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Trillions hidden in offshore accounts

The Caribbean island of Nevis, seen here from neighboring St. Kitts, and the Bahamas were the locations of secret accounts that Greene County optometrist David Alan used to avoid income taxes, federal prosecutors say. After a former employee reported him to the IRS, Alan pleaded guilty to tax evasion and went to federal prison in October.

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By Lou Kilzer and Andrew Conte 

Published: Sunday, July 8, 2012, 12:24 a.m.

More than half the world's money passes almost undetected through a series of financial black holes that shelter it from not only the tax collector but from shareholders, partners and wives, a Tribune-Review investigation found.

Once employed by gangsters such as Meyer Lansky and Lucky Luciano, these secret bank accounts have grown so vast and lawless that some experts tell the Trib they fear the amount of money involved threatens societies from China to Africa, Europe and the United States. World leaders railed against the impact of secret havens during the G20 summit in Pittsburgh three years ago.

“They have caused a huge imbalance in the market,” said John Christensen, director of London-based Tax Justice Network, which was established by the British Parliament in 2003 to examine tax issues worldwide.

“They are the very opposite of capitalism, which is supposed to be based on transparency. They are the shadow economy.”

From Switzerland and a couple of Caribbean islands, the black holes are in 70 or more countries. Christensen said studies by several organizations, including the International Monetary Fund, put the total stash at as much as $25 trillion.

In contrast, the Commerce Department pegs the gross national product of the United States at more than $15 trillion.

The black holes emit no light, according to organizations that study them, including the IRS. They hide owners and assets. Officers and directors are strawmen. Host countries get little, if any, taxes and earn fees mostly by promising to keep everyone in the dark. Few public records exist.

Owners revealed by accident typically are corporations in other black holes halfway across the world.

Though tax evasion and avoidance are only part of the reason for the shadow economy, they play a role. Tax losses to the United States amount to $1 trillion over a decade, according to the Congressional Research Service. That's the amount congressional leaders tried to cut in last summer's deficit showdown.

Across Europe, experts say tax dodgers undermine economies in places such as Greece and Spain, threatening the euro as a whole.

It isn't just tax dodgers or “old money” in New York or London who use the accounts. New players have caught on.

For every $1 that Western companies invest in China, a Trib analysis found, the Chinese hide $4 offshore.

From 2000 to 2009, that net illicit outflow totaled $2.74 trillion, according to Global Financial Integrity, which champions tax reform in the developing world.

“Corruption in China dwarfs the rest of the world,” Global Financial spokesman Clark Gascoigne said. “The economists here are very pessimistic about China's long-term prospects.”

James Henry, owner of the Sag Harbor Group in New York, an international business consulting agency, said he disagrees with the methodology that Global Financial uses to reach its figure, but agrees that there is significant capital flight from China. He said at least half of world funds pass through shadow jurisdictions, at least on paper.

China soon will see the effects of corruption in the failure of infrastructure the Communist Party built during the past decade, said Sarah Freitas, one of the economists who wrote the Global Financial report.

Until then, the Chinese appear determined to shovel their newfound wealth out of the country. A 2011 study by China Merchants Bank and Bain & Co. found that nearly 60 percent of wealthy Chinese have or will invest overseas.

The British Virgin Islands is a favorite haven. The islands' 30,000 people host more than 400,000 corporations – at least 13 for each resident.

A simple, shady process

Offshore accounts can hide wealth and disguise losses. Enron Corp. used off-shore accounts to hide weakness in its balance sheet, records show.

The shadow economy reaches virtually every place on Earth.

Western Pennsylvania companies have more than 300 subsidiaries in countries that federal researchers deemed to be “financial privacy jurisdictions,” such as the Cayman Islands, Singapore and the South Pacific island of Vanuatu. Nationwide, doctors set up Caribbean island accounts to hide assets in case of malpractice suits.

Anyone with an Internet connection could, for example, create a company in the Indian Ocean nation of Mauritius that would control a shell company in Wyoming and be run by a trustee in the Central American country of Belize.

Because it can be done so easily for just a few hundred dollars, a husband sitting at home could hide nearly all of a couple's money before driving to a courthouse to file for divorce.

‘Step ahead of the sheriff'

Americans who hide money illegally in foreign accounts cost the United States up to $70 billion a year, the Congressional Research Service reports.

David Alan, a Greene County optometrist, set up accounts in the Bahamas and the Caribbean island of Nevis to avoid income taxes. He claimed just $38 in income – and $4 in federal taxes – for a year when actual amounts were $242,740 in income and $66,898 in taxes, prosecutors said. Alan went to federal prison in October after a former employee reported him to the IRS.

“It's a blatant defiance of the tax law,” said Sybil Smith, acting special agent in charge of the Criminal Investigation Division at Pittsburgh's IRS office. “It shifts the tax burden to innocent taxpayers, and is that fair?”

Efforts to sweep up tax cheats largely have foundered. Since 2009 and the G20 summit in Pittsburgh, world leaders have stepped up enforcement but dodgers have moved money to more obscure hideouts.

Evasion was the tack followed by a Pittsburgh couple who opened a secret Swiss account in the 1960s. Because their bank was compelled to turn over account information in response to a U.S. indictment, the couple moved their money to a smaller, private Swiss bank and then to another. Finally, one of their grown children talked with Swiss bankers about coming clean to the IRS. U.S. prosecutors now are using the family to go after the bankers.

In all, more than 33,000 Americans voluntarily came forward in 2009, 2011 and this year to disclose $5 billion held in secret foreign accounts, the IRS said last month. No one knows how much remains hidden.

Rules that take effect in 2014 under the Foreign Account Tax Compliance Act require foreign banks to report holdings by Americans or be subject to a 30 percent withholding tax on money leaving the United States.

The Paris-based Organization for Economic Co-operation and Development has led the international effort to bring havens into compliance with information-sharing agreements about hidden bank accounts. Still, the group cannot estimate how much money remains hidden, according to Monica Bhatia, head of the OECD's Global Forum on Transparency.

“It's a work in progress,” she said. “As we progress, we're making life more and more difficult for people to hide money anywhere.”

Nations that benefit from taxes and bank fees on offshore accounts have no self-interest in helping developed countries track down hidden money, said Robert Kudrle, a professor at the University of Minnesota. “Nobody really wants to do anything, other than stay one step ahead of the sheriff.”

Countries pay high cost

Though the numbers are “squishy,” corporations using mostly legal tax dodges through subsidiaries in offshore financial havens cost the United States $60 billion a year, said Jane Gravelle, a researcher with the Congressional Research Service.

Offshoring combined with transfer pricing – in which profits are shifted to low- or no-tax jurisdictions – plays a big role, the service reports.

U.S. companies hold $22 trillion abroad, according to a Commerce Department annual survey, and much of it pools in places known for low taxes and tight secrecy: $1.25 trillion is in Luxembourg and Mauritius holds $34 billion.

Even when companies say they are using legal means to avoid paying taxes, it can lead to disputes.

Drug company Merck paid $2.3 billion in back taxes and penalties as part of a 2007 agreement with the IRS; GlaxoSmithKline paid the feds $3.4 billion in back taxes and fines a year earlier because of a transfer pricing dispute.

Lawmakers could close legal loopholes but don't, said Dhammika Dharmapala, an economist at the University of Illinois College of Law and an expert on corporate tax havens.

“It should be a no-brainer,” said Joseph Stead, senior economic justice adviser for Christian Aid, a British charity that tracks lost taxes in developing countries. “You have governments all over the world in desperate need of revenues at the minute, and this would help them track it down. And yet they're not.”

Secrecy first

Tax evasion no longer is the lead motivation for much of the money flowing into the shadow economy. Often, people simply want to hide what they have — either from law enforcement or lawsuits.

Websites offer to help small business owners protect assets from potential litigants and tell divorcees how to keep their former spouses from touching their assets. Money flowing from other countries ends up in states such as Wyoming, Nevada and Delaware with low reporting requirements.

Corruption, kickbacks, bribery and illicit trade pricing throughout developing countries accounted for most of the $8.4 trillion siphoned out in the century's first decade, according to Global Financial.

In developing countries, the amount of money leaking out often equals or exceeds aid flowing in, Stead and other experts said. Fixing that problem could reduce dependence on foreign aid.

Ethiopia's 94 million people are among the world's poorest, with per capita income of about $1,000 by CIA estimates. The country received $829 million in development assistance in 2009.

The Global Financial analysis found that the Ethiopian elite transferred $3.26 billion out of the country that year. The impact of that lost bounty, it said, is clear: “The people of Ethiopia are being bled dry.”

­­———

Editor's note: This story is one in a series on hidden money.

Lou Kilzer and Andrew Conte are staff writers for Trib Total Media. Kilzer can be reached at 412-380-5628 or lkilzer@tribweb.com. Conte can be reached at 412-320-7835 or andrewconte@tribweb.com.

 

 
 


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