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      Millions of e-mails and documents, exposing the tax-evading activities of thousands of individuals across 170 countries, were recently leaked by a consortium of journalists. Leaks of this scale are rare, particularly in the clandestine world of tax havens and offshore banking. The media and tax justice advocates are hailing it as a “large haul”, but will “offshore leaks” change the tide for illicit financial flows from developing countries? Paper trail or paper tiger?  It is not yet clear how much could be hidden by the activities noted in the documents. Estimates show that as much as € 25 trillion may be held secretly in various accounts worldwide. The leaks contain information on hidden wealth linked to leaders from various developing countries, including former President of the Philippines Ferdinand Marcos and Zimbabwe’s President Robert Mugabe. The above figure is debatable, and needs to be put in context. James S. Henry, who is behind the estimates, calls it “an exercise in night vision”. Furthermore, the leaks point mainly towards wealth hidden by elites from developed countries and a handful of ‘richer’ developing countries including China, India, Pakistan, Indonesia and Thailand. Meanwhile, recent figures by Global Financial Integrity indicate that over € 26 billion of illicit financial flows have left Sub-Saharan African countries annually in the decade from 2001-2010, more than 2% of the annual continental Gross Domestic Product (GDP). These are among the most rapidly growing illicit financial flows worldwide and significantly reduce the scale and scope of government expenditure and domestic economic activity in developing countries. The leaks illustrate how firms in offshore centres hide the identity of individual wealth holders. This however only underlines a familiar point, as the documents mostly reveal activities in known tax havens (the British Virgin Isles). While some of the tactics uncovered by the leaks are novel, tax havens specialise in high-speed obfuscation. Ownership secrecy is essential for tax evasion and money laundering, and the star attraction of tax havens alongside the rapid movement of and access to funds. New configurations of holding companies, subsidiaries and trusts are devised every day – can regulators and tax administrations, especially those in African countries, really be expected to keep up?

      Plugging leaks in sunken ships

      Pinning down the location of the assets revealed in the leaks, and then taxing or repatriating them will likely take several years. Developing countries affected are also not guaranteed to see development benefits from the returned funds. Most importantly, the leaks so far omit the largest group of tax evasion culprits: multi-national enterprises (MNEs) with global operations, including in developing countries. Approximately 60% of all business transactions worldwide take place within multinational companies. MNEs often make use of transfer (mis)pricing or shifting profits among different parts of the company across different countries, to seek beneficial tax regimes or evade taxes. Developing countries have little control over this due to gaps in their legislation, low regulation of companies and limited capacity of the tax administration to assess, audit and negotiate transfer pricing with MNEs. Trade mispricing accounts for an average of 75% of cumulative illicit financial flows. Curbing such practices could potentially increase corporate tax intake of developing countries by an average of 20%, increasing the percentage of GDP raised through taxes, therefore reducing their dependence on aid. The enablers for these practices are large mismatches and weaknesses in the international taxation system that create incentives tax evasion.

      Going for broke 

      The current system for international taxation no longer reflects how business operatesThe leaks come at a time when high-profile political platforms such as the OECD, the EU, the G8 and the G20 have renewed drive to crack down on tax evasion, mainly to ease budgets of crisis-hit developed countries. Yet the role of tax in development is also turning into a key issue in the discussions leading up to the proposal of the post-2015 development framework. There is the risk that the attention created for tax justice and reform by these leaks focuses entirely on the tax-dodging individuals. In order for the current media blitz to serve the broader taxation and development agenda, the policy implications that form the backdrop of the leaks should be highlighted. What issues should the international taxation framework address in order to benefit global development, and what is the EU’s role? Three things should be included in a new global development and development financing framework:
      1. Agree on and enforce an updated international standard for measuring transfer mispricing. Currently, the UN, OECD, World Bank and IMF each have their respective methodologies, all of which are based on the contested ‘arms-length principle’;
      2. Develop and agree on international standards requiring MNEs to submit a worldwide annual report (consolidated and broken down per country) to the tax administrations of all countries in which they operate. Such ‘country-by-country reporting’ was recently adopted by the European Commission, though only covering few sectors;
      3. Explicitly criminalise money laundering worldwide to the fullest extent possible. Particularly, we are still far from fully understanding the extent to which EU financial centres operate as tax havens – a term which should not evoke only small countries or tropical islands, but any country in which the banking sector remains loosely regulated regarding ownership information. The recent revision of the EU’s Anti-Money Laundering Directive takes steps in this direction.
      These efforts should be accompanied by measures to support tax policies and administrations in developing countries. The initiatives noted above must be matched to the EU’s commitments to promoting good governance in tax matters. These efforts must also go beyond the prevailing mantra of simply increasing information sharing. The current UN and OECD models for this are, at best, a half-measure. Unilateral tax agreements and schemes are no longer enough. Such issues will be the focus of the EU’s 2013 report on Policy Coherence for Development. What do you think EU Member States can do better in order to create a fairer and more effective international taxation system? How do you think taxation for development could be integrated into the post-2015 development framework?  —— Florian Krätke is Research Assistant at ECDPM’s EU External Action Programme. Read Florian’s previous posts.     This blog post features the author’s personal views and does not represent the view of ECDPM.
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