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Ethics: lessons of the Panama Papers

Accountants need to remember to take an ethical approach, says Neil Arnott

June 2016

Let’s start with a little quiz. Here goes: Who – or what – is Mossack Fonseca? Is it:
A. A rather pleasant Chilean white wine?
B. A Uruguayan centre-forward who plays for Barcelona?
C. A Panamanian legal firm at the heart of a ‘leak’ which indicates it was involved in activities facilitating money laundering and tax evasion on a global scale?
The answer is, of course, C – although you would have been forgiven for never having heard of it until a few weeks ago, when over 11 million documents from the company were leaked (the ‘Panama Papers’). These papers reveal, among other things, vast numbers of individuals and companies using ‘off-shore’ companies, many of which are based in UK crown dependencies and overseas territories such as the Cayman Islands and the British Virgin Islands.
Mossack Fonseca deny they have done anything wrong, and claim their activities have been misrepresented. So let’s have a look at the key issues in a story that is likely to run and run.
Big corporations and wealthy individuals generally like to minimise the amount of tax they pay – and there is nothing wrong with avoiding tax. Tax avoidance means the use of legal tax planning to reduce a tax liability – a simple example is the use of an individual’s annual investment allowance in an ISA. This is simply sensible tax planning – it is perfectly legal and makes sound financial sense.
Tax evasion, on the other hand, is the illegal avoidance of tax; it could be by understating income, overstating expenses or simply not declaring income that would otherwise be taxed. These activities are, of course, both unethical and illegal.
However, there is a huge area which falls somewhere between tax avoidance and tax evasion. The release of the Panama Papers probably only confirmed what most people have known for a long time – that the bigger the corporation or the wealthier the individual, the ‘murkier’ their finances become.
It is not illegal to form, or be a director or shareholder of an offshore company – one that has its base in one of the so-called tax havens. It has been estimated that $7.6 trillion (a trillion is a 1 followed by twelve zeroes!) – or 8% of the world’s wealth – is safely tucked away in tax havens, with extremely low (or zero) tax rates. The effect of this is that around $200 billion a year of tax revenue is potentially lost. To put this into context, this is approximately the same as the gross domestic product (GDP) of South Africa!
By ‘hiding’ the ‘true’ nature of business structures, by ensuring that profits are only made in countries with low tax rates while losses are recorded where the tax relief is highest, and by investing personal wealth in ‘shell’ companies that operate under a veil of secrecy, the wealthy are able to avoid paying tax – but this of course relies on having access to expert advice on how to establish these extremely complex arrangements. This is where ‘specialists’ such as Mossack Fonseca come in, and in addition to solicitors there are also accountants who offer such advice and support.
While there is nothing wrong – legally or ethically – with helping clients avoid tax, there is perhaps a greater issue here. It has emerged that many of Mossack Fonseca’s clients were of ‘dubious’ integrity, including individuals against whom economic sanctions were already in place. One of these was Alaa Mubarek, the son of former Egyptian president Hosni Mubarek. In 2011, the EU had imposed economic sanctions on both father and son, freezing all their assets. Yet in 2013, just two years later, Mossack Fonseca incorporated a company by the name of Pan World Investments – the beneficial owner of which was none other than Alaa Mubarek.
Mossack Fonseca claim that they undertake client due diligence (CDD) on all new clients, yet this was clearly lacking in rigour as they either failed to identify Mubarek as the beneficial owner – or conveniently ignored the fact. Remember, the main purpose of CDD is to investigate the true nature of a potential client to identify if there are any ethical or other reasons not to accept them as a client. There are a number of examples of this process failing that have emerged from the leaked records.
There are a number of clear messages that the Mossack Fonseca case highlights for accountants with regard to their professional ethics. We all study professional ethics – and are subject to our professional body’s code of ethics – yet here is a real-life situation where they appear to have been ignored and it has taken an anonymous whistleblower to bring them to light.
Anyway, enough of such unethical behaviour... did someone mention a nice glass of Chilean white wine?
• Neil Arnott is a course tutor at Premier Training

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