Tax fraud: Time to get tough

Assistant Professor, University of California, Berkeley

©Charlotte Moreau

Sanctions need to be imposed on offshore centres to make money laundering more expensive. And, in response to shell companies investing their wealth in the London and New York property markets, French stocks and German bonds, a worldwide financial register should also be created. 

What did we learn from the Panama Papers? That Mossack Fonseca, the company at the heart of the data leak obtained by the International Consortium of Investigative Journalists, which includes Le Monde, is just a small cog in a colossal machine–an industry that hires thousands of young graduates from the best universities in the world to go to New York, London and Singapore and do one thing: protect fortunes.

The lesson from the Panama Papers is clear. The regulations governing this industry, and the countries that enable it, need a thorough overhaul. This is vital if rising inequalities and a drift towards global oligarchy are to be avoided.

The business of preserving wealth has been around for centuries but really took off in the 1980s. The turning point was the industry’s decision to examine, from every angle imaginable, one particular way of preserving wealth—tax avoidance. There are legal ways to do this (tax loopholes) and illegal ways (undeclared offshore accounts), and then there are those that lie in a vast grey area in which no one, in many cases, is really able to determine whether they are legal or not.

By laying bare these strategies for all to see at a time of rising inequalities and falling growth, the Panama revelations triggered a global outcry. They revealed that, while most ordinary people are faced with high tax bills, a small elite have at their disposal increasingly sophisticated and varied methods for growing their assets by avoiding tax. They exposed the ruthless techniques employed by oligarch firms to defend their wealth, which Jeffrey A. Winters has already covered in his fascinating book Oligarchy.

And there was worse to come. At the heart of financial regulation, there is an essential, albeit ambiguous, distinction between legitimate and illegitimate wealth. Anti-money-laundering laws require financial institutions to know their customers and prohibit them from investing the gains of drug traffickers, criminals, corrupt officials and money launderers. The Panama Papers showed that many institutions located in tax havens pay little heed to this distinction, considering that any client is a good client. In 2015, Mossack Fonseca only knew the beneficial owners of 204 of the 14,086 shell companies it had registered in the Seychelles.

In other words, not only can a small elite increase their riches by avoiding tax, there is also no way of guaranteeing that their fortunes are legitimate. The wealth management industry can hardly be relied upon to carry out any initial screening.

It is high time to look at the practical implications of this situation. Since the creation of the Financial Action Task Force in 1989, the main riposte to money laundering has been to create regulations, ensure that a maximum number of countries enforce them and carry out the occasional inspection. Despite the fact that anti-money-laundering standards and systems have been perfected over time, the recent revelations demonstrate that the ground rules–in particular the identification of beneficial owners and politically exposed persons–continue to be broken on a regular basis.

The approach of trusting offshore centres with law enforcement may be necessary but it is not sufficient. There is too much money to be made from helping money launderers and fraudsters and too little to lose in the absence of tangible international sanctions.

Create registers

A new approach is needed. It is common knowledge that hundreds of thousands of shell companies are based in Panama, the British Virgin Islands and the Cayman Islands, to name just a few. Why is the presence of such a developed financial industry in the British Virgin Islands accepted, especially when it is evident that it is used, to some extent at least, as a channel for criminal activity?

The US and the EU should impose immediate sanctions on these territories and maintain them until proof is given that they have correctly identified the beneficial owners of all the shell companies on their soil.

The overriding lesson of the financial crisis and the strings of scandals is that some financial actors have no qualms about breaking the law if there is a large enough profit to be made. The implementation of an approach focusing on sanctions could result in a radical change in behaviour by greatly raising the price to pay for fraud and money laundering.

Lastly, shell companies do not bank their wealth in Panama or the Virgin Islands: they invest it in property in London and New York, in French stocks and in German bonds. One of the main objectives of financial regulation and the fight against inequality is to identify the beneficial owners of all this wealth. There are two ways of doing so.

Europe and the US can politely ask Swiss banks, Luxembourg-based investment funds and the creators of Panamanian shell companies to provide them with this information. This is the essence of current efforts under the aegis of the OECD and the G20 to create a global system for the automatic exchange of banking information. Some financial actors will properly fulfil their obligations, whereas others, if recent scandals are anything to go by, will do so half-heartedly or not at all.

There is, however, another approach. Europe and the US could themselves try and establish the identities of the owners of the riches on their territory, such as the homes in Manhattan and Chelsea, the stocks listed on the Paris stock exchange and the bonds purchased from German issuers.

In practical terms, this would involve creating financial and property registers listing the beneficial owners of buildings, land and financial securities in Europe and the US. The basis of these registers would be existing property registers, which would be expanded to include stocks, bonds and shares in investment funds. They would trace back the chain of financial intermediaries to the real beneficiaries.

Registers of this sort would benefit our economies. More importantly, they would also benefit developing countries, which are currently unable to locate the fortunes squirreled away in western countries by their ruling elites, and are unlikely to be able to do so in the near future, given how removed they are from the projected automatic exchange of banking information. A European and American financial register would be a global public asset. It is the very substance of the fight for financial transparency.

This article was first published in Le Monde on 7 April 2016. The original piece in French is available here: de-fond-en-comble_4896602_3232.html


Zucman, Gabriel (2015), The Hidden Wealth of Nations: The Scourge of Tax Havens, University of Chicago Press

Winters, Jeffrey A. (2011), Oligarchy, Cambridge University Press

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