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A taxing question: is globalisation compatible with national sovereignty?

Words by:
Account Executive
March 29, 2019

Amid the political turmoil surrounding Brexit, you would be forgiven for missing the recent row about British Crown Dependencies and financial transparency. On 4 March, the House of Commons was due to vote on the Financial Services Bill, a piece of legislation concerning the regulation of financial services in the event of a ‘no deal’ Brexit. However, the government pulled the bill at the last minute because they feared that they would be defeated on an amendment requiring Jersey, Guernsey and the Isle of Man to introduce public registers detailing who owns companies registered there.

The government’s move to delay the bill was not just an attempt to avoid the embarrassment of yet another defeat; it was also done to avert something much more serious – a constitutional crisis. Legislation passed in Westminster does not usually apply to Crown Dependencies, and their consent typically accompanies legislation that does apply. The UK government does have the power to impose legislation on the Crown Dependencies as a last resort, but this power is seldom used and would represent a break with convention. As such, any attempt by Westminster to interfere in the domestic matters of Crown Dependencies without their consent could present the UK with yet another constitutional headache.

Following the release of the Paradise Papers in 2017, in which Jersey and the Isle of Man featured prominently, there has been an increased focus on the Crown Dependencies and the role they play in facilitating tax evasion, tax avoidance and money laundering. The move to force the islands to publish details of anyone owning more than 25 per cent of a company registered there aims to increase transparency. In response, the dependencies argue that they are already committed to transparency and provide ownership details to law enforcement and tax authorities within 24 hours of a request.

However, while stricter rules on financial transparency in the Crown Dependencies may make it more difficult for some to engage in activities that are either illegal or deprive governments of revenue, the debate masks an even greater problem: tax. Guernsey, Jersey and the Isle of Man all have a standard corporation tax of zero per cent, with some higher rates (but not greater than 20 per cent) applicable to firms in certain industries, for example, Jersey charges financial services companies ten per cent corporation tax. The rate of corporation tax in the UK is currently 19 per cent and set to fall to 18 per cent by 2020. The average corporate tax rate in the EU is 22.5 per cent; France has the highest corporation tax at 34.4 per cent and Hungary the lowest with nine per cent.

The advantageous corporate tax rates available in the Crown Dependencies have played a large role in attracting companies to register there; as of December 2018, collectively they were home to 76,000 companies. This amounts to one business for every three residents, whereas the UK has one firm for every 11 residents. In 2017, the EU placed the Crown Dependencies on a ‘grey list’ of jurisdictions that had committed to reform their tax structures to avoid being branded ‘tax havens’. The EU is particularly concerned that firms route profits via the Crown Dependencies to avoid paying taxes in EU member states, weakening the tax base in those countries. In response, the Crown Dependencies have introduced stricter requirements on businesses to prove they are truly resident in either Guernsey, Jersey or the Isle of Man. However, it is unlikely the new regulations will significantly reduce the number of firms registered in Crown Dependencies.

The Crown Dependencies are not the only entities to have drawn the attention of the EU over their corporate tax rates. Ireland has a corporate tax rate of 12.5 per cent, a rate that has encouraged companies such as Apple and Google to base their operations there. In January, the European Commission published a proposal to remove national vetoes of tax matters and to use qualified majority voting instead. The move has been strongly opposed by the Irish government, on the basis that a new voting system will remove Ireland’s ability to set corporation tax rates at the level it wishes.

At heart, the debate about financial transparency and tax comes back to one question: how can national sovereignty be reconciled with a globalised economy? Governments, in competition with each other to attract businesses, have an incentive to lower taxes and loosen regulations. The only way to avoid this potentially damaging race to the bottom is global cooperation, either voluntary or enforced. However, the former may not be possible because of the incentives faced by governments, and the latter would involve countries voluntarily giving up power over tax policy.

The UK is finding out first-hand that determining the ‘optimal’ amount of sovereignty is a tricky business, but it is a question that many more countries will have to grapple with in the near future. Globalisation has made it easier for capital to cross international borders, while public opinion concerning which decisions should be made at the level of the nation-state has remained relatively static. Harmonised tax and regulatory systems may win the economic argument, but as the political landscape confronts a more globalised world, it’s not always the economy, stupid.

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