Tax Havens And Black Money

Posted in Finance Articles, Total Reads: 2951 , Published on 23 February 2012

Money, particularly cash is the most liquid asset that a person possesses. Often called as the legal tender, i.e., the medium of payment allowed by the law, money is readily acceptable for carrying out transactions of any form throughout the country. People prefer to keep liquid cash with them for several reasons primary being the security that the person feels. Due to wide acceptability person prefers cash. The other reason being ease of transaction, easy availability and status that is attached with cash. Cash is easy to store and carry.

Black Money

However with the spread of banking system the need for hard cash has diminished to a great extent. In urban areas now a day’s cash has been replaced by plastic money, cheques, DDs, etc. In rural areas the need of cash is still high but the trends are changing with the gradual penetration of banking sector in these areas. As we said that cash is easy to store, it is equally ease to hide cash. A few bank transactions done for the purpose of hiding the source of cash are more than enough to leave anybody wandering about the source and destination of particular amount of cash. Tracking the source and destination of cash transactions is very difficult. To do this we need high technology and the cooperation of the banks which knowingly/unknowingly facilitated transactions. And when the cross boundary transactions come to picture it becomes practically impossible to trace the details of the transactions.

Now the main thing I want to focus on is the concept of Tax Heaven, the motive behind their creation and the ways evaders park their black money in these havens. A tax heaven is a foreign jurisdiction that offers financial secrecy laws in an effort to attract investment from outside their borders. Apart from secrecy these havens impose low or very little tax on income sources outside these jurisdictions. Mostly the tax havens are small islands like Mauritius, Seychelles, etc. There are around 70 tax havens in the world. The primary reason that these islands/countries become or advertise themselves as tax havens is because this attracts investment and provides a special identity to the place. It also helps the country economically as the infrastructure develops and provides employment to the people.

Many companies set up their offices in these places and operate from here. Transactions involving huge amount of money being spent in some foreign country is facilitated through these tax havens as some countries like India have agreements with some tax havens to allow inflow of cash at no or very nominal tax rate. The income generated is not taxable in the tax heaven and if they want to transfer money to their home country, the home country charges nominal tax on it. So practically it is very cheap for an investor/company to invest in a tax heaven. So overall, tax havens are beneficial for the recipient country as well as the home country because the money generated in the end comes to the home country and is thus invested there in some form or the other.

But to see the dark side tax havens today have become an easy way to park black money. Black money is the money that is unaccounted for. There is no record of that money. The money launderers need some place to park their money. Since it is impossible to keep such huge amount of cash and it is very risky to park the money in home country’s banks so tax evaders see tax havens as an escape route. The financial secrecy rules of these havens act as a shield against any kind of home country action. For example, Swiss Banks have almost one third of the world’s black money being stashed in their accounts and no one knows who owns which account or what is the nationality of account holders.  Recently we saw the case of Hassan Ali who is under arrest for possessing large amount of unaccounted money. Even after his arrest the government agencies are not able to track his accounts in various tax havens. It is such a difficult task.

India is also suffering from the problem of tax evasion through parking excess funds in tax havens. The banking sector of India accounts for around 12 % of GDP and it is believed that the money deposited in Swiss accounts is also roughly equal to this percentage. Black money with domestic residents which is invested domestically is still better than the money stashed in Swiss Bank account or other tax havens. The reason for this is that the former money is at least invested and adds to the well being of society in some way or the other but the money stashed in Swiss banks doesn’t add to the home country nor does it bring anything from outside. So it’s all the more harmful for the economy. The use of these tax havens for illegal means has reached a new limit. There have been reports that some of the terrorist organizations are using these tax havens to transfer money between countries and these havens are supporting these organizations for the thirst of cash. This is the main reason why US has strict rules on movement of money between tax havens and US economy especially after September 2011 attacks.

There is an urgent need that the issue of tax evasion is addressed to and proper steps been taken by various countries. While developed counties like Germany are doing enough and are taking appropriate measures to bring their money back or at least make people accountable for the money and are making suitable legislations. Germany has information of about 1400 accounts in tax havens out of which only 600 are German and it has promised all countries that it will share the information of remaining accounts with them. This has created a situation of fear among the tax evaders in developed countries and as a result more and more people are coming clean with their accounts.

The story is different in developing countries. The developing countries like India due to lack of technology, reach and low bargaining power find it more difficult to track black money movement across borders. They are not able to form strict regulation for the fear of fall in investment from foreign most of which is directed from these tax havens. Also there is a difference in opinion between different agencies and there is no clear law on investments made from tax havens. We can see the Vodafone case in which the IT Department considers investment from tax havens as taxable and the company claims no tax should be paid as India has clear agreement with Mauritius in this regard.

To be very clear what is required at this point of time is coming together of all the developing countries with ones like India being the leaders who can raise the voice at the world level. Also we require the cooperation of tax havens in this regard. Recently Indian government has pressurized many tax havens to share the information with them in lieu of the FDI that is taking place in India. Many of these countries have accepted to share the information with countries but many preconditions have been placed by them. It’s a difficult task ahead for developing countries but continuous pressure by influential leaders can bring out good results. UBS which has the world’s largest private wealth assets have stopped its staff from traveling to foreign countries to meet its clients, which is a common practice in these banks.

We need a political will to get these funds back; the whole actions should be taken by the government with taking other countries hand in hand. India has enacted Anti Money Laundering Act in 2002 and has also formed Financial Intelligence Unit (FIU) which has the sole task of detecting suspicious transactions and taking actions against the people initiating these transactions. FIU work on the lines of Financial Action Task Force which is the supreme organization specially developed to combat money laundering and terrorist financing. India should urge other countries to form their separate teams and then coordinate the teams on a global scale. It should also take advantage of its close relations with developing countries like Germany and take its help to find out the defaulters. An international code of discipline should be defined under which money laundering of any kind should be punishable under same international laws. The countries working as tax havens should be pressurized to come clean of their policies. On the domestic front what should be ensured by developing countries is that the KYC norms are strictly followed by financial institutions like banks, NBFCs, etc and the stock exchanges regulated the entry of FIIs only through legal channels. Hawala system should be checked on. India should lend its KYC set of norms to other developing countries as it has the most stringent KYC norms in the world.

It is high time that we developing nations give our money to tax evaders and let it slip off our hands. The money which is taken outside just to evade tax is a national asset that can be used to feed millions or people and provide employment to thousands. It is a serious threat to any economy of the world. It is a war against the immoral practice of tax evasion and funding terrorism which should be stopped. Once again I would like to say that only a collective action by the developing countries and cooperation of the tax havens with or without pressure can yield good results. And countries should react before it’s too late. Before these criminals get too far away.

This article has been authored by Ricky Gupta from NMIMS

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