Switzerland is one of the possibly 77 tax havens in the world where rich individuals (from all over the world) keep their money from the prying eyes of their governments. The money kept can be from illegal activities (like drug trafficking and corruption) or from legal activities to evade taxes. Though tax evasion itself is an illegality but this is not considered a criminality. Switzerland considers tax evasion to be a minor matter and can prosecute employees of any bank giving information about individuals indulging in tax evasion.

Money from criminal activities may be routed to these accounts via shell companies or dummy companies — money laundering. Money is transferred from one account to the other and the previous account is closed and so on so that it becomes difficult to trace where the money originated from. Such activity is facilitated by bankers themselves, by legal firms and chartered accountants operating in tax havens. To make the task of tracing the origin of the money more difficult, money is sent from one shell company in one tax haven to another in a different country (as in the case of Bofors). Major banks facilitate such activities apparently by maintaining hundreds of companies in tax havens. Given this complexity and difficulty in tracing individuals who are evading taxes, how did the US succeed in extracting a concession from the UBS bank of Switzerland?

The short answer is hard work by the IRS (the US government tax department) and the clout enjoyed by the US in world affairs. The story begins in mid-2008 with the indictment of Mr. Bradely Birkenfeld. He was a private banker acting on behalf of Swiss banks. He accepted that he was servicing clients of these banks in the US. This was illegal for a variety of reasons, including encouraging the clients to violate US tax laws.

In the year 2000, the IRS established the Qualified Intermediary (Q.I.) programme, which required foreign banks to get US entities who were their clients to file various forms to show their incomes. To overcome the consequent difficulty, the Swiss banks found ways of hiding the identity of the true owners of accounts with them through shell companies in other tax havens. Mr. Birkenfeld, according to the court papers, helped in facilitating all this, moving assets (like bringing diamonds in a toothpaste tube), issue of credit cards for facilitating the use of funds, showing money transferred to clients as loans by Swiss banks and so on. He accepted helping a real estate developer evade $7.2 million in tax and hiding assets worth $200 million. Mr Birkenfeld was apparently one of the many private bankers used by the Swiss and others to get business from wealthy US clients.

Since the UBS name cropped up, the US government next charged a top UBS executive with helping 20,000 US individuals hide $20 billion from the US government. As the case progressed, the entire UBS bank was threatened with indictment. To stave off prosecution, UBS in February 2009 agreed to pay the US government $780 million and reveal the names of 200 to 300 US citizens holding secret accounts.

The US government next filed a case to get the names of an estimated 52,000 wealthy individuals who have accounts in UBS. The Swiss tried every trick in the trade to stall, like, saying this would lead to a diplomatic row or it would threaten the stability of the financial system in the world and so on. The US judge went to the extent of asking the US government whether it was willing to seize the assets of UBS and put them under another management. The bank argued that revealing the names would be violative of Swiss criminal law.

The US government announced a voluntary disclosure scheme, which allowed people with illegal accounts abroad to come clean by paying their taxes due and accepting light penalty. However, the judge did not consider this adequate and maintained pressure on UBS. Given UBS’s large operations in the US and the revelations being made by those using voluntary disclosure, it had to give in. An agreement was signed last week to give the US government between 4 and 5,000 names. The details are not fully available but perhaps the biggest tax evaders who most likely have operations in many tax havens have already shifted funds out of not just UBS but also out of Switzerland (there have been reports to this affect).

Liechtenstein, another tax haven, has come to an agreement to clean up its act. In 2007 a disgruntled banker revealed the names of those having accounts there. Governments have started prosecutions based on the data made available. The Indian government, which was initially reluctant to take the data being made available to it by the German government, finally accepted it in March 2009 (under public pressure) and apparently preliminary investigations have started.

In the US, as more and more data is coming to light, prosecution is accelerating. On the basis of revelations, Mr Schumacher and Mr Rickenbach were indicted on August 20, 2009, in Florida on grounds of helping US entities to hide assets and evade taxes. Jeffrey Chernick, John McCarthy and individuals referred to as J.E. and E.D. are mentioned in the indictment as those receiving “help” from these gentlemen. The pace of prosecution is likely to increase as more data becomes available through voluntary disclosure and revelation of names by Swiss banks.

In India’s case, when some information is received, it is suppressed or the investigating agencies spoil the case so that prosecution is rare. From time to time, information does become available, like in the case of Jain havala or Bofors but this has never been systematically pursued or the case has been weakened. In India, the rich and the powerful have the clout to prevent justice from being done. In advanced countries this seems to be far less.

A perusal of the revelations in the US show that banks with operations in tax havens or originating in tax havens are indulging in all kinds of fraud in other countries. In India (given our laxity) they would be doing at least as much as has been revealed in the US. Given this, the least the Indian government should do is to tighten control over such banks operating here. Further, all foreign banks should be made to give undertakings along the lines of Q.I programme. They must also be asked to give information about their subsidiaries and operations in tax havens so that their operations become transparent.

While the black economy in the US may be larger in absolute terms, as a percentage of its GDP, it is small (5 per cent) compared to that in India (about 50 per cent). Thus, India is losing far more due to the adverse impact of the black economy. Further, the US receives funds from all over the world, given its lucrativeness, but India loses capital. So, a country that is short of capital has been exporting capital to the tax havens and rich countries. Every time there is demand to unearth the funds lying abroad there is a chorus, obviously orchestrated by the wealthy, that this would be futile. So, while we need to do more to tackle the menace, we do far less than we can or what the other countries are doing.

_________________________

Dr. Arun Kumar is the Coordinator of the EXIM Bank-JNU Library in Economics. He is teaching Economics in Jawaharlal Nehru University since 1984. He has been the Chairperson of the Centre for Economic Studies and Planning of JNU, Vice President and Acting President of the Indian Academy of Social Sciences (ISSA). This article was first published in The Tribune, August 29, 2009.