Friday, March 19, 2010

Round tripping and double dipping

This blogger has just come across a document from the World Bank Institute which, while containing nothing especially new, does contain a decent brief outline of some of the ways that tax incentives and the offshore system can interact, especially with respect to developing countries.

"The following are among the more common abuses associated with tax incentives:

Round-tripping. Round-tripping typically occurs where tax incentives are restricted to foreign investors or to investments with a prescribed minimum percentage of foreign ownership. It seems to be a common phenomenon in China, and partly accounts for the very high level of FDI in that country, as well as for the high levels of both inward and outward investment in Hong Kong. Typically, money leaves China and returns in the form of “foreign” investment from Hong Kong. Similar practices have occurred in a number of transition economies, especially in connection with the privatisation of state-owned firms, where the existing management has acquired ownership of the firm through
the vehicle of an offshore company."

This is the classic offshore pattern: local elites go offshore, disguise themselves as foreigners, and thus qualify for tax breaks. Because they're located in Cayman or Luxembourg or Mauritius (often via a host of other places), the authorities will be none the wiser. The end result: local elites shift the tax charge onto less wealthy locals (and, through secrecy, they may well be in a better position to extract rents through monopolistic practices). Here is another one the World Bank outlines:

Double dipping. Many tax incentives, especially tax holidays, are restricted to new investors. In practice, such a restriction may be ineffective and may be counter-productive. An existing investor that plans to expand its activities will simply incorporate a subsidiary to carry on the activity, and the subsidiary will qualify for a new tax holiday. A different type of abuse occurs where a business is sold towards the end of the tax holiday period to a new investor who then claims a new tax holiday. Sometimes the “new” investor is related to the seller, though the relationship is concealed (TJN: guess how).
. . .
Transfer pricing. Transfer pricing has been described as “the Achilles heel of tax holidays,”though it can be a problem with other forms of investment incentives as well.

(TJN: Transfer pricing - more on this, coming soon . . .)

Again, nothing particularly new here - this is just a reminder of some of the things that go on, for anyone who might be interested in the wealth and poverty of nations. Another reminder - for those interested in tax incentives and so on, this far more recent IMF research is worth bearing in mind.


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