In July last year, President Uhuru Kenyatta signed into law the Nairobi International Financial Centre Act, 2017. The act provides the legal framework to ‘facilitate and support the development of an efficient and globally competitive financial services sector in Kenya.’ It further establishes the Nairobi Financial Centre Authority (NIFCA), which was created to ‘establish and maintain an efficient operating framework in order to attract and retain firms.’
This came amid warnings from observers, however, that despite the implementation of the NIFCA, Kenya could become a tax haven.
Earlier this year, the Tax Justice Network – Africa released the Financial Secrecy Index 2018 Report, which ranks Kenya first in Africa and 27th in the world on its Financial Secrecy Index. Observers argue that the new law, which had hardly come into force when this report was released, is likely to ‘facilitate tax dodging by companies and individuals in Kenya and worldwide.’
According to the report, financial secrecy occurs when an entity refuses to share information with legitimate authorities. In financial administration regimes where secrecy is protected, individual and corporate entities are able to escape or undermine laws, rules and regulations. International financial centres (IFCs) have been used elsewhere to facilitate money laundering, tax evasion, tax avoidance, and other harmful practices. The Seychelles, for instance, has been linked to international corruption and money laundering.
So, what are the implications of Kenya’s nascent but fast-growing financial secrecy jurisdiction?
Critics of the new law argue that it could be used to evade tax and various regulations, and allow non-resident entities to operate in the country without having to show their contribution to the economy. This would significantly lower levels of taxation.
Multinationals, including accounting and banking firms, as well as major political powers, maintain ring-fenced tax-free financial interests in secrecy jurisdictions like Mauritius and Liberia. Mauritius serves as a gateway for capital flowing into and out of the African continent and India. Liberia, on the other hand, is notorious for its ‘flags of convenience’ shipping registry. Tax Justice Network describes such registries as ‘maritime versions of tax havens, allowing shipping operators to do what they would not otherwise be allowed to do at home, whether it be paying taxes properly, or evading environmental regulations or other prohibition.’ Over 450 oil rigs, active in countries like the US, Angola and Nigeria, are registered to Liberia.
Analysts warn that Kenya, similarly, could become a tax haven, and that the new law could encourage base erosion and profit shifting – tax avoidance strategies that exploit gaps and mismatches in tax rules to artificially shift profits. In turn, this may be to the detriment of Kenya’s economy: contrary to the government’s intentions.
Shortly after independence, Kenya adopted an ambitious plan to mobilise resources for rapid economic growth through what was then called African socialism. However, this was soon overshadowed by a powerful and coercive bureaucracy, characterised by capitalism and self-interest.
More than 50 years after independence, Kenya’s development, or lack thereof, is an outcome of a vicious cycle of vested interests. Many of these were inherited from British colonial extractive institutions, which were not designed to keep profits within the colonised countries.
This led to an environment that allowed money laundering to thrive. Systemic corruption has become ‘institutionalised’, and political elites are frequently implicated in scandals involving crimes like bribery, drug trafficking and poaching.
Since independence, Kenya has seen the embezzlement of billions of shillings intended to be invested in the country’s governance, growth and development. This problem has become entrenched, as the proceeds of corruption are constantly transferred abroad or laundered back into the economy through various schemes, especially investment in real estate.
Joy Ndubai argues in the Business Daily that ‘a strong secrecy regime combined with a corruption-ridden economy is certainly a recipe for disaster with a potential to facilitate illicit financial activity without the need of accessing offshore jurisdictions.’
Kenya relies heavily on corporate tax, which occupies a relatively large share of the total revenue at more than 40%. This is because the country has a narrow tax base, with fewer taxpayers within the population and limited diversity in sources of tax revenue.
The government has been eager to favour the corporate sector by offering a low-tax environment to attract investment, but this is likely to have adverse effects. The latest Global Financial Institute Report shows that between 1970 and 2017, illicit financial flows were higher than foreign direct investment (FDI). Another survey by the World Bank says that 93% of the investors would have invested regardless of whether tax incentives had been on offer.
Jeffery Owens, former president of the OECD, once warned that ‘the last thing Africa needs is a tax haven in the centre of the African continent’. His warning was directed against Ghana’s initiative to set up an IFC in 2010. The IFC failed to attract FDI and stimulate economic growth – instead, weak internal regulation opened it up for exploitation by shrewd global players, which saw Ghana blacklisted. Even after shelving the IFC, Ghana continues to suffer the aftershocks of its catastrophic venture.
Many of the conditions seen in Ghana are also present in Kenya. Kenya should review the challenges that come with compromised financial integrity and a lax regulatory environment, and instead pursue reforms such as more transparency in the operations of firms; a public registry of listed firms; the disclosure of beneficial ownership information; and enforcement of the law in the event of violation – strategies that have, arguably, worked for South Africa. The executive should not appoint, constitute and oversee the NIFCA, because this would lead to an undue influence over its operations. Public participation and oversight is crucial.
Deo Gumba, ENACT Regional organised crime observatory coordinator – East and Horn of Africa, ISS; and Paul McOlaka, independent financial consultant and researcher, Kenya
