A fair global tax system is imperative for development, experts say

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The need to clamp down on tax evasion and illicit financial flows was high on the agenda at a key European development summit last week — with campaigners saying that current efforts do not go far enough.

Speakers at the European Development Days summit in Brussels said that a just tax system should be “at the heart” of the development debate, and that more transparency is needed to ensure that companies pay their fair share.

Tax avoidance schemes used by multinational companies, such as moving profits to tax havens, result in global losses of around $650 billion a year in tax receipts — with developing countries losing $200 billion, according to a study from the International Monetary Fund. The figures also show that such losses represent a higher percentage of gross national product for developing than developed countries, and are thus felt more deeply. Africa alone is thought to lose more than $50 billion per year through such activities.

The resulting lack of funds affects a country’s ability to achieve stable growth and invest in social goods and services — but it can also result in higher indirect taxes on citizens, levied on goods and services rather than income or profit, which hit the poor disproportionately hard and can increase inequality, IMF research shows.

The European Union and the Organisation for Economic Co-operation and Development have taken steps to crack down on tax evasion by multinational companies. The IMF is reportedly dedicating half of all its capacity development efforts to strengthening tax policy and revenue administration within developing country governments.

But campaigners say these efforts do not go far enough — and in some cases, can even lead to the creation of unfair tax systems which do little to create more equal societies. That global tax rules are decided by institutions primarily led by developed countries — often without meaningful input from developing countries — is also questioned by campaigners.

Farah Karimi, executive director of Oxfam Novib, said more attention needs to be paid to reforming international tax systems, and to improving tax collection in developing countries.

“It is at the heart of the development debate, how fair and how just the tax system is,” she said during a panel session at the summit last week.

A ‘race to the bottom’

Christine Lagarde, head of the IMF, said that better tax systems would be needed if developing countries are to mobilize sufficient resources to meet the ambitious Sustainable Development Agenda.  

“For many developing countries, increased revenue is a necessary catalyst for reaching the 2030 Sustainable Development Goals, and can be a driver of inclusive growth,” she said.

However, revenues are low in many countries due to tax evasion and avoidance by multinational companies, which is leading to a “race to the bottom” as countries compete to offer the lowest tax rates to corporations.

While such practices disproportionately affect developing countries who rely more on these revenues than their richer neighbors, Lagarde said that all nations would ultimately lose out.

“It’s one thing to collect revenue … It’s another, and equally needed, to make sure that the tax system in place is such that there is transparency, that there is disclosure, and that no one is actually facilitating what I call a ‘race to the bottom,’ where everyone ends at the bottom,” she said.

Lagarde called for greater transparency about where and how much tax multinationals are paying.

Oxfam’s Karimi agreed, saying that the temptation to lower corporate tax rates around the world “creates a lot of problems for developing countries.”

“Everyone is losing out when multinational companies evade and avoid tax, but developing countries are losing more and at a faster rate, so this is where we need to put more attention and intensity on policy-making, including developing countries and what their specific needs are,” said Luckystar Miyandazi, a policy officer with the Africa Change Dynamics Programme at the European Centre for Development.

Anti-tax dodging measures don’t go far enough

The European Commission’s head of international cooperation and development, Neven Mimica, said the European Union is committed to a tax crackdown. “We will actively fight tax avoidance, tax evasion and illicit financial flows,” he said during the summit’s closing ceremony.

This is being done partly through investigations and rulings by the European Commission’s competition division, which has taken a tough stance on tax dodging within its borders in recent years.

The biggest case to date has been the 2016 Apple ruling, in which the company was ordered to pay 13 billion euros ($15 billion) in back taxes to Ireland. The Commission ruled that its tax treaty with the country, which enabled it to pay less than 1 percent in corporation tax, was illegal.

The European bloc has also introduced new legislation to tackle the problem of tax avoidance. On Monday, the European Parliament’s economics and legal affairs committees voted to support new draft legislation which would require multinational companies operating in the EU with an annual net turnover of at least 750 million euros ($839 million) to publicly report their tax payments and activities on a country-by-country basis, including their operations in developing countries.

“Only if we know where the largest companies make their profits and how much they pay in taxes in every country they operate in can citizens hold them to account.”

— Aurore Chardonnet, Oxfam EU policy adviser on tax

At the same time, however, an amendment was proposed which would enable companies to avoid reporting information if it were deemed “commercially sensitive” — a move that has been criticized by NGOs as creating a potential loophole.

Oxfam’s EU policy adviser on tax, Aurore Chardonnet, called the decision a missed opportunity. “Despite several recent tax scandals and the efforts of many willing parliamentarians, members of the European Parliament have once again shied away from meaningful action that would have supported tax transparency,” she said. “Only if we know where the largest companies make their profits and how much they pay in taxes in every country they operate in can citizens hold them to account.”

The legislation will now go to the full Parliament for debate, with campaigners promising to lobby parliamentarians on the issue of the loophole. The OECD has also introduced measures aimed at closing corporate tax loopholes through its Base Erosion and Profit Shifting, or BEPS action plan, which aims to crack down on companies using tax planning strategies that shift profits away from the country where the economic activity took place — often a developing country — to a low-tax country.

Last week, 68 countries signed a convention committing to the implementation of some of the tax treaty-related measures proposed in the BEPS plan. However, Karimi said that the provisions still fail to hit the mark, and emphasized that corporate tax rates are continuing to fall despite the introduction of BEPS back in 2013.

“It’s a good start but it’s not good enough,” she said, arguing that the measures are insufficient because they “don’t touch on the basis for the tax system; how taxes are calculated is not discussed.”

Tax incentives aren’t needed

Compounding the problem is the fact that developing countries themselves often offer tax incentives and exemptions to corporations, resulting in billions of dollars of lost revenues for the host country.

According to Oxfam, the number of developing countries offering incentives such as tax holidays and free zones has increased dramatically in the last two decades, in part due to globalization and trade liberalization.  

A report by ActionAid estimates that poor countries lose up to $138 billion every year through tax incentives.

But a World Bank survey among investors in East Africa found that more than 90 percent said they would have invested regardless of those incentives. This is supported by IMF research which found that tax incentives in Africa, Asia and Latin America have no impact on a multinational’s investment decisions.

“Tax incentives are not needed to attract investors … so it is harmful to give [them] because what you get back is really very limited if you compare it with what you are losing,” said Kamiri.

Abebe Aemro Selassie, the IMF’s African director, agreed, but added that convincing African governments of this would be a challenge, since many believe incentives are essential for securing investment. For Selassie, greater transparency on the topic is the only way to bring about change.

“There is a political challenge … What we need to do in many African countries is show how much these tax incentives are costing … Bringing transparency … would put pressure on government and organizations to put more into the government kitty,” he said.

But speakers also stressed the need to pay attention to the domestic as well as the international tax agenda.

Sanjeev Gupta, deputy director of fiscal affairs at the IMF, said that while a lot of discussion at the international level is focused on tax dodging by large companies and wealthy individuals, corporate taxes represent a relatively small amount of income for developing countries.

More focus needs to be paid to “basic reforms” and the “nuts and bolts” of raising taxes domestically, he said. “If we start focusing exclusively on the agenda of international taxation and ignore the rest of the taxation we are not going to be able to get enough revenue going forward,” he said.

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About the author

  • Sophie Edwards

    Sophie Edwards is a Reporter for Devex based in London covering global development news including global education, water and sanitation, innovative financing, the environment along with other topics. She has previously worked for NGOs, the World Bank and spent a number of years as a journalist for a regional newspaper in the U.K. She has an MA from the Institute of Development Studies and a BA from Cambridge University.