5 ways to make the taxation of multinationals fairer

The paltry sums paid in tax by some of the world’s largest companies have made headlines and provoked outrage in recent years. Tax avoidance has prompted intense international debate. Major steps are being taken by G-20 and OECD members to increase cross-border information-sharing on tax matters as part of the fight to end “balance erosion and profit shifting” (BEPS).

Preparations for the upcoming Addis Ababa Financing for Development Conference on 13-16 July  are also raising the issue of reducing tax avoidance and illicit flows, as countries look to mobilize more resources for development. Countries are looking at every option possible to finance the sizable investment gap needed to meet ambitious Sustainable Development Goals.

In our era of austerity and aging populations, with government budgets under pressure, the role the private sector in meeting these massive needs cannot be ignored. Foreign direct investment (FDI) is not altruistic in nature and should not be. It understandably looks to make a profitable return for the investors who provide it. Maximizing the development potential of FDI puts the spotlight squarely on the fiscal contribution of multinational enterprises as an important source of revenue for governments in developing countries.

Indeed, multinationals are already some of the largest tax payers in developing countries. UNCTAD’s latest World Investment Report 2015 (WIR15) estimates they contribute about $730 billion annually or 10% of government revenues on average. In Africa, multinationals contribute 14% of government revenues.

At the same time, UNCTAD estimates that multinationals are shifting some $450 billion a year in profits out of developing countries, leading to estimated losses of tax revenue of around $100 billion a year in developing countries. Stopping this is a major priority for financing sustainable development. For comparison’s sake, consider that this $100 billion dollar hole in developing country budgets is roughly equal in size to Africa’s $93 billion per year infrastructure financing gap; put another way, it represents more than half of outstanding donor aid commitments based on the 0.7% target.

WIR15 finds that, on average, a 10 percentage point increase in offshore investment is associated with a 1 percentage point lower rate of profit in developing countries, and hence lower tax revenues for developing country budgets. But offshore investment plays an important role channeling investment to developing countries. Multinationals channel some 30% of cross-border corporate investment in developing economies through offshore investment hubs and special purpose vehicles. The challenge is to reduce the amount of taxable profits being shifted away from developing countries through offshore hubs, while not stifling the important flows of investment that these hubs facilitate.

The key question in developing countries is thus how policymakers can maximize immediate tax revenues from international investment with a sufficiently attractive investment climate while protecting the existing and future tax base?

Coherent international tax and investment policies should both protect the government revenue base and promote investment. Helping developing countries reduce harmful tax avoidance should also be an important priority for international cooperation because developing countries are less equipped to deal with highly complex tax avoidance practices, given their resource constraints and lack of technical expertise.

A set of guidelines may help realize these synergies between investment policy and initiatives to counter tax avoidance. As such, UNCTAD’s World Investment Report 2015 proposes the following actions:

1. removing aggressive tax planning opportunities as investment promotion levers;

2. considering the potential impact on investment of anti-avoidance measures;

3. taking a partnership approach in recognition of shared responsibilities between investor host, home, and conduit countries;

4. managing the interaction between international investment and tax agreements; and,

5. strengthening the role of both investment and fiscal revenues in sustainable development as well as the capabilities of developing countries to address tax avoidance issues.

Multinationals are among the largest taxpayers in developing countries. Ensuring they pay their fair share of tax will be vital for mobilizing the domestic resources needed to finance sustainable development.

Publication does not imply endorsement of views by the World Economic Forum.

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Author: Dr. Mukhisa Kituyi, Secretary-General of the United Nations Conference on Trade and Development (UNCTAD) 

Image: A man walks past buildings at the central business district of Singapore. REUTERS/Nicky Loh