Domestic resources are the largest and most important source of finance for sustainable development. In the developing world as a whole, domestic revenues exceeded US$7 trillion in 2014, compared to $2.1 trillion in international capital inflows. Domestic resource mobilization remains a key challenge however for the world’s poorest countries. The 42 countries classified by the UN as ‘Least Developed’ (most of which are in Africa) mobilized just 14.7 percent of GDP in tax revenues in 2014, compared to over 26 percent for advanced economies, on average. Supporting developing countries to mobilize more domestic revenues is critically important for development.
Ensuring that African nations benefit from oil and mineral exploitation, and secure adequate revenues from their precious natural resources, has been a major focus for governments, donors and civil society organizations over recent years. Diamonds are a particularly important commodity export for several sub-Saharan African countries. In 2017, Botswana exported $4.4 billion in diamonds, and was the world’s 8th largest exporter. In Namibia, diamonds account for more than 45 percent of the country’s export revenue. In Lesotho, diamonds are 15 percent of exports. Combined, Africa represents about 60 percent of world diamond markets.
Diamonds are supporting economic transformation in many African countries. President Mogae of Botswana has said, “for our people, every diamond purchased represents food on the table; better living conditions; better healthcare; safe drinking water; more roads to connect our remote communities and much more.” But the industry is also ripe for tax abuses. While Africa’s so-called ‘blood diamonds’ mobilized significant international attention and action (culminating in the Kimberley Process (KP) Certification Scheme to stem the flow of conflict diamonds), issues around diamond taxation have not captured our collective imagination in the same way. For countries dependent on these precious stones for much-needed revenue, millions of dollars are at stake when assessing their value for tax purposes.
Enter Tax Inspectors Without Borders (TIWB) and the African Tax Administration Forum (ATAF). The revenue authorities in Botswana and Lesotho have called on both entities to support them to tackle suspected tax abuses in the diamond sector and to build the skills and capacities they need to tax it more effectively and predictably in accordance with international standards and principles.
What are the major problems? First, diamonds in Africa are often found in fragile states where institutional capacities are weakest and technical expertise is limited. Weak institutions are more vulnerable to corruption, and there are fewer highly trained personnel. Casual, highly-mobile labour and cash societies also make it difficult to detect smuggling and track diamond sales and transactions.
Second, there is no international benchmark as regards a diamond’s value. For example, diamonds are used in heavy industry, and products such as drill bits can be valued at as little as $5 per carat or they can be hundreds of thousands of dollars a carat. The value of ‘rough’ diamonds (those that are unpolished and uncut) is determined by several factors, such as clarity, cut, colour and carat. Industry experts are needed to advise governments on correct valuation before export.
Third, the diamond supply chain is dominated by a few international companies that are able to control supply and prices, and shift profits around through undervaluation on the one hand and high marketing and royalty fees on the other. These practices are largely responsible for suppressing tax revenues from the industry for diamond producing countries in Africa.
“The complexity of diamond valuation can be formidable,” notes William Nkitseng, Director of the large taxpayer unit at Botswana’s United Revenue Service. The cases that Botswana is currently dealing with forced the tax authority to realize how much it needed both international tax audit and diamond industry expertise, which is why it turned to ATAF, the OECD and UNDP for support under TIWB.
There are serious skills deficiencies within local tax administrations. Local tax auditors need to have not only tax expertise in areas such as transfer pricing, but understand the diamond industry, otherwise they will lose revenue. TIWB and ATAF are providing support to Botswana and Lesotho to build their tax audit capabilities, matching highly qualified tax audit experts with diamond industry specialists, and working side-by-side with local tax auditors on real cases. TIWB’s objectives are to equip officials with the tools and skills needed to tax local economic activity and value creation in accordance with international standards and principles, which in turn will help create a predictable environment for taxpayers.
TIWB and ATAF support is just one component of a broader suite of interventions that aim to ensure the diamond industry is better managed and is more transparent. Other ways to tackle challenges in the industry include South-South support and, in particular, learning from the experiences of other African countries such as Ghana, Liberia and Sierra Leone (all diamond producers). In Sierra Leone, the authorities are implementing revenue sharing schemes with communities so that local people receive direct benefits from the precious stones. In Liberia, the government is attempting to formalize informal labour in the artisanal mining sector by setting up cooperatives. Regional harmonization of laws and rules could also help to combat smuggling and a race to the bottom tax-wise. Finally, companies also have a duty to act responsibly.
Looking forward, Africa is rich in resources, and there are probably many undiscovered deposits. But diamonds are also a non-renewable resource; when they are gone, they are gone forever. This means it is even more important to capture their value and ensure that they benefit the local economy. Governments need to be equipped to use current and future opportunities well and convert their mineral wealth into meaningful development revenue for their citizens. Tax Inspectors Without Borders is proud to be a partner in this effort.
About the authors
Gail Hurley is a policy specialist on development finance and project manager for Tax Inspectors Without Borders at UNDP. Follow her on Twitter: @gailmlhurley
James Karanja is head of the Secretariat for Tax Inspectors Without Borders. Follow him on Twitter: @kairukaranja