Conduits of Capital

gains, even if it involves offshore transactions (recently
implemented in e.g., Kenya and Tanzania). Leaving aside
the issue of enforcement (which requires transparency
and information sharing), efforts to collect taxes at source
(including capital gains tax) should somewhat mitigate the
concerns related to tax evasion.
Taxation is a contentious subject and has become more
so since the financial crisis. Governments struggling with
mounting deficits have become more vigilant in verifying
that companies and investment companies pay their
obligations. Supported by civil society, governments in
developing countries including Africa have increased their
efforts to capture tax revenues from international investors
in order to fund economic development—even if they are
sometimes conflicted in this endeavour by their desire to
be tax competitive vis-à-vis their regional neighbours. Also,
in light of rising inequality there is a desire to ensure that
financial investors are not treated more favourably than
ordinary citizens. As a result, tax is at the heart of many of
the debates surrounding ‘offshore’ financial centres.
Tax is often a cornerstone of the competitiveness of regional
and in particular administrative centres. Favourable tax
policies have often been used by certain jurisdictions in
order to attract the financial community. Certain countries
with robust fiscal positions such as Dubai have always had
very low taxes, both personal and corporate. Others such
as Ireland have proactively adopted favourable corporate
and personal tax regimes in order to attract businesses.
Given that capital is increasingly mobile, investors will
look closely at tax in order to assess the attractiveness of
different locations.
However, it is worth looking in a little detail at the nature
of the various taxes that might apply in the course of this
debate. This may shed light on which taxes are the most
important for investors. Investors and fund managers will
be most concerned at a business level with taxes on profits
and on the ability to repatriate profits in hard currency
without punitive charges. They will also want to have the
ability to make investments cross borders without incurring
additional taxes or charges (or being taxed twice on the
same profit). This involves having favourable double tax
treaties between various countries. Beyond the absolute
levels of tax, businesses also favour regimes that are
relatively simple and easy to understand. There should be a
readily available supply of legal firms and accountants that
can enable international investors to transact easily and
with little extra transaction costs.
This creates incentives for companies, banks and funds
to use certain jurisdictions for either setting up funds or
financial vehicles which can act as conduits for investment.
This seems entirely logical since companies and investors
are seeking to maximise their net returns. But the practice
of using ‘tax efficient’ jurisdictions is attracting criticism.
This is primarily on the basis that many companies or
investment funds have substantial activities in particular
countries but they pay very little tax in those countries at the
corporate level.
The private equity industry has come under criticism for
using only certain tax efficient jurisdictions for creating their
funds and for all the administrative functions that surround
them. Centres such as the Cayman Islands, Luxembourg
and Mauritius have been able to benefit substantially from
this. In the case of Africa, Mauritius has benefitted from
many funds and financial vehicles which have been created
for investing into Africa. NGOs and others have argued that
this activity should be rightfully located ‘onshore’ in one
of the major African markets such that the development
benefits can be captured there. However, it should be
borne in mind that Mauritius does not only serve as an
‘administrative financial centre’ for African markets but also
for other significant investment destinations such as India.
This means it captures a significant amount of business and
hence is able to build expertise and scale. The providers
of these services can benefit from economies of scale that
allow them to be competitive on costs.
Beyond that, personal taxation needs to be competitive
to make it worthwhile for foreign professionals to consider
being based in the financial centre. By itself, personal
taxation policy is relatively less important in its ability to
attract financial institutions or investment funds. Even in the
UK where personal taxation rates were increased after the
financial crisis of 2008, few firms relocated to other centres.
But to offer meaningful advice on tax, more work is needed
to understand the incentives that guide the actions of
fund managers. In light of this, one can better understand
whether certain African countries would be able to create
tax environments that are better able to compete. However,
the tax analysis would need to include not only national tax
policy but also aspects of tax on cross border capital flows
and double taxation treaties.
Conduits of Capital – Onshore Financial Centres and Their Relevance to African Private Equity
| 109