iPOLITICS Op Ed, December 30, 2012

Last month, British parliamentarians were shocked to learn that the Starbucks chain had paid no corporate income tax to the Treasury over the last three years, despite U.K. sales of £1.2 billion. British media also reported that Google had paid only £3.4 million in taxes on sales in the U.K. of £2.5 billion.  A follow-up media story revealed that the giant internet retail company, Amazon, had generated U.K. sales of more than £3.3 billion but paid no taxes at all.

The U.K. Parliamentary Public Accounts Committee summoned representatives of the three companies to testify about the taxes they were paying to the Treasury. An executive from Starbucks told the committee that the U.K. division was unprofitable. An official from Google admitted that the company collects its income in Ireland because of the lower tax rates. The representative from Amazon was unable to answer questions about his company’s revenues in the U.K. The Chair of the committee, Margaret Hodge, chastised the executives and said that they were not being accused of illegal behaviour; rather, they were being accused of being immoral. In a later interview, Ms. Hodge said that corporation tax has essentially become voluntary.

These companies are all using creative accounting methods to transfer profits earned in the U.K. into lower tax jurisdictions.  Amazon collects its U.K. sales in Luxembourg where profits are taxed at 2.5 percent. Google collects its earnings in Ireland and through a complicated scheme sends its profits to the tax haven of Bermuda via the Netherlands; Google’s tax rate in Ireland over the last 7 years was 0.14 percent.

Starbucks buys its coffee from a subsidiary in Switzerland and pays substantial royalty fees to a Dutch subsidiary for the use of the company brand. The investigation also revealed that Starbucks U.K. is loaded up with debt and last year paid £2 million in interest payments to group companies in order to reduce its tax bill.

These reports have stirred widespread public anger. Forty Starbuck outlets in the U.K. were occupied by protesters; a London outlet was temporarily transformed into a women’s shelter in protest over austerity measures that have cut services for battered women. Consumer groups are now calling for a boycott of these companies.

The foundations of the international tax system were developed in the early 20th century, before the globalization of trade and finance. Since the 1970s, multinational companies have exploited the faultlines of this system. Multinationals can adjust the price of transfers between their subsidiaries, a technique called transfer mispricing, to shift profits to low tax jurisdictions. Multinationals have created shell companies, usually in tax havens, to carry-out financial transactions and to hold company assets such as intellectual property (brands, patents, etc.). Profits can then be allocated to these shell companies, even though they usually exist only on paper.

For developing countries, these creative accounting tactics are crippling. Billions of dollars of assets have been stripped from developing countries and channeled offshore. This is particularly true for economies dependent on natural resources. The African countries of Angola, Nigeria, Republic of Congo, Gabon, and Equatorial Guinea all have massive oil reserves and should have earned billions in revenues, yet the majority of their citizens remain impoverished.

The Washington-based Global Financial Integrity estimated that up to $1 trillion has been shifted out of Africa over the last 3 decades, largely due to trade mispricing. A 2009 study calculated that trade mispricing costs the world’s 49 poorest countries $160 billion a year in lost tax revenues. Another study found that commodity trade mispricing resulted in Africa losing over $13 billion to the United States between 2000 and 2005.

Zambia’s Deputy Finance Minister, Miles Sampa, said recently that most international mining companies operating in his country claim they are unprofitable. He estimated that Zambia was losing tax revenues of $2 billion a year, largely through transfer mispricing. A study by Christian Aid (UK) estimated that Zambia’s GDP would have almost doubled if it had received world prices for its copper exports.

A recent case study of SABMiller breweries in Africa revealed that the company employed a variety of accounting techniques to shift profits to Europe while allocating costs in Africa. The study estimated that the annual tax losses would be enough to put a quarter of a million African children in school in the countries where SABMiller operates.

This month, the London-based Tax Justice Network (TJN) launched a campaign to reform the way multinational companies are taxed. Instead of treating multinationals as a collection of legally separate entities, TJN proposes a unitary approach based on the principle that taxes should be paid according to where income-generating activities are taking place, a method already used in some states in the U.S.

Multinationals would be required to produce accounts in each place they operate, declaring the number of employees, fixed assets and sales. Taxes would be apportioned on the basis of a formula reflecting genuine activity in each location. Each country involved would then assess taxes for its portion of profits. This approach would greatly reduce profit shifting.

This proposal will be fiercely resisted by corporate entities using tax havens for tax avoidance. However, there are some signs that change may be in the wind. Citizen’s groups are organizing in many parts of the world to insist their governments adopt progressive and equitable tax policies. In Africa, the UN has named a High Level Panel, chaired by former South African President Thabo Mbeki, to recommend measures to put an end to financial outflows from the continent.

Repairing the international tax system is one of the most important international policy issues today. If implemented, this proposal has the potential to lift millions of people in the developing world out of poverty.  Whether our political leaders have the will to act remains to be seen.

Peter Gillespie is with the Halifax Initiative, a coalition of Canadian organizations concerned with international economic justice issues.