BEPS Strategies: Trade Mis-invoicing

Trade mis-invoicing refers to the deliberate over- or under-invoicing of goods or services in international trade transactions to facilitate illicit financial activities such as money laundering, tax evasion, or the illegal movement of capital.

It involves intentionally misstating the value, quantity, or description of goods or services in invoices, bills of lading, or customs declarations. This practice allows individuals or companies to move money across borders without detection by authorities, often to hide illicit profits, evade taxes, or launder money.

Types of Trade Mis-invoicing

1. Over-invoicing:

Over-invoicing occurs when the value of goods or services is intentionally inflated on invoices, allowing the importer to pay more than the actual value of the goods, while the excess money is transferred back to the exporter or a related party in a different jurisdiction.

2. Under-invoicing:

Under-invoicing involves declaring a lower value for imported goods or services than their actual market price. This allows the importer to pay less in customs duties, taxes, and tariffs while the exporter receives more than the stated value of the goods or services, either in cash or other means.

3. Misdescription of Goods or Services:

In this case, the nature or quantity of the goods involved in a trade is misrepresented in order to conceal the real value or to divert attention from the actual goods being traded. This can include falsifying the type of goods being exported or imported. E.g., listing high-value products as lower-value commodities to mislead customs and regulatory authorities.

Over- or under-invoicing allows companies to under-report profits or over-report expenses, facilitating tax evasion. It is also a common method for trade-based money laundering, where the manipulation of prices, quantities, or qualities of goods helps move illicit funds across borders undetected, complicating authorities’ efforts to trace the funds.

Example of Over-invoicing

A company based in Malta sells goods to a related entity in Kenya. The Maltese company intentionally overstates the invoice value of the goods being shipped to Kenya by 50%.

• Tax Evasion: The Kenyan company over-declares the goods imported to the customs authorities. This allows them to claim higher inputs for excise duty and VAT, as well as a high deductible expense, lowering their taxable income.
• Money Laundering: The Maltese company receives 50% more money than the real value of the goods and sends the extra amount back to the Kenyan company through illicit channels, perhaps as a kickback or in the form of a refund, making the funds appear legitimate.
• Profit Shifting: Malta is a low-tax jurisdiction. Therefore, the over-invoicing allows the Maltese company to shift profits artificially from Kenya to Malta, reducing overall tax liabilities for both companies.

Key Implications

• Loss of Government Revenue: Trade mis-invoicing leads to significant losses in government revenues, as the true value of imports and exports is not properly declared.
• Economic Distortions: Mis-invoicing distorts trade statistics, making it difficult for governments and organizations to assess trade balances and economic performance accurately. When widespread, it creates an uneven playing field, giving companies engaging in these practices unfair advantages and undermining fair competition.
• Corruption and Illicit Financial Flows: Mis-invoicing is often linked to corruption, especially in countries with weak regulations, where officials may overlook irregularities in exchange for bribes. This practice facilitates illicit financial flows, including money laundering, and allows funds to be transferred out of developing countries, depriving them of essential resources for development.
• Undermining Global Tax Compliance: Companies use trade mis-invoicing in intra-group transactions to shift profits between high-tax and low-tax jurisdictions, undermining efforts to combat base erosion and profit shifting (BEPS). This weakens international tax treaties and hinders the work of institutions like the OECD and World Bank in promoting fair tax systems and addressing tax avoidance.
• Legal and Reputational Risks for Businesses: Trade mis-invoicing is illegal and can lead to fines, penalties, and criminal charges. It also damages a company’s reputation, causing customers, investors, and partners to withdraw, resulting in long-term harm to the brand and market position.
• Impact on Financial Stability: Trade mis-invoicing distorts business financial reports by inflating expenses through over-invoicing or under-declaring revenue via under-invoicing. This affects financial stability and investor decision-making. Additionally, banks facilitating trade financing may face increased risks, potentially becoming involved in illicit activities like money laundering.
• Humanitarian and Development Impact: Trade mis-invoicing in developing countries leads to lost tax revenues, limiting resources for essential public services, worsening poverty, and hindering sustainable development.
• Challenges for Regulatory Authorities: Trade mis-invoicing is hard to detect due to complex transactions and false documentation. Effective monitoring requires better coordination among customs, tax authorities, and international bodies, as gaps in enforcement can allow illicit practices to continue.

Conclusion

Combating trade mis-invoicing requires proactive efforts from governments, international organizations, and businesses to strengthen enforcement, enhance transparency, and improve cross-border cooperation. This includes investing in technology and data-sharing to detect discrepancies, supporting multilateral initiatives like the OECD’s BEPS efforts, and fostering collective action to curb illicit financial flows, protect national revenues, and ensure a fair global trade environment.

Contributors & Contact Persons

Irene Masecko

Tax Associate

irene.masecko@keandersen.com

Marco Manyenze

Associate Director

marco.manyenze@ke.andersen.com