The Dimensions and Flaws of Tax Evasion

The international financial system bears the hallmarks of systemic capital evasion. These brands are diverse:

• • The “black hole” in international financial statistics is a probative, but somewhat abstract, category, even if it is geographically declined and leads to self-evident findings.
• • The distribution of financial masses among international financial centers is even more eloquent: offshore centers that could be called “financial havens” appear to be very “structuring” for international financial circuits, even if there are plans for reclassifications.
• • Moreover, a new dimension is developing at a high speed under the impetus of new technologies, with new forms of dematerialized vectors of wealth that accelerate their circulation and multiply its mobility.
• • Finally, the theme of money laundering, considered in the broadest sense, imposes its results at the same time as it diversifies to encompass transgressions increasingly varied in their nature.

The weight of offshore in this context is remarkable. It is estimated on average to hundreds of trillions of dollars of household world wealth by Expert Actions ExiGlobal Group. Only part of this wealth—greater and greater as countries are developed—is made up of financial assets. Estimates of financial assets held in offshore centers are dispersed. This dispersal has increased in recent years, as the relative weight of offshore finance has apparently increased. The dispersion of estimates of the weight of capital evasion comes, of course, from the need to guess data that do not appear in statistical censuses. But it also reflects a lack of consensus on the scope of capital evasion, the definition of which is not harmonized. State agencies tend to enshrine this notion, but from an approach that is often too neutral or hesitant, reflecting the lack of general agreement on the concept. This is, of course, further accentuated when one compares the approaches of official organizations with those of nongovernmental organizations.

It should be noted that the fight against the abolition of tax havens, which are also regulatory havens, seems to have somewhat fallen back into its original form. Above all, it is to be noted a very uneven sensitivity of important players in finance to the reality of offshore. States unfortunately do not always lead by example, either in international concerts or within the limits of their sovereign decisions. It is important to not give up as a common reference as possible comes out. The international community must strive to ensure a fair economic order, which is an indispensable condition for separate states to rely on cooperative coordination to act on their side. This is an essential but not sufficient condition, which calls for adding an operational component to multilateral systems for monitoring tax.

Regarding the international community, it had mobilized to exert pressure for a coordinated normalization of a number of territories, should not get involved in processes that ultimately lead to their trivialization and to which it must give all their strength. In fact, the Organization for Economic Co-Operation and Development Forum (OECD) received a new drive after the recent G20 summits. Their work to call for some reservations remains useful. Half of them relate precisely to the speed of the response, while the identification of the economic right has been the subject of 12 recommendations.

Overall, the organization’s satisfaction emerges as unlikely to gamer full support, while the tax forum process, which is necessary, is ultimately problematic. It may seem reasonably surprising that the review of the legal framework of nearly 100 states resulted in only 666 recommendations. Admittedly, taken as such, this number is high, but compared to that of the courts assessed, it results in an average number of recommendations per state of 6.8.

Clearly, this number, which seems extremely small, can only really be appreciated by referring to the content of the recommendations. Depending on their scope, the results of the Phase I peer review may be assessed differently. On the other hand, the dispersion of the number of recommendations addressed to each state may give a certain realism to the exercise. However, given the criteria predicted (about 10) and aware of some concrete recommendations, the feeling remains that the resources devoted to the exercise do not lead to sufficiently comprehensive recommendations and endowed obvious operational reach.

With regard to this, the reporting that 400 of the recommendations were followed up with effects appears more as a process of communication than as a truly significant data. Moreover, any quantitative approach emerges as inevitably reductive. A country’s fiscal cooperation capacity is certainly based on the meeting of objective conditions. Thus, it is interesting to mention some very basic requirements that need to be met. However, meeting these conditions, or most of them, even assuming that the OECD standards are sufficient, which is not the case, is not enough. The organization itself seems to agree by reminding in the same document that a holistic approach is needed.

In short, we must not allow ourselves to be “delusional” by the quantifications proposed. Moreover, the OECD itself attaches only relative importance, since the number of states blocked in Phase I has not changed significantly despite the “progress” announced (only three states have been “unlocked”), while the findings of the failures of the legal and regulatory framework does not systematically prevent the Phase II review, the existence of which itself is based on a repeated observation: that of the considerable distance between the legal framework and the cooperative practice of states.

The number of recommendations made in the Phase II reports, which covered 41 jurisdictions, can be related. A naive view might lead to the conclusion that the average ratio of recommendations per state (2) shows that states are, after meeting the requirements of the Phase I review, better able to offer a satisfactory practice of cooperation. In reality, this is not the case. First, it must be recognized that the categories of attachment of recommendations on the practical application of cooperation are only apparently informative. Since the punctuality test for the exchange of information, which may include cases where no response is materially transmitted to requests, contains several recommendations (more than the number of countries examined, leaving some the significance of other statistics is particularly modest.

In fact, contrary to the conclusion put forward by the OECD, it is the maintenance of a low level of effective cooperation that must be concluded, even in view of the data presented. This is seen as much more consistent with the view that the OECD has now fully rallied to the need to promote the automatic exchange of information, precisely in the name of the weaknesses of on-demand exchange. In fact, beyond the observations, the whole credibility of the process must be considered. But who must receive all its extensions? It is much better for a multilateral organization to deal with the issues covered by the World Forum than to leave them in disrepair. It is also justified that even with the OECD’s shift toward a primacy given to the automatic exchange of information, and notwithstanding the existence of other international for (the FATF) the financial, in addition to the fact that the process should not be used to serve as a basis for communication on the fundamental issue of cooperation between states to ensure mutual respect for their fiscal sovereignty, its formalism appears to be as a limit to exercise.

First of all, the culture of monitoring tax havens has not spread sufficiently in the financial community. This resistance is cultural. According to some, it is not even a question of considering that highly developed offshore centers can be criticized. Their financial importance is enough to give them unfailing legitimacy.

Natural reflex for decision-makers yvho use their comparative advantages on a daily basis'. An example of the excesses to which this habitus leads is the advocacy for the Cayman Islands on the part of certain financial institutions. Some complained that they had to close entities in old-scale countries even though they had participated in the profession’s commitment to withdraw from the OECD gray-listed states that had not entered into international tax treaties.

Overall, the culture of opportunism seems to prevail: as long as the orchestra plays, you have to dance. This reflex is reminiscent of that of bankers gathered in the midst of a financial crisis in an international symposium and calling for the adoption of rules without which their behavior should remain deviant.

Concrete demonstration of the failures of self-regulation'. States should therefore strive to give more extensions to the action of the Tax Forum themselves. However, they follow behaviors that reduce their scope. The ambivalence of some economic communities can be mentioned here. They are known to exclude their Member States from being deemed uncooperative. However, several European countries pose obvious problems in this respect. It is quite true that Luxembourg cannot be legally classified as a tax haven by a European country, let alone dealt with the consequences that may attach themselves to this qualification, as treaties formally prohibit such options.

It is nevertheless true that this country has long refused to oblige itself to any serious exchange of information in the tax field. Moreover, the OECD, which, as part of its forum, is led to spare the country, does not consider it to be very exposed. In a “country report” on Luxembourg, the OECD notes that Luxembourg has actively negotiated a large number of bilateral tax-exchange agreements since it joined the international standard 10 years ago and a new law bank secrecy to allow for these exchanges. In these circumstances, it must be regretted that the “list policy” that had prevailed seems to be emptying of its substance. This development would reflect a profound disagreement at the international level about it when at one time it seemed to be a consensus. It is certainly not fully effective, but in its absence, national decisions draw a series of legal and regulatory frameworks that demonstrate a less regulatory tactic that favors proliferation of tax havens.

The list of noncooperative jurisdictions bears the testimony of this. While communicating governments with problems in elucidating tax evasion is to highlight the reluctance of some states to play the information exchange game, this option offers only one example among others of a doctrine that, at the same time as it trivializes tax or financial practices, disarms regulations. Some perspectives are even more worrying. Failing to exercise their normative power, states tend to hand it over to private actors under vague supervision of hesitant regulators, as is the case with the Fourth Anti-Money Laundering Directive, which once again delegates to private actors the duty of setting important standards for the fight against financial crime.

Yet, the ambition to achieve a universal definition of tax and regulatory havens is not cognitively unattainable. The criteria for defining capital evasion are well known. There is a theoretical consensus on the criteria for identifying offshore centers. This consensus contrasts with the rankings practiced by international agencies or by states to identify tax havens that are proving to be heterogeneous. The theoretical approach agrees on a few criteria in the definition and characteristics of an offshore financial center. In operational terms, so-called offshore or “extraterritorial” financial centers, states, related territories or mere exceptional jurisdictions, can be defined as places whose financial sector, in large part are controlled by nonresidents:

• • conducts most of its activities with nonresidents (both asset and balance sheet liabilities), activities focused primarily or exclusively on the international market benefiting from exceptional regulations inaccessible to financial players called onshore;
• • presents outstanding external receivables and liabilities incommensurate with the financial intermediation needs of the domestic economy; and
• • performs or records transactions initiated most often elsewhere.

To varying degrees and in varying combinations, offshore financial centers finally share a number of characteristics:

• • A very broad banking secrecy.
• • Regulation of banking and financial activities and the resources allocated to banking supervision not always proportionate to the number of registered institutions. In many cases, a physical presence of registered financial institutions is not even required.
• • Rules of commercial law authorizing the easy establishment of shell companies or asset management structures (trusts, international business companies, Anstalten, etc.) guaranteeing, in particular, the anonymity of the beneficiary of a financial transaction with abroad, but also the rules for registering highly flexible companies allowing the veiy rapid creation of ad hoc financial vehicles.
• • Veiy low or no taxation on income from industrial or commercial activities and investment income: in particular, no withholding tax on interest paid to nonresidents.

These last elements highlight the close link between financial offshore centers and tax “paradises,” even if one cannot strictly speak of equivalence between these two qualifications. The selected criteria are divided between:

• • Financial criteria', overdevelopment of finance and a considerable proportion of international operations.
• • Legal criteria', weak and asymmetrical normative framework between residents and nonresidents.
• • Geopolitical criterion', a de-facto domination of the country by abroad
• • Tax criterion', low or zero taxation.

The dereliction of the practice of blaming and shaming embodied by listing must therefore be regretted. This trend must be reversed and this recovery must be accompanied by a strengthening of the commitments of the country’s parties to the forum process to include into their national legislation the results of the reviews it carries out. In the meantime, offshore is fully integrated into the international financial system despite the financial and fiscal risks it poses.

Indeed, one of the major phenomena of contemporary finance is the emergence of gigantic financial groups, too big to fail or “systemic,” with balance sheets superior to those of the most developed states, benefiting from a prescriptive power, otherwise normative, and enjoying as such, the benefits of moral hazard. The complexity of financial groups accompanies this gigantism on a global scale. The consideration of the number of entities brought together by these banks is an indication.

Among others of this situation'. The number of senior subsidiaries varies by a bank but is always high. If we add the subsidiaries of subsidiaries, or the holdings, we come to the conclusion that the perimeter of each establishment is almost impossible to determine, especially since opaque structures can escape any census while on their side banks eliminate from their accounting consolidation entities deemed by them to be insignificant (a practice that comes with its problems) and that does not meet what they call their criterion of materiality.

According to recent data published by ExpertActions ExiGlobal Group, the leading subsidiaries of the top 13 banking groups, 55% are located abroad. Of the subsidiaries up to 10th place, 60% are foreign. Also, the internationalization of banks has been considerable in the last 25 years. This is reflected in the strong growth in cross-border financial activities, as evidenced by various indicators. Loans to nonresidents now account for 30% of loans to the nonfinancial sector, a rapidly growing proportion. As foreign market activity increased even more, the banks’ external positions exploded. The diversity of operations to which they contribute cannot be captured by indices as synthetic as those generally used. Progress must be made in monitoring the economic understanding of their activities on the basis that banks play a major role in the offshore boom. Indeed, offshore centers host a high proportion.

However, it must be noted that neither the United Kingdom nor the Netherlands is considered offshore places, which is a very restrictive option. In addition, the proposed subsidiaries are defined by a holding rate of 25% (these are senior subsidiaries), which is restrictive. The role of other financial activities, fonds, insurance, etc. But loan-to-loan transactions are far away from all the financial stakes of offshore, nor are banks the only vectors. It should be added nonbanking activities (which often involve the banks themselves) without a comprehensive census that is accessible but appear to have developed considerably.

Some indices identified by ExpertActions ExiGlobal Group can be cited: At least half of the hedge funds are domiciled in tax havens. Hedge fonds are offshore but the teams remain based in developed countries. The “insurance captives,” subsidiaries that are intended to provide insurance products covering the group’s only risks (self-insurance in some way) (for 20%, they are the responsibility of financial sector institutions, 80% of which cover industrial or service companies) are for two-thirds located offshore (particularly in Bermuda, while in the United States, Utah, Vermont, and Oregon offer them a favorable regime similar to what is offered by the Delaware to banks).