IMF Report Claims 40% of FDI is for Tax Avoidance Purposes
In a September 2019 report titled The Rise of Phantom Investments, the International Monetary Fund claims that close to 15 trillion dollars—or 40% of the world's foreign direct investment (FDI)—is kept by shell companies for the purpose of avoiding taxes.
According to the IMF's report, a lot of the FDI making it across the globe "is phantom in nature—investments that pass through empty corporate shells" and "have no real business activities."
Instead, the report suggests that these paper companies "carry out holding activities, conduct intrafirm financing, or manage intangible assets—often to minimize multinationals' global tax bill," which, in turn, "blurs traditional FDI statistics and makes it difficult to understand genuine economic integration."
The study goes on to report, "investments in foreign empty shells could indicate that domestically controlled multinationals engage in tax avoidance," and "that foreign-controlled multinationals try to avoid paying taxes in the host economy."
Speaking to the Financial Times, Brad Setser, an economist at the Council on Foreign the US, said that the IMF's study shows that "these structures — phantom companies or phantom investments — are optimised for minimising firms' global tax."
"Apple does not produce its iPhones in Ireland, nor does Apple design them or develop the majority of its operating system in Ireland [but] one of the most valuable US foreign direct investments now is Apple's ownership stake in Apple Ireland," Setser said.
Luxembourg & The Netherlands Lead the Way in Phantom FDI
The IMF singles out Luxembourg and the Netherlands as the two countries possessing close to half of these phantom investments.
Once you include Hong Kong, the British Virgin Islands, Bermuda, Singapore, the Cayman Islands, Switzerland, Ireland, and Mauritius, 85% of the world's phantom investments are accounted for.
More specifically, the IMF questions the nature of Luxembourg's massive economy considering its miniscule population.
Authors Jannick Damgaard, Thomas Elkjaer, and Niels Johannesen posit: "Luxembourg, a country of 600,000 people, hosts as much foreign direct investment (FDI) as the United States and much more than China. Luxembourg's $4 trillion in FDI comes out to $6.6 million a person. FDI of this size hardly reflects brick-and-mortar investments in the minuscule Luxembourg economy."
As explained by the IMF, these jurisdictions attract FDI by offering extremely low or virtually non-existent corporate tax rates. In return, they benefit since these shell companies "contribute to the local economy by buying tax advisory, accounting, and other financial services, as well as by paying registration and incorporation fees."
Considering these findings, the UK's Financial Times editorial board suggest it's time to scrap current FDI statistics, which they believe tell the world little about the state of its economy.
The Financial Times' editorial board writes: "FDI statistics are no longer fit for purpose. The IMF needs to work with other international bodies to develop new ways of measuring international capital flows, allowing for genuine investment to be reported separately from its ghostly counterpart. It makes little sense to treat profit-shifting and building a new factory the same. Incorrect capital flow data has given a false picture of global economic imbalances."
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You can download the full IMF publication HERE.