Tax Dodgers Sans Frontières
By Mike SeccombeJuly 25, 2013
The companies robbing the world, and why it finally matters.
It is more truly global than the “global war on terrorism”, more quixotic than the global war on the drug trade, and vastly more costly than either of these.
We’re talking about the global struggle between governments and multinational corporate tax dodgers.
Would you call it a war? There are no bullets, but the conflict bears other hallmarks of war. It involves a threat to national sovereignty. And it is fought at huge human cost – in lives impoverished or cut short by lack of access to food, health services and infrastructure that governments cannot provide for their citizenry because they have been cheated of trillions of dollars.
Trillions? With a “T”, as in millions of millions? Perhaps you think I exaggerate.
Then hear this, from Edward Kleinbard, a Professor of Law at the University of Southern California (USC), and former Chief of Staff of the US Congress’s Joint Committee on Taxation.
Because of an anomaly in US tax law, which requires that companies report their holdings in offshore tax havens, says Kleinbard, “we can say with some precision that US firms have about $2 trillion today in offshore, unrepatriated, low-tax earnings.
“Now, not all that $2 trillion is cash; some is invested in real subsidiaries doing real things, but about 40 per cent is cash,” Kleinbard told The Global Mail.
To give some idea of the magnitude of this corporate stash of money, consider that the gross domestic product of Australia is only about $1.5 trillion.
And Australia is the 12th largest national economy in the world.
Furthermore, says Kleinbard: “Other [non-US] multinationals would have proportionately just as much super-low-taxed or untaxed income. It’s just that because of US tax rules, the extent to which US firms do it is more visible.”
Given that the US economy these days makes up about one-quarter of the global economy, you might well multiply that number by four. Given that the US has one of the more meticulous tax regimes, you might well multiply it by much more. Some estimates place the global total that multinationals have stashed away in tax havens at around US$20 trillion.
But no one knows for sure. “I think [calculating it] is an impossible exercise,” says Professor Jason Sharman of Griffith University, who, over a decade of studying the subject, has seen a wide spread of estimates of the scope of corporate tax avoidance.
Whatever the true number, though, it’s huge and growing fast. It’s big enough that the Organisation for Economic Co-operation and Development (OECD), in a recent report on the subject (page 8), warned: “What is at stake is the integrity of the corporate income tax.”
“All the multinationals are doing it,” says Kleinbard, who later corrects himself, saying maybe 70 per cent of the biggest US corporations do it.
“The other 30 should fire their tax directors.”
Kleinbard is not an expert on Australia’s biggest corporations, but if he’s right and it’s a universal problem, one might expect them to similarly make use of tax havens – perhaps even to a greater degree, given that Australia is proportionately a bigger trading economy.
And sure enough, most of them do have subsidiaries in tax havens or, as they are more precisely called by people who look into these things, “secrecy jurisdictions”.
In all, 61 of Australia’s top 100 companies have active subsidiaries in secrecy jurisdictions, according to a comprehensive recent investigation by the Justice and International Mission of the Uniting Church.
The Justice and International Mission is, as their name implies, concerned with social justice. If the Australian Treasury is being diddled of several billion dollars a year in corporate tax – which is their best guess – then that means the tax burden falls more heavily on others less able to pay. It means less for government to spend meeting the needs of its citizens.
So, which companies have subsidiaries in secrecy jurisdictions?
All of Australia’s big four banks have them, in varying measure. The Commonwealth Bank has eight, Westpac five, ANZ four and National Australia Bank just one.
Other big companies have many more. AMP has 15, Computershare, 18. Telstra has 19, Downer EDI, 32; Toll Holdings, 64; Goodman group, 67 – and way out ahead of the pack is Rupert Murdoch’s News Corp, which has 146.
Before we go any further, perhaps we should define what is meant by the term “secrecy jurisdictions”.
It refers to countries, dependencies of bigger countries, or even states within countries which provide to companies and wealthy individuals varying degrees of protection against the tax authorities, financial regulation, inheritance laws, rules of litigation and in some cases even the criminal laws of their home countries.
The Tax Justice Network, an international coalition of researchers and activists with whom the Uniting Church’s Justice and International Mission collaborate, identifies more than 70 such jurisdictions offering varying degrees of … shall we say … discretion. The TJN has developed an index which scores these places on a range, from the moderately secretive, such as Spain, to almost-anything-goes places, such as Nauru and the Maldives.
As the network notes: “Most jurisdictions assessed are clustered towards the murkier end of the secrecy spectrum.”
Now, we should say that the fact that a company has a subsidiary in a secrecy jurisdiction is not of itself evidence of any illegality.
In fact, the nub of the problem is the legality of such practices. The rules governing international trade and taxation, established the better part of a century ago, focused on making sure corporations were not taxed twice when they dealt with two countries. The rules did not envisage companies using aggressive means of moving money around in order to avoid being properly taxed anywhere.
Furthermore – let’s be brutally frank here – for decades, centuries even, the big countries of the world didn’t care a whole lot about the offshore behaviour of their big corporations.
National interest dictated that they shouldn’t care. After all, the rip-off of the developing world brought the developed countries cheap resources to fuel their growth. It brought their corporations healthy profits, which flowed to their shareholders. It produced stuff for their consumers to buy. So what if these companies exploited unsophisticated people and governments in little busted-arse countries – to use the famous phrase of Australia’s egregious former Foreign Affairs Minister Alexander Downer? No skin off their rich noses.
But globalisation has changed all that. For a start, the big western economies are not nearly as dominant as they used to be. As recently as the early 1990s, the world’s developing nations accounted for just 20 per cent of the global economy. In 2013, according to the European Central Bank, it’s more than 50 per cent.
More important than that has been the phenomenal growth in international trade. Its value has increased close to 50-fold, having grown since 1970 at twice the rate of the world economy, driven by neo-liberal theories of greater productivity through specialisation, by growing demand for goods and services, and of course by communications advances.
And more important still has been a change in the pattern of trade. International trade has grown fast, but intra-firm trade has grown even faster, as the OECD noted in a 2011 paper on the subject.
“The organisation of multinational firms has dramatically changed over the last two decades with the emergence of ‘global value chains’ which has increased the importance of intra-firm trade flows,” it says.
In simple terms, what that means is that instead of company A in Australia (or the US or Britain, or anywhere) selling something to company B overseas, it now is increasingly likely that company A in Australia is selling to a subsidiary of itself overseas.
More than half the trade of many developed countries is now intra-company. Australia is one of those countries.
The OECD report noted: “This transformation has already thrown into question the ‘national identity’ of MNEs [multi-national enterprises].”
That seems something of an understatement. Multinational corporations – some of them financial entities larger than middle-sized nation states – now move production to where labour and other input costs are cheaper, claim research costs where the R&D incentives are greatest, and declare their profits where the corporate taxes are lowest.
Like we said before, for a long time policy-makers in developed nations didn’t care much about what “their” multinationals did overseas. Quite suddenly, though, they are coming to realise these companies are not theirs anymore.
They are citizens of the world, generating ever-increasing amounts of what USC’s Prof. Edward Kleinbard calls “stateless income”, laundered through some secrecy jurisdiction or other.
Of course, there can be legitimate business reasons for a multinational company to have a presence in, say, Singapore, even though Singapore rates well up on the secrecy scale. It is, afterall, a major regional financial centre.
And 40 of Australia’s top 100 companies have, between them, 174 subsidiaries located in Singapore. Likewise Hong Kong, where 32 of the Top 100 have 114 subsidiaries.
But that doesn’t change the fact that these places are widely used by high-wealth people and corporations as a means to dodge tax.
Indeed, says Mark Zimsak, director of the Uniting Church’s Justice and International mission, Singapore in particular is a big growth centre for tax dodgers, especially now that Switzerland – once a by-word for financial secrecy – is becoming more willing to share financial information with other governments.
“The latest information shows there has been a massive shift to Singapore. The numbers I’ve seen suggest Singapore is home to between $100 billion and $1 trillion of stashed money,” Zimsak says.
But when a multinational operates subsidiaries in some of the more obscure and egregious of the secrecy jurisdictions, it can, on the face of it, look more suspicious. I mean, what legitimate reason could a multinational corporation have for operating in a flyspeck place such as Nauru – unless it were somehow involved in the business of bunging up asylum seekers on behalf of the Australian government?
In their survey of Australia’s top 100 companies, the Uniting Church’s investigators wrote to all of them, seeking to establish if they had legitimate reasons for operating subsidiaries in tax havens. Then the investigators removed from the list any subsidiaries that were no longer operating or were shown to be operating proper businesses. That left a total of 692 subsidiaries whose purpose was unexplained. (The numbers we cite throughout this story come from that amended list.)
To cite one example of a subsidiary which was explained and removed, the Fosters Group has a subsidiary in Western Samoa, one of the more secretive countries. But as it turned out Fosters is the main brewer in Samoa, where it employs 160 people. Thus that subsidiary was removed from the list of questionable entities in the report.
But only 31 of the 100 companies responded to the church’s enquiries, and many of those responses were vague or dismissive. The rest of the companies didn’t bother replying at all.
In most cases, the report’s authors got their information from corporate annual reports. But in some cases even those were no help.
For example, in the case of that champion user of secrecy jurisdictions, Rupert Murdoch’s News Corp, the report’s authors had to glean their information on its 146 offshoots from a 2008 report by the United States Government Accountability Office, on companies which used tax havens.
In the absence of any explanation from News Corp, we can only wonder what media business it conducts through its 62 subsidiaries in the British Virgin Islands, 33 in the Cayman Islands, 15 in Mauritius and others in Panama, Belize, Bermuda, Hong Kong, Luxembourg, Marshall Islands, Singapore and Switzerland.
Of the 692 subsidiaries the ASX Top 100 companies operate in secrecy jurisdictions, about 40 per cent – or 288 – were in Singapore and Hong Kong, which, like we said before, are financial hubs. The other 60 per cent were in rather more questionable places. There were, for example 97 in Jersey, 83 in the British Virgin Islands, 55 in the Cayman Islands, and others in places which seem even less likely to host legitimate businesses. You can see the whole list, and read the rationales of the companies who bothered to explain themselves, in the church report.
Let us stress again, we’re not suggesting these arrangements are illegal. But the locales of many of these subsidiaries do give rise to suspicion about the corporate motives for locating there.
Let’s have a look at just one of those secrecy jurisdictions, the British Virgin Islands, selected both because it was one of the most popular among Australia’s multinationals and because it was used as a case study for a landmark report published this year by the Organisation for Economic Cooperation and Development.
The report Addressing Base Erosion and Profit Shifting, examined the “serious threat to tax revenues, tax sovereignty and tax fairness” posed to rich and poor countries alike by corporate tax dodging.
The British Virgin Islands is a tiny place of white-sand beaches and lush vegetation; population a little over 31,000; total land area, 153 sq km; and without natural resources or obvious attraction except as a tourist destination.
But if you look at the tiny local paper, you get some idea of what really drives the place. Among the hyperlocal headlines like “Trash to be collected at some houses” and “Fruit fans flock to Mango Array” in the July 16, 2013 edition is this: “Incorporation stats show 6.7 per cent drop.”
The story records the fact that in the first three months of the year, Virgin Islands trust firms formed only 16,666 new companies, compared with 17,865 formed in the corresponding period for the previous year.
It goes on to recite a bunch of other statistics, like the number of local investment houses (up to 530), and to express hope that new investment regulations, lately passed by the Islands’ House of Assembly, will “lure business away from the Cayman Islands”.
What sort of business? Well, tourism, of a sort. The Virgin Islands is one of the favourite places for multinational companies – and high-wealth individuals – to send their money for a holiday.
In 2010, the OECD report says, BVI, along with its two nearby island tax havens, Bermuda and Barbados, accounted for more than five per cent of world capital inflows. That’s more than went into Germany or Japan.
Among the Australian companies with subsidiaries in BVI are BHP, Computershare, Ramsey Health, Amcor and Downer EDI. Oil Search has five subsidiaries there. Toll Holdings has five. Telstra has 10. News Corp, as mentioned earlier, has 62.
Yes, money flows into BVI in spectacular measure, but it also flows out in equally spectacular measure. In 2010, BVI was the nominal source of 14 per cent of all foreign direct investment into the world’s second-largest economy, China. (The largest source country was Hong Kong – which also rates high on the secrecy scale – with 45 per cent. The United States, in comparison, provided just four per cent.)
In the same year, BVI along with three other tax havens – Cyprus, Bermuda and the Bahamas – accounted for 53 per cent of direct foreign investment in Russia.
Highly-secretive Mauritius is a dot in the Indian Ocean 1,000 km east of Madagascar. It has a population of about 1.25 million, but it was the top source of investment into India, which has a population 1,000 times greater.
The OECD report cited other examples too, but you get the picture. Vast, vast amounts of money are being channelled through these secrecy jurisdictions.
And lest the examples given so far give the impression that it is mostly happening in tiny renegade states, it is not. The OECD report went on to cite examples of so-called “special purpose entities” set up by multinationals in otherwise respectable nations, such as the Netherlands.
These SPEs, it defined as “entities with no or few employees, little or no physical presence in the host economy, whose assets and liabilities represent investments in or from other countries and whose core business consists of group financing or holding activities”. In plain language, the “special purpose” of those entities is dodging tax.
In 2011, the report reckoned, more than US$2.6 trillion flowed into SPEs in the Netherlands – which amounted to some 82 per cent of all inward flows – and about $3 trillion flowed out.
Other estimates come up with even more startling numbers. The Dutch Central Bank said that in 2010 multinational companies routed 10.2 trillion euros through 14,300 Dutch “special financial units”, according to a Bloomberg report earlier this year.
For a more detailed account of how the Netherlands lends itself out to multinationals seeking to minimise their tax, see The Global Mail story from 2012, on the means by which Google Australia used the so-called “double Irish Dutch sandwich” stratagem to pay just $75,000 in Australian tax on estimated revenue of $900 million.
A bunch of other surprising countries make the list of tax havens. Lovely little Luxembourg, a favourite of Australia’s top 100 companies (11 companies have 50 subsidiaries there), saw about US$2 trillion flow in, and a similar amount flow out of special-purpose entities in 2011.
And several states in the US, are extraordinarily opaque to authorities and obliging to tax avoiders.
France and Canada are considered “moderately secretive” by the Tax Justice Network. And while the UK itself is pretty open, it should not be forgotten that a lot of the more secretive little jurisdictions, including Bermuda, the British Virgin Islands, Cayman Islands, Gibraltar, Anguilla, Montserrat, Turks and Caicos Islands, Jersey, Guernsey and Isle of Man, are semi-autonomous British-crown dependencies or overseas territories.
Only earlier this year, British Prime Minister David Cameron moved to force these 10 territories to set up a register of companies using their services, and to be more transparent in sharing information. And they have agreed to be more open about revealing the true owners of shell companies.
However, there is a fair degree of scepticism about whether it will change much.
The BVI Beacon’s story about its efforts to make its regulatory regime more competitive with the Caymans for the tax-avoidance dollar does not bode well.
Still, this development might give pause to the tax planners of Australia’s top 100, among other multinationals. For it happens that, between them, they have 264 subsidiaries in the British territories David Cameron is trying, in his half-hearted Tory way, to make more transparent.
Cameron is far from alone. The governments of most western countries – at least those not sheltering corporate tax dodgers – are fretting, individually and collectively, through groups such as the OECD, G8 and G20, about the whole subject they call BEPS – the acronym for Base Erosion and Profit Shifting.
Why the sudden concern? It’s only been in the past few years that the issue has come on to these policy makers’ agendas, although academics and other tax experts have been warning about it for decades.
The thing that really concentrated their minds, says Mark Zimsak, was the global financial crisis. “Suddenly you’ve got OECD countries having suffered huge hits to the revenue bases, looking for every dollar they can claw back. That made them suddenly focus on the kind of dodging that’s going on.”
For the previous 15 years, the so-called “great moderation”, a period of relative economic stability, sustained increases in asset prices, corporate profits and government revenue had masked such dodging.The prophets of globalism were congratulating themselves on the success of their model of deregulation, lower corporate tax rates and trade liberalisation.
Then, in 2007-08, it all went to hell.
Corporate tax payments as a share of GDP, across OECD countries, dropped about 20 per cent between 2007 and 2011.
No doubt much of the decrease was due to declining company profits during the great recession. But the OECD suspected a lot was not. And the Australian Treasury, in its own investigation of possible tax dodging, released in May this year, provides support for that suspicion.
The Treasury noted that receipts from company taxes declined sharply, as might be expected, immediately after the GFC. By 2011-12, business profits had recovered to their previous level, “however, company tax collections remained well below the level expected in the 2008-09 Budget,” says the report.
It continued, “Conceptually, everything else being equal, a decline in the aggregate effective tax would be consistent with an increase in BEPS activity.”
Furthermore, it noted, “In comparison with other countries, Australia’s corporate tax collections have fallen by more and recovered less since the onset of the GFC.”
But Australia is only guessing. The US has a much better idea. And boy, are some US lawmakers ticked off by what they see.
This was never clearer than in a confrontation in May this year, between a US Senate subcommittee looking into tax dodging and the senior executives of computer company Apple.
Apple CEO Tim Cook indignantly told the committee: “We pay all the taxes we owe, every single dollar. We not only comply with the laws, but we comply with the spirit of the laws. We don't depend on tax gimmicks.”
Senators saw it differently.
As Senator John McCain summed up: “Today, Apple has over $100 billion dollars, more than two-thirds of its total profits, stashed away in an offshore account.”
Said Democrat Senator Carl Levin: “Apple successfully sought the holy grail of tax avoidance. It has created offshore entities holding tens of billions of dollars while claiming to be tax resident nowhere.”
Yes, that’s right. Parts of Apple’s complex web of international subsidiaries pay no tax, anywhere. For a more comprehensive account of how they arranged it, read this, from The New York Times.
Levin, a long-time campaigner against corporate tax dodging, said he had never seen anything like it.
Even Kleinbard, the expert in the various ways companies move money around the world, was impressed by the “brutally simple structure” by which Apple avoided tax on its income outside the Americas.
Lots of companies get big, and then look for ways to dodge tax, says Kleinbard; Apple’s “genius” was to set up its shell operation in Ireland way back at its very beginning, in 1980.
“It claims this Irish shell company – without any brains, without people, without any independent resources – nonetheless agreed to absorb the development costs of all the intangibles attributable to Apple business outside the Americas. And therefore it owns 60 per cent of the income stream of the entirety of Apple’s intangible assets,” says Kleinbard.
Kleinbard often jokes about “stateless income, sailing the seas until it finds a welcoming harbour”, but Apple’s arrangements literally went beyond the joke.
“Here the company itself is stateless and never comes to rest anywhere in the world and never pays tax anywhere in the world,” he explains.
It would be funny if it weren’t so serious. Richard Denniss, of the progressive Australian think tank, the Australia Institute, captures the absurdity well.
“Imagine if individuals could do what multinationals can do. Imagine if I could incorporate myself in Ireland, and rent my human capital off myself,” he riffs. “If I could tell them that degree I possess lives in Ireland now, and I’m just physically here in Australia. This is not Richard, this is just Richard’s body. Richard’s intellectual property lives elsewhere.”
In essence, this is exactly what these companies do.
They structure themselves in such a way that the parts of the company in high-tax jurisdictions make large payments to subsidiaries in low-tax jurisdictions, particularly for intangible “services”.
Apple may be the most egregious example, but all the big tech companies – Google, Amazon, Microsoft, Facebook et cetera – do it. Pharmaceutical companies are also among the worst tax avoiders, says Sharman. Which is easy to grasp, because the value of their output is in intellectual property rather than in physical goods.
But there is pretty much infinite scope to dodge tax, no matter what your line of business, as Kleinbard pointed out in a recent paper: Through a Latte, Darkly: Starbucks's Stateless Income Planning.
His subject was the coffee chain, which, writes Kleinbard, “follows a “classic brick-and-mortar retail business model”, with thousands of outlets in high-tax countries around the world.
Really, Starbucks differed from your average coffee shop only in its tax arrangements. It minimised its liabilities by making large, deductible intragroup payments to Dutch, Swiss, and US affiliates – for example, it made royalty payments for its brand to a subsidiary in Amsterdam, and sourced its coffee beans through a Swiss subsidiary. In the 14 years since 1998, when it established itself in the UK, Starbucks made sales of more than £3 billion, but paid just £8.6 million in company tax.
What the coffee-chain example shows, says Kleinbard, is that, “...if Starbucks can organise itself as a successful stateless income generator, any multinational company can.”
He writes, “...the Starbucks story demonstrates the fundamental opacity of international tax planning, in which neither investors in a public company nor the tax authorities in any particular jurisdiction have a clear picture of what the company is up to.”
This situation is made all the more frustrating by the fact that even in countries that are not secrecy jurisdictions, multinationals get cover via the privacy provisions of tax laws.
To illustrate this point, consider what Australia’s assistant Treasurer, David Bradbury, said when, some months ago, The Global Mail asked him about the scope of tax dodging.
“The scale is very difficult to determine, because of a lack of transparency around what is actually paid by multinational corporations both here in Australia and abroad.
“I sit here as the assistant Treasurer, having no visibility over what tax is being paid by companies.”
Bradbury has since overseen the passage of legislation requiring the Australian Taxation Office to report total income, taxable income and income tax payable in Australia for corporate tax entities with total incomes of $100m or more.
(It should be noted that Tony Abbott’s Opposition did not support the move. This is odd, given that the Liberal-National coalition’s putative core constituency is small business, and small businesses also suffer when big corporations dodge tax, because it gives them an unfair price advantage.)
The current government has also taken a number of other small steps to tighten its general anti-avoidance provisions and transfer pricing laws.
But as recently as this week, in releasing a “scoping paper” he commissioned from the Treasury, Bradbury conceded neither he nor the department had much idea about what was going on.
As he said: “... the paper highlights that data limitations make it difficult to accurately assess the extent to which Australia's corporate tax base is currently being impacted by base erosion and profit shifting.”
Mark Zimsak calls the Australian response “pathetic” and says expert advice to the TJN suggests Australia loses several billions of dollars in revenue each year.
The Australia Institute cites tax-office figures showing that in 2010-11, companies in Australia claimed $5,959 million in royalty expenses overseas.
It also points to official Balance of Payments data showing some $14,734 million in service debits (imported services) that, in the words of the Australia Institute’s Dave Richardson, “appear to cover the types of avoidance schemes we know of in Australia”.
But, as ever in this area, it’s impossible to know what portion of these deductions is legitimate.
So, what’s to be done?
Well, in theory, it’s simple. Impose a level of transparency such that these companies pay their taxes in the countries where they earn their income.
In practice, though, it’s complicated, because there is only so much individual countries can do.
There are some hopeful signs. For instance, at the just-concluded meeting of the G20, finance ministers threw their support behind an “Action Plan to Address Base Erosion and Profit Shifting”, proposed by the OECD.
The details are necessarily complex, but the 15-point plan proposes to substantially rework the existing international rules on transfer pricing – the major means by which multinationals shift profits to low-tax jurisdictions and costs to high-tax jurisdictions. It also proposes to rejig the regime for tax treaties between countries, to impose new standards for data collection and mandatory disclosure by companies – all within two or three years.
An ambitious timetable, but it has to be; what we have here is a fundamental threat to the notion of national sovereignty.
It’s a war alright – between governments, whose duty is the welfare of all the people within their borders, and corporations whose duty is only to their owners, wherever they may live.
Today, stateless corporations, not stateless people, are the real threat to “border security” in the world.