Buried treasure and tax havens

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Around the globe the mega rich, keen to protect their assets from taxation and devaluation, syphon off more and more money. Christopher Alkan asks, are the world’s great powers losing the war on tax havens?

Buried treasure

In 2009, G20 nations – the world’s leading economies – signed 300 tax treaties forcing offshore centres to hand over information on accounts that may be used to skirt taxes. By 2011, when the G20 met in Cannes 700 tax information treaties had been entered into. A truimphant Ángel Gurría, secretary-general of the OECD, declared “The era of bank secrecy is over. It is no longer possible to hide assets without risking detection.”

Then in November this year, UK chancellor George Osborne joined forces with the German finance minister, Wolfgang Schäuble, to announce an international crackdown on tax avoidance by multinational companies. But evidence is mounting that the world’s rich continue to pile up assets in the world’s 80 or so tax havens. This summer the Tax Justice Network estimated the total value had reached about $12trn by 2010, a 63% rise on 2005. An updated figure from the organisation, taking into account more sources of wealth, produced an even larger tally of hidden treasure – between $21trn and $32trn. Bearing in mind that global GDP is around $78trn, this suggests that private citizens hoard the equivalent of up to 40% of the world’s annual output.

Narrower measures which look only at bank deposits show that tax havens still hold about $2.7trn in cash – no decline at all on the 2007 figures, according to an analysis of data from the Bank for International Settlements.

This is a big deal for rich nations. The lost revenue to national exchequers likely runs into the hundreds of billions each year, according to John Christensen, director of the Tax Justice Network and a former advisor to the government of Jersey, one of the world’s top offshore jurisdictions. “It’s not just income tax that is being evaded but capital gains, inheritance tax and others,” he says. “At a time when governments are piling on debt, the burden on middle and lower income citizens is increasing. Meanwhile, governments are forced to cut back spending and lack the resources to boost the economy.”

So why have the world’s most powerful governments failed to bring to heel a collection of diminutive island states and small nations?
Gabriel Zucman, an academic at the Paris School of Economics, believes part of the explanation is that the G20 has not yet pushed hard enough. Current treaties signed by G20 nations require havens to give up information upon request, but they do not have to do so automatically. “To extract private account details the US tax authorities, for example, need to have good cause for suspicion,” Zucman says. “This can be hard to come by.”

To make matters worse for the G20, compliance is not yet universal. Some financial centres have been more co-operative in signing treaties than others. Jersey and Guernsey have been model global citizens, concluding almost 20 such agreements each by the middle of 2012. Partly as a result, bank deposits in Jersey have dropped by $110bn – more than half – over the past four years, while Guernsey has lost 15% of its base.

Sadly for the G20 nations, the money fleeing such helpful centres seems merely to have flowed to their rivals. The biggest winners, according to the Bank for International Settlements, have been banks in Hong Kong, which have added $65bn in deposits since 2007. The Cayman Islands and Singapore have also enjoyed large inflows.

Rational reaction

Rich nation politicians are facing other headwinds. Dan Mitchell, senior fellow at the libertarian Cato Institute in Washington, is a typical defender of offshore centres and believes that greater overseas hoarding is a rational response to expected tax increases. “With deficits so high, it doesn’t take a genius to realise that politicians will try to claw more from their wealthiest citizens,” Mitchell says. “Elites are obviously going to want to put some of their resources out of reach.”

An aversion to the prospect of higher taxes, however, looks to be only part of the story. The ranks of the super rich have also swelled considerably over past decades, as the world’s elite monopolise an ever-greater share of national wealth. In the US for example, the wealthiest 1% of Americans took home 9% of the nation’s total income in 1970. Now the 1% take home more than 20% of total national income. Meanwhile, in 2010 the top 1% of American families captured 93% of income growth, according to a paper published in March by Emmanuel Saez, professor of economics at Berkeley University.

“The more super-rich people, the more potential clients these tax jurisdictions have,” says Mark Weisbrot, co-director of the Center for Economic and Policy Research in Washington. The number of billionaires has ballooned from 691 in 2005 to 1,226 in 2012, according to Forbes, in part thanks to strong economic growth in China and India.

At a slightly humbler level, around 11 million people worldwide had more than $1m to invest in financial assets by 2010 – an 8% rise on the previous year, according to the Merrill Lynch-Capstone Wealth Report. The number of so-called ultra-high net worth individuals with more than $30m to invest was climbing even faster. “You need a certain amount of wealth before storing assets overseas becomes worthwhile,” says Niels Johannesen, assistant professor in economics at the University of Copenhagen, who co-wrote with Zucman a recent analysis of tax evasion based on rarely seen Bank for International Settlements figures. “The number of people with this kind of wealth has been on the rise.”

Political and economic insecurity can also be a powerful driver of funds into offshore banks. Nations that seem at risk of falling out of the eurozone have seen a particularly large flight of capital into foreign accounts. In Greece, for example, the stock of exiled deposits more than doubled between 2009 and 2011, according to Bank for International Settlements’ data. “Wealthy citizens in Greece have plenty to worry about,” says Marc Chandler, global head of currency strategy at Brown Brothers Harriman in New York. “If they leave the eurozone and devalue, the real worth of their deposits will plunge. Many also worry that bank failures will wipe out the value of savings.”

Parking money overseas is also spurred by the failure of many governments around the world to guarantee property rights for their citizens. For champions of tax havens this is a major selling point. “Offshore havens serve a vital function in a world where affluent citizens in many countries live in fear of having their wealth expropriated by the government,” says Mitchell, who is also a director of the Cayman Financial Review. Financial centres such as the Cayman Islands are not just useful because they offer low tax rates, he believes. They also offer a global public good. “Part of their value is that they also have strong legal systems which protect property rights,” he says. “Whenever nations lurch towards authoritarian rule – such as in Russia or Venezuela – people search for safe places to preserve their savings.”

Finally, the internet has made it far more convenient to keep tabs on offshore accounts and investments. Of course, well-regulated financial centres require proof of identity to open accounts. But the web has made it far simpler to move funds around the globe and to track their performance.

Stopping the leak

The rising demand for offshore services explains why it has been so difficult for the top economic powers to impose their will on the world’s tax havens – most of which are tiny states with small populations.

There may also be a political explanation why offshore centres have proved so hard to crush. “Rich nations have not fully put their backs into suppressing offshore havens because powerful interests don’t want them to,” says Christensen. “There is an astonishing amount of lobbying from the financial services industry to prevent change,” he continues. “For every one activist who wants to address the problem of evasion, there are 100 who are defending tax havens.”

In addition, the city of London is a major beneficiary from offshore funds. “Much of the money in offshore centres is actually managed in London,” he says. “That often tempers Britain’s eagerness to clamp down on tax havens.”

Other G20 nations waver in their enthusiasm for the fight. China, for example, has long been opposed to actions which would compromise the independence of sovereign states. “The authorities in China may also be quietly pleased by the rise of Hong Kong as a financial centre,” says Johannesen. The lack of unity and resolve has prevented G20 nations from using their full strength in this battle.

The question now is whether the great powers will redouble their efforts. To really guarantee that the job gets done, the G20 must insist on automatic information exchanges, says Zucman. “Under such a system any account holder would know that the full details of their accounts would be within reach of their domestic tax authorities. That would really undermine the business model of the offshore financial centres, so it is something they would strongly resist.”

The EU has such a system between its members, proving that it is technically possible. Some developing and emerging nations have become proponents of automatic information exchange. “Poorer countries have a huge amount to lose from tax evasion,” says Christensen.

“So we shouldn’t be too surprised to see them joining the fight against bank secrecy. Mexico, for example, is keen.”

But to impose such an information regime on havens, the G20 will need to be willing to increase the political and financial pressure. “For many offshore centres it would take a credible threat of sanctions and financial ostracism,” says Zucman.

Opposition to such draconian action will come not just from the self-interested and greedy. Libertarians also make a strong case that offshore centres are a precious public good. “These places are an important check on rich nation politicians,” says Martin Hutchinson, a former investment banker and author of Great Conservatives. “It helps restrain their inclination to tax and spend to the point of ruination. In effect tax havens can help protect human rights around the world.”

Ian Young, technical manager for international tax at ICAEW, believes it may be too soon to write off the G20’s efforts. “These may yet succeed given more time,” he says. “ICAEW obviously supports any effort that ensures that people stick to the tax rules.”

There are now 800 agreements meeting the OECD standards on information disclosure. And yet some feel there are still too few signs that these OECD measures are doing the full job. Bank secrecy, they feel, is still alive and kicking and the evidence suggests tax havens shelter more money than ever.

Small financial states must be hoping that their powerful adversaries have lost the will to fight.

 

Christopher Alkan

 

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