Volatile truths about the Nairobi International Financial Centre

By Ian-Johnson Ondari

There is an unusually volatile piece of legislation being deliberated that could have an overbearing impact on the legal and economic infrastructure, if enacted in its present form. The Nairobi International Financial Centre Bill (2016) will undeniably culminate in attrition of fundamental constitutional principles, barring the associated economic implications owed, in part, to the delicate governance structure.

The International Financial Centre (IFC) was the brainchild of Kenya’s Vision 2030, and is aimed at encouraging Foreign Direct Investments (FDI) through the creation of a well-functioning financial system. Ideally, IFCs are jurisdictions whose laws and institutions provide optimal conditions for the financial services industry. Evidence from IFCs established in dominant economies, such as Dubai, Qatar and Zurich, suggests that increased mobility of capital inflows in such situations is premised on the assurance of light regulations, which range from tax breaks and moderated transparency obligations.

Financial centres are venues for agglomeration of cross-border trading activities, open to either domestic or international participants. Countries, especially developing countries, set up IFCs to attract capital to enable them raise their borrowing power, create jobs and expand their domestic markets by streamlining national economies with the global economy. Examples of IFCs in Europe include London, Luxembourg, and Zurich; in North America, New York and Toronto; in Asia, Tokyo, Singapore, and Hong Kong; in the Middle East, Dubai; in South America, São Paulo; and in Africa, Johannesburg.

Nairobi International Financial Centre Bill

The key concern with the draft NIFC Bill has to do with its provisions. For instance, Section 17 has provisions that bar officials of the Nairobi International Financial Centre Authority from disclosing information they come across in the performance of their duties. The section further sets a three-year jail term and a two hundred thousand shilling fine for any breach. The principle contention surrounding this Bill, however, lies with Section 3, which states, “Where there is any conflict or inconsistency between this Act and the provisions of any other Act in matters relating to the purpose of this Act, this Act shall prevail”. Literal interpretation of this provision would usurp the hierarchy of laws as established by the Constitution under Article 2.

These two provisions should be considered in view of Article 35 and Article 2(4) respectively, to reveal the extent to which this Bill fails to take into these constitutional provisions. Financial secrecy is the crux of tax havens; the confidentiality clause intentionally shields public interest proceedings into illicit transactions by participants, while at the same time controlling prescribed conduits through which disclosure should occur. Daniel Schorr, a veteran American journalist, elegantly captures this scheme with his remark: “I have no doubt that the nation has suffered more from undue secrecy than from undue disclosure. The government takes good care of itself.”

Domestic Resource Mobilisation

Article 35 on access to information is the backbone of majority of public interest proceedings instituted by civil society organizations.  IFCs operate in an environment favoured by low or no foreign corporate taxes and lack of transparency in the tax system, for the reason that there is an ineffective exchange of tax information with other. The prevailing sentiment that can be deduced from the limited literature in the public domain on the NIFC points to the likelihood that the NIFC may grant tax incentives, including a maximum 10-year tax break, along with VAT and customs exemptions.

From a domestic resource mobilisation perspective, the cost–benefit analysis of setting up IFCs in a developing country is impractical. The National Treasury is championing an IFC on the foundation that Kenya should be a “catalyst” in Sub-Sahara’s growing financial services market, a very noble cause if it could be achieved in a vacuum, separate from the quirks of the executive arm. The process of drafting this NIFC Bill is a testament of how the government is slowly mutating into an enemy of its honest people. It gives the impression that zero official accountability is the objective, since specific laws exist to greatly limit what can be discussed in the funeral of good governance.

What is the social cost?

Experience from jurisdictions like Ghana provide that the social costs of operating a tax haven include the likelihood that it could facilitate large-scale corruption and tax evasion therefore posing a risk to governance and economic growth, both domestically and regionally. Already Kenya is haemorrhaging over Sh153 Billion from its annual revenue due to tax incentives and exemptions for the benefit of multinational and domestic companies, according to a report by ActionAid International. In 2012 a report, Global Shell Games: Testing Money Launderers’ and Terrorist Financiers’ Access to Shell Companies, found that Kenya’s incorporation services provide one of the easiest routes of setting up anonymous companies. There are very real concerns that an IFC established in a current deficient governance infrastructure might promote money laundering or finance terrorism.

Attiya Warris (2014) highlights the obstacles to establishing an IFC in Kenya. Kenyan law makes it difficult to set up a separate authority with broad powers and independence, establishment of an ad hoc dispute resolution system for IFC-based companies whose autonomy will be limited by the Kenyan Judiciary, tax secrecy cannot be guaranteed being a member OECD’s multilateral framework: Global Forum on Transparency and Exchange of Information for Tax Purposes, thus the domestic tax regime is subject to peer review and finally the constitutionally provisions recognising tax rights. Noticeably, Kenya has evolved into a democratic space since the promulgation of the Constitution in 2010. Article 10 provides a list of national values and principles of governance that bind state organs and officers.

The government has the responsibility to ensure a transparent and democratic debate around this process, taking into account domestic resource mobilisation. According to the World Bank, domestic resource mobilisation is essential in achieving the Sustainable Development Goals through increasing flow of taxes and other income into government treasuries. To fund social objectives countries need to collect more taxes – presently the challenge in majority of the developing countries is the inability to ensure tax compliance, coupled with weak revenue administration and poor governance. Then again, the objective of such countries would be guarding against base erosion and profit shifting.

Warris points to the predicament of aid-recipient countries by surmising that some features of the IFC undermine crucial goals for instance tax collection, domestic revenue generation, and financial integrity and transparency.

The outstanding question is whether Kenya can set up a financial centre bereft of the financial secrecy and detrimental tax practices. Tax breaks to transacting participants don’t expressly guarantee FDI, because for developing countries, stable governments than an optimum tax treatment primarily determine economic growth. Tax incentives could mean the government has to resort to indirect taxation to supplement its capital account, encouraging capital flight in the process. Foreign transactions within Kenya’s economic realm could have far-reaching consequences aside from complicating the fiscal policy-making scheme, resulting in sovereignty concerns.

Conclusion

In 2010 when Ghana set out to establish an offshore financial centre, in consultation with Barclays Bank, Jeffrey Owens (then head of OECD Tax Centre) cautioned, “The last thing Africa needs is a tax haven in the centre of the continent”.

Call them by any other name, but a jurisdiction that seeks to establish an inquiry-proof financial cocoon under the guise enhancing cross-border trading activity is, in actual fact, creating a tax haven (IFC is a deliberate euphemism for tax havens).

The benefits of the NIFC might not be as magnanimous as sold after all, if we uproot and implement the Qatari Model. The Qatar Financial Centre offers an independent court, tribunal and dispute-resolution structure. It also offers 100 per cent repatriation of profits, nil restriction on standard trading currency, 100 per cent foreign ownership, and 10 per cent tax on locally sourced profits, among others. This is the model Kenya might adopt through a technology transfer MoU signed with the Qataris on April 2015. The best-suited alternative would be to develop a model of IFC applicable to the Kenyan economic and policy realities.