Tax havens in U.S. cross hairs

With $345 billion in lost revenue, tolerance for off-shore avoidance fades.

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When Barack Obama or John McCain enter the White House next January, either one will face a crucial problem: How to raise revenues or cut spending to shrink the massive federal budget deficit.

Tax economist Martin Sullivan suspects that Senator Obama will go for the "low-hanging fruit" first – that is, chasing down wealthy tax evaders, individual and corporate. Obama signed on to the Tax Haven Abuse Act, a bill introduced in 2007 by Sens. Carl Levin (D) of Michigan and Norm Coleman (R) of Minnesota.

Senator Levin figures that secretive offshore tax havens cost the federal government $100 billion in lost tax revenues each year. That's part of the total "tax gap" – the amount of unpaid taxes owed by individuals, corporations, and other organizations – estimated by the Internal Revenue Service (IRS) to be $345 billion.

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As Levin sees it, these tax evaders are "willing to rob Uncle Sam and offload their tax burden onto the backs of honest taxpayers." His bill will be reintroduced next year. If the nation's economic woes continue, lawmakers will probably have a more difficult time opposing legislation that could raise billions by thwarting efforts that amount to illegal tax evasion.

Tax havens have existed for many decades. That's because some commercial banks have effectively blocked legislation to curtail their activities, explains Lucy Komisar, co-chair of the US wing of the Tax Justice Network, a London-based group. Banks, she charges, make a "lot of money" from placing private financial accounts in such places as the Cayman Islands, Bermuda, the Isle of Man, etc. The business has been growing for years.

But the tolerance toward tax havens on both sides of the Atlantic appears to be weakening. In Europe, tax havens were brought into the public eye this year by a juicy scandal involving secret bank accounts in Liechtenstein. A multimillion dollar sum was paid to an informer who provided hundreds of names behind tax-dodging accounts held by German business tycoons, about 100 American taxpayers, and tax cheats from other nations.

In Washington, the IRS stated in February that it is "initiating enforcement action" against the 100. It said "combating off-shore tax avoidance and evasion are high priorities." But so far, no further word on the action has emerged.

The Bush administration, in Ms. Komisar's view, has been inadequate in tackling tax-haven losses. While Senator McCain hasn't talked about tax havens on the campaign trail, Obama has frequently referred to Ugland House in Grand Cayman, a building that houses thousands of tax haven corporations, as "the biggest tax scam on record."

Komisar is hopeful that Obama will push for the Levin bill, if elected. Maybe closing or limiting tax havens is "an idea whose time has come," she says.

Mr. Sullivan sees greater efforts to close tax havens as a "twofer." It would raise substantial revenues. It also would trim the growing income gap in the United States between the wealthy and the middle and lower classes, since the wealthy are more likely to use tax havens than those with less income.

An IRS report obtained by the Wall Street Journal in March indicated that the nation's top 400 income-tax payers (with at least $100.3 billion in adjusted gross income) controlled 1.15 percent of the nation's total income in 2005 – twice the share they controlled in 1995. Over that same period, the average effective income tax rate paid by this same group fell from 30 percent to 18 percent. The Bush tax cuts aided this shift. Also, there is a suspicion that the use of tax havens has increased. Money transfers can be done electronically and easily with the help of a bank. It is no longer necessary to cart bushels of money in a briefcase to some remote island.

Joel Slemrod, a tax economist at the University of Michigan Business School, Ann Arbor, sees tax havens as "clearly a bad thing." They enable many small island nations to "commercialize" their sovereignty at the expense of mostly industrial nations, he says. Tax havens have given tiny nations a lucrative job-creating business. The Cayman Islands, for instance, has 5,400 financial-services employees.

[Editor's note: The original version misspelled Ms. Komisar's name.]

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