Last April, the General Accounting Office (GOA)—a kind of business inspectorate that works for the U.S. Congress—dropped something of a bombshell when it announced that two-thirds of the companies operating in the United States paid no federal taxes on their profits between 1996 and 2000. For the year 2000, 94% of all U.S. firms paid taxes of less than 5% of their profits.
American firms have long been transferring their profits to nearby Caribbean tax havens. According to U.S. News and World Report, these transfers are now worth more than US$5 trillion. A 2001 U.S. Senate report put the amount of taxes consequently forgone at US$45 billion annually. Small wonder, then, that in the U.S. the share of corporate profit taxes in overall federal tax revenue has now fallen to 7.4%, the lowest since 1934.
The U.S. example is impressive, but by no means unique. It merely illustrates the worldwide trend toward shifting the tax burden away from mobile affluent individuals and enterprises to less mobile “little people” and firms operating locally. The Bush administration provided the additional impetus by lowering profit tax rates and riddling tax laws with loopholes. This led Cassandra Q. Butts of the private think tank Center for American Progress to charge the Bush administration with “furthering the culture of tax avoidance by big corporations and creating a pervasive unfairness in our tax code.”
Another Bush critic is David Burnham, a director of the Syracuse University Research Organization, who says that, contrary to public statements, the current U.S. government is not actively fighting white-collar crime and tax evasion. There were “fewer audits, fewer penalties, fewer prosecutions.” Only three in ten big companies had to undergo any audit at all. That was an open invitation to exploit tax loopholes aggressively.
Lucy Komisar, a freelance journalist in New York and an activist in the Tax Justice Network co-founded by the Swiss Coalition, knows it: “In 1999, Microsoft, owned by the richest man in the world [Bill Gates], reported $12.3 billion U.S. income and paid zero federal taxes.” Not only had other well-known multinationals paid no taxes, but many had even got money back from the U.S. tax authority. The list includes Enron, Goodyear, and Colgate-Palmolive.
There are various ways of reducing taxes, including the legal, semi-legal and illegal. Firms lobby for derogations, special agreements or deductions, and the authorities willingly oblige. Multinationals open subsidiaries in tax havens such as Bermuda or Jersey and profit from low taxes, loose regulation, and lax controls. They attach other subsidiaries to the new “parent company” in the tax haven, thereby taking advantage of further loopholes. They build up a complex internal system of credit support, booking fake interest payments, high management fees, royalties, patent fees, etc.
By over- and under-invoicing, also called transfer pricing, they shift their profits about at will, deliberately placing them where taxes are lowest. The more global the corporation, the greater its possibilities. In recent years, the number of subsidiaries has grown exponentially: the UNCTAD 1990 Global Investment Report cited 37,000 corporations with 175,000 foreign subsidiaries, whereas by 2003 that figure was 64,000 corporations with 870,000 subsidiaries. Some 60% of global trade takes place within transnational corporations, which affords ample scope for all manner of manipulations.
Corporations maintain huge teams devoted to seeking out ways and means of saving on taxes. Countless consulting and accounting firms are at their service. According to the London-based Economist magazine, in the past few years the world’s four leading consulting and accounting firms alone (PriceWaterhouseCoopers, KPMG, Ernst&Young, Deloittes) have tripled their “tax optimization” personnel. They are aggressively selling their comprehensive tax avoidance programs designed to minimize the taxes paid by their clients. Democratic U.S. Senator Carl Levin (Michigan) states that KPMG alone is believed to have sold US$124 million worth of these tax avoidance vehicles in the U.S., which meant a tax shortfall of at least 10 times as much to the national coffers.
Such practices are also being applied in developing countries, as the Lima economist and financial expert Oscar Ugarteche recently explained on a visit to Switzerland, using the example of Peru. In that country, foreign corporations had no need whatsoever to resort to illegal methods such as tax fraud or tax evasion. To attract investments, the government concludes secret special agreements with them providing for multi-year tax-waivers, investment assistance, and free infrastructure services, among other things. The result is that hardly any foreign firm in Peru pays taxes.
In the industrialized countries—mainly the U.S. and U.K.—media reports on scandalous practices have raised public awareness and spurred politicians to action. Presidential candidate John Kerry has often shown himself to be an opponent of aggressive tax optimization. The initiators of the GOA study were two Democratic Senators. At the end of 2002, the U.S. Senate approved a law under which U.S. enterprises would be excluded from defense ministry contracts if they moved their profits to offshore centres. Similar endeavours are afoot in individual U.S. states.
In the British Parliament, Labour MP Harry Cohen asked the Chancellor of the Exchequer, Gordon Brown, whether he knew how much tax revenue Britain was losing on account of transactions in the Channel Islands and other U.K. dependencies. Brown replied that he had no idea. Essex University Law Professor Prem Sikka then calculated for him that it was at least £25 billion, or £425 per inhabitant, but that it could even be three times as much.
Now Brown, too, wants to put limits on the tax optimization industry. In future, consultancy and accounting firms, legal experts and banks that sell tax avoidance programs will have to register them with the British tax authorities within five days or face a £5,000 fine. Those filing late will also pay £600 per day. For enterprises as financially powerful as PriceWaterhouseCoopers U.K., whose profit is £1,505 million, this is of course a manageable contribution.
On the fringes of the spring meeting of the IMF and World Bank at the end of April, Canada, Australia, the U.K. and U.S. announced joint action to tackle aggressive international tax evasion. At the same time, tax experts from 27 countries met at the invitation of New Zealand to share their experiences in the fight against cross-border tax avoidance programs. Naturally, Switzerland was not present.
(Bruno Gurtner is a senior economist with the Swiss Coalition of Development Organizations in Bern, Switzerland.)