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Piecemeal transparency will not do

April 6th, 2016

The story of financial secrecy is finally trending.

The latest leak, known as the Panama Papers, were published on Sunday and have given us a rare glimpse into the offshore financial system that’s so heavily shrouded in secrecy. But for months a different debate around financial transparency has been brewing in the European Union.

The European Commission has been developing an important new set of rules that would require multinationals to disclose where they do business and where they contribute to public coffers. The Commission promoted this new proposal as public country-by-country reporting (CBCR), something that European banks already have to do.

Bringing the rest of industry on board could be the dawn of a new era in which multinational enterprises (MNEs) operating in all sectors of the economy would be truly transparent about what they pay in tax and where they shift their profits.

Or not.

Commission officials have been careful not to give away too much detail about the upcoming proposal, hoping to keep everything under wraps until the proposal’s release on 12 April. But those hopes were dashed when Politico and other media outlets obtained a copy of the proposal on 21 March. And after seeing the leaked draft, the Commission’s desire to keep the proposal under wraps now makes a lot more sense.

Shockingly, the draft doesn’t require MNEs to actually report on all countries where they operate. Instead, they would only be required to file country-by-country reports for the 28 EU member states. Information about their operations around the rest of the globe would still come in aggregated form, swept into one giant pile.

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The Commission normally refrains from officially commenting on leaked documents, but anonymous Commission sources have been quoted in a number of recent news articles, offering a glimpse of what the thinking inside the Commission buildings is. But instead of an unwavering stance, their argument seems to change with every new story, making us continually guess as to why they are really opposed to global country-by-country reporting.

The Proposal was discussed by Politico (behind a paywall) and quoted Commission sources in saying:

“[I]t was not legally possible for it [the draft proposal, red] to impose such a reporting requirement on companies operating in countries outside the EU.”

Commission officials reiterated this argument later in the day in the Financial Times (behind a paywall):

“Pushing the plans any further would have led the EU into a legal minefield.”

As Richard Murphy mentions on his blog, this should be seen in light of the work on Base Erosion and Profit Shifting Action Plan formulated by the OECD and endorsed by the G20 last year. That plan includes a proposal for country-by-country reporting that is confidential, meaning the information is only shared by revenue authorities. The US still needs to formally adopt the plan, but when they do, it’s plausible that they’ll claim any attempt to make overlapping information publicly available as a violation of the agreement, and would stop sharing information with EU tax authorities altogether, as a result.

But this argument looks past the possibility to require subsidiaries of MNEs to present the relevant data in case their headquarters do not supply it, or host country is uncooperative. This so-called ‘secondary filing mechanism’ could be an option for the EU to release themselves from the ‘half nelson’ they currently seem to find themselves in.

Ultimately, what seems to be at stake is the ability to legislate economic actors that are active in the EU. The EU already requires financial institutions to publish worldwide CBCR and no bank has ever legally challenged this requirement. Extractive and logging companies publish detailed information on the taxes and other payments they make to governments worldwide, too. Both these reporting regimes predate the BEPS Action Plan, and will presumably co-exist whenever any confidential regime kicks in.

In light of this, it might not be surprising then that legal objections weren’t mentioned by anonymous Commission sources when quoted a few days later (March 23rd) in The Guardian paper:

“[T]he reason multinationals will not be made to break down their profits in countries outside the EU was not to put European firms at a competitive disadvantage compared to businesses from other regions such as China and the US.”

This time, the real concern seems to be the competitiveness of European companies. However, as the leaked proposal only calls for EU zone reporting, it could actually do exactly what the officials are afraid of: put European businesses at a disadvantage, when compared to other MNEs that wouldn’t fall under the reporting obligation. Without facing the same level of public scrutiny, MNEs with their main operations in China or the US, for example, won’t have the incentive to refrain from using tax avoidance schemes.

And let us not forget that competitiveness is already being undermined, thanks to the different sets of rules that pertain to small- and medium-sized enterprises (SMEs) and their multinational competitors. Public CBCR would help level the playing field in the sense that it would expose the fiscal escape routes that MNEs currently have at their disposal, which are unavailable to small businesses that operate in just one jurisdiction.

Finally, there are some clues in the draft proposal as to why the Commission seems to be torn between varying arguments. In an attached memo the Commission states that “the risk of generating further tax conflicts and double taxation with a CBCR that any tax authority can freely use will be limited as tax information will be broken down only within the EU.” So, aside from competition between companies, it seems that there’s another level of competition that comes into effect with new transparency regimes, namely between countries, or more specifically, competing claims for revenue.

We echo a demand you’ve likely heard before: MNEs should pay their fair share of taxes.

What that really means is that they should pay the right amount of tax, at the right time, in the right place. But the Commission memo seems to suggest that if MNEs had to report on their activities outside of the EU, tax authorities abroad would claim that the very same MNEs owe them more in tax payments, too.

That’s certainly probable, but let’s be clear, there’s ample evidence that some multinationals are paying pitiful amounts of corporate income tax, both in Europe and elsewhere. Civil society, as well as the IMF and OECD, have estimated that countries lose out on hundreds of billions of dollars in revenue thanks to corporate profit shifting. And it’s often developing countries that lose the most, relative to the size of their economies. So suggesting that increased transparency will lead to a zero-sum game between European and third country tax authorities, as the Commission seems to be doing, is ill-advised. It’s not as if the cake would be redivided, giving a larger share to those outside of Europe, instead it’s likely to grow as a result, leaving a bigger slice for all.

In this light, the withholding information from developing countries’ tax authorities actually feels quite sinister. Just last year, the world’s leaders agreed a set of new development goals, and increased domestic resources is a key focus for developing country governments. Being able to see just how much these countries are missing out on in revenue from profits generated within their borders could be of huge importance in the quest for sustainable revenue. EU governments have long committed to policies that are in line with international development efforts, and certainly not counterproductive. But the latest Commission proposal seems to run counter to that.

With all this in mind, finding a legitimate reason to keep this information out of the hands of developing country governments becomes all the more difficult. If the EU is serious about wanting to curb the harmful practice of profit-shifting, full disclosure of all country-level data is the only remedy to the problem.

Written by Koen Roovers & Henri Makkonen

Koen is the FTC's Lead EU Advocate. Follow him on Twitter @k_roovers.

Henri is the FTC's EU Advocacy Intern. Follow him on Twitter @MakkonenHenri.

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