Financing for whose development? DFIs and their support for companies that use tax havens
The Third UN Conference on Financing for Development (FfD), set to take place in Addis Ababa next year, will be a crucial opportunity to discuss two of the hottest topics in development finance today: the use of scarce public resources to leverage the private sector, and the fight against international tax avoidance and evasion. Both topics come together in Eurodad’s new report, Going Offshore, though probably not in the way you might expect.
Previous Eurodad research has shown that despite the lack of public information about how they work and their impact on development, Development Finance Institutions (DFIs) – government-controlled institutions that support private sector projects in developing countries – have come to dominate the development finance landscape to such an extent that by 2015 the money they channel into the private sector is expected to exceed US$100 billion. They are, in short, the embodiment of an agenda (pushed by, among others, the European Commission) to use more public resources to leverage private finance.
More and more DFI support is also being channelled through financial intermediaries such as investment funds, which lend, in turn, to private companies in developing countries. And here comes the trick: at a time when the political momentum on tax justice is building, Going Offshore indicates that many of the funds backed by DFIs are registered in the world’s most secretive jurisdictions – the same jurisdictions that play a systemically important role in helping private companies avoid and evade taxes in developing countries.
This creates an absurd and counterproductive situation. As public institutions aiming to reduce poverty, DFIs are reinforcing an offshore industry that is a major part of the reason why many developing countries can’t collect enough taxes to provide the infrastructure and public services that they so desperately need both to reduce poverty and to provide the platform for private sector investment.
Going Offshore also shows that the use of secrecy jurisdictions by DFIs is an endemic problem. For the purpose of this report we looked only at the top 20 jurisdictions in the Tax Justice Network’s Financial Secrecy Index (FSI), which ranks in total 82 jurisdictions according to their degree of secrecy and their importance in global finance. This is a very narrow band of the worst offenders, and few would argue that jurisdictions appearing in this top 20 are tax havens that cause no damage. The figures speak for themselves: at the end of 2013, a massive 118 out of 157 fund investments made by the UK’s DFI, CDC Group plc, went through jurisdictions in the top 20 of Tax Justice Network’s Financial Secrecy Index. In 2013 alone, these offshore funds received a total of US$553 million. Meanwhile, at the end of 2012, four of the 14 direct and indirect investments held by DEG (the German DFI) were structured through the Cayman Islands, St Kitts and Nevis or even the British Virgin Islands – a country of not more than 25,000 inhabitants.
And no, this is not uncommon. That’s why this time around Eurodad took a closer look at whether or not DFIs have proper internal standards in place to ensure developing countries receive their fair share of tax, and that any controversial jurisdictions are excluded from their daily operations.
But during our research, two things became clear at a very early stage:
- Some DFIs simply do not have proper internal standards in place, or are unwilling to publicly disclose them. These include the two largest bilateral DFIs – the Dutch FMO and the German DEG – which is particularly appalling given their moral duty to lead by example on the European bilateral stage.
- The large majority of DFIs that make their standards publicly available heavily depend on the ratings put forward by the Organisation for Economic Co-Operation and Development (OECD) Global Forum. CSOs have repeatedly argued that this forum uses unambitious criteria, as they predominantly focus on banking secrecy instead of corporate tax dodging and country by country reporting. In addition, many developing countries are not members of this actually not-so-global forum. This is slightly ironic, given that these are the same countries that DFIs are often trying to target, and also the ones that stumble upon more difficulties to collect their fair share of tax than others. In contrast, seven of the most notorious tax havens which appear in the top 20 of the FSI, including Switzerland and Luxembourg, are full members of the OECD as well as its Global Forum.
Another critical issue addressed in Eurodad’s new report is how DFIs ensure their standards, in spite of their limitations, are properly implemented. Going Offshore therefore also analyses DFIs’ due diligence procedures, only to find another worrying trend: it is not standard practice for DFIs to require their investee companies to provide them with financial statements on a country by country basis, let alone placing such data in the public domain. Then how do they know where their investee companies are making profits vis-à-vis where the value is created?
This finding is particularly regrettable given that United Nations Conference on Trade and Development (UNCTAD) clearly states that “making firms pay taxes in the countries where they actually conduct their activities and generate their profits (…) would require the implementation of country by country reporting employing an international standard”, which also ensures that “these data are placed in the public domain for all stakeholders to access”. So why, then, are DFIs failing to lead on this issue? Why is Proparco, the French DFI, for example not taking into account its own country’s new development legislation, which clearly calls on the DFI to promote financial transparency on a country by country basis for companies operating with them?
All of this suggests that the next months will be crucial for DFIs to fundamentally rethink their investment attitude, as it would simply be unacceptable that the very institutions whose aim it is to reduce poverty will discuss the future of development finance next year knowing that they themselves are legitimising an offshore industry that hampers development efforts.
At the very least, DFIs should make their standards easily accessible and invest only in companies and funds that commit to publicly disclosing beneficial owners and reporting financial statements on a country by country basis. In addition, DFIs should also pressure their governments to respond to calls from low-income countries to support a multilateral approach for negotiations on tax matters at UN level, where all countries have an equal seat at the table.