For many companies, tax is a cost of business rather than the price we pay for civilised society. The driver for tax minimisation or even avoidance is clear: the less tax business pays, the more profit it makes.
With the internet shrinking the world, and people able to buy goods and services from around the globe, tax minimisation for big companies such as Amazon, Google and Facebook has become much easier. Australia, like most countries, taxes residents on their worldwide income. We tax non-residents on their income from Australian sources. We have tax treaties with a number of countries, mostly those where we have significant trade and commerce relations. These tax treaties allocate taxing rights to each country and change to some extent the general residence and source taxing rules I mentioned above.
In the past, contracts for the purchase of goods and services from offshore and the dealings associated with them could well have been carried out with a physical branch of the overseas seller in Australia or an Australian resident company. In both cases, the income from that sale would have been taxed in Australia. Our tax laws and our tax treaties reflect this 20th century “physical presence in Australia” model. The internet now makes it possible to contract directly with the overseas seller and challenges that old model and the taxing regimes and tax treaties set up to capture tax for Australia.
Take Google as an example. When you, an Australian resident, put an advertisement on Google, your contract and payment is processed online with Google Ireland, a company resident in Ireland. That has changed recently to Google Singapore, but let’s stick with Ireland for the purposes of this explanation. Australia has a tax treaty with Singapore. Australia also has a tax treaty with Ireland. Like most of our tax treaties, this changes the rules about the taxation of source income for companies. Even if the source of the income is Australia, the treaty gives taxing rights over Irish companies’ income to Ireland.
The one exception is where that income is attributable to a permanent establishment (a branch, for example) in Australia. Google Ireland does have a branch in Australia, but the internet makes its role minor. So much so that the income attributable to Google Ireland’s Australian branch was, so it is argued, very small. Despite the fact that Google made about $1 billion in income from Australian sources, its branch paid only $74,000 in tax. This is because Ireland has the taxing rights over Google Ireland and, by dealing directly on the internet with Google Ireland, you have cut out the Australian branch. I need hardly add that the company tax rate in Ireland is 12.5% compared to 30% in Australia. Furthermore, Ireland’s laws allow that income to be transferred tax-free to other countries, such as The Netherlands, and from there tax-free to a tax haven such as Bermuda.
That was the case with private equity firm Texas Pacific Group and its investment in Myer Emporium. The investment was structured through the Cayman Islands, a tax haven, into Luxembourg, then the Netherlands and then Australia. One of the arguments is that, under the tax treaty between the two countries, the Netherlands and not Australia has taxing rights over any revenue from the sale of Myer (about $1.5billion). The Netherlands doesn’t exercise that right if the income is transferred to a European country like Luxembourg, and Luxembourg doesn’t tax it on the way to the Cayman Islands. So the money isn’t taxed anywhere from Australia to the Cayman islands, and as a tax haven the Cayman Islands certainly doesn’t tax it.
The Commissioner is challenging this treaty shopping arrangement – why not invest directly from the Cayman Islands into Australia, for example? - but the money has flown the coop and the over $700 million in tax and penalties is, in all likelihood, unrecoverable. For many years, tax havens have been a favoured destination for big business. As Nicholas Shaxson says in his magnificent book Treasure Islands: Tax Havens and the Men who Stole the World: “More than half of world trade passes, at least on paper, through tax havens. Over half of all banking assets a third of foreign direct investment by multinational corporations are routed offshore.”
The advantage of tax havens isn’t just or even mainly no or low tax — it is secrecy. Financial institutions and authorities in a tax haven don’t provide information about investment holdings and ownership details to other agencies (for example, the ATO). According to the Tax Justice Network, there is a huge amount of financial wealth (not real property and other assets like yachts) stashed offshore in havens by rich people. The report - The Price of Offshore Revisited – estimates the amount hidden offshore by the top 10 million wealthiest individuals at between US$21 trillion and US$32 trillion. US GDP in 2011 was US$15 trillion. Australian GDP that year was US$1.3 trillion.
Australia produces about 2% of global GDP. If the Tax Justice Network figures are in the ballpark, it may mean of that possible US$32 billion hidden offshore, 2% or US$640 billion could be attributed to high-wealth Australians. A modest rate of return of 5% and an average tax rate of 30% on this hidden income would see Australia’s revenue coffers increased by about $9 billion a year. Australia has made a number of Tax Information Exchange Agreements with tax havens to overcome secrecy rules, but there are a number of problems. The ATO can’t engage in a fishing expedition: it has to know about the Australian resident’s situation before asking for information; the treaties don’t cover all tax havens; and the treaties are moving to a lowest common denominator model that has weak regulatory oversight as a hallmark.
As part of the recent Mid Year Economic Fiscal Outlook announcements, the government gave the ATO an extra $390 million to pursue transfer pricing – where multinationals manipulate pricing to shift profits from Australia to other often low-tax jurisdictions – and tax avoidance more generally. The government estimates this will raise an extra $2.5 billion. For every dollar invested the government gets six more. However, this is not ‘extra’ money for the ATO. It just means the ATO can cover its current program. It is money to save existing programs. With a six to one rate of return, wouldn’t more money to the ATO raise even more revenue from tax avoiders and evaders?
In light of the examples of Google and similar entities, it is clear our tax laws and treaties need updating to capture income from Australia. If the figures from the Tax Justice Network are even close, the use of tax havens to hide wealth is a much bigger problem than revenue authorities have admitted. We need more stringent legislative and administrative action, including more funding for the ATO, to catch the tax cheats and avoiders.