Tax Avoidance: what goes around and comes around?

In the tax haven literature there is a term that always comes up: it’s called a ’round-trip’. In fact the definition of a round-trip has changed a bit over time, but basically it’s when funds are sent through a tax haven structure, usually involving shelf companies, to simply return home minus the usual tax implications. Return having a double meaning here, a geographical one, and because the avoidance of tax is designed to enhance the investment return. I think the round-trip was first used by Citibank, or similar American banks, with branches in the Cayman Islands, back in the 1970s when many countries still had capital controls. The Cayman Islands also became a major booking centre for the Eurobond market, so American investors also gained from tax avoiding bearer bonds on issue then.

Move forward to 2013 and the Green Party in New Zealand have extracted some information from the government’s Superfund organisation, and they’ve been advised that about NZ$1.6 billion of the fund is invested through the Caymans, and other well-known tax havens. Russell Norman of the Greens now states that this is a double standard; the National Government are meant to be following the lead of the OECD and the G8, and cracking down on tax avoidance via the Caribbean islands. The National Party finance minister dismisses the claims saying that it is a legal practice, even though the Superannuation Fund cannot make investments that affect New Zealand’s international reputation. The report from TV3 is somewhat confusing, stating that tax is actually paid in the USA and in New Zealand (but at least they reported it). Everybody knows, except cabinet ministers in New Zealand perhaps, that corporations don’t pay tax in the USA. It is sent offshore as deferred profit, which will eventually (possibly) be repatriated, which means it isn’t tax evasion while it is still in legal limbo. But the use of the tax haven mechanism is tax avoidance, and it is not necessarily legal at all.

But the New Zealand Treasury has had a long history of tax avoidance, through investments held offshore, usually in London. It was one of the first sovereign states to borrow in the Eurobond market, closely following Australia in 1965. Eurobonds were issued as bearer bonds, making perfect vehicles for avoiding tax, initially through interest actually being paid in Luxembourg. The New Zealand officials did all sorts of deals with merchant banks in London, primarily S.G. Warburgs, and later with American banks to hold deposits in the Cayman Island branches. This was effectively held outside of the New Zealand banking system, and often involved the proceeds of bond issues being put straight into deposits or having the bankers build up portfolios of investment bonds, usually denominated in deutschmarks, the strongest currency at the time. The bond issues were formally approved as public works loans, but the money was never sold to the Reserve Bank and repatriated to Wellington. This international bond portfolio lasted until 1984, and the run on the New Zealand dollar that was politically inspired, which caused a fire sale of the foreign currency investments. Often the original Eurobond issues still had to repaid long after the assets were lost.

By the 1980s it was common place for financial institutions to have branches in the Cayman Islands, and government agencies followed suit. Firstly the Development Finance Corporation, and later the State-owned Enterprises, as Treasury argued that this was the way that corporate finance was structured. Most of these SOEs were involved in the Winebox transactions at some point, not just DFC, but also the quasi-public producer boards, especially the Wool Board, whose foreign currency earnings had previously been controlled by Treasury. With a Fay Richwhite man on the board of the SOEs, or by persuasion from its money men, almost all of the government’s finance agencies had some involvement with the Cook Islands tax haven. This was after the Controlled Foreign Corporation legislation was introduced in 1988. CFC legislation was a way of meeting international obligations at the time, but was easy to get around once European Pacific was no longer domiciled in New Zealand. The rest is history.

So now in 2013, what are we to make of the Green Party’s revelations? Well, the use of the usual suspect tax havens must be tax avoidance, and New Zealand has CFC legislation, and a general anti-avoidance tax provision. It’s quite possible that the National Party cabinet ministers don’t understand how something that appears legal, and standard corporate finance, is still tax avoidance, especially when public money is involved. But Dr Norman is right, it is a double standard. There has been a focus on tax haven activity like never before this year, and it’s not a good look. And what goes around does come around, if other countries do what our Superfund is doing, it will affect our tax base. What it proves is that Treasury and the National Party always put international finance first, not the fiscal position of the state in New Zealand. They give the rich tax cuts, don’t police tax evasion effectively, and it’s business as usual in the bond market. Then they say that more assets must be sold to avoid foreigners having to finance public expenditure. Try following the rules instead? 

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