Out of Afghanistan? USAID partners fed up with tax 'extortion'

Negotiations to resolve ongoing tax disputes between U.S. development implementers and the Afghan Ministry of Finance took a turn for the worse over the weekend, leaving some contractors and NGOs now facing “no-fly” restrictions and threats of arrest with a shrinking list of options. These aid implementers “are seriously considering withdrawing from Afghanistan in the next 60 days” if Washington does not step in and end a worsening pattern of “illegitimate” taxation by the ministry, according to the law firm that would seek to make the legal case for affected organizations to void their contracts if they decide to do so. The approaching end of the Afghan fiscal year on Dec. 20 and the supposed drawdown of U.S. funding to the country in 2014 have combined to make a tough business environment even worse. The fiscal year previously ended on March 20 in Afghanistan, but the country’s finance ministry recently moved that date up three months for fiscal 2013, and with it the deadline for tax filings. Devex has learned that the ministry is levying increasingly heavier taxes against implementers of U.S. Agency for International Development projects, and has even issued letters restricting companies’ operations, added their owners to no-fly lists and threatened arrests if the ministry’s demands — which contractors say are illegitimate based on bilateral agreements — are not met. “USAID and the State Department are taking the Afghan tax issue seriously, but they … have not been able to negotiate any relief for USAID contractors and NGOs,” said Robert Nichols, a lawyer with Washington, D.C.-based firm Covington and Burling. “To the contrary, the situation appears to be worsening.” Nichols raised the issue earlier this month with USAID Counselor Susan Reichle, who promised to take the issue back to the agency for discussion. But implementers are growing restless as they try to persuade the U.S. State Department and USAID to intervene more forcefully on their behalf. That’s a tricky proposition, however, for an Obama administration wary of jeopardizing ongoing negotiations on a bilateral security agreement that would set the terms of the remaining U.S. troop presence in Afghanistan after the majority of forces leave next year, while Afghan President Hamid Karzai has controversially road-blocked the agreement until Afghanistan’s next presidential election in April 2014. Extortion? Development contractors are not alone in facing unexpected taxation by Afghan officials, which some observers say amounts to extortion. Other U.S. agencies operating in Afghanistan, like the departments of State and Defense, likewise see their implementing partners’ bottom lines take significant tax hits — and have done so for years. And even the Office of the Special Inspector General for Afghan Reconstruction, which has been notoriously critical of U.S. aid delivery, has suggested the U.S. government should do more to guard its implementing partners against questionable tax claims. Elizabeth Field, assistant inspector general for audits and inspections, told Devex on Monday that based on SIGAR’s research, it appears as if a “large portion” of taxes levied against aid implementers in Afghanistan is “illegitimate” although “you just can’t say that for sure.” Indeed, it’s tough to delineate which taxes are legitimate and which ones aren’t because Afghan officials often don’t share proper documentation — or any at all. 2005 tax agreement In September 2005, the Afghan government signed an agreement with USAID that grants U.S. development implementers a partially tax-exempt status. “The Afghan Finance Ministry is issuing tax assessments that directly contravene the SOGA,” said Nichols. “And when the partners refuse to pay the taxes, the Afghan government is issuing letters prohibiting the partners from operating in-country and placing the owners and employees on the ‘no-fly’ list.” According to the 2005 agreement, the general exemption “applies to … any contractor, grantee, or other organization carrying out activities financed by USAID.” In May, SIGAR concluded that $921 million has been levied against U.S. contractors since 2008. It was difficult for the auditors to determine whether those taxes were legitimate or illegitimate, since there was often no written description of which part of a company’s earnings or operations was being taxed. SIGAR officials told Devex that many of the tax demands were made verbally, and the available documentation suggested that many of them were issued in contradiction to existing tax-exemption agreements. “[For] the vast majority of the $921 million that the audit team identified as being the taxes assessed on these specific contractors, we couldn’t determine whether they were legitimate or illegitimate,” explained Field. “Based on our analysis, we do believe that much of that total amount was likely illegitimate.” She added: “Based on that, it is fair to say that likely a large portion of the taxes that the [USAID] contractors … are complaining about is illegitimate. You just can’t say that for sure.” No reimbursements SIGAR argues that U.S. aid contractors and grantees should not only not have to pay undocumented or illegitimate taxes, but USAID should be barred from reimbursing contractors that do opt to pay the taxes, since such reimbursement is not a legitimate agency expenditure. The report published by the watchdog in May cited instances of such reimbursements, and some agency implementers have suggested this could be one way to address tax issues moving forward. USAID officials contacted for this story were unavailable for comment. Afghanistan’s tax laws allow companies to dispute withholding taxes, but often ask for money to be put on deposit in case those disputes are rejected. But companies know that once they submit money for deposit, they are unlikely to see it again regardless of the dispute outcome, Nichols said. Another SIGAR official confirmed the audit team has seen cases of contractors paying the deposit to dispute a tax claim only to learn that the amount they owed was the same amount as their deposit, or that the deposit would be used as a sort of “pre-payment” on future taxes owed. The same official said the audit team never heard of a case where a company that elected to pay the tax dispute deposit got its money back. Possible outcomes Field said that the U.S. government’s unwillingness to intervene on behalf of its partners is particularly “troubling,” and comes with a cost to the effectiveness of USAID’s programs and the Afghanistan reconstruction effort. “We found contractors that were intimidated, one that was arrested, other cases where goods were held up at the border because of taxes, and so this is a very real problem beyond the immediate financial impact, which is more obvious perhaps than other impacts,” she explained. “Certain parts of the U.S. government in particular have not done all that they could do to support the contractors, to negotiate with the Afghan government on their behalf.” Faced with mounting fees and enforcement threats from Afghan officials and inaction from the U.S. government, implementers are considering what options they have to gain more leverage by banding together and demanding either an end to the taxes, reimbursement by USAID, or an early exit from unfinished contracts. Nichols said implementers see only three possible outcomes. The Afghan government recognizes that the development agreement signed with USAID prohibits levying taxes against implementers, and this is non-negotiable. USAID allows the Afghan government to continue to demand taxes from development projects, but reimburses implementers for whatever taxes they have to pay. The situation remains unchanged, with implementing partners caught between the Afghan ministry’s demands and USAID’s inaction. According to the lawyer, the third outcome is unacceptable to the contractors and NGOs he hopes to represent, and would force them to consider walking away from their contracts before they are finished. If that were to happen, Nichols said his firm would seek the legal grounds to “give contractors and NGOs the ability to walk away from their projects in Afghanistan with no repercussions” from their clients at USAID. Read more on U.S. aid reform online, and subscribe to The Development Newswire to receive top international development headlines from the world’s leading donors, news sources and opinion leaders — emailed to you FREE every business day. See more: - Should cost-benefit analysis be mandatory part of USAID project design? - War of words on US aid to Afghanistan - How to stop 3 new aid crime trends in Afghanistan