The debate: Is it acceptable for UK companies to use tax havens?

As the Olympus/Cayman Islands saga grows, we challenge two economists to battle over the morality of tax havens

Last week, Micheal Woodford was sacked for raising concerns over Olympus, the company he was CEO at for a mere four days, allegedly making large payments to an unknown Cayman Islands company. The ongoing soap opera has once again brought the use of tax havens back into the spotlight.

Only last week new research revealed that 98 of the FTSE 100 companies use tax havens in some form or another.

Tax-reformists such as the journalist Nicholas Shaxson, who authored tax haven exposé Treasure Islands earlier this year, have brought the debate into the public realm. But why does the issue divide economists so intensely?

We asked two opposing economists to fight their corners on whether the use of tax havens by UK companies should be encouraged or prohibited.

No: tax havens should not be used

John Christensen, director of the International Secretariat of the Tax Justice Network

John Christensen

There are several ways in which we can slice this one. The first is to look at it from the point of view of corporate social responsibility: using aggressive tax avoidance techniques involving tax havens is totally inconsistent with claims that businesses are socially responsible partners for the country where they operate.

For us, corporate responsibility begins with paying tax where it’s due, when it’s due, and in the amount it’s due. Aggressive tax avoidance, which is technically what happens with tax havens, is not compatible with that. So that’s the first point.

The second point is a broader economic issue; a micro economic issue since this involves competition between companies. Some companies can use tax havens because they operate as multi-nationals and can transfer their profits artificially to offshore subsidiaries.  Other companies which only act locally - and typically these are small to medium-sized enterprises - aren’t structured in ways that allow the use of tax havens for aggressive tax avoidance. They are therefore put at a financial disadvantage.

This has nothing to do with market competition and everything to do with a global political failure to agree on how to tax multinational companies in the source country, where the profits are actually created.

The outcome is we now have a situation where multi-national companies have a hugely harmful tax avoidance advantage over SMEs, which is not in the interest either of consumers or the countries where their profits are made.

While tax havens are used very, very extensively for tax avoidance, they are also specialists in providing secret offshore companies, offshore trusts and offshore foundations which are used to hide tax evasion, bribe paying, market rigging, insider trading, and a host of other economic and political crimes, including illegal payments to political parties.  This secrecy, combined with the lax regulation provided by tax havens, creates a toxic environment in which corruption and Wild West financial capitalism thrive side by side.

Secrecy breeds corruption, and since corruption is way, way more profitable than productive entrepreneurial activity, tax havens make markets criminogenic in nature: hence the huge numbers of lawyers, bankers and accountants engaged in promoting tax dodging rather than using their brains and training for more productive purposes.

In a world of globalised capital markets, the only solution to tax haven secrecy is to make the markets more transparent. That would involve disclosure of offshore company ownership information so we know who is hiding behind these companies, and effective measures to exchange information between tax authorities so people can’t tax evade by stashing their cash in places like Jersey, Luxembourg and Switzerland.

We’d also like to see country-by-country reporting adopted as an international standard for multi-national countries. This would help to reveal where they are using tax havens for profits shifting.

Ultimately there’s no getting away from the fact that the current system for taxing multi-national companies, including the transfer pricing guidelines of the OECD, are not fit for purpose. The solution lies with adopting a different way of taxing multi-national companies based on using an economic formula to apportion profits to the country where they’re actually generated. That would remove the opportunities to use tax havens for abusive purposes.

At the moment, far too much talent and effort is wasted on tax avoidance rather than on being genuinely entrepreneurial. The role of business is to create better products and to compete on price and quality.

Companies that use tax havens to avoid paying tax are free-riding on publicly provided goods and services. They are using scams to get the better of their competitors. This undermines all the benefits of market competition and allows cheats to prosper. 

Worse, tax avoidance is totally anti-democratic and anti-social.  When directors say that they have a duty to their shareholders to avoid tax in order to increase dividends, they ignore the fact that tax is not a business cost. Rather, it is profit distribution to the societies where the profits are actually made.

Yes: it is acceptable to use tax havens

Prof. Philip Booth, Institute of Economic Affairs and Cass Business School

Philip Booth

The corporate tax systems of developed countries are a labyrinthine mess that often leads to double or even triple taxation of investors. Companies can pay corporation tax on their profits; if the shares are held by investment funds further tax can be paid; and the ultimate owners of the shares or units in investment funds may pay tax again.

If profits are retained within the company and the share value goes up, then capital gains tax will often be added to the corporation tax that has already been paid on those profits.

Countries have double taxation treaties to try to deal with these problems, but they are imperfect. Tax havens are vital to ensure that companies’ owners avoid double taxation, and to ensure that those who live in low-tax jurisdictions, or those who should not be paying tax, are not over-taxed.

This situation can be illustrated by that long-standing campaigner against tax havens: the Guardian newspaper. The structure that owns the Guardian – GMG - has used tax havens to ensure that it does not pay more tax than is legitimately due on certain transactions and investment income.

What is reasonable for the Guardian is reasonable for other companies too – tax havens are generally used to ensure that owners pay the right amount of tax given their underlying tax status and place of residency.

Many commentators point to the murky activity that goes on in tax havens. Some of this criticism is valid. However, we should not blame the tax havens for this.

Readers will probably be surprised to learn that typical values for the size of the shadow economy in OECD countries are around ten per cent of GDP. Academic work suggests that a major cause of black market activities is tax and regulation.

It is therefore not surprising to see shadowy business undertaken in tax havens – but such activity is rife throughout the world, including in the countries that criticise tax havens.

This takes us to the major problem. Government spending is at record levels. Few countries have managed to tax their citizens – at any point in history – at the sort of levels at which governments are currently spending. The higher the level of taxes, the more people will spend on evasion and avoidance, by one mechanism or another.

In the long term, there is only one solution: complete reform of corporate taxes, to make systems economically coherent, combined with much reduced levels of tax more generally. We do not need higher taxes in tax havens but lower government spending and taxes, on both corporations and on work, elsewhere. Insofar as tax havens are a competitive spur to other countries to keep taxes down, they perform a further important function. The £2bn of lost tax estimated by respectable studies - less than 0.3 per cent of government spending - is a small price to pay.

 

Readers' comments (3)

  • Legal theory in the UK favours Booth's position. The most famous judgement on tax came from Lord Clyde in 1929, in his judgment on the case of Ayrshire Pullman Motor Services v Inland Revenue:

    "No man in the country is under the smallest obligation, moral or other, so to arrange his legal relations to his business or property as to enable the Inland Revenue to put the largest possible shovel in his stores. The Inland Revenue is not slow, and quite rightly, to take every advantage which is open to it under the Taxing Statutes for the purposes of depleting the taxpayer's pocket. And the taxpayer is in like manner entitled to be astute to prevent, so far as he honestly can, the depletion of his means by the Inland Revenue"

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  • The solution is not in trying to get transparancy and accountability. We can't stop terrorists we wont currently stop the black economy. We must have a collection (tax) system that renders treasure islands impotent. We need to more creative and fair with VAT, inflation, employment etc.

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  • Of course it is acceptable. It is perfectly legal and if taxation in this country wasn't cripplingly high and the proceeds so wastefully spent, no one would need to use so-called tax havens. (In reality Countries with fair taxation systems)

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