End “Tax Efficiency” Schemes, National and International!


 The G-20 meeting in 2009 urged the closing of international tax havens, the most recent G-20 meeting in Mexico saw the UK and France take up the issue once more (what had they done to that effect in the intervening years?); the International Tax Justice network, an NGO, together with Christian Aid estimates that developing countries lose around 160 bn $ every year through “tax optimization” which results in income tax not being paid in the countries where economic activity is implemented. And recently, the UK papers have been full with examples of international companies (Starbucks, Google, Amazon, and others) which despite large turnover in the UK have paid hardly any corporate income taxes in the UK: they pay very high “licence fees” to their mother companies, they source their inputs from abroad at inflated prices (“transfer pricing”): Starbucks, it turns out, imports its coffee beans from the prime coffee plantation region of Switzerland, of all places. And, even more recently, reports appear in UK papers that the water companies, privatized in the late 1980s, pay no or hardly any corporate taxes, in spite of large turnover and very high bonuses and dividends being paid to their managers and shareholders. On Nov. 11, 2012 The Observer cites the case of Thames Water which provides 25% of England’s households with water and wastewater services, for making a turnover of 1.7 bill £, an operating profit of 650 mill(!!), and paying no corporate income tax, but paying its chief executive a salary of 425.000 £ and a bonus of 420.000 £ in 2011! The company is – like most of English water companies (in Scotland water companies are still in public hands) – registered in the tax haven Jersey. All these privatized water companies are today owned by international private equity funds, many of which have saddled the company with high loans with which the shares were purchased (this is not unlike some of the English Premier league football clubs. As a result, they are legally entitled to deduct the high interest payments from their tax base. The Observer estimates that dividend payments over the past 10 years to Thames Water shareholders amounted  to around  4 bn £ – the amount the long-planned and not built canal tunnel under the Thames would cost, which could prevent London effluent from being discharged into the Thames, for which the company now requests a government guarantee, because it cannot borrow any more, given its high debt burden! A perverse world, in which the household and taxpayers pay twice for the privatized service.

Offshore registration also abounds in many of the national and international companies doing business in the ex-Socialist countries. Many of them locate in exotic locations like Aruba, Virgin Islands, Seychelles,Mauritius, and others. While there are many acceptable reasons why they are not registered in their own countries, like insufficient legal protection, threat of being expropriated by a politically well-connected oligarch, lack of sufficient corporate and legal services, etc., tax avoidance, money laundering motivation, and escape from regulatory authorities,  are not the least of motivations: funnily enough, most of these more or less exotic locations have very low tax rates, allow generous write-offs and frequently have very little regulation. If tax and regulatory avoidance are not the main motives for locating in these tax havens, the question arises why these firms do not register in Germany or Sweden. It remains a puzzle, why tax authorities in developing and emerging countries, all of which have a hard time collecting the necessary taxes to provide enough of a base for important socially valuable government expenditures, are not more active in attempting to close loopholes and tax optimization. The answer, of course, is that in this day and age of international competition, each country, each location vies for national and international investment and offers packages of in-kind and monetary “incentives” for firms to come and invest in their country. Plus, of  course, many of the politicians in these countries (and many of the lobbyists in all countries of the world) have their own business interests in companies and only a reduced interest in paying taxes.

Competition for investment leads to a race to the bottom for taxation of internationally mobile capital. Visualize alone the differences in statutory corporate income taxes within the European Union (between 10% and 40%, not including discretionary individual tax negotiations with authorities), and the – so far futile – attempts to even only align the definition of the corporate income tax base across the EU countries. The political signals are clear: resistance to close tax loopholes in corporate taxes is very strong.

Still: as the resistance of populations grows to pick up the financial tab for the debts the banking sector, and in consequence, their governments, ran up before and during the crisis around the world, as the realization increases that income inequality before and after tax reaches levels which threaten social cohesion and as the calls for a more equitable and sustainable economic system become louder – there is a chance that tax evasion by the mighty and powerful (both corporations, banks and individuals) might get on the agenda of political parties who might want to show that they care about the well-being of the citizens more than that of the lobbies who finance them. The tax Justice Network has recently estimated that the offshored wealth of private “high networth individuals” around the world amounts to more than 21 trillion $. This is about  1/3 of world GDP!

Capital will remain mobile, and transfer pricing is impossible to control. We can repatriate taxes to their origin of economic activity only, if we base the tax base more strongly on where activity takes place, e.g. on turnover. Thus, corporate income tax should be a percentage of turnover, after allowance for depreciation and investment in the jurisdiction where the turnover was generated. No allowance should be made for financial transactions, especially not with, but not exclusively with, tax havens. Just as most EU citizens cannot deduct private interest payments from their income tax base (exceptions are mortgage interest in some countries – which is also – rightly – under attack in these countries), corporations should not be allowed to use balance sheet transactions for tax minimization. For electronic commerce companies (e.g. Amazon), the country of destination (i.e. to which the product is shipped or where the service is “physically” being consumed) should be the locus of taxation. If there were a global agreement on such a common tax base, tax havens would dry out, taxation revenue would flow to the countries where economic activity takes place, and overall tax rates could be lower. Of course, political resistance will remain strong: many countries, not least within the European Union, built their economies on corporate income tax advantages vis-a-vis other jurisdictions. But in this way they have committed the “sin of unfair tax competition” impeding the socially optimal allocation of capital. The globalized world with mobile capital requires a global tax regime for capital income. The distributive costs of tax competition become clearer every day, as more evidence is dug up by investigative journalists and NGOs how unjust and uneven the tax burden has become, and how poor countries are deprived of their just tax share.

 

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Filed under Fiscal Policy, Global Governance, Socio-Economic Development

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