The Panama Papers are back in the news, as the U.S. brought its first indictments against four men connected to Mossack Fonseca, an offshore account used to launder money and avoid taxes.
This week, while researching the papers, I came across an interesting piece of research by Juliana Londoño-Vélez at UC Berkeley that used some special circumstances in Colombia to examine how the leaked papers impacted reporting of assets. Her paper is titled: “Can Wealth Taxation Work in Developing Countries? Quasi-experimental Evidence from Colombia.”
This is interesting because there is much debate about the behavioral responses to wealth taxes and enforcement, and Colombia provides a unique opportunity because they imposed a series of wealth taxes and they required yearly reporting on wealth.
Here’s a brief summary of Londoño-Vélez’s study.
The unique situation in Colombia
It’s difficult to study behavioral responses to wealth taxation. The problem is threefold because:
- Few countries collect data on wealth
- It’s rare to find an event that occurs that’s large enough to impact behavior
- It’s difficult to measure responses to taxation, especially because secrecy is what makes tax shelters popular
The situation in Colombia and the release of the Panama Papers provides an opportunity to overcome these challenges.
First, Colombia is one of the few countries that collects extensive data on the assets and debts of individuals. Second, the release of the papers is a big event that changed behavior—there is a clear before and after. And the collection of data allows researches to see how transparency impacted behavior. And finally, in 2015, Colombia introduced a voluntary disclosure scheme designed to help track assets in which individuals who disclosed offshore sheltered assets would have past tax bills waived.
What the study compared
Basically, the Panama Papers and the public release of certain individuals who were sheltering money gave Londoño-Vélez two comparison groups of wealthy individuals: Those in the papers and those not in the papers.
In Londoño-Vélez’s words:
What I’m doing is comparing people that are named in Panama Papers and those who are not and then the likelihood that they disclose hidden wealth before and after the leak.
Results
One of the best charts from Londoño-Vélez’s research looks at the probability of disclosing hidden wealth and compares the two groups: those outed in the Panama Papers compared to everyone else.
For the wealthiest filers, those in the top .01 percent, 40 percent participated in the voluntary program. This share rose to 71 percent for tax filers identified in the Panama Papers. Across the board, participation increased dramatically for those subject to transparency.
As Londoño-Vélez writes about the 2015 voluntary disclosure program:
Halfway through the scheme, the Panama Papers news story broke, shocking perceived detection probabilities and raising disclosures by more than 800 percent.
The following figure shows the dramatic increase in compliance after the Panama Papers were released.
This suggests that the transparency provided by the Panama Papers leak in 2016 raised the willingness of tax evaders to disclose hidden wealth.
Implications
Colombia is one of the most unequal countries on earth, with the top 1 percent owning 40.6 percent of the total wealth. They are second only to the United States, where the top 1 percent own 41.8 percent of total wealth. The similarities in wealth inequality also appear in income inequality.
Progressive taxes on wealth are one way to address this inequality.
The following figure illustrates how wealth taxation and the voluntary disclosure scheme raised tax progressivity at the top of the wealth distribution.
The gray curve plots income taxes in 2014, before the wealth tax was reintroduced. The black curve plots income and wealth taxes in 2017, while the dashed blue curve adds penalties from the disclosure program.
Based on results in Colombia, Londoño-Vélez argues that there is clear evidence individuals respond to wealth taxes and enforcement initiatives and expanding the coverage of third-party reporting. In her words:
Expanding the coverage of third-party reporting, coupled with a systematic cross-validation of reported information and increased scrutiny of high net worth taxpayers, are first-order concerns in improving tax compliance. Further, policies to encourage the reporting of foreign assets are particularly important to curb offshore sheltering at the top of the distribution. As such, voluntary disclosure schemes represent tools to help the tax authority collect new information about offshore assets and income, and to generate more revenue from wealthy taxpayers. For such programs to be effective in improving compliance in the short and long term, stricter enforcement must be coupled with tough noncompliance sanctions and a credible threat of detection, for instance, by exploiting the automatic exchange of tax information and whistleblower data.
Long story short: Reporting, transparency, and enforcement work to stop tax evasion.
David Akadjian is the author of The Little Book of Revolution: A Distributive Strategy for Democracy (print or ebook).