Offshore Act aims to tackle tax fraud in Bulgaria

On December 20th, Bulgaria’s Parliament passed a law banning offshore companies from 28 key economic sectors, from banking to insurance funds and media ownership. Although this act is likely to further deteriorate FDI performance in the short term, it will undoubtedly improve Bulgaria’s global investment climate in the long run.

For the past seven months, tens of thousands of Bulgarians have taken the streets of Sofia in daily protests in front of the Parliament to call for a radical fight against endemic corruption and the overhaul of Bulgaria’s political system. Despite such relentless mobilisation and two successive no-confidence votes from the Parliament, Plemen Oresharski’s new socialist-led government has so far refused to comply with protestors’ claims.

The rocky road towards greater transparency

However, December 20th provided Bulgarian civil society with a glimpse of hope. After the recent scandal around the involvement of President Plevneliev and mogul Prokopiev in an offshore scheme, the Parliament finally agreed on adopting on second reading the “Act on Economic and Financial Relations of Companies Registered in Jurisdictions with Low Tax Regime and their Real Owner”.

Offshore zones are defined in the act as countries where income or corporate tax rates are 60% lower than respective rates in Bulgaria. This law represents the first concrete attempt by the new government to fight major endemic issues of Bulgaria’s grey economy: shady company ownership, tax fraud and evasion and money laundering.

Initiated by Yordan Tsonev and Deylan Peevski, two MPs from the Liberal Party Movement for Rights and Freedoms (DPS), the Offshore Act bans companies operating directly or indirectly in Bulgaria and registered in offshore zones from participating in a total of 28 central national economic activities.

These companies will no longer be allowed to take part in public procurement tenders, concessions or mineral explorations in the country. They will also be excluded from buying state or municipal properties, participating in privatization transactions, pension funds, television and radio markets, acquiring licenses of insurance, gambling and credit institutions or running professional football clubs.

Yordan Tsonev explains that “all transactions that are not market ones and are suspicious will be levied on”. In effect as of January 1, 2014, the act envisages fines from 10 000 leva for forged documents to 1 million (500,000 euros) in case of repeated violation. Those restrictions will however not apply for offshore companies that are publicly listed on EU stock exchange markets or part of an economic group whose owner is a clearly identified Bulgarian entity.

Capital of unknown origin

Rumen Gechev, former Bulgarian deputy Prime Minister, acknowledges that a significant part of Bulgarian public assets have been bought, since the fall of communism, by companies whose real owners are still unknown. Many offshore companies take part in major deals in Bulgaria and win public procurements tenders without any transparency and clarity about the origin of the money involved. Today, foreign investments into Bulgaria’s green energy facilities constitute a privileged way of money laundering.

From the early 1990s to the late 2010s, around 20% of foreign investments into the Bulgarian economy came from well-known tax havens or micro-states such as Virgin Islands, Liechtenstein, Cyprus or Malta, significantly exceeding the volume of direct investment coming from large investor countries (France, Germany, Italy and the US).

Offshore companies in Cyprus own around 2.2 billion euros of Bulgarian capital, followed by Luxembourg with 1.6 billion and Switzerland with 1.2 billion. Moreover, with countries that have partial offshore status such as the Netherlands, Ireland, Austria or Hungary, offshore investments in Bulgaria reach the dramatic amount of 23 billion euros. That is almost 60% of all FDI in the country.

FDI from those locations does not act as trustworthy assets and does not participate in economic restructuring and industrial upgrading. On the contrary, it may be detrimental to development prospects as hypermobility may materialize as additional bargaining power (menace of exit) for foreign investors in the face of undesirable host country policies.

Slow but undeniable progress for Bulgaria’s investment climate

Given the considerable part of FDI originating from offshore zones, the serious decline of foreign investment in the country this year (a drop of 50% compared to 2012) and increasing political instability, the Offshore Act is likely to further deteriorate Bulgaria’s FDI performance and prospects on the short term.

Although concerns remain regarding its clear and rapid implementation, the Offshore Act will certainly prove beneficial on the long run. It will improve the country’s investment climate thanks to greater transparency of tax systems and assets ownership, promoting the exchange of information and the disclosure of offshore zones around the world as well as countering the heavy hand of criminal organisations over business activities by limiting money laundering.

According to the European Parliament, an estimated 1 trillion euros of potential tax revenue is lost every year to tax fraud, tax evasion, tax avoidance and aggressive tax planning in the EU, threatening the EU social market economy, the proper functioning of the Single Market and the quality of public services.

The Offshore Act is a small, but meaningful contribution to tackle corruption and fraud, and progress towards a fairer and more transparent tax system within the EU. Concrete benefits from this newly adopted act remain contingent upon the successful implementation of fundamental legal and judicial reforms in line with EU requirements.

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Categories: Economics, Europe

Author:Louise Meloy

Louise Meloy is a recent MSc Graduate in Political Economy of Europe from the London School of Economics and Political Science. Her MSc Dissertation provided a comparative analysis of the impact of political conditions (government effectiveness, state capacity, rule of law, level of perceived corruption…) on Foreign Direct Investment in Slovakia and Bulgaria, demonstrating the importance of good institutional bases in generating positive spillovers for host countries. She also holds a MSc in European Studies with Distinction from the Université Libre de Bruxelles and previously achieved her BA in Political Science and Sociology at Paris Dauphine University. Her areas of specific interest include the analysis of Political and Economic transitions in Western, Central and Eastern Countries as well as the study of Interest Groups and Economic Policy Making in the EU. Currently, she is working as an Intelligence intern at AKE Group, providing political and security risk research and analysis on European and Former Soviet Union Economies.

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