Criminal outflows – World Finance

Those who claim the West has been pumping money into Africa – in the form of development aid and private sector financing – but received little in return are guilty of perpetuating one of the enduring falsehoods of our time. Far from being a drain on the global economy, Africa is a net contributor.

This blunt truth was laid out in the May 2013 report Illicit Financial Flows and the Problem of Net Resource Transfers from Africa 1980-2009, jointly published by the African Development Bank (AfDB) and US research organisation Global Financial Integrity.

It shows, after adjusting recorded transfers for illicit financial outflows, Africa lost an estimated $597bn-1.4trn in net resource outflows during the period. Those numbers are on the conservative side, given they likely understate the problem of smuggling and drug trafficking.

Fighting a losing battle
The reality is resource-rich countries in Africa remain vulnerable to aggressive tax planning – some of it legal, some not – by multinational companies making extensive use of offshore companies and hiding their activities through the use of intra-company trading. For governments lacking the human and technical resources to enforce tax compliance – including gaining insight into the necessary commercial information required to determine a company’s tax liabilities ­– it’s a battle they invariably lose.

False invoicing or mispricing is especially prevalent, transfer-pricing being an issue in repatriating profits. Companies readily overstate the prices they pay for imported technologies and technical services, and sell to connected companies at artificially depressed prices.

Unsurprisingly, determining the level of losses associated with mispricing is like looking for a needle in a haystack. Global Financial Integrity estimates the average annual loss to Africa between 2008 and 2010 was $38bn. Factor in other illicit outflows and the total hits $63bn – more than double the amount of development assistance to the continent over the same period.

A case in point is the Democratic Republic of Congo, where, between 2010 and 2012, anonymous shell companies were used in five separate deals to rob the national treasury of an estimated $1.36bn – double the country’s combined budget for health and education in 2012.

This came despite the government insisting in 2011 that all contracts involving the cession, sale or rental of the state’s natural resources had to be made public within 60 days of their execution. Its commitment proved short-lived.

In 2012, the IMF suspended a loan programme totalling $225m after the government failed to publish full details of a mining deal involving the sale, by the state-owned mining company, of a stake in a major copper concession. The purchaser was later revealed to be a company registered in that well-known offshore bolthole, the British Virgin Islands. To rub salt into the wound, the AfDB later withheld planned budgetary support of $87m.

Wider problems
Corruption and mismanagement is hardly unique to the DRC: it is a well-worn path for Nigeria – and the Nigerian National Petroleum Corporation is worthy of special mention. A recent report from a parliamentary taskforce estimated $6.8bn had disappeared between 2010 and 2012 due to corruption and mismanagement involving transfers of fuel subsidies.

Meanwhile, the nation’s Petroleum Revenue Special Task Force identified losses of $29bn resulting from natural gas pricing, along with missing payments connected to concessions and production-sharing arrangements.

The irony of resource-rich Africa continuing to rely on handouts from the West, just to keep local services up and running, isn’t lost on Africans. They are not only demanding greater transparency, but are also looking to ensure local political elites no longer undermine national treasuries by diverting rents from natural resource exploitation (and other sources of public revenue) for their own purposes.

A number of governments have joined the so-called Extractive Industries Transparency Initiative (EITI), while others have introduced over-arching legislation designed to plug financial loopholes. EITI has as its stated aim the strengthening of governance through improving transparency and accountability in the extractives sector.

For example, governments detail income they receive from extractive companies while the latter publish what they pay to governments. These figures are then compared. While the initiative is voluntary, governments need to meet a number of requirements through a validation process before they are deemed to be compliant in a global context.

Debilitating stability
Governments have also been bolstering their tax regimes, prompted in no small part by the economic crisis in the West that has led officials to devise new ways of clawing back revenues. In South Africa, for example, the nation’s top tax official, Oupa Magashula, recently told Parliament the South African Revenue Service (SARS) remained at risk from illicit financial outflows.

Noting the pressure on revenue collection from low economic growth was being exacerbated by the proliferation of sophisticated international tax avoidance and evasion schemes, Magashula indicated SARS intends to strengthen its systems to prevent tax evasion by large, multinational companies.

Yet tax reform has been a difficult nut to crack in many resource-rich African states.

Mining companies resist any measures by invoking stabilisation clauses often written into agreements dating back as far as the 1990s. Under a stabilisation clause, the host government offers a contractual guarantee not to engage in any act that would compromise the terms originally agreed upon. This leaves little if any scope for renegotiating royalty fees on commodities exports, for example, even where the price of a particular commodity has been booming.

That is not to say governments are rolling over for the multinationals. Even in Nigeria, the Nigerian EITI, which audits the country’s oil industry, has gone on record to say it’s ready to impose sanctions on oil and natural gas companies operating in the country. It looks to recover an estimated $9.8bn of debt owed in taxes and royalties – either unpaid or underpaid, over the last 10 years.

In Ghana, the Petroleum Revenue Management Act now requires quarterly disclosures of payments and production figures, while EITI has been turned into a statutory requirement
in Liberia.

Clamping down
Whether multinational companies approve of tax reform measures (including addressing anti-avoidance schemes) or not, the argument that it’s in their long-term interests to do so is becoming a more persuasive one. Not only do they need to maintain a stable operating political environment by not giving the impression to locals that only the political elite benefits financially from their presence, they also need to allow governments a larger revenue take that can then be invested in the type of infrastructure they require for their own corporate purposes.

As the global clampdown on offshore tax havens gathers pace and the veil is lifted on the identities of companies registered in those jurisdictions, it will become more difficult to indulge in such illegal activity.

The EU agreed in April on requirements for oil, gas, mining and logging companies to declare payments to governments in those countries where they operate. Building on legislation such as the US’ Dodd-Frank financial reform law, it is becoming clear the political winds are blowing against those jurisdictions under which tax avoidance schemes are allowed to flourish.

It remains to be seen whether agreement at the recent G8 Summit on a coordinated set of principles designed to combat tax evasion and reveal the true owners of shadowy companies will translate into substantive action. What is clear is that, for any anti-avoidance measures on a global scale to have any teeth – and to directly benefit Africa – mechanisms for the automatic exchange of information among national tax authorities need to be extended.

In addition, new ways have to be found to put an end to ‘beneficial ownership’ and the secrecy surrounding the true make-up of companies, foundations and trusts. Only when multinational corporations are held to account for their activities and profits on a global scale can African states begin to claw back the potential revenues that currently disappear into the black hole of transfer pricing.