19/09/2016 07:45 BST | Updated 20/09/2017 06:12 BST

Nine Middle East Countries At Risk Of EU Sanctions Over Tax Governance

The European Commission has put nine Middle Eastern and North African countries on notice that they are at risk of measures being taken against them to deter tax avoidance. The nine countries (see table below) are Bahrain, Israel, Jordan, Morocco, Oman, Qatar, Saudi Arabia, Tunisia, and the United Arab Emirates (UAE). The countries are on the EU's scoreboard published on 14 September as its first step in considering what action to take against them as part of the EU's strategy to clampdown on tax avoidance. The nine Middle Eastern jurisdictions are among a total of 81 countries that passed a minimal threshold for further screening. The next step is for the EU's Code of Conduct Group to decide which of the 81 states require more in depth investigation. The outcome of that investigation will be the listing of jurisdictions that refuse to co-operate or engage with the EU regarding concerns over good tax governance.


Source: European Commission, DG Taxation and Customs Union

The European Commission compiled the list after screening 160 jurisdictions for strength of relations with the EU, the materiality of the financial sector to each country's economy and the country's overall stability as a destination for investors. Countries that ranked high for all of these so-called selection indicators were then evaluated for three risk factors: extent of financial transparency, preferential corporate tax regime and no or zero-rated corporation tax. Lack of transparency was viewed as a risk factor for all nine Middle Eastern states on the scoreboard. Concerns over preferential tax regimes or zero-rated corporation tax were noted for the majority of the nine as well.

Those Middle Eastern and North African countries, such as Algeria, Egypt or Iran not included amongst the 81 cannot take any comfort from their omission. In all but one case, they did not make the list of 81 as they are considered too unstable to offer an attractive destination for investors seeking to avoid tax payments in EU member states (see table below). The exception was Kuwait, the only GCC state not on the list of 81. The strength of Kuwait's economic ties with the EU are not material enough to warrant inclusion for further screening.


Source: European Commission, DG Taxation and Customs Union

The EU's clampdown on tax avoidance has implications for both Middle Eastern governments (whether they are on the list or not) and for investors in the region. For the region's governments, this is an issue that they cannot ignore and is going to require considerable effort to manage. Failure to engage with the issue and to have a strategy for addressing it risks more than EU sanctions. There is also damage to the country's reputation, difficulty in accessing foreign investment needed for economic growth and the reluctance of financial institutions to lend.

Those Middle Eastern governments that do engage on this issue can turn the issue to their economic advantage. Adopting a proactive and transparent approach to this issue will enhance a country's reputation as a investment destination. It will give citizens, investors and lenders more confidence in the government's economic policy. Where having a reputation as a low tax jurisdiction was once a prerequisite for attracting foreign investment, it is no longer sufficient. Investors and institutional lenders are increasingly distrustful of countries that are secretive or where information is difficult to obtain. At the same time, they are also hungry for information and data. Low tax remains attractive but in an age where reputations can be won or lost due to a single tweet, a larger audience has to be satisfied that economic policy is sustainable.

Investors in the region face increased scrutiny from home governments, regulators, customers and ordinary citizens of the governance surrounding their investment decisions. Exposure to countries which are known for poor governance or association with tax avoidance is increasingly a liability on the reputation balance sheet. The consequences can go beyond critical articles, blogs and tweets and include fines from regulators and and convictions of senior executives for fraud or other crimes.

The EU's clampdown on tax avoidance is part of a wider trend to ensure companies pay an equitable amount of tax and that governments receive taxes commensurate with the economic activity that takes place within their borders. The OECD has initiatives in this area as do a number of individual countries. It is also not an issue confined to the developed economies of Europe and North America. Some African, Asian and Latin American governments are also active in this area. This trend started more than 15 years ago in the oil, gas and mining industries. High profile cases involving companies such as Google and Apple show that it is spreading to all sectors of the economy. Middle Eastern governments and companies are not insulated from this trend. They will find themselves under more scrutiny regarding governance around their tax affairs.