hide assets offshore.

Withholding tax Tax deducted from a payment made to a person outside the country. Generally applied to investment income, such as interest, dividends, royalties and licence fees.

70 ENDNOTES

i Economic Policy Institute (2004) Rethinking Growth Strategies EPI Books ii United Nations (2002) Report of the International Conference on Financing for Development Monterrey, Mexico, para.64 iii IMF, OECD and World Bank (2002) Developing the International Dialogue on Taxation – a joint proposal iv The Guardian (2004) ‘Be fair plea, as tax loopholes targeted’ March 18 v Baker R & Nordin J (2004) ‘How dirty money binds the poor’ Financial Times, 13 October vi US Senate Permanent Sub-Committee on Investigations (2003) The Tax Shelter Industry: the role of accountants, lawyers and financial professionals, Washington DC, US Senate vii Houlder, V. (2004) ‘The tax avoidance story as a morality tale’ Financial Times, 22 November Tax havens cause poverty “ THE ASSOCIATION FOR ACCOUNTANCY & BUSINESS AFFAIRS ” The role played by tax havens in encouraging and profiteering from tax avoidance, tax evasion and capital flight from developed and developing countries is a scandal of gigantic proportions.

The one per cent of the world's population who hold more than 57 per cent of total global wealth use these havens to escape taxation. The sheer scale of the lost tax revenue this implies for governments around the world - some US$255 billion per year - beggars belief. This figure would more than plug the financing gap to achieve the Millennium Development Goal of halving world poverty by 2015.

At the same time, free-riding transnational businesses make use of international tax avoidance opportunities to increase their profits and gain a harmful advantage over local competitors. These firms also use their power to force governments, particularly in developing countries, to lower tax rates and provide tax incentives to attract investment. This has resulted in a shift of the tax burden to workers and low-income households and has forced damaging cutbacks in public services.

'tax us if you can' is required reading for all who want to understand the role of tax havens in the global economy and the workings of the tax avoidance industry that is secretly embedded within it. In an accessible yet rigorous approach, this book offers a guide to the language of international tax policy and shows how professionals profit from abusive tax practices. It also outlines the numerous policy failures that have encouraged the creation of the shadow economy of tax havens and proposes a range of practical solutions to this global crisis.