Illicit Financial Flows: How money is syphoned out of Zambia

By Mutale Kapekele

‘The mines do not pay enough tax. Multinationals are hemorrhaging money from the economy.’ Those are comments we hear every day.

It is true that ‘common’ Zambians pay more in tax than some of the big organizations. This is mainly due what the world has come to know as illicit financial flows.

By definition, illicit financial flows, in economics, refers to a form of illegal capital flight and occurs when money is illegally earned, transferred, or spent. This money is intended to disappear from any record in the country of origin, and earnings on the stock of illicit financial flows outside of a country generally do not return to the country of origin.

According to a new report from an African Union and Economic Commission for Africa panel chaired by former South African President Thabo Mbeki, more than US$50 billion is estimated to leave the African continent due to corporate tax evasion, corruption, and criminality.

The outflow dwarfs the amount of official development assistance entering the continent. The problem is coupled by aggressive profit shifting tactics utilized by multinational corporations to avoid taxes in the resource rich countries where they operate.

And according to the Global Financial Integrity (GFI) research, US$991.2 billion was funneled out of developing and emerging economies through crime, corruption and tax evasion in 2012 alone.

In Zambia, reports by ActionAid published in 2011 and 2013 examined the tax practices of two of the world’s largest food and beverages multinationals. The results left bitter tastes in the mouths of many Zambians.

ActionAid zoomed in on Zambia Sugar, a subsidiary of the Associated British Foods (ABF) group, which produces staple brands like Silver Spoon sugar, Kingsmill bread, Ryvita and Patak’s, and also owns clothing chain Primark.

ActionAid’s investigation found that ABF’s Zambian subsidiary used an array of transactions that have seen over a third of the company’s pre-tax profits – over US$13.8million (Zambian Kwacha 62 billion) a year – paid out of Zambia, into and via tax haven sister companies in Ireland, Mauritius and the Netherlands.

“Some of these transactions reduce Zambia Sugar’s taxable profits, while the structure of others avoids the Zambian taxes ordinarily levied on treaty between Zambia and Ireland, which prevents the Zambian government from charging any of the tax that would normally be levied on the interest payments made on these loans. Order a tax-free takeaway: Zambia Sugar is able to send profits back to its parent company, Illovo Sugar Ltd, nearly tax-free by re-shuffling the ownership of the company through a string of Irish, Mauritian and Dutch holding companies, taking advantage of tax treaty loopholes and tax haven regimes to cancel tax on its dividend payments.”

A similar report produced two years earlier, revealed how SABMiller, the world’s second largest beer producer, whose brands include Grolsch, Peroni and Miller, and African beers Castle and Stone Lager, was siphoning profits out of Zambia and other developing countries and parking them offshore.

SABMiller’s companies in Zambia include National Breweries, the producers of Shake Shake and the Zambian Breweries, the brand owners of Mosi Larger among other products.

The two institutions rejected ActionAid's interpretation of their business structures and denied that involvement in aggressive tax planning in any part of their operations.

According to the Global Financial Intelligence, despite growing awareness, developing countries lose more money through illicit financial flows (IFF) than they gain through aid and foreign direct investment. GFI reports that IFFs are continuing to grow at an alarming rate of 9.4 percent a year.

Raymond Baker, GFI says IFFs continue to grow because it remains so easy to do. “We have not turned the tide on the ease with which money can be shifted out of developing countries.”

There are lots of ways to get money out of a country undetected but the easiest is through trade misinvoicing, which is the overpricing of imports and the underpricing of exports – and accounts for “77 percent of all illicit financial flows.”

“Suppose you live in Cameroon,” says Baker, “and want to get money out. As an importer, you ask your supplier abroad to increase the price by 20 percent and invoice you for 120 percent. When you pay, that extra 20 percent is put into an account for you.”

The practice works in exactly the same way for exports: an exporter sells a product for less than it’s worth (50 percent) so that the balance of its true value (the remaining 50 percent) is paid into a foreign private account instead.

As these flows by their very nature are intended to be kept secret, GFI combs through balance of payments data that governments submit every year with the International Monetary Fund. They also look for gaps in trade statistics: “If Cameroon says it exported US$100m to France but France says it imported $300m, then exports have been underpriced by US$200m,” explains Baker.

Advising its clients on how to avoid transfer pricing audits by the Zambia Revenue Authority, the accounting firm PricewaterhouseCoopers (PWC) gave three examples of business practices which were likely to be questioned.

These included procurement of management and financial services from related parties (companies in the same global group) and also buying goods from related companies.

On management services PWC advised companies to watch out if their “management services were provided from a low tax jurisdiction such as Mauritius or Bermuda. PWC also advised that the ZRA raises a red flag on “loss making companies, management fees based on turnover of the local company, or a fully-fledged local operation that does not warrant provision of management services, lack of evidentiary support of provision of management services and lack of evidence of benefit derived by the local company from such services.”

On procurement of goods, PWC advised that ZRA pounced on companies whose goods recorded “loss gross margins as compared to industry averages, purchase of goods from low tax jurisdictions, loss making or bulk of cost of sales made up of related party purchases. The other red flag mentioned was the “absence of evidence of the arrangements between the vendor and purchaser such as written agreements and transfer pricing documentation.”

For financial assistance, PWC advised companies to avoid “thinly capitalizing local companies, contracting related part high interest loans rates as compared to the market, financial assistance provided from a low tax jurisdiction and high guarantee fees as compared to the market.” The other advice point was “absence of evidence of the arrangements and transfer pricing documentation.

“Where your company has cross border transactions with related parties, it is highly recommended that you begin the process of compiling transfer pricing documentation in preparation for audits by the ZRA,” advised PWC.

From the advice provided by PWC, it is clear that there are legal loopholes that can be employed to avoid ZRA audits. The same is true when it comes to avoiding tax.

Avoiding tax using legal provisions is not a crime in Zambia but the practice is immoral and deprives the country of the much needed resources for economic growth.

Zambia is not the only affected country as IFFs have a global face. This is a complex issue that will take a long time to end and everyone should stand up to those involved.