Tax havens are often portrayed as exotic islands, in far flung parts of the world. But as economist Brian O’Boyle explains, tax evasion is incorporated into capitalism on a global scale. And the amounts of money stolen are staggering.
One important myth about tax havens is that they are tiny islands in exotic places. This story draws on the idea of corrupt businessmen smuggling cash into far-off destinations, and a reason it works, is that the myth has an air of plausibility about it. Business people often do look for ways to avoid their taxes, and one way to achieve this, is to move their money out of their own countries. A more important reason that the myth has survived, however, is that it lets the major players in the tax dodging system completely off the hook. So long as tax havens are seen as little black-spots in an otherwise regulated capitalist economy, the fact that the entire system is set up for tax avoidance and evasion gets neatly pushed into the background. To begin to see this, we need to consider some of the basic statistics.
Although tax havens account for less than 5% of the global economy, half of all global trade and a third of all investment are currently routed through them. Yet, the end point for this investment is rarely in any offshore jurisdictions, exposing the fact that money gets artificially moved through tax havens solely to reduce business costs and taxes for transnational corporations. The sheer scale of the figures involved also point to a more systemic problem than the ‘Exotic Island Myth’ can account for.
By its nature, tax evasion is difficult to quantify, but using differences between profit reports given to their shareholders and profit tax paid to governments, specialists estimate the amount of tax being evaded by corporations is in the region of $4 trillion annually. This vast sum represents about 6% of global production—more than the entire German economy— and could never be achieved without the sanction and support of the major countries and their corporations.
A Tax Dodging Network
Collectively, The United States, China, Western Europe and Japan currently make up around 70% of the global economy. And it is the financial districts in each of these nation that operate as the major hubs for global tax evasion. Wall Street is the world’s largest financial centre, for example, but it is also heavily linked to the offshore world through its connections with Caribbean Islands such as Bermuda and the Bahamas and with the Irish Financial Services Centre (IFSC). One reason for China’s meteoric rise over the last 40 years has been its ability to wrestle Hong Kong back off the British—thereby taking control of one of the major offshore systems in South East Asia. Japanese corporations’ route a lot of their trade and investment through Singapore. Meanwhile in Europe, London and Dublin are the major financial centres dealing with tax avoidance and evasion.
This offshore web is deliberately kept at arm’s length by the major capitalist economies, but it is really important for at least three reasons. Firstly, it hoovers up vast wealth and foreign investment from around the world, before funnelling it into major financial districts at the expense of their rivals. Secondly, it allows transnational corporations headquartered in the centres of capitalism to lower their business costs, taxation and regulation. Thirdly, offshore jurisdictions function as money-laundering filters that allow major financial centres to get involved in dirty business while providing enough distance to maintain plausible deniability.
Take the City of London as an example. In his book Treasure Islands, Nicholas Shaxson explains how the City operates as the centre of a ‘giant’s spider’s web’ of illicit capital flows that take in the Channel Islands, a number of the Overseas Crown Dependencies and former British colonies such as Hong Kong and the Irish Republic. This allows London to act as the primary integrator of capital flows between Asia and Europe, and, with the help of the Euro-dollar markets, has sustained the City as one of the world’s most important financial districts even as the formal Empire has significantly declined.
Rather than seeing tax havens as deviant micro-states setting up an unwanted ‘race to the bottom’ in the global economy, it is therefore more accurate to see a global tax evasion and avoidance system with the major capitalist powers operating at the centre; between 60 and 100 smaller countries acting as the end points or sink havens for non-taxed wealth and about 5 to 10 mid-level countries acting as conduit havens to allow financial assets to flow around the system and settle in these low tax destinations.
Sink havens are often the high profile exotic islands mentioned at the outset, but it is the conduit havens that do the real heavy lifting in the current system. By linking capital in the centres of accumulation with these final or sink destinations, conduit economies allow transnational corporations to mask their real intentions by moving wealth through seemingly well-regulated economies with lots of real economic activity. Places like Dublin, Amsterdam and Singapore have thrived on the basis of extremely low taxes on the transfer of capital—for example, interest payments, royalties, dividends and profit repatriations—alongside a well-developed legal system that allows global corporations to set up holding companies to take advantage of tax treaties established between conduits, the major economies and (often illicitly) the sink destinations.
Ireland currently acts as a lynch-pin for corporate tax evasion by funnelling the wealth of US and Japanese corporations into Luxembourg for example, whilst the Netherlands specialises in moving wealth from European companies into Luxembourg, Cyprus and Bermuda. To see how they do this successfully, we turn next to the other major players in the offshore system—the transnational corporations.
Defenders of capitalism like to exclaim the virtues of market competition as though the global economy was still characterised by countless relatively small operators all vying for consumers and keeping each other in line. This vision underpinned Adam Smith’s famous idea of an ‘Invisible Hand’ regulating markets at the end of the 18th century, but today’s global capitalism is dominated by a small number of major corporations who control markets rather than competing in them. According to figures compiled by the Swiss Institute of Technology, just 1,318 global corporations control 80% of global revenues, with just 147 corporations controlling 40% of the entire network. These corporate giants regularly block competitors from using their networks, merge to increase their market share and purchase successful rivals if they become too much of a threat. But they also fragment themselves into hundreds of different companies each with their own legal and organisational structure. The Hong Kong Singapore Banking Corporation (HSBC) is composed of at least 828 separate corporate entities across 71 different countries for example, whilst the world’s biggest brewing company, Anheuser-Busch InBev, consists of at least 680 corporate entities located in 60 different countries.
This fragmentation recreates aspects of competition between entities within the group, allowing the parent company to benefit from managed levels of internal competition at the same time as it controls all the players in the market. Having multiple corporate entities also allows companies to increase their legal protection by organising key parts of their organisational structure in trusted partners—often conduit tax havens—who help them to incorporate for the purposes of managing costs and reducing taxes. This is why transnational corporations often go regulation shopping—playing governments against each other—in order to get the best deal for their various subsidiaries.
Having multiple different internal companies also allows a processes known as transfer pricing. This is where a company manipulates the prices of goods and services bought and sold within the company in order to make it look like subsidiaries in low tax countries are unusually profitable, whilst their high tax counterparts are less profitable and so pay lower amounts of tax where rates are highest. Around half of all global trade now takes places between the various arms of corporations, making it essential to have a high number of corporate entities in order to manipulate internal prices and reduce business costs. Finally, by having various arms of the one corporation, a number of accountancy tricks can be used to drive the company’s overall tax liability towards zero. One way to do this is to apply for tax deductions for interest payments made in a subsidiary country for money that is actually borrowed from another subsidiarity within the group. A second way is to claim tax relief in one country—usually a tax haven—for royalty payments or intellectual property payments that make their way back to the parent company in the form of revenue.
The fragmentation of major corporations works perfectly within the overall tax dodging system. Moreover, as shareholders generally reside in the heart of the system—incorporating key aspects of the business in trusted partner countries and using their network of treaties and subsidiaries to disguise their assets—this reduces their corporate responsibility and their overall taxes. This makes the myth of the Exotic Islands all the more outlandish as tax havens make up the very epicentre of global capitalism.
Indeed, not only have they reduced the amounts of taxes paid by the superrich, they have facilitated all of the major forms of organised crime in the world today, increased the instability and inequality of global financial markets and helped to embed the worst aspects of global neoliberalism by allowing capital easier access out of countries that try to regulate it. Despite repeated denials by the Irish state, The Irish Financial Services Centre is one of the key players in this rotten system and in the next article we will lay out exactly how tax haven Ireland goes about its dirty business.