What Free Roaming Chickens and Accounting Tricks Have in Common

Is offshore tax avoidance a victimless crime? That was the question underlying my recent visit to the Cayman Islands, where I spent a whirlwind weekend helping to film a BBC2 documentary on the real-world impact of tax havens on economic inequality.

On paper, at least, the Cayman Islands is an economic powerhouse. The latest data from the Internal Revenue Service show that U.S.-based corporations claim that their subsidiaries earn $51 billion a year there, an astonishing figure for an island nation that has a population of just 59,000.

But official statistics peg the size of the entire Caymans economy at just $3 billion a year. Put another way, for every $1 of economic activity that occurs in the Caymans, American corporations are telling the IRS that they earn $16.

In this context, my visit to the Caymans was a surreal exercise in “Where is Waldo”: could anyone find any evidence that these billions in alleged Cayman profits enjoyed by American corporations are actually flowing through the local economy and affecting the lives of the island’s residents?

The answer is categorically no. The only visible indicators of handsome corporate profits are a number of low-slung, nondescript buildings that dot the country’s small capital, George Town. Seldom more than a few stories high, these modern buildings have virtually no in-and-out traffic, giving the impression that all are closed for an extended holiday. The most infamous of these is Ugland House, the building in Grand Cayman where 18,000 corporations claim they have subsidiaries. President Barack Obama drew attention to it in 2009, when he joked that it was either “the largest building in the world or the largest tax scam in the world.”

Just a stone’s throw away from these Potemkin office buildings, in which Bank of America alone disclosed basing 143 subsidiaries in its 2013 annual report, chickens casually wander across unpaved streets lined with broken-down cars. Most of the residents of these neighborhoods who have jobs work in tourism, which is made possible by the country’s pearly white beaches, not the financial or manufacturing industries.

After several high-profile investigations of tax haven abuse by elected officials in the United States and the United Kingdom, we’re more familiar with the broad outlines of how the Cayman Islands facilitates tax avoidance.

Companies earn profits in countries with advanced economies and then take elaborate steps to make it appear that these profits are earned in tax haven countries such as the Cayman Islands or Bermuda. Typically this is done by having a corporation with valuable intellectual property, like patents or trademarks, put that property in the hands of a shell corporation in the Caymans, which then leases the right to use this intellectual property back to the parent corporation. While this transaction is essentially invisible in the real world, requiring virtually no corporate personnel in these tax havens to execute, its effect on the location of corporate profits is profound: the Cayman Islands subsidiary reaps huge profits from leasing patents, and the U.S. or U.K.-based parent corporation is able to reduce its taxable profits through the large expenditures it allegedly incurs by paying for the use of its own patents.

A brief visit to the dilapidated neighborhoods of George Town makes it obvious that this tax accounting chicanery benefits only a wealthy few Cayman custodians and offers nothing to those who live in the shadow of desolate office buildings.

Offshore tax avoidance is not a victimless crime.

While Bank of America, for example, claims multiple subsidiaries in the Cayman Islands, it certainly doesn’t employ many of the island’s residents. The same can be said for myriad other profitable corporations that falsely claim they are earning huge profits there. Tax havens have precisely the same effect on poor families the world over. Earlier this year, Oxfam released a report showing that the global elite have an even greater share of the world’s income. Part of the reason, it finds, is a “global network of tax havens” that enable corporations and individuals to dodge taxes.

Dodging taxes perpetuates income inequality and cripples nations’ ability to fund vital public investments that benefit their entire populations. In the United States, we face daunting fiscal challenges as we seek to pay for basic services in an environment with growing national debt.  The tax avoidance enabled by a steady flow of paper profits from the United States to the Cayman Islands and other tax havens directly affects our ability to raise adequate revenue. Congress has the power to change this.