Black Money

What is Black Money?

Income on which tax is evaded is black money. For example, when a seller of property receives part of the sale proceeds in cash, and doesn’t show it in its tax accounts. Or, when a company shows fictitious expenses to pay less taxes. All this is illegal, unaccounted wealth.

How is it Created?

There are ways and ways. Two are mentioned above. Here are two common tax and accounting tricks employed by businesses -- the most prolific creators of black money.

UNDER-INVOICING OF SALES:

Company X sells Rs 100 worth of goods to Dealer Y. Company X invoices Rs 80 to the dealer, the remaining Rs 20 it takes in cash and siphons it off. Dealer Y sells goods to a customer for Rs 120 in cash; shows Rs 100 in his books, but conceals Rs 20.

FICTITIOUS VENDORS:

Promoter of Company X floats Vendor Y. Except Vendor Y exists only on paper. Company X shows it is paying the vendor for goods supplied. Money goes to promoter via vendor.

How Much of it is There and Where is it?

Given the secrecy behind such Also, Dev Kar, lead economist with transactions, it is next to impossible Global Financial Integrity, a proto estimate the quantum of black gramme of a think-tank, estimates money with any degree of accuracy. that about $462 billion of black mon-By one estimate, half of India’s ey has moved out of India between economy was the shade of black. In 1948 and 2008, much of which has 2008, that would be $640 billion. gone into tax havens.

What are Tax Havens?

These are territories that provide ‘an easy and safe’ environment for money. Easy because they have very liberal tax rates, which incentivises the world’s biggest corporations and richest individuals to host their wealth and direct their investments from there. Safe because such territories neither ask depositors questions on where their money came from nor do they easily share account information with other countries, which is a big draw for black money. In 2000, the Organisation for Economic Co-operation and Development (OECD), a 34 member group consisting mainly of developed nations, classified 37 territories as tax havens. This was based on its four-point definition of a tax haven:

• No or nominal taxes

• No effective exchange of information with other countries

• Lack of transparency

• No substantial economic activities

OECD has since pared down the list of 37 to nil -- there are no tax havens now! That reading of OECD draws from a technical definition rather than an operational one. In 2002, to combat illicit capital flows to tax havens, OECD released a tax standard, endorsed by the United Nations and G20, on exchange of information. Its crux was that, under certain conditions, if a government seeks specific information from these territories on a depositor, they should provide it. All 37 locations have agreed to share information and are on a signing spree with countries. India has signed 10 such agreements. However, the information sharing is not a blanket one. So, India cannot ask, say, Mauritius for all information on accounts held by Indian depositors. What it can ask for is information on a particular individual, that too after establishing to the authorities in Mauritius that it has good reason to ask -- for example, a tax evasion probe against the person. The limited scope of information sharing means the locations remain a tax shelter, both for accounted and unaccounted wealth.

How Does Black Money go From India to Tax Havens?

Again, there are ways and ways. Here are two -- one internal and another external. First, the internal route. Say, a promoter has siphoned off Rs 10 crore from his company. He sets up several shell companies and opens many bank accounts in their names. He starts depositing cash in these accounts; the size of the deposits is small enough to escape regulatory attention. These are then wired to accounts in the tax havens. Then, the external route, which is also called the hawala route. A parallel foreign exchange market works to enable such conversions. The promoter gives Rs 10 crore to a hawala operator in India. Through his links with operators in other countries and a series of transactions, foreign currency gets deposited into the promoter’s bank account in a tax haven. The hawala operator charges 2-3% of the transaction amount as his fee; more if the transaction is complex.

How Does it Come back To India?

The money lodged in tax havens is invested in India, either in stocks, real estate, business or other assets. The circle is complete. Black has become white, without paying a penny in tax (otherwise, they would have paid the peak rate of 30% for individuals and 35% for companies). Even on subsequent earnings, this money won’t pay any tax. That’s because most of these tax havens have a double tax avoidance agreement (DTAA) with India – their income can be taxed only in one country. So, this money doesn’t pay tax on its earnings in India. It is accounted for in its resident tax haven, where the tax rate is, typically, zero. So, in the worst case, that sum of money evades the 30-35% tax in India on its creation (black) and avoids the 10-35% tax in India on investment (white). Now that they money is white, it can be freely repatriated. Sub-accounts of participatory notes (PNs), created by foreign institutional investors (FIIs), are said to be rampant carriers of black money. In a paper, titled, ‘tax havens can destabilise our financial markets’, R Vaidyanathan, professor of finance, Indian Institute of Management, Bangalore, wrote: “The sub-accounts created by FIIs for nameless entities are fraught with dangerous consequences and security risk. The sources of these funds are unknown; the investors are nameless; and billions of dollars invested through PNs are address-less.” Last year, FIIs invested $35 billion in India.

What is The Government Doing?

It’s doing things here and there, but the results are hardly a reflection of the magnitude of the black money menace. India amended the Prevention of Money Laundering Act (PMLA) in 2009, which criminalises money laundering, and allows enforcement authorities to seize funds obtained from illegal activities. So far, the government says, it has recovered Rs 15,000 crore from India. Outside India is a different story. The government was handed details of 20-odd accounts held by Indians in Liechtenstein, in Europe. This happened when Germany bribed an official in LGT Bank in Liechtenstein to reveal details of account holders. India lobbied with Germany to access details of the Indians in that list. The matter is stuck there. After OECD put an informationsharing standard in place, countries have signed about 500 tax agreements. India has prioritised the signing of tax information exchange agreements with 22 tax havens; 10 agreements have been signed and four more are under negotiation. According to an OECD presentation in December, subsequent to signing information exchange agreements, Italy has collected 5 billion euros and Germany 4 billion euros. These are just two instances. The onus is on governments, including India’s, to make a case and demand information from the tax havens.

Which are The Prominent Tax Havens?

The graphic outlines details of 14 prominent tax havens Indians take shelter in. Four things are endemic to these havens. One, several have a British connection, either as its colony in the past or as its territory in the present. Two, their economy runs on two things: tourism and banking. Three, their banking assets are a disproportionate multiple of their GDP, which shows their popularity as offshore banking destinations. Four, their tax rates are nil or minimal, and secrecy of clients is a declared objective, though it is being chipped away at.