Executive summary
This report is the product of a joint project between the OECD’s Centre for Tax Policy and Administration and the National Treasury of South Africa to analyse illicit financial flows (IFFs) in South Africa. This study considers that IFFs comprise cross-border financial flows that are illegal in origin, transfer or use, and therefore do not include tax avoidance. While the study measures all IFFs the policy discussion focuses on tax-related IFFs, noting that non-tax related IFFs could be more significant. Using new taxpayer microdata, including anonymised data exchanged under the Common Reporting Standard (CRS) and information collected under South Africa’s voluntary disclosure programmes (VDPs), the study quantifies the scale of non-tax-compliant assets held abroad by South Africans, and sheds new light on taxpayer responses to global and domestic tax transparency initiatives.
IFFs pose a major threat to many developing and emerging economies, as they undermine domestic resource mobilisation efforts. In the context of relatively narrow tax bases and constrained tax administration capacity, IFFs erode the public revenues that countries need to invest in their social and economic development. Apart from their damaging effects on public revenues, IFFs can also erode the investment base of countries and undermine the public’s confidence in the integrity of the tax system.
The report finds that IFFs continue to represent a significant challenge for South Africa, with the analysis estimating that between USD 3.5 and 5 billion in IFFs are leaving the country each year. This estimate, which represents approximately 1-1.5% of South African annual GDP, is derived from estimates of between USD 40 and 54 billion in hidden South African-owned assets held in international financial centres (IFCs) in 2018. These figures may also reflect the impact of state capture in South Africa during 2009-18, including the deliberate weakening of the South African Revenue Services during 2014-18, as evidenced by the dismantling of its Large Business Centre and removing top management (as noted in the first part of the report of the Judicial Commission of Inquiry into Allegations of State Capture chaired by Judge Zondo).
IFFs are particularly harmful in South Africa due to the significant fiscal challenges that the country faces. These stem from low growth in the past, rising debt levels, and socio-economic challenges such as high rates of poverty, labour market informality and unemployment, as well as the strain placed on South Africa by the COVID-19 pandemic. Against this backdrop, more effective efforts to curtail IFFs and combat tax evasion will be needed as part of South Africa’s overall fiscal strategy.
While IFFs are inherently secret and therefore difficult to measure, this study adopts a novel approach that is based on CRS data, which is a new, more granular and country-specific data source. Many prior studies have focussed on errors and omissions in global macroeconomic statistics, which risks conflating measurement errors with IFFs, and may lead to biased and enlarged estimates. Unlike other approaches, in this paper the estimates of IFFs are based on the assumptions that IFFs from South Africa are not tax-compliant, regardless of the type of flow (e.g. smuggling, illicit trade, or corruption), and that these flows are likely to end up in financial accounts in IFCs. These two assumptions together allow the use of the stocks of foreign wealth reported under the CRS to estimate all IFFs of various kinds leaving South Africa over recent years.
New taxpayer data, including from VDPs highlights that tax evasion has a long history in South Africa and that most of it has been concentrated among the very wealthy. VDP applications suggest that taxpayers evaded taxes on average for about 10 years, with the largest share of hidden wealth declared through these programmes belonging to top income recipients.
Transparency initiatives, such as the CRS and domestic VDPs have played an important role in South Africa’s efforts to date to tackle IFFs. The study presents evidence that the expansion of information exchange has produced significant taxpayer behavioural responses, with some taxpayers declaring their hidden wealth for the first time. Under South Africa’s special VDP, 375 taxpayers reported a total of USD 349 million, which has resulted in the payment of an additional USD 30 million in taxes. Importantly, a significant spike in the numbers of taxpayers declaring previously undeclared wealth is observed immediately before the commencement of the Automatic Exchange of Information (AEOI). In addition, the analysis of tax return data suggests that a further USD 20 million may have been disclosed in the form of ‘soft disclosures’, where a taxpayer increases taxes paid without formally participating in a VDP.
While these results represent important steps in the right direction, more needs to be done to improve tax compliance and more effectively address IFFs in South Africa. While the exchange of taxpayer information (EOI) and the use of VDPs has helped improved tax compliance, the report makes a number of concrete recommendations on how South Africa can tackle IFFs more effectively in the future. For example, the report recommends:
Improved analytical capacities: in the tax authority to make better use of CRS data is identified as a key priority.
An increase in the use of existing EOI treaties for requesting information held abroad on specific taxpayers: particularly with well-known IFCs, should be pursued.
Better use of exchanged information and improved matching of CRS data with taxpayer records. South Africa could make better use of Exchange of Information on Request to follow up on information exchanged through AEOI, with only a small number of requests currently being sent to partners each year. Assistance provided through Tax Inspectors Without Borders (TIWB) could be helpful in this regard, with TIWB now providing experts to directly help interpret and analyse data exchanged for tax purposes on a confidential basis.
Enhanced collaboration and augmented data sharing across relevant authorities: is needed to strengthen analytical and enforcement efforts, including through the onward sharing of CRS data with other law enforcement agencies. The OECD’s Fighting Tax Crime – The Ten Global Principles, provides a useful framework for South Africa and other countries to gauge progress against fighting tax crimes. It sets out ten essential principles covering the legal, institutional, administrative, and operational aspects necessary for developing an efficient and effective system for identifying, investigating and prosecuting tax crimes, while respecting the rights of accused taxpayers.
The report also highlights that ongoing analysis of IFFs is crucial to understanding them better. This study, which utilises new data sources on cross-border financial accounts, contends that further analysis based on CRS data offers a credible and robust methodology for estimating IFFs, and suggests that studies such as the present one could be replicated for a range of developing and emerging economies in the future to help tackle IFFs and boost domestic resource mobilisation.