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Panama Papers and the offshore holdings delusion

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The world is abuzz with the articles published by The International Consortium of Investigative Journalists (ICIJ) based on one of the biggest data leaks in history. The articles dubbed as ‘Panama Papers’ are based on leaked data of the Panamanian law firm Mosack Fonseka. The internal documents of the firm were leaked by an anonymous source to the German Newspaper Süddeutsche Zeitung which passed them to ICIJ. The scandalous leak contains about 11.5 million files covering 40 years of operations of offshore accounts and shell companies in tax havens like Panama, British Virgin Islands and the Seychelles. The offshore holdings have been linked with international figures including current and former presidents, prime ministers, monarchs and celebrities. Among the repercussions of this probe have been resignation of Iceland’s Prime Minister Sigmundur Gunnlaugsson to concession of UK’s Prime Minister David Cameroon that he benefited from an offshore trust fund in the Bahamas set up by his father.

The articles claim that high profile politicians and their close associates have used tax havens to hide their wealth. The other accusation that is tied with these offshore holdings is using them for tax evasion. But the fact that not all offshore holdings are linked with illegal activities evades most people. Similarly, most media have focused on the theme of ‘tax evasion’ while the revelations are mostly linked with hiding wrongdoing by corrupt officials not just tax evasion.

The New York Times reported,

“Holding money in an offshore company is generally not illegal, although such financial arrangements can be used in illegal ways — for example, to facilitate tax evasion or money laundering.”

Though the Panama Papers exposed cases where people have used offshore holdings for hiding assets and evading taxes, there is a myriad of legitimate reasons for setting up offshore accounts and shell companies. Generally, people use shell companies because of government restrictions on certain transactions and capital controls. Companies may also use offshore companies for tax efficiency through legal tax planning. Moreover, multinationals use shell companies to reap the benefits of flexible corporate regimes and investment diversification opportunities abroad. The New York Times describes some of the legitimate reasons behind shell companies in the article titled “The Panama Papers: Here’s What We Know,” as follows:

“There are many valid uses of offshore shell companies for multinational corporations, joint ventures and wealthy individuals. Many countries restrict the sale of real estate to their citizens or to companies registered there. American retirees looking to purchase homes in such countries form offshore companies that buy the properties to abide by the law.”

“Companies establishing joint ventures in countries with weak or corrupt legal systems also create offshore companies, based in a jurisdiction like the British Virgin Islands or the Cayman Islands, that own the enterprises.”

The Kathmandu Post reported that the statistics of Department of Industry (DoI) shows that 20 percent of FDI entered Nepal from tax havens till last fiscal year. The government officials suspect that FDI from tax havens may be linked with money laundering. However, the reason why FDI is entering Nepal from tax havens like the British Virgin Islands could be because of our corrupt system and capital restrictions like mentioned above.

One important aspect about ‘tax evasion’ is the case when tax rates cross the threshold that people are willing to abide by. When taxes are excessive, people naturally tend to try to find ways to evade them—whether through offshore holdings or other ways. The other aspect is whether the taxes you are paying to a government are reflected in the services it provides. People may be willing to pay even high taxes if they are satisfied with the way the government uses taxes. Else, even if taxes are low, people may want to evade them. For instance, if a government is not efficient and transparent while handling taxpayers’ funds, people will not be willing to pay taxes even when tax rates are low.

If you are interested in learning other legitimate reasons for setting up shell companies, here’ s the link to Huffington Post’s article titled “5 Legitimate Reasons to Have an Offshore Company

Dinesh Karki

About Dinesh Karki

Dinesh Karki is an independent researcher. He has Economics degree from Xi'an Jiaotong-Liverpool University, Suzhou, China.

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When being INFORMAL comes with incentives

faulty incentives' systemNepal’s economy is largely informal; informal sector here comprises of a group of production units that form part of the household sector as household enterprises or equivalently, unincorporated enterprises owned by households. Much likely, such units have limited capital investment and are a subsidiary activity of the owner. Their activities are not regulated under any legal provisions and/or they do not maintain any regular accounts. In Nepal, a good chunk of production and consumption is contributed through such informal sector activities. The sector also contributes to much of the income generation through employment thus providing means of livelihood to millions of Nepalese. Kirana Pasals that are small mom and pop shops selling groceries and fast moving consumer goods form a major segment of this informal economy in Nepal.

What makes these shops informal can be attributed to an endless list of reasons—a primary reason being that informality to these shops means a much better deal than choosing to formalize their operations. Given, the informal sector helps during economic crisis. But the fact that the benefits of informal employment may not be sufficient to achieve an acceptable standard of living as informal employment rarely comes with social protection, good working conditions and adequate wages cannot be ignored for long. But in our case, the scenario of choosing informal as opposed the formal begs to not be changed until a few things are set straight.

First in the list being the registration of these Kirana Pasals. Such shops are required to register at four different places; these fall under the jurisdiction of six major government agencies and they are subjected to 15 major laws and policies. Given their size and monetary weaknesses, these shops have less capacity than larger firms to navigate through the complexities of regulatory and bureaucratic networks. When formalized, the government has rights to inspect them and close them down if regulations are violated—here regulations are manifold and are more often than not subjected to interpretation and discretion of the official thus allotted for the job. Generally, Kirana Pasal owners are aware of few of those laws that are applicable to their businesses but there always remain minuscule provisions and clauses which the businesses would not be in compliance with, simply because of the volume and scattered nature of those regulations, which keeps the business always on offence. And as De Soto rightfully said, “informal economy is a by-product of over regulation and bureaucracy in the formal economy” and unless we do away with such hurdles there seems to be not enough hope for such small ventures to grow or even formalize their operations.

Secondly, empirical results have demonstrated that firms rank taxation as among the most severe obstacles to the long-term success of their enterprises. Likely, the shops in Nepal (if formalized) face a disproportionate burden from tax in comparison to larger firms. Those with turn over greater than 2 million rupees or income greater than two hundred thousand rupees are eligible to pay VAT tax of 13% and Corporate tax rate for Private Limited Co., Limited Co., Partnership Firm in the retail sector – a total of 25%. In many cases, not having books or audited accounts may result into the amount of tax to be paid being established by the tax official based his judgment, making use of a variety of indicators, including the observed standard of living of the entrepreneur. This might result in very high tax rates for enterprises.

Thirdly, there are standards that shops have to abide by. As much as the shops would be willing to do so in the light of protection of consumer rights, here too, the inability to bring in efficient intervention leads to losses on the part of the shop owners.

With problems as such to be encountered in terms of wishing to bring the shop into the formal stream, it seems that it is in the light of their own well-being that most decide to cling to their informal operations. Until and unless the aforementioned hurdles are done away with, the shops will remain informal because being so has more incentives than choosing to be otherwise.

Anita Krishnan

About Anita Krishnan

Krishnan holds dual degrees--in law and sociology. Currently, she works as a Research Associate at Samriddhi, The Prosperity Foundation.

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The luxury of a vehicle

crowded-bus-kathmanduHave you ever wanted to own a vehicle? If you are like most Nepalese, you might have always wanted to. But guess what? Our government thinks we are not good enough to own a vehicle. According to our rulers, vehicles are luxury items and not every Nepalese should own or use one. It is for the elites, rulers and crooks only. Don’t believe it?

The government charges a whopping 241% taxes and duties on vehicles imported from abroad which means every vehicle. This is the highest imposition of taxes in the world. Hence, when world’s cheapest car entered Nepal, it was 7 times more expensive than it was in its birthplace. This has resulted in a scenario where only the rich people can afford private vehicles, especially cars. And oh yes, government officials and politicians enjoy ultra expensive vehicles paid for by the taxes by the general public. Needless to say, the third group – crooks manage to get around the barriers and get what they want anyway.

You may think, that’s for our own good. The government is here to look out for us. The government wants us to use public transport, save our foreign exchange reserves and the environment. Well, that is true as far as the theory goes. In practice, the question would be: has the 11 billion plus revenue generated from import taxes, duties and road taxes and license fees translated into better roads, better public transport and better traffic management? Not exactly! In fact, unfortunately it works the other way round. Because of the poor road conditions, unreliable public transport system more people are opting for private vehicles. Nepal could very well be only country without a mass transit system in the world. The public transport runs by cartels is as unreliable and as costly as things can become when impunity from both crime and competition is granted and ensured by the government. Roads construction is one of the places where one can see blatant and shameless corruption and government negligence in action. Roads being black topped during rainy season and lasting only for a few weeks before they are patched again is not a new scenario for us. In fact, the process has been repeated so many times that it fails to surprise commuters anymore.

Because of the high taxes and the resulting increase in prices, primary medium of transport for many Nepalese, especially for those living in the cities, is two wheelers. Two wheelers are inherently less safe compared to other vehicles resulting in more fatalities during accidents. The risk has been increased tremendously by the condition of roads and lack of traffic rules enforcement. As a result, we lose thousands of precious lives. Roads are relatively safer for the rich but not for the poor because our government thinks safer and more comfortable vehicles are a luxury not a necessity even though Nepal is among the nations with least penetration of vehicles. About 1.7 million vehicles have been registered in Nepal till date which is just 5.67 percent of the total population.

Meanwhile some people argue, justly in many cases, that reduction of import duties will lead to more people owning vehicles and eventually more congestion and pollution. Most of the time, the concern is sincere. However, what is not being realized here is that these problems are endemic to urban centers and cities only. Once we venture, out of the cities and beyond the hills, the problem with majority of our roads is not congestion but lack of enough vehicles to make them sustainable. The highest vehicle per day (VPD) in Nepal is among the roads in the Nepal-India borders which get 2500-3000 vehicles per day. On the other hand, most of our roads get only 300-1000 vehicles per day making it hard to sustain the regular maintenance and upgrade of these roads.

In this context, it is high time that we discuss when the world is thinking of space tourism in space vehicles why should we Nepalese be thinking of a simple four-wheeler with wistful eyes.

Surath Giri

About Surath Giri

Surath Giri is a student of Economics and works as Research & Publications Coordinator at Samriddhi, The Prosperity Foundation. He also writes for Khabar South Asia, a south Asian online news portal.

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Son-ny pays what Daddy earns

sonny pays what daddy earnsFor today’s 20 odd years olds it is all but normal to have daddies who in their own 20s opted for the government jobs—and since the 80s and 90s were pretty much the times when the public enterprises were the ultimate work places, those are what most daddies yearned for—and many got in too. After all, one of the many objectives of such public enterprises was to provide a safe and secure employment to as many young and hardworking individuals as it was possible. There were the monthly salaries, the benefits and all the perks that anyone would want for their sons or sons-in-law (for that matter). And so, these enterprises pushed on year in and year out. These enterprises pushed on in terms of meeting their glorified social goal of employing as many people and working for the greater good of the people. They pushed on despite the odds, might I say.

Out of the 37 public enterprises that are still existent today most are plagued with the inadequacies that public enterprises seem to be characterized by; inefficiency, corruption, over-staffing to name a few. Though a couple of them run in profits, the truth remains that majority of these public enterprises are neck-deep in debt. The government, year in and year out, continues to bail out there enterprises—pay the staff salaries, run the management costs etc. Come to think of it, the simple fact remains that all that bailing out, all that injecting of funds comes from a source—our pockets, the taxes we all pay.

Why do I call the write-up a sonny and daddy thing you ask and I have a simple answer. Where the employment patterns of the two generations come to collide can be two-fold: one in terms of the thought pattern—while the daddy-generation thought government job was the way forth the sonny generation more so holds a belief that entrepreneurship and self-employment is the way forth. The second point of collision being—while the daddy generation are living on their perky salaries from government funds the son-ny generation are bound to put their hard earned money into the government pockets (a fraction of it to reach the daddies!).

Entrepreneurship has been the buzz word these days and as people are moving away from work-for-somebody-else model and have taken to trying, innovating things we need to not let this culture wane. This emblem of the new generation that seeks for renewed growth and prosperity needs, to the very least, be encouraged to grow and not cheat on taxes (which the current no-incentive-for-growth model encourages budding entrepreneurs to do).

On an ending note, the sonny and daddy example does not mean to incite any disregard towards the daughter and mommy duo and has been used just as a point of reference—no offence!

Anita Krishnan

About Anita Krishnan

Krishnan holds dual degrees--in law and sociology. Currently, she works as a Research Associate at Samriddhi, The Prosperity Foundation.

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