About $138 billion is given away annually by governments in developing countries in corporate income tax exemptions
The bulk of Africa’s losses to illicit financial flows annually were through various schemes by multinational companies to evade and avoid the payment of corporate tax in their areas of operations.
Findings by the African Union high-level panel on illicit financial flows showed that what the continent has been losing annually through illicit financial flows is more than what it receives in development aids from abroad or foreign direct investment combined.
The panel, chaired by former South African President, Thabo Mbeki, was mandated to make recommendations towards finding an end to the huge capital flight, which has deprived Africa significant funding for its development programmes.
The draft report of the panel would be presented to ongoing African Union Finance Ministers’ meeting in Abuja, while the final report is expected to be presented at the AU Summit in late June, 2014.
The United Nations panel noted in its report that at least two-thirds of all illicit financial movements involved multinationals and commercial transactions in corporate tax evasion and avoidance.
The report said about 30 percent of these movements have links with one criminal activity or another, including drug dealings, smuggling or human trafficking, while another 5 percent are traced to bribery to corrupt officials.
While multinational companies involved in either the continent’s extractive industries or selling commercial goods and services make huge profits from their operations, the report said their contributions to those economies by way of tax payment are little.
“They (multinationals) are depriving some of the world’s poorest countries of money vitally needed to pay for schools, hospitals and other essential services,” the report said.
Some of the mechanisms used by multinationals to defraud countries of tax revenues, the report said, include trade or transfer mispricing, exploitation tax treaties to stash their profits in places offering very low tax rates or harmful tax incentives.
International development agency, ActionAid say corporate evasion and avoidance was unfair on smaller domestic businesses that are typically responsible for the majority of employment in Africa.
The agency called on the African Union and its member governments who are attending the Abuja conference to immediately review tax treaties, which, it said, are some of the major routes through which tax avoidance usually occurs.
“African governments should look to renegotiate or, if necessary, to cancel the treaties to ensure that more money is available to help improve the lives of the majority of their citizens,” ActionAid said. “African governments should also review their tax incentives and cooperate at a regional level to develop a coordinated approach to tax competition.”
Multinational companies, the agency noted, often relied on the global network of double taxation treaties or agreements, which permit citizens who earn their income in a country other than their home country, to avoid or reduce the tax they should to pay to the governments in their areas of operation.
ActionAid estimates that about $138 billion is given away by governments in developing countries annually in corporate income tax exemptions.
“The amount could have been enough to put every primary school aged child in school, meet all the health-related Millennium Development Goals and leave enough money for the agriculture investment needed to end hunger,” the group noted.
Taking advantage of different double taxation treaties existing in various countries, the group said multinational companies exploit such treaties, often by shifting their profits from country to country to country with the lowest withholding tax rates.
It pointed out that through a strategy known as ‘treaty shopping’, which involves routing financial flows through different tax jurisdictions, companies are able to avoid tax on cross-border transfers, whether or not a bilateral treaty exists between the country in which the income is generated and the final destination country.
The strategy, it said, becomes particularly problematic when it involves a tax haven, like Mauritius, which is characterized by low tax rates, high levels of secrecy and extensive tax treaty networks.
Identifying Mauritius as highly exposed to the risk of illicit transfers in Africa, ActionAid said 56 per cent of all foreign direct investments into Africa flow through the country, which signed double taxation treaties with 14 African countries and in the process of negotiating another 11.
In 2013, ActionAid said it uncovered a presentation prepared by a major international accountancy firm, Deloitte on how tax can be avoided in African countries by structuring business through Mauritius.
The presentation, it said, used Chinese investments into Mozambique as example, though same could be applied in many other African countries.
“If a Chinese company invests directly in Mozambique, standard tax treatment of international investments applies, with profits from Mozambique subsidiary and when they are remitted to the Chinese parent company as dividends subject to a 20 percent withholding tax, while any capital gains from the sale of the Mozambique company to another investor attracting a 32 percent tax,” the Deloite presentation stated.
However, if the same company was routed through a Mauritius holding company, it could reduce withholding tax paid when dividends are remitted from Mozambique from 20 percent to eight percent, without any capital gains tax paid if sold on the Mozambique subsidiary, since the treaty prevents Mozambique from charging capital gains.
ActionAid analysis of the new Nigeria-Mauritius double taxation treaty, which is yet to be ratified by Nigeria, shows that companies investing in Nigeria would be able to avoid tax by routing their investments through Mauritius as opposed to investing directly in Nigeria.