Not many people enjoy paying taxes. But wholesale tax evasion, particularly in the developing world, can have devastating effects. Realizing this, former U.N. Secretary-General Kofi Annan, African Development Bank President Donald Kaberuka, U.K. Prime Minister David Cameron, and the U.N. High-Level Panel of Eminent Persons on the Post-2015 Development Agenda have all, in the last year alone, called for major global reforms to combat tax havens and illicit financial flows.
On June 17, leaders of the world’s most powerful nations gathered in Northern Ireland for the annual G-8 summit to discuss pressing global concerns, including the ongoing conflict in Syria, nuclear proliferation, and economic relations. With the United Kingdom holding this year’s G-8 presidency, Prime Minister Cameron set an agenda that prioritized the “three T’s”: trade, transparency, and tax. Tax evasion is a particularly hot topic in Britain, as approximately one-fifth of offshore tax havens across the world are British Crown dependencies or overseas territories.
Offshore tax havens
Since 1998 the Organisation for Economic Co-operation and Development, or OECD, has used several criteria to identify tax havens. The key criteria are:
- No or nominal tax on relevant income
- Lack of effective exchange of information
- Lack of transparency
- No substantial activities
Multinationals can avoid paying taxes by shifting their profits from high-tax to low-tax jurisdictions, a practice that is often legal due to some loopholes in international tax policy. This practice, however, has recently come under growing amounts of criticism.
As Europe struggles with sharp austerity measures and developing countries look to mobilize domestic resources for growth, it is no surprise that the three T’s have become a top concern worldwide. Developed and developing countries alike would like to capture the lost streams of revenue that both national and multinational corporations avoid paying because of the pervasive use of tax havens. Loopholes in international tax codes and outright criminality between corrupt local officials and multinationals create opportunities for individuals and corporations to avoid paying their fair share of taxes.
While tax evasion and money laundering via tax havens affect all nations, their impact on developing countries is especially damaging. According to the U.K.-based charity ActionAid, the use of tax havens in British Crown dependencies has led to tax avoidance amounting to $2.2 billion—a figure that ActionAid estimates could pay for one year’s worth of subsidized meals for every primary schoolchild in the country. In the Democratic Republic of the Congo, where the per-capita income is $272, deals between corporations and a handful of government officials cost the nation more than $1.3 billion from 2010 to 2012 due to a deliberate undervaluation of assets and sale to foreign investors.
Throughout Africa, corruption, particularly within the lucrative extractive industries, exacerbates tax evasion. Former South African President Thabo Mbeki, among many other African leaders, has been outspoken about stemming illicit financial flows from Africa. The Africa Progress Panel’s 2013 report found that “Africa loses more money through outflows than it gets in aid and foreign direct investment.” Although total illicit flows are obviously difficult to calculate, the U.N. Economic Commission for Africa estimates that, in total, Africa lost more than $854 billion in illicit financial flows between 1970 and 2008—a yearly average of $22 billion.
These figures are especially troubling because resource wealth plays a vital role in poverty alleviation and the promotion of inclusive growth. Yet reinvesting revenue from natural resources into developing countries remains impossible if funds are continually siphoned into faraway bank accounts. The United States and its allies in the developed world therefore have an obligation to provide technical and financial support to developing countries to aid in the pursuit of justice in combating illicit financial flows.
The Lough Erne Declaration
The typically dense language of G-8 summits does not make for light reading, but this year’s communiqué and joint declaration marked a rhetorical transition on international tax policy from the world’s top officials.
With the Lough Erne Declaration, a pledge to end corporate tax evasion by promoting fair taxes, G-8 leaders have made open commitments to increased transparency and open trade. The document states that “multinationals should report to authorities what tax they pay where” and advocates for greater disclosure of beneficiaries and an end to predatory fiscal policies of extractive-trading companies in conflict zones. The points outlined in the declaration are further enumerated in the G-8 communiqué, which charges each nation with the development of national action plans and promotes the use of an Open Data Charter, which will make government information public in an effort to promote transparency.
The Lough Erne Declaration comes on the heels of the OECD’s Convention on Mutual Administrative Assistance in Tax Matters and measures such as the Extractive Industries Transparency Initiative, but it is a disappointment in light of the more aggressive measures initially pushed by the United Kingdom. Prime Minister Cameron initially called for public registries of beneficial ownership that disclose information about people that control or benefit from a corporation through mechanisms such as receipt of income and voting rights. His proposals, however, were not well received by all members of the G-8, who instead opted for an individual-action-plan model. The G-8 agreed to automatic sharing of information among tax authorities across the world but declined to make the information public for fear of misuse or abuse.
The core principles enumerated in the Lough Erne Declaration are laudable, but given the lack of specifics, implementing them will remain difficult. Moreover, Russia, the host of the 2014 G-8 summit, has shown little interest in advocating for strong action on tax havens. Considering that Russian oligarchs rank among the major users of offshore tax havens, however, Russia’s hostility is unsurprising. Although the G-8 has promised to share information with tax authorities in developing countries, a lack of capacity on the part of tax authorities in developing countries and public scrutiny may compromise these efforts. Without concrete pledges of financial and technical assistance from the developed world, it remains unclear when the capacity-assistance programs will be implemented.
The role of the United States
The United States has long been relatively forward leaning in dealing with these issues. The Foreign and Corrupt Practices Act, first enacted in 1977, has been an important model for international tax policy. Until the act passed, U.S. companies were able to deduct bribes to foreign officials as legitimate business expenses on tax returns.
Given last month’s pledge by President Barack Obama to increase partnerships with sub-Saharan Africa by strengthening democratic institutions and promoting economic trade and investment, the principles of the Lough Erne Declaration should serve as a framework for U.S. foreign policy and help developing countries fulfill World Trade Organization transparency agreements.
Following the summit, the United States swiftly released an action plan calling for transparency of company ownership and control at home and abroad. This plan complements measures such as the U.S.-East African Community Trade and Investment Partnership, which is already working to end barriers to trade and investment on the African continent and promote transparency.
The action plan also includes measures calling for the creation of state-level registries that would be publicly available. Although the United States has been a global leader in combating tax evasion, these commitments would improve transparency in states such as Delaware, which has relatively lax tax policies.
Stricter enforcement of previously existing legislation will also help trace illicit financial flows. The transparency provisions of the 2010 Dodd-Frank Wall Street Reform and Consumer Protection Act mark progress in attempts to create greater transparency and accountability in the extractives industry. A recent case involving the American Petroleum Institute and the U.S. Securities and Exchange Commission, or SEC, however, has challenged the act. A federal judge recently struck down Section 1504 of the act, which required companies engaged in the oil, natural gas, or mineral industries to publicly disclose information about payments made to the U.S. and foreign governments.
Having such a key part of the legislation vacated is a huge disappointment after significant congressional efforts to aid the international community in the fight against corruption. Although Sen. Ben Cardin (D-MD), one of the authors of the transparency provisions in the Dodd-Frank Act, has been vocal in declaring that “Congress was clear in the letter and the spirit of the law that this information should be in the public domain,” Congress and the SEC need to take swift action to ensure that Section 1504 is implemented as was originally intended.
Although the U.S. government has taken some steps forward on the issue of tax evasion, additional progress is still needed at the federal and state levels. Because tax havens are often mutually beneficial to local governments and corporations, however, the impetus for change must come from both the public and private sector.
Conclusion
President Obama should continue to make the fight against tax evasion a priority on the international agenda by eliminating deliberate U.S. tax loopholes written into our tax code and sharing information on companies with tax authorities in developing countries. Corporations must pay their fair share of corporate taxes in nations where they make a profit to foster a culture of social responsibility. Developing nations cannot continue to hemorrhage funds due to lax tax laws in nations such as the United States.
As a global leader, the United States must continue to set a positive precedent in the international community by taking more-substantive action. A focus on the collection and monitoring of tax revenue is not only in our national interest but also has the potential to increase the resources available for development across the world.
Akinyi Ochieng is an intern with the National Security team at the Center for American Progress.