Value Movement in Illegitimate Way: A Cost to Economy?

 

Misinvoicing is a practice where a business entity is said to misrepresent intentionally the value, quantity or nature of goods or services in an invoice, in order to either evade taxes, launder money, or to take advantage of national policies. There are basic reasons why misinvoicing is done. By misrepresenting the value of goods or services in an invoice, an entity can reduce the amount of taxes it has to pay. For example, if an entity imports goods worth 100 US dollar, but declares the value as 50 US dollar in invoice, it can reduce its tax liability.

Misinvoicing can also be used to launder money by artificially inflating or deflating the price of goods or services. This can help to transfer illegal money in a legitimate channel. It can be used to facilitate illegitimate transactions by misrepresenting the type or quantity of goods being transported across borders. This can support to avoid detection and seize a greater profit margin.

One of the most significant costs of misinvoicing is the loss of tax revenue. When entities misrepresent the value of goods or services in invoices, they are able to pay less in taxes, which can result in significant revenue losses for the Governments. This, in turn, can lead to reduced funding for public services such as healthcare, education, and infrastructure, resulting in hindrance of economic growth.

Misinvoicing is not always a way to illegitimate transfer of money. In many cases, it is used as method to take advantage of trade. This is a price-cut to distort trade flows by giving entities an unfair advantage over competitors. For example, if an entity is able to understate the value of exports, it can sell its products at a lower price compared to its competitors. This can result in a loss of market share for legitimate businesses and can ultimately harm economies.Overall, misinvoicing can be a significant cost to the economy, both in terms of lost tax revenue and distortions to trade and financial flows. It is important for Governments and businesses to take steps to prevent and detect illegitimate movement of value in order to ensure a level playing field for all participants in the economy.

In the short run, entities that engage in misinvoicing may benefit from reduced tax liabilities, increased profits, or a competitive advantage over other businesses. However, in the long run, the consequences of misinvoicing may be severe. Governments may impose fines or other penalties on entities that are caught engaging in misinvoicing, which can result in significant financial losses. In addition, misinvoicing can damage an entity’s reputation, which can lead to a loss of customers and revenue. It can be reiterated that misinvoicing can have a negative impact on the overall economy by reducing tax revenue, distorting trade flows, and facilitating illicit financial activities. These effects can harm businesses, individuals, and governments, and can ultimately undermine economic growth and stability. It can be said that entities may perceive short-term benefits from engaging in misinvoicing, the long-term consequences can be severe and far outweigh any potential benefits. It is important for businesses to operate with integrity and in compliance with relevant laws and regulations, in order to ensure long-term success and contribute to a healthy and thriving economy.

Restrictions on external payments can create incentives for businesses to engage in misinvoicing, as they may seek to circumvent these restrictions in order to access foreign currency or to conduct international transactions. When businesses are unable to make external payments through official channels, such as banks or foreign exchange markets, they may turn to informal or illegal channels, which can increase the risk of misinvoicing and other illicit financial activities. If restrictions are imposed, as an example, on foreign currency that needs to be purchased or transferred abroad, businesses may seek to evade these restrictions by sourcing alternatives. This creates demand for illegitimate transactions which are supported by misinvoicing as supply for access to foreign currency that would otherwise be restricted. Ultimately this market bypasses payment of taxes.

It is seen that restrictions on external payments can create opportunities for intermediaries to facilitate misinvoicing or other illegal activities in exchange of illicit compensation. On the other side, restrictions on external payments are in place for legitimate reasons, such as to protect a country's foreign exchange reserves or to prevent capital flight; they can create incentives for businesses to engage in misinvoicing and other illegal activities. It is important for Governments to balance these competing interests and to ensure that any restrictions on external payments are implemented in a transparent and accountable manner, in order to minimize the risk of misinvoicing and other illicit financial activities. It is a severe problem that undermines transparency and accountability in business transactions, distorts trade flows, and can facilitate illicit financial activities. There are several strategies that can be used to trade off misinvoicing.

Governments can implement regulations that require businesses to accurately report the value of goods and services in their invoices, to pay taxes on those transactions, and to comply with trade policies and anti-money laundering laws. They can also increase the penalties for noncompliance and improve enforcement mechanisms, such as by investing in technology and training for officials concerned. Governments can promote transparency and information-sharing between businesses and government agencies, such as by implementing electronic invoicing systems or establishing trade data exchange platforms. This can help to reduce the opportunities for misinvoicing and increase the likelihood of detection and enforcement.

Businesses can play a key role in preventing misinvoicing by operating with integrity and in compliance with relevant laws and regulations. This can involve implementing robust internal controls and compliance programs, conducting due diligence on business associates, and promoting ethical business practices. But there are some fundamentals leading to encourage misinvoicing: these are high tax rates, restrictions on trade and cross border transactions. Addressing these underlying issues, such as by implementing tax reforms and relaxation in executing cross border foreign exchange transactions, can help to reduce the incentives for misinvoicing and promote a more transparent and accountable business environment.

Overall, addressing misinvoicing requires comprehensive and multi-faceted approaches that involve cooperation between governments, businesses, and other stakeholders. Implementing effective strategies to trade off misinvoicing can help to promote transparency and accountability in business transactions, reduce the risk of illicit financial activities, and foster a more sustainable and equitable global economy.

It is easy to say but difficult to implement. The narratives as presented above are text-book type discussion. Misinvoicing is reported to have been detected in recent time under cross border trade in goods. But trade in services is another side of international transactions, movement of which does not require declaration at regulatory points. These are another window to bypass regulations for movement of funds, along with transfer payment like wage remittances, can be used for settlement of payments which is not generally permitted like investment abroad, transfer of sales proceeds of non-residents’ assets, etc. There needs a rationale to create a situation for overcoming the causes of illegitimate market for funds. Attention is needed to two items in particular - relaxation of cross border transactions, and of tax structures. Otherwise, existence of illegitimate demand will create supply in disguise of trade transactions, and by wage remittance without official movement of fund.


Mehdi Rahman works in
the development sector.