A slippery slope

The government is reportedly introducing a new tax amnesty scheme to boost revenues and augment the supply of dollars. According to media reports, the forthcoming FY23 Finance Bill will allow Bangladeshis with undisclosed immovable assets outside the country to make their money legal conditional on paying a 15% tax. Movable assets, including cash, bank accounts, securities and financial instruments will get legitimacy on payment of 10% if the money is not repatriated and 7% if it is repatriated.

An opportune time?

The hope is that the amnesty will incentivize owners of illicit assets to be tax compliant. The price of getting legitimacy is the tax they must pay to the government. The reason they may want to do so is to mitigate the risk of penalties and criminal charges in the country where their assets are held.

Measures tightened by destination governments to detect illegally acquired assets may have increased the risk perceptions. Efforts to trace, freeze or seize stolen assets across borders have become significantly more effective in recent years. The joint Stolen Asset Recovery Initiative of the World Bank and the United Nations Office on Drugs and Crime found a marked increase in cases between 2017 and 2021 where funds stolen by corruption were traced and recovered. The number of states pursuing cross-border asset recovery in corruption cases is growing. Since 2010, $9.7 billion in corruption proceeds have been either frozen, seized or confiscated in their destination country or returned to the country where they were stolen.

There may therefore be a win, win bargain for the government and the stolen asset holders. The government potentially gains revenues and augments supply of dollars in the foreign exchange market. The asset holders buy safety from a state whose laws they violated. There is opportunity for a mutually beneficial resolution by letting bygones be bygones.

Sounds like a good plan until meeting the details.

Prospects of getting the intended results

To want to pay 10-15% tax while keeping the money outside the country, it must be the case that such payment will get them some certification giving legitimacy to the illicit transfers made in the past. Who would want to get such legitimacy knowing it exposes them to governments on both sides of the border? What documentation would be enough to protect their assets in the destination countries? This could depend on the treaties we have on handling illicit financial flows between each other under a bilateral or multilateral framework. It would be foolish to respond without clarity on these.

There is at best a weak incentive to declare and pay, especially for those who have already figured out how to game the system in the destination countries.

Why would anyone want to bring the same illicit money back, paying 7.5% net (10% tax minus the 2.5% subsidy for remitting through formal channels) when the only benefit, for all practical purposes, is to make the money white in Bangladesh unless it is facing an existential threat in their current residence abroad? 

If tax dodging was the main reason that drove the money out in the first place, it would be realistic to expect some response. But tax dodging probably is a minor reason why capital flies out of Bangladesh. Another minor reason is the presence of capital controls which motivate recourse to illicit channels to exploit profitable investments abroad. However, the places and assets chosen (the Begum paras) suggest seeking safe havens as the overwhelming reason. Acquisition of assets offshore is more a story of fear of law of the land in the case of Bangladesh. Flaws in the application of the Money Laundering and Prevention Act 2012 and dysfunctionality in the related institutional framework provides the pathways for illicit money to fly out.

The "safe haven" motive is evident from some of the judicial concerns we recently heard. Recall, in 2020, the High Court expressed annoyance with the Anti-Corruption Commission for its failure to identify the government officials, politicians, businesspersons and others involved in laundering money to Canada, US and Australia. Last January, the High Court directed the head of the Bangladesh Financial Intelligence Unit to submit details of individuals and business entities, who allegedly kept smuggled money in Swiss and other foreign banks. These are safe havens, not tax havens. Arguably, only investment in offshore shells by the individuals and business entities, whose names appeared in leaked Panama, Pandora and Paradise Papers were motivated by tax dodging. Profit motivated asset holders have found ways to get Outward FDI flows allowed through legit channels.

In theory then a large response is unlikely, but you never know. Amnesties can promise (deceptively tempting) financial gains. How much, over what period, and under what conditions? The new policy does not appear to be backed up by such a calculus.

Learning from other experiences

Until 2016, 38 countries implemented tax amnesty programs. Emphasis shifted over time to offshore amnesty as the G20 countries forced the tax havens to exchange bank information with the tax administrations. Their experience shows successful tax amnesties, defined in terms of revenue collections and amounts repatriated, are the exception rather than the norm.

The finance minister cited Indonesia as a success case. In Indonesia, a third tax amnesty in July 2016 launched for nine months resulted in repatriation of $10.3 billion (1% of GDP) from tax havens, not safe havens. Unlike the failed first two, the third amnesty had smart tax rates on repatriated assets (4% for the first three months, 6% in the next three months, and 10% in the last three months). Repatriated offshore assets had to be retained in Indonesia for at least 3 years. The amnesty program was timed ahead of exchanging tax information with others that are part of the OECD's Automatic Exchange of Information initiative. Tax dodgers knew the government would start receiving information about offshore assets owned by Indonesians from 101 tax jurisdictions that were part of the initiative.

Pakistan's offshore tax amnesty program in 2018 made taxpayers declare hidden assets overseas worth around $4.8 billion of which only $40 million was repatriated. Revenue collected from the declared foreign assets was $326 million. Tax rates ranged from 2% to 5%. Special tax rate of 2% was applicable to repatriated liquid assets. Pakistan was a signatory to the OECD Multilateral Convention which provides access to information about offshore financial accounts of Pakistani residents. The scheme didn't result in any significant change in tax compliance culture.

India launched a high-profile tax amnesty campaign in 2015 for bringing undeclared funds back by paying 30% tax plus a penalty of 30% of the unpaid tax. Offshore assets worth $574 million were declared by just 689 applicants during the three-month amnesty period. The government collected a dismaying $350 million in taxes.

The financial results from amnesties tried in different countries have been most significant where the amnesty is temporary with a credible threat of detection if the opportunity is missed. The terms in such schemes become less generous over the specified amnesty time, creating a sense of urgency. The asset holders must be made to see that the opportunities for making a voluntary disclosure are steadily shrinking, while the risks of detection are rising. Without putting in place a combination of measures to make the policy credible, financial results are most likely to elude if not boomerang.

There ought to be a better solution

In none of the cases googled above, the unseen impact on the morale of the honest taxpayers received any attention, not to speak of refuting the ethical objections to laundering income derived from criminal offences, noncompliance with business ethics and tax laws. This could adversely affect the size of the tax net. 

Making matters worse, tax amnesties when repeated, induce companies and individuals to game authorities until they get to have their cake and eat it too. Expectations of a future tax amnesty make noncompliance self-reinforcing. Policymakers introduce tax amnesty to bring the evaders back to the tax net which in turn induces evasion by hitherto non-evaders. Amnesty is continued or reintroduced to bring them back, inducing yet another batch to evade and so on. Taxpayers update their prior beliefs regarding the payoffs to evasion based on how the previous evaders benefited from the amnesty. When they conclude that it is optimal to become a tax evader, because the savings from evaded tax payments outweigh the probability of detection and the toothless penalties that come with it, the policy unravels. A shadow taxation alternative emerges offering opportunities for predatory behaviour.

We won't see such effects in data unless we make a conscious effort to extract it. Amnesties to stolen asset holders does not look so pretty when you consider the dynamic effects on revenues, path dependence (once in place, always in place as in the case of the onshore black money whitening facility in Bangladesh), the inherent tax injustice, and compromised rule of law.

Dr Zahid Hussain is the former lead economist at the World Bank Dhaka office.