Tax Havens-Black Money: A Nexus


As per an estimate made by Global Financial Integrity, about $462 billion worth of black money has been sneaked out of India between 1948 and 2008, most of which has apparently gone into tax havens. Black money is basically the income on which tax has been evaded and tax havens are territories which provide a safe and easy environment for money to come in. Such territories are “safe” because neither do they ask the depositors as to where the money is coming from nor do they share such account information of the depositors easily with other countries. They are “easy” because they have very liberal tax rates which are a great incentive for big corporations and rich individuals to park their wealth in such tax havens and direct their investments from there.

This issue of unaccounted wealth going out of India and into various tax havens has become a matter of political and national concern due to the media highlighting and pursuing the stashing away of black money by Indians abroad. Due to the 2G spectrum scam and the Commonwealth Games scam, the wealth stashed abroad is being increasingly linked to bribery and kickbacks. In the past two years, the outflow of investments from India has risen from $16.07 billion in 2008- 09 to $18 .1 billion in 2009-10. A significant portion of India’s black money is kept in banks in Switzerland, which is also a major tax haven. Nearly $1 trillion out of $ 2.8 trillion of Swiss money is black money.

This unaccounted wealth can be sent from India into the tax havens via two routes. Firstly, by the setting up of shell companies and opening of bank accounts in the name of such companies. Once this is done, then the unaccounted money is slowly deposited into such accounts and the size of the deposits are kept small so as to escape any regulatory attention after which these are wired to accounts in tax havens. Secondly, by handing over the unaccounted money to a hawala operator who, through his links with operators in other countries and by a series of transactions, makes sure that the foreign currency is finally deposited into the relevant bank account in a tax haven. This money is then invested back into India as white money. Thus, the cycle is completed smoothly, converting black money into white money, without paying any tax. More so, such money will not be taxed even on subsequent earnings since most of the tax haven countries have signed a Double Taxation Avoidance Agreement (DTAA) with India whereby the income so generated is mostly taxed in either of the two countries, and if such income is taxed in the tax haven, then the rate of tax is minimal. Thus, complete evasion of tax is maintained.

It is a known fact that such flow of black money out of a country into a tax haven can easily destabilize the financial market of a country. It is developing countries like India which are impacted more due to such flight of capital and hence we need to take immediate and stringent measures to put all this to an end. It has been estimated that every year, developing countries lose about $160 billion to such tax havens. Adopting urgent measures to curb such an outflow of black money is the need of the hour for India. The government has begun an eighteen month long exercise of conducting a study of unaccounted wealth both inside and outside the country touching upon issues like money laundering and its ramifications on national security. Also, the Budget has given a clear indication for dealing with illicit funds and imparting skills to the manpower for effective action. The Indian government has concluded discussions for 11 Tax Information Exchange Agreements (TIEAs) and 13 new DTAAs along with the revisions of about 10 existing DTAAs during the past one year. As per the Budget, the Foreign Tax Division of the Central Board of Direct Taxes has been strengthened and a dedicated cell for exchange of information will soon be set up to work on this agenda. The TIEAs will be a great tool for gaining information regarding unaccounted money because under such an agreement, India shall be able to seek specific information pertaining to the accounts held by certain depositors in the tax havens. However, such information sharing is not absolute in nature in the sense that information pertaining to only a certain depositor can be asked for and not of all the depositors holding accounts in that tax haven. The onus is on the government to make a case and demand information under such agreements. With the correct use of such provisions and other measures, India shall definitely be able to overcome this problem.

Author: Manila Munjal Sarkaria, Senior Associate at Chadha & Co.

South Delhi, Delhi, India Law Practice