Last Saturday a landmark decision was taken when the African Union, made up of 54 African Heads of State, adopted the report of the High Level Panel on Illicit Financial Flows (IFF). This report documents the scale and impact of IFF from the continent and gives a range of policy recommendations. Our friends at the Tax Justice Network says the report is “probably the most important report yet produced on this issue” and for good reasons.
The new report is not only a strong testament to the importance that African leaders are placing on the issue of IFF, but its publication ahead of July’s Financing for Development (FfD) conference is an indication that the issue is likely to figure prominently among items raised by developing countries during the negotiations.
While the report has its regional focus on Africa the implications of its findings and recommendations are intrinsically linked to the European continent. Here, we identify the top five take away points for Europe:
1. Tax dodging by transnational companies is the main driver of illicit financial flows in Africa…
The report clearly identifies transnational corporations as “by far the biggest culprits of illicit outflows” (p3). By massaging their accounts and structuring their operations in tax havens, transnationals illicitly draw money out of the African continent, with no tax paid on these funds.
The report highlights many examples of the tricks used by companies, including how transnational companies in Mozambique under-declare the value of the shrimps they export; how 100,000 barrels of oils goes missing each day in Nigeria; or how an investor in South Africa set up subsidiaries with a handful of staff in Switzerland and in the UK to avoid paying $2 billion in taxes (p27-28).
The report tackles corruption and money laundering, but it also makes it clear that we cannot tackle IFF without tackling the issue of tax dodging transnational companies. European officials and governments who want to believe that IFFs are only about corruption and that all transnational corporations are beneficial to developing countries should listen and learn.
2. …And European countries are a centre for these flows
The report notes that “illicit financial outflows whose source is Africa end up somewhere in the rest of the world.” (p4). One of the innovations of the Panel’s report is that they are able to narrow down where some of the illicit flows end up, and it turns out that a lot of it comes to Europe. For example, 22.5% of the illicit flows emanating from Nigeria’s oil sector end up in Spain, while 11.7% of IFF from Algerian oil ends up in Italy and 23.6% of IFF from Cote d’Ivore’s cocoa sector ends up in Germany (p100). At the same time, the report notes that the proceeds from corruption have a tendency to end up in bank accounts in developed countries (p46).
“Countries that are destinations for these outflows also have a role in preventing them and in helping Africa to repatriate illicit funds and prosecute perpetrators” notes the report.
There are three obvious solutions which European leaders can introduce. Automatic exchange of information for tax purposes, public country by country reporting and public registries of beneficial owners of companies, trust and similar legal structures. However, while the European and G20 governments have taken steps to implement these tools in ways that create more transparency for themselves, there are not yet any solid transparency initiatives which will create transparency from an African perspective.
3. Capacity building will not solve the problem…
The report states that capacity building of tax administrations in Africa would be a good idea, and that African countries would need an additional 650,000 new tax officials to have the same ratio of tax officials to their population as OECD countries (p59). This is an area supported by several European aid agencies.
However, the report does state the limits of this approach: “It is somewhat contradictory for developed countries to continue to provide technical assistance and development aid (though at lower levels) to Africa while at the same time maintaining tax rules that enable the bleeding of the continent’s resources through illicit financial outflows” (p60).
As long as the international financial system is rigged against Africa more tax inspectors alone will not fix the situation. The report notes that “the critical ingredient in the struggle to end illicit financial flows is the political will of governments, not only technical capacity” (p.3).
4. …Instead the solution is political with massive implications for European leaders
The report gives many recommendations for African leaders, but for our purpose it is interesting to note that many of the recommendations speak directly to developed countries. There are at least five recommendations that should be on the radar for European decision makers.
• Firstly, the report calls for fully public registers of beneficial owners of companies and trusts (p86). The EU had a chance to deliver this when a deal was reached on the revision of the EU’s Anti-Money Laundering Directive in December 2014. While government’s failed to agree that registries should be public, it is still perfectly possible for individual member states to decide this, and France, the UK (on companies only), and Denmark have already announced plans to make their registers public. Unless the registries are public, the developing country governments and citizens will have great difficulties accessing the information, and other member states therefore need to follow suit and make their registries public.
• Secondly, the report calls for comprehensive and publicly available Country by Country reporting (p85). The EU has adopted such standards for its banking industry through the Capital Requirements Directive, but it is yet to take the logical step to extend it to all sectors.
• Thirdly, there is a strong focus on the need for more balanced Tax Treaties between developed and developing countries, noting that “we are particularly concerned about the risk that African countries face in making unbalanced concessions with regards to double taxation agreements” (p58-59). Research conducted by Eurodad supports this concern, showing that European tax treaties with developing countries significantly reduce withholding tax rates and allow for abusive treaty shopping. Such treaties obviously need to be renegotiated or removed all together.
• Fourth, in relation the EU system of Automatic Exchange of Information for tax purposes through the Directive on Administrative Cooperation (DAC) it is significant that the report calls for “common but differentiated responsibilities” for developing countries (p46). This would entail allowing developing countries a transitional period toward reciprocal Automatic Exchange of Information, during which they receive information automatically even though they are not able to send any information back.
• Lastly, the report notes that developed countries could “undertake an analysis of the impact of the tax systems of developed countries on African countries” (p60). Such spill-over analysis has already been conducted by some European countries, including the Netherlands and Switzerland. It would no doubt be useful for these exercises to be extended to all European countries as well as the EU as a whole. It is also vital that these studies are followed up with political action to remove the negative impacts on developing countries.
5. African leaders will not be sidelined anymore in international negotiations
So why have the changes that are necessary for Africa’s development not happened before? While the report does not try to answer this question directly it does provide some explanation when it states “although the OECD is working to address issues of base erosion and profit shifting (BEPS), this work is not principally geared to developing country concerns.” (p66). The solutions so far proposed by the BEPS initiative do not follow the recommendations contained in the report. For example, BEPS does not call for Country by Country reporting to made publicly available, and does not include provisions for Automatic Exchange of Information with developing countries following the principle of “common but differentiated responsibilities”. But then again the developing countries are not represented in the OECD. As a result, the report recommends that “Africa needs to act in concert with its partners to ensure that the United Nations plays a more coherent and visible role in tackling IFFs”. This demand links closely to the ongoing negotiations on financing for development, where African governments, together with a broad group of other developing countries, have demanded an intergovernmental UN body on tax matters, to allow them a seat at the table when decisions on international tax reform are taken. European governments must support this call and engage in global cooperation between developed and developing countries to close the bleeding wound, which illicit financial flows constitute for our economies.