Tax Havens Hamper Development in Poor Countries

According to the Boston Consulting Group, an estimated $7.3 trillion is stashed in offshore financial centers around the world, places such as the Cayman Islands, Switzerland, and Monaco, by corporations and wealthy individuals seeking to lower their tax burdens.

Rarely are the 90 or so tax havens around the world thought of as harmful to the world’s poor. But according to several recent reports by international aid groups, tax evasion drains billions of desperately needed dollars from poor countries that could be used to fight poverty.

At the recent G20 meeting in London, leaders of developed and developing countries pledged to crack down on the tax havens that they claim siphon away much-needed tax revenues and to dismantle the havens’ culture of banking secrecy, blamed in part for the current financial crisis. A U.S. Senate subcommittee last year issued a report alleging that tax haven banks cost U.S. taxpayers an estimated $100 billion a year in lost revenue. “Tax havens are engaged in economic warfare against the United States,” Sen. Carl Levin, D-Mich., said at the time. “And the honest, hardworking American taxpayer is losing.”

But the toll on the world’s poor may be even more severe. “Tax havens have a bigger impact on developing countries than on developed countries,” Jeffrey Owens, director of the Centre for Tax Policy Administration at the Organization for Economic Cooperation and Development (OECD), recently told Reuters, claiming that tax drainage to havens was equal to 7 or 8 percent of the gross domestic product of the African continent. A 2008 Christian Aid report put it in even starker terms, claiming that because revenues that could be used for healthcare and education are lost to havens, nearly 1,000 children in the developing world die each day as a result of trade-related tax evasion.

“We consider [the capital lost to tax havens] the most damaging economic condition hurting the poor,” says Raymond Baker, director of the Global Financial Integrity Program at the Center for International Policy. “Nothing hurts developing countries more. It is a permanent outflow … and leaves poverty in its wake.”

That tax evasion can happen in several different ways. In some cases, proceeds from outright illegal activities – human trafficking, drug running, and fraud – are hidden offshore. In other cases, corrupt officials use tax havens as a way to conceal their earnings from bribes and illegal activities. And finally, multinational companies are able to dodge the taxman through “transfer pricing,” moving profits around the world to tax-friendlier jurisdictions.

According to the World Bank, illicit flows of cash from developing economies amount to between $500-$800 billion a year, of which around 60 percent is commercial tax evasion.

In the run-up to the G20 summit this year, British Prime Minister Gordon Brown criticized those companies that use “creative accounting” to move revenues offshore and pledged to “crack down on those tax havens that siphon money from developing countries, money that could otherwise be spent on bed nets, vaccinations, economic development and jobs.”

Pressure on tax havens intensified during the G20 summit, when the attending countries adopted a “list of shame” to identify those countries guilty of the worst offenses. The list singled out four countries — Costa Rica, Malaysia, the Philippines and Uruguay – as the worst offenders, and cited another 38 nations, including Andorra, Bahrain, the Cayman Islands, and Lichtenstein, as serious offenders.

So far, the list seems to be having an effect. Last week, the four countries listed as worst offenders pledged to exchange tax information and adopt reforms, and the OECD moved them from the “black” to the “grey” list as a result. But Switzerland, which was listed as a serious offender on the grey list, rejected its own classification, and last week vetoed part of the OECD’s budget in protest.

Some anti-haven activists, however, are pessimistic that these developments represent real progress for developing countries, largely because the “shame” lists are incomplete. Political pressures at the G20 summit reportedly prevented some notable tax havens from being included on the list. Macau and Hong Kong, two Chinese havens, were notably absent, and it was widely reported that China would not endorse the move against tax havens if these two financial centers were included. And others doubt that the pledges to open their books will bear fruit.

“These initiatives are not worth the paper they are written on,” John Christensen, director of London’s Tax Justice Network, recently told the Christian Science Monitor. “They are window-dressing.”

What’s more, the new regulations may lack teeth for enforcement. “OECD’s is a very weak standard,” says Baker. The burden of proof is on the country making enquiries about tax dodging, and havens in question are not obligated to provide information they don’t collect. “There’s a reason 10,000 hedge funds are located in the Cayman Islands,” says Baker. “Because there are no reporting requirements.”

Baker adds, however, that the developments at the G20 summit were encouraging. “I’m delighted we’ve had this amount of progress. If you keep capital from flowing out, you’re helping developing countries.”

Activists have taken encouragement from the fact that President Barack Obama co-sponsored a 2007 bill while he was in the Senate, which is still in committee, to stop tax haven abuse, indicating an early interest in cracking down on these offshore financial centers. And small victories have been noted in other nations – Ireland recently collected $1 billion in taxes by cracking down on offshore accounts, according to the OECD.