http://www.oecd.org/daf/fa/harm_tax/harmtax.htm

Harmful Tax Practices

Globalisation and new electronic technologies can permit a
proliferation of tax regimes designed to attract geographically
mobile activities. Governments must take measures, in particular
intensifying their international co-operation, to avoid the
world-wide reduction in welfare caused by tax-induced distortions
in capital and financial flows and to protect their tax bases. Ms.
Frances Horner, who leads this project, examines the OECD
response to this challenge.

Harmful tax practices may exist when regimes are tailored to erode the
tax base of other countries. This can occur when tax regimes attract
investment or savings originating elsewhere and when they facilitate the
avoidance of other countries’ taxes.

To provide co-ordinated action for the elimination of harmful tax
practices, the OECD in May of 1998 issued a report on Harmful Tax
Competition (the"1998 Report"). The Report created a Forum on Harmful
Tax Practices, set forth Guidelines for Dealing with Harmful Preferential
Regimes in Member Countries, and adopted a series of
Recommendations1 for combating harmful tax practices. This work
focuses on geographically mobile activities, such as financial and other
service activities.

The Forum on Harmful Tax Practices

The Forum on Harmful Tax Practices is responsible for undertaking an
ongoing evaluation of existing and proposed preferential tax regimes in
Member and non-member countries, analysing the effectiveness of
counteracting measures, including non-tax measures, and examining
whether particular jurisdictions constitute tax havens. The main factors
for being a tax haven are a) no or only nominal effective tax rates; b) lack
of effective exchange of information; c) lack of transparency; and
d) absence of a requirement of substantial activities.

The key factors to be used in identifying and assessing harmful
preferential tax regimes are a) no or low effective tax rates; b) ‘ring
fencing’ of regimes; c) lack of transparency; and d) lack of effective
exchange of information.

The Guidelines on Harmful preferential regimes in Member
countries

The Guidelines on harmful tax practices incorporate a standstill
provision, and a roll-back provision. Under the standstill provision, the
Member countries are to refrain from

i) adopting new measures, and
ii) extending the scope of or strengthening existing measures,
that constitute harmful tax practices.

Under the roll-back provision, the harmful features of preferential regimes
must be eliminated before the end of five years. The Guidelines also
provide that the Forum should be used by Member countries to
co-ordinate their national and treaty responses to harmful tax practices.

On 19 June 2000 the OECD announced that six jurisdictions had made
commitments in advance of the Ministerial reporting ("advance
commitments") to eliminate harmful tax practices by the end of 2005,
embracing international tax standards for transparency, exchange of
information and fair tax competition. The"advance commitment"
jurisdictions are: Bermuda, Cayman Islands, Cyprus, Malta, Mauritius,
San Marino. OECD welcomes these commitments.

On 26 June 2000, the OECD has presented to Ministers and publicly
released its Report on Progress in Identifying and Eliminating Harmful
Tax Practices. The Report includes a list of jurisdictions that are tax
havens under the criteria of the 1998 Report, as well as the results of its
review of OECD member country preferential regimes. Also, on 29 June
2000, the OECD with the French Minister of Finance Mr. Fabius
launched a global dialogue on harmful tax practices. This high level
Symposium brought together the 29 Member countries and 30 other
countries to discuss how to develop a global response to the challenges
of harmful tax practices. Statement by Mr. Donald Johnston, Secretary
General of the OECD. Conclusions of the meeting.

Topics for further study

The Forum on Harmful Tax Practices is exploring the possibility of a
wider mandate and also is assisting with work on other topics that may
be relevant to the subject of harmful tax practices. These topics include,
among others,

a) restricting the deductibility of payments made to tax haven
entities,
b) imposing withholding taxes on payments to residents of
countries with harmful preferential regimes;
c) the application of transfer pricing rules and guidelines; and
d) financial innovation issues.

1 Luxembourg and Switzerland abstained.

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Globalisation: Benefits and Challenges for Governments

Globalisation is one of the great economic events of the 20th century. It
is the process which breaks down economic barriers between nations
and leads firms to develop global strategies. Liberalisation of national
economies opened the way for globalisation and the new technologies
made that globalisation happen. This, in turn, has translated into greater
prosperity for many citizens around the world.

But globalisation has also raised challenges for governments: how to
distribute the cost of structural adjustments required to reap the benefit
of globalisation; how to provide the necessary shelter to the weaker
segments of society; how to ensure that governments maintain sufficient
sovereignty to determine the revenue and expenditure structure that is
best suited to their political, institutional and social conditions.

Liberalisation is at the core of the Organisation’s work and is aimed at
facilitating cross-border flows of trade and investment. The OECD has
spent considerable efforts to eliminate double taxation, which is an
obstacle to cross-border activities, and is prepared to undertake similar
efforts to curb harmful tax practices which can have detrimental effects
on world economic growth.

Globalisation has had a positive effect on the development of tax
systems, being, for instance, the driving force behind tax reforms that
have focused on base broadening and rate reductions, thereby
minimising tax-induced distortions.

OECD Member countries are committed to maintaining the efficiency
gains of these reforms while recognising that there are no particular
reasons why any two countries should have the same level and structure
of taxation.

Similarly, increased liberalisation of financial markets has improved the
international allocation of savings and capital and reduced the cost of
capital to enterprises. But it has also widened opportunities for tax
evasion and avoidance. In this new environment, tax havens have thrived
and some governments have adopted preferential tax regimes
specifically targeted at attracting mobile activities.

If nothing is done, governments may increasingly be forced to engage in
competitive tax bidding to attract or retain mobile activities. That"race to
the bottom", where location and financing decisions become primarily
tax driven, will mean that capital and financial flows will be distorted and
it will become more difficult to achieve fair competition for real economic
activities.

Furthermore, it will become more difficult to collect taxes on income from
mobile activities. If spending is not reduced to make up for this revenue
loss there is a real risk that taxes on labour, consumption and
non-mobile activities will need to be increased. This shift will make tax
systems less equitable and, by narrowing the tax base, will introduce
further distortions. By increasing non-wage labour costs, it may also
have a negative impact on employment.

There is no reason why taxpayers that do not or cannot take advantage
of harmful tax practices should have to pay the taxes avoided by those
who have easy access to tax havens and harmful preferential tax
regimes.

The potential impact of these developments is significant. It is estimated,
for example, that foreign direct investment by G7 countries in a number
of jurisdictions in the Caribbean and in the South Pacific island states,
which are generally considered to be low-tax jurisdictions, increased
more than five-fold over the period 1985-1994, to more than US$200
billion, a rate of increase well in excess of the growth of total outbound
foreign direct investment.

Governments have not remained idle in face of these challenges but,
until now, most governments have generally acted independently, or at
best bilaterally, to protect their tax bases and fiscal policies. In this new
global environment, such actions need to be reinforced but also
complemented by intensified multilateral co-operation.

Developments within the G7, the EU, the OECD and beyond suggest
that the political climate is now ripe for a common approach against
harmful tax practices.

The concerns identified above are not limited to OECD countries.
Countries in the Asian-Pacific region, Latin America, Africa and in the
former Soviet Bloc share many of these concerns. In some ways these
countries are more exposed to tax havens and competitive bidding for
financial and service activities since many of them lack the
administrative capacity to implement sophisticated counteracting
measures. This is why the Committee on Fiscal Affairs has already
engaged in a dialogue with these countries. Ministers have asked the
OECD to explore further how contacts with non-member countries can
be intensified in the context of the proposed Forum.

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