Offshore tax havens - now known by the more polite term “offshore financial centres” or OFCs–are today a deeply entrenched part of the global financial system. There are more than 70 OFCs in places such as the Cayman Islands, the Bahamas, Barbados, Jersey, the Isle of Man, Manaco, Cyprus, Luxembourg, Macao and a number of South Pacific Islands. Most but not all are small island states. Some of the banking facilities based in these tax havens are little more than a computer in a closet, but most are subsidiaries of mainstream banks headquartered in London,Zurich, New York and Toronto.
OFCs levy little or no tax on property, and provide minimal rules related to licensing and incorporation. Financial institutions and corporations can conduct their business without having a physical presence in these jurisdictions. Most importantly, OFCs guarantee anonymity so that their clients are beyond the scrutiny of tax authorities and regulators in their countries of residence.
These characteristics have attracted corporations and wealthy individuals to move their assets offshore. In the early 1990s, the Bank for International Settlements estimated that total offshore cash holdings were five times the sum available to the world’s central banks. In its 1998 World Wealth Report, Merrill Lynch estimated that one-third of the wealth of the world’s richest individuals, or US $11 trillion, was held offshore. Between 50% and 60% of all global trade is conducted through OFCs, and half the global monetary stock is estimated to pass through OFCs at somepoint.
Profit Laundering
For multinational corporations, OFCs provide opportunities for “profit laundering”, carrying out transactions that assign profits and losses on paper according to where taxes can be minimised. Profit laundering is frequently done through offshore shell companies that have no function other than holding corporate assets.
To conceal profits a company might transfer the ownership of patents, copyrights or other intangibles to offshore shell companies and collect royalties in a low-tax jurisdiction. Earlier this year, the pharmaceutical company Merck was assessed $2.3 billion in US back taxes for transferring its drug patents to a Bermuda shell company and then deducting from its taxes the royalties it paid itself. High technology companies such as Microsoft are engaged in similar strategies.
Shell companies can also be used to hide debt liabilities from regulators and shareholders. Before being exposed as a spectacular fraud, Enron had established a network of 3,500 shell companies, 600 of which were registered in the Cayman Islands.
One of the most common methods of concealing corporate income and profits is through falsified transfer pricing. Today, half of all global trade is conducted within multinational companies, among affiliates of the same parent company. Much of the trade between parent companies and affiliates is falsely priced so that companies can allocate profits and losses at will.
A company might, for example, sell an export item to an offshore affiliate at a sharply reduced price, the affiliate then sells the item at market price, with the profits remaining offshore. Alternatively, the offshore affiliate might import an item at the real market price, but sell it to the parent company at a grossly inflated price so the company has a huge cost to deduct. Among the falsely priced export items uncovered in a recent US study were bulldozers priced at $527.94 each and forklift trucks priced at $384.14 each. Falsely priced import items included flashlights from Japan at $5,000 each and toothbrushes from Britain at $5,655 each. The study concluded that falsified pricing resulted in tax losses to the US treasury of $53.1 billion in 2001 alone.
A US expert on tax evasion calculates that the percentage of US tax revenues from corporations has declined since the 1960 from around 30% to 8%, largely due to shifting income to offshore havens. In a recent study of the 250 largest US corporations, a third paid no income tax between 2001 and 2003 despite reporting overall pre-tax profits of $1.1 trillion to their shareholders in the same period. Raymond Baker, author of Capitalism’s Achilles Heel, estimates that multinational companies account for a global tax loss of at least $ 200 billion a year through the use of shell companies and falsified transfer pricing.
Wealthy individuals are also escaping their tax obligations by holding their assets offshore. Financial institutions based in OFCs have aggressively pursued ‘high net worth individuals”, encouraging them to move their assets to offshore accounts and trusts. A 2006 US Senate subcommitee report concluded that wealthy Americans avoid $40 to $70 billion in taxes each year by holding their assets offshore. The Tax Justice Network in the United Kingdom calculated that if the returns on $11 trillion of individual assets now placed in OFCs were taxed at 30%, it would generate $255 billion in tax revenues globally.
Illegal capital flight
If these issues are cause for concern in Northern countries, the situation facing transition economies and developing countries is even more serious. OFCs have enabled massive illicit capital flight out of transition economies such as Russia and China as well as from developing countries. Raymond Baker estimates that falsified pricing alone shifts at least $280 billion out of transition and developing economies every year.
Russia appears to have suffered the greatest theft of resources in the shortest period of time, an amount estimated to be between $200 and $500 billion in the period 1989 to 2004. Stephen Cohen described the disintegration of post-Communist Russia as the “unprecedented de-modernization of a twentieth-century country”. As state-owned enterprises were privatized, the orgy of looting was supported by western corporations and financial institutions and the plunder flowed into western banks. Indeed, Russian flight capital finances a substantial portion of the US balance of payments deficit.
The International Monetary Fund (IMF) estimated that illegal outflows from China were $127 billion between 1992 and 2001, a figure that is likely understimated by half. Raymond Baker notes that as much as half of all foreign direct investment (FDI) in China is actually Chinese money that came out of the country illegally, disguised itself as a foreign company and returned to China as a joint venture with a foreign partner. Almost 45% of FDI in China originates from shell companies based in the Cayman Islands, Hong Kong and the British Virgin Islands, ensuring that royalties, fees and dividends flow offshore.
Developing countries often have weak tax administration systems and lack the capacity to track the complex financial manoeuvres of multinational companies. In a June 2000 report,Oxfam (UK) estimated that OFCs contributed to tax losses in developing countries of about $50 billion a year, roughly equivalent to annual aid flows. This figure is likely to be conservative as it did not take into account outright tax evasion, falsified transfer pricing or under-reporting of corporate profits.
The African Union reported that at least $148 billion illegally leaves the continent every year, most ending up in offshore accounts. Falsified transfer pricing by multinationals is reportedly costing Africa $10 to $11 billion annually. Some estimates suggest that Africa’s political elites hold between $700 and $800 billion in offshore accounts outside the continent.
Corrupt political leaders of some developing countries have embezzled vast amounts of wealth from their national treasuries. The Indonesian dictator Suharto looted his country for years and up to $35 billion found its way to the Cayman Islands, Panama, the Bahamas, Cook Islands, Vanuatu and West Samoa. Citibank helped Raul Salinas, brother of Mexico’s former president, establish anonymous offshore trusts, international business companies and secret accounts to hide his stolen wealth. Riggs Bank of Washington set up offshore dummy corporations and anonymous accounts for Augusto Pinochet, the murderous former dictator of Chile. In the required “Know your Customer” documentation, Rigges described Pinochet as “a retired professional who achieved much success in his career and accumulated wealth during his lifetime for retirement in an orderly way.”
Some of Africa’s poorest countries have also been plundered. Sani Abacha, the dictator of Nigeria between 1993 and 1998, looted the country’s treasury and sent billions to secret accounts in Switzerland, Luxembourg, Liechtenstein and London. Mobutu Sese Seko of Zaire and Emperor Bokassa of the Central African Republic plundered their countries to the point of starvation.
{Courtsey : Third World Economics Issue No. 407, 16-31 August, 2007}
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