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The Leverage of the General Anti Avoidance Principle

by Matti Ylönen (14/08/06)

When it comes to tackling tax avoidance, I have understood that in one sense Finland is in rare company: it has adopted the general anti avoidance principle (GAAP) as part of its legislation. I think that this state of affairs could have some really interesting impacts on campaign work for tax justice.

In countries that don't have the general anti avoidance principle, the boundaries of legitimate tax planning are defined by listing the allowed and prohibited acts in different areas of business. For lawyers and accounting firms this has created endless possibilities in their search for loopholes in tax law: everything goes as long as it does not explicitly violate the letter of law (I'm not a jurist, so feel free to comment if there are any terminological errors).

The ingenuity of the general anti avoidance principle is simple. By introducing GAAP, all transactions that are done merely for seeking to lower company's tax burden are prohibited. This can effectively curb aggressive tax planning.

Of course, having a GAAP and effectively implementing it are two different things, and the Finnish tax administration and the Ministry of Finance haven't exactly shown enthusiasm in tackling tax avoidance. One example of the careless attitude is that no one knows the scale of tax avoidance and evasion in Finland. The information on the topic is scattered and partial.

Other thing is that the Finnish GAAP is written in civil law, which means that using distorted transfer prices in intra-firm trade isn't actually criminalised. If a company gets caught from distorting its transfer prices, it will only be served with an extra tax bill and an obligation to mention the issue by giving a public announcement and in their annual report. This is, I believe, anyhow a big incentive for not using aggressive tax schemes.

Yet another thing is that the GAAP is toothless in curbing the use of export processing zones and their tax holidays. For example, the Finnish forest industry company Metsä-Botnia has recently been target of severe criticism (see TJN Focus 1/2006, PDF document) in Uruguay where it is building a huge paper mill with full tax exemptions.

An educated guess is, however, that in general the big Finnish companies engage in aggressive tax avoidance through transfer mis-pricing or thin capitalisation much less than their competitors in e.g. U.S. There are some major Finnish companies with tax haven subsidiaries, but having one (yes, one, not several of them) seems to be more like an exception than a rule. Quite on contrary with situation in the U.S., I would say.

One reason behind this reluctance in using offshore subsidiaries is certainly the GAAP. Another one is that paying taxes has traditionally been considered as a responsibility in the Nordic welfare state model, and I think that tax avoidance has more negative image in Finnish corporate culture and in the eyes of Finnish consumers than in many other countries.

Here are the interesting prospects for campaigning: if big Finnish companies engage in aggressive tax avoidance less than some of their global competitors, it would certainly be an advantage for them to implement the key principles of the SustainAbility's "Taxing Issues" report, most importantly by reporting the taxes paid by different subsidiaries in their corporate responsibility (CR) reporting. I recently discussed this issue with the head of tax consultancy division of the PricewaterhouseCoopers Finland, and got very positive response to SustainAbility's principles, as a way for showing global corporate responsibility.

Secondly, curbing the harmful tax practices should be in the interests of the Finnish business community. They should demand that the state would work actively in international arenas for this goal. The foreign competitors that rely on extensive use of tax havens get certainly a competitive edge, at least in the short term (in the long term the negative image and tax risks may actually offset the quick savings, especially as taxes are rising in the CR agenda). Closing this "offshore gap" would definitely be good for those major Finnish corporations that do pay their fair share of taxes.