Tax Agreements: From Double Taxation To Double Evasion

The issue of tax havens is inherently international in scope. As a result, the government can use tax agreements to fight tax avoidance schemes.

Unfortunately, tax agreements haven’t been used for that purpose. On the contrary, they have facilitated the outflow of Canadian money to offshore financial centres, and have done very little to break the damaging secrecy laws of these countries.

Tax agreements were first signed by Canada in 1980 and to date, Canada has signed 92 of them. Ten more are currently being negotiated or are waiting for ratification. Their alleged objective is to avoid double taxation of corporate profits or personal income.

For example, if Canada has a tax rate of 26 per cent on corporate profits, and a different country where a company does business has a 14 per cent tax rate, the tax agreement ensured that the profits earned in that foreign country wouldn’t be taxed at a total of 40 per cent. It is first taxed in the country it was earned, and a credit is applied on Canadian taxes upon repatriation of these profits.

This would make financial sense… if tax agreements were used this way.

But instead of simply deducting the taxes paid in another country upon repatriation of the profits, Canada fully exonerates the repatriated profits, regardless of the tax rate of the foreign country.

A Canadian company that establishes a subsidiary in Barbados to channel its international profits will only have to pay the 2.5 per cent tax rate of that country and will be allowed to repatriate these profits tax-free to its Canadian headquarters.

In short, tax agreements don’t only eliminate the double taxation of profits: they allow these profits to be barely taxed at all!

TIEAs: A false war on banking secrecy

Tax Information Exchange Agreements (TIEAs) are the next generation of tax agreements. They were proposed by the OECD in its Model Tax Convention of 2005, as a response to the growing concerns regarding tax evasion and the banking secrecy of tax havens.

Their alleged purpose was to provide signatory countries with the ability to request information about the financial activities of its citizens in another jurisdiction.

TIEAs gained popularity when the OECD created a “grey list” of tax havens in 2008, which required, that any identified tax havens sign 12 TIEAs worldwide in order to be removed from this list.

It didn’t present much of a difficulty. For example, the Cayman Islands signed 18 TIEAs between 2009 and ‎2011, mostly with other tax havens. In other words, tax havens helping tax havens to no longer be blacklisted.

Canada ratified its first TIEA on January 4, 2011, with the Netherlands Antilles and has ratified 21 other TIEAs since then, mostly with jurisdictions that are widely considered tax havens, such as the Isle of Man, the Cayman Islands and the Turks and Caicos.

But TIEAs haven’t been working, for three main reasons.

First, in most cases, the information has to be requested. TIEAs do not generally provide for automatic exchange of information.

Second, TIEAs forbid any fishing expedition. To get information from the tax authority of the Cayman Islands, the Canada Revenue Agency must provide not only the name of the person it investigates, but also the “name and addresses of any person believed to be in possession of the requested information.”

For example, if the CRA knows that a Canadian has undeclared money in a Cayman Islands banking institution, it has to know which of the 280 Cayman banks holds that money upon making its request.

In other words, this supposed tool to help investigations requires that the investigation already be completed.

Third, the tax havens do not have the obligation of finding the information they do not already collect.

For example, an individual can create a company in the British Virgin Islands without having to provide the names of the shareholders or directors and without having to maintain financial records. So if the CRA requests information on a Canadian suspected of funnelling money in an offshore trust company, tough luck: the request will be declined.

But if that wasn’t enough, Stephen Harper’s Conservatives actually introduced a change in the tax code in 2007 that allowed a company doing business with a TIEA partner to bring back the profits, tax-free.

A plea for automatic information exchanges

Tax agreement will be nothing more than smoke and mirrors so long as they don’t require automatic exchange of information between countries.

Worse, these agreements simply legitimize the unfair situation.

The solution is also international in scope, but instead of simply playing along in this rigged game, Canada should play a leadership role at global forums such as the G-7, the G-20, the OECD and the UN to change them.

Such action is necessary to ensure the future of our democratic systems. Without fairness, there cannot be trust in the fundamental institutions of our societies.