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Corruption and
Financial crime, corruption and tax evasion
tax evasion: a cross-country
investigation
Ines Amara 545
King Faisal University, College of Business Administration-
Department of Accounting, Al-Ahsa, Saudi Arabia, and
Hichem Khlif
Faculty of Economics and Management of Sfax, University of Sfax, Kerkennah,Tunisia

Abstract
Purpose – This paper aims to examine the relationship between the financial crime and tax evasion and
tests whether corruption moderates such a relationship.
Design/methodology/approach – Tax evasion measure is based on Schneider et al. (2010). Financial
crime is collected from Basel anti-money laundering (AML) report.
Findings – Using a sample of 120 countries, the authors find that the level of financial crime is positively
associated with tax evasion. When testing for the moderating effect of corruption, they document that the
positive relationship between financial crime and tax evasion is more pronounced for high corrupt
environments.
Originality/value – The findings have policy implications for governments aiming to combat tax evasion
and financial crimes.
Keywords Corruption, Financial crime, Tax evasion
Paper type Research paper

1. Introduction
Financial crime becomes a widespread phenomenon for both developed and developing
countries and it has an adverse effect on social and economic progress, particularly in
developing and transition economies (Witherell, 2004). Therefore, examining the economic
consequences of financial crime is critical for governments to alert them about its heavy
costs. More specifically, understanding its economic consequence on tax evasion is crucial
for governments that aim to combat tax evasion practices.
Previous studies dealing with the determinants of tax evasion at country level have
considered several variables including economic and demographic determinants (Gabor,
2012; Picur and Riahi-Belkaoui, 2006; Riahi-Belkaoui, 2004; Richardson, 2006), national
culture (Richardson, 2008; Tsakumis et al., 2007)[1] and sustainability level (Khlif et al.,
2016). Accordingly, we try to extend this stream of research by integrating a new variable
namely, financial crime, based on the recent Basel anti-money laundering (AML).
Furthermore, we try to investigate whether corruption level moderates the association
between financial crime and tax evasion. To the best of our knowledge, this study is the first
to examine empirically the direct effect of financial crime on tax evasion[2]. Journal of Money Laundering
Control
Vol. 21 No. 4, 2018
pp. 545-554
The author acknowledges the Deanship of Scientific Research at King Faisal University for the © Emerald Publishing Limited
1368-5201
financial support. DOI 10.1108/JMLC-10-2017-0059
JMLC Based on a sample of 120 developed and developing countries, we find that the level of
21,4 financial crime is positively associated with the level of tax evasion. When we distinguish
between low- and high-corruption countries, we document that this positive association is
more significant for countries characterised by high level of corruption. These results imply
that the high level of corruption in one country fosters a climate of lack of transparency by
widening the extent of financial crime and black economy which translates automatically
546 into high levels of tax evasion.
Our empirical findings have policy implications for governments having high levels of
tax evasion since they alert them about the adverse effect of financial crime and
corruption on tax compliance behaviours. Accordingly, adopting new legislations to
restrict financial crimes and reduce corruption levels is a cornerstone to combat tax
evasion practices.
The remainder of the paper is organised as follows. Section 2 develops theoretical bases
for the association between financial crime and tax evasion and formulates research
hypotheses. Section 3 describes the research design. Section 4 summarises and analyses the
empirical results of this study. Section 5 concludes the paper.

2. Hypotheses development
2.1 Financial crime and tax evasion
Money laundering represents an important component of financial crime. It is defined
as “the process of creating the appearance that large amounts of money obtained from
serious crimes, such as drug trafficking or terrorist activity, originated from a
legitimate source[3]”. These types of activities are characterised by low level of tax
moral, low level of respect to countries’ regulations and high propensity to commit
serious crimes. These types of activities find a suitable ground for development in black
economy where all transactions are operated with cash to avoid any kind of future
law suits. Furthermore, since financial crimes increase the likelihood of committing
serious crimes, this may translate into lower tax compliance. In this regard, Riahi-
Belkaoui (2004) has shown that the level of serious crimes in one country is negatively
associated with tax compliance. If there is also a non-strong government commitment
to combat financial crimes, this may discourage other taxpayers, who are in conformity
with tax regulations, to comply with tax legislation which implies higher tax evasion
levels.
Accordingly, countries having high levels of financial crimes may create a fertile ground
for tax noncompliance and illegal acts among their citizens implying high levels of tax
evasion. Thus, we formulate our first hypothesis:

H1. Financial crime is positively associated with the level of tax evasion.

2.2 The moderating effect of corruption on the association between financial crime and tax
evasion
Corruption is defined as an operation in which one agent typically pays a sum of money or
performs a service in exchange for an illicit act by a public official (Andreoni et al., 1998).
Mugarura (2016) suggests that financial crime and tax evasion are interrelated. For instance,
he posits for a specific type of financial crime that (p. 74):
money laundering schemes are inextricably linked to corruption whereby the latter is utilised
either as “a means to an end or as an end in itself”. The prevalence of one of these offences in a
country usually signifies the prevalence of the other.
A high corrupt environment is likely to increase the tendency of individuals to commit financial Corruption and
crime which implies a low level of tax compliance. Corruption may also reduce the capability of tax evasion
any country to enforce laws and punish individuals that commit financial crimes leading to
fertile ground of black economy and thus higher tax evasion. By reducing the level of
corruption, government may create a favourable environment to combat financial crimes and
thus reduce the scope of black economy which may improve tax compliance behaviour.
Based on the above discussion, we expect that the positive relationship between financial
crime and tax evasion will be more significant for countries characterised by high 547
corruption level. Thus, we formulate the following hypothesis:

H2. The positive association between financial crime and tax evasion is more (less)
pronounced in settings characterised by high (low) corruption level.

3. Research design
Data for this study are collected from a public range of public sources. Appendix provides a
description of the data employed to measure the different variables used and their various
sources.

3.1 Sample
Our initial sample consists of 162 countries included in the paper of the paper of Schneider
et al. (2010). Since the Global competitiveness report (2014-2015) includes only 144 countries,
thus we exclude 18 settings not reported in this report. Finally, the Basel AML Index 2016
Report includes only 120 countries; thus, we remove 24 settings. Thus, our final sample
includes 120 countries. Table I presents more details about the sample selection process and
the list of countries included in our sample.

3.2 Dependent variable: tax evasion

In this study, we follow Tsakumis et al. (2007), Gabor (2012) and Khlif et al. (2016) by using the
macro indirect approach based on the economic estimate of shadow economy developed by
Schneider (2004) using dynamic multiple-indicators multiple-causes (DYMIMIC)[4]. This
approach consists of a structural equations model with one unobserved variable named the size
of the shadow economy. We collect tax evasion estimates from Schneider et al. (2010)[5]. The
minimum value for tax evasion is for Switzerland (8.500 per cent), while the maximum value is
for Bolivia (66.100 per cent). The median value for tax evasion is for Croatia (32.100 per cent).

3.3 Independent variable

The Basel AML Index 2016 Report defines financial crime as “the risk of money laundering and
terrorist financing of countries based on publicly available sources”. The overall risk score is
calculated based on a total of 14 indicators dealing with AML regulations, corruption, financial
standards, political disclosure and rule of law. The minimum value for financial crime is obtained
for Finland with 3.050, whereas the maximum value is for Iran and it amounts to 8.610.

3.4 The moderating variable: the level of corruption

The level of corruption is proxied as the weight of corruption as the most problematic factor
in doing business (a percentage). From a list of 16 factors including corruption, surveyed
individuals in one country are required to select the five most problematic and rank them
from 1 (most problematic) to 5. The results of the survey are tabulated and weighted
according to the ranking assigned by respondents.
JMLC Sample selection process
21,4 Countries included in Shneider, Buehn and Montenegro 162
Countries in the Global Competitiveness Report 144
Initial sample Minimum (162: 144)
Countries not reported in the Basel AML (24)
Final sample 120
548 List of countries included in the analysis
Albania Guyana Nicaragua
Algeria Haiti Nigeria
Angola Honduras Pakistan
Argentina Hong Kong, China Panama
Armenia Hungary Paraguay
Australia India Peru
Austria Indonesia Philippines
Bahrain Iran, Islamic Rep, Poland
Bangladesh Ireland Portugal
Belgium Israel Qatar
Bolivia Italy Romania
Botswana Jamaica Rwanda
Brazil Japan Saudi Arabia
Bulgaria Jordan Senegal
Burkina Faso Kazakhstan Sierra Leone
Cambodia Kenya Singapore
Canada Korea Slovenia
Cape Verde Kuwait South Africa
Chile Latvia Spain
China Lebanon Sri Lanka
Colombia Lesotho Sweden
Costa Rica Lithuania Switzerland
Côte d’Ivoire Luxembourg Taiwan
Croatia Macedonia Tajikistan
Cyprus Malawi Tanzania
Czech Republic Malaysia Thailand
Denmark Mali Trinidad and Tobago
Dominican Republic Malta Tunisia
Egypt Mauritania Turkey
El Salvador Mauritius Uganda
Estonia Mexico Ukraine
Ethiopia Moldova United Arab Emirates
Finland Mongolia United Kingdom
France Morocco United States
Gambia, The Mozambique Uruguay
Germany Myanmar Venezuela, RB
Ghana Namibia Vietnam
Greece Nepal Yemen, Rep,
Table I. Guatemala Netherlands Zambia
Sample description Guinea New Zealand Zimbabwe

3.5 Control variables

We consider three control variables including the level of investor protection, tax
regulation and market size. Richardson (2006) suggests that tax regulation complexity
and legal system may influence tax evasion in one country. Furthermore, Riahi-
Belkaoui (2004) posits that larger market size in one country may reduce the scope of
shadow economy.
3.6 Models specification Corruption and
To assess the empirical validity of the hypotheses formulated above, the following OLS tax evasion
regression is performed:
TEVi ¼ a0 þ a1 FCi þ a2 CORi þ a3 IPi þ a4 MKSi þ a5 CTRi þ « i
Where:

Dependent variable:
549
TEV = level of tax evasion as proxied by the size of shadow economy;

Test variable:
FC = the level of financial crime in one country;

Moderating variable:
COR = the level of corruption in one country;

Control variables:
IP = the level of investor in one country;
MKS = market size;
CTR = complexity of tax regulation;

3.7 Testing for the moderating effect of corruption level

To test H2 which posits that the level of corruption affects the relation between financial
crime and tax evasion, we divide our overall sample into two sub-samples:
(1) low corrupt environment (inferior or equal to the median of COR[6]); and
(2) high corrupt environment (superior to the median).

A test of H2 consists of observing a more strong positive association between financial

crime and tax evasion for countries characterised by high corruption level. To test H2, we
regress Model 1 after removing corruption variable for the two sub-samples.

4. Empirical results and analysis

4.1 Descriptive statistics
The descriptive statistics are reported in Table II. For the dependent variable, tax evasion
has a mean of 31.878 per cent and a range from 8.500 per cent to 66.100 per cent. Financial

Variable Observations Mean SD Minimum Maximum

TEV 120 31.878 13.188 8.500 66.100

FC 120 5.805 1.173 3.050 8.610
COR 120 10.075 6.850 0 24.500
IP 120 5.480 1.588 2.300 9.700
MKS 120 3.950 1.124 1.300 6.900
CTR 120 6.237 4.780 0 23.200

Notes: TEV: tax evasion level; FC: Financial fraud or crime; COR: corruption level; IP: Investor protection; Table II.
MKS: market size; CTR: the level of tax regulation Descriptive statistics
JMLC crime has an average of 5.805 and varies from 3.050 to 8.610. Investor protection has a mean
21,4 of 5.480 and ranges from 2.300 to 9.700.
Concerning corruption level, the mean accounts for 10.075 per cent and ranges from 0 per
cent to 24.500 per cent. The zero value for corruption indicates that no respondents to the
survey conducted by the World Economic Forum consider corruption as an obstacle for
doing business. This value is obtained for Denmark, Japan, New Zealand and Switzerland,
550 while the maximum value is obtained for Guyana. Concerning tax regulation complexity,
the mean is about 6.237 per cent and ranges from a minimum value of 0 for Angola to a
maximum value of 23.200 per cent for Poland. Finally, market size has a mean of 3.950 and
varies from 1.300 to 6.900.

4.2 Univariate analysis

Table III reports the results of univariate analysis. Results show that there is a significant
positive association between tax evasion and financial crime (0.447). This finding provides
preliminary support for H1. Investor protection is negatively correlated with tax evasion
(0.296). In addition, it seems that corruption is significantly and positively associated with
tax evasion with a Pearson coefficient accounting for 0.583. Finally, market size and tax
regulation are negatively correlated with tax evasion with Pearson correlations accounting
for 0.475 and 0.269, respectively (Table III).

4.3 Multivariate analyses

Table IV displays the results of multiple regressions specified in Model 1. In Model 1, our
finding suggests that financial crime is positively associated with tax evasion (Coeff = 1.809;
t = 1.850). This result provides support for H1 and implies that high levels of financial
crimes may create a fertile ground for black economy, tax noncompliance behaviour and
illegal acts among taxpayers which leads to high levels of tax evasion.
The level of corruption is also positively and significantly associated with tax evasion
(Coeff = 0.791; t = 5.080), while market size is negatively associated with the same variable
(Coeff = 3.537; t = 3.690). These findings are in line with that previously reported by
Riahi-Belkaoui (2004), Picur and Riahi-Belkaoui (2006) and Khlif et al. (2016). Finally, neither
investor protection variable, nor tax regulation complexity is significantly associated with
tax evasion. Controlling for muticollinearity, the VIFs reported suggest that model 1 does
not suffer from such a problem since the maximum VIF accounts for 1.610. The overall
explanatory power of the model is significantly high (F = 19.580; p < 0.000) and the adjusted
R-square amounts to 43.850 per cent.

Variable TEV FC IP COR MKS CTR

TEV 1.000
FC 0.447*** 1.000
IP 0.296** 0.360*** 1.000
COR 0.583*** 0.487*** 0.186* 1.000
MKS 0.475*** 0.270** 0.314*** 0.320*** 1.000
CTR 0.269** 0.390*** 0.078 0.301*** 0.436*** 1.000

Notes: TEV: tax evasion level; FC: Financial fraud or crime; IP: Investor protection; COR: corruption level;
Table III. MKS: market size; CTR: the level of tax regulation. *significant at 10%; **significant at 5%; ***significant
Correlation matrix at 1%
 Dependent variable: Tax evasion
Corruption and
Model 1 Model 2 Model 3 Model 4 tax evasion
With corruption Without corruption High corruption Low corruption
Variable Coeff t-statistic Coeff t-statistic Coeff t-statistic Coeff t-statistic

Intercept 29.684*** 3.710 29.675*** 3.360 29.757** 2.300 33.991*** 2.910

FC 1.809* 1.850 3.779*** 3.810 2.698** 2.100 2.925* 1.930
COR 0.791*** 5.080 551
IP 0.595 0.930 0.486 0.690 1.011 0.950 1.368 1.590
MKS 3.537*** 3.690 4.466*** 4.300 4.131** 2.660 3.972*** 3.110
CTR 0.151 0.670 0.917 0.370 0.275 0.670 0.090 0.310
F (p-value) 19.580*** (0.000) 14.820*** (0.000) 3.250** (0.018) 7.250*** (0.000)
Adj-R-square 43.850 % 31.720 % 13.220 % 29.770%
Max VIF 1.610 1.420 1.360 1.390
Number of
observations 120 120 60 60

Notes: TEV: tax evasion level; FC: Financial fraud or crime; COR: corruption level; IP: Investor protection; Table IV.
MKS: market size; CTR: the level of tax regulation. *significant at 10%; **significant at 5%; ***significant Multivariate
at 1% regression analysis

In Model 2, we remove corruption variable to examine how financial crime influences tax
evasion without such a variable. Findings show that the association between financial crime
and tax evasion becomes more significant (Coeff = 3.779; t = 3.810) in comparison with
Model 1. This implies that there is a complementarity between financial crime and
corruption in increasing tax evasion. As for model 1, market size has a significant negative
effect on tax evasion (Coeff = 4.466; t = 4.300). Model 2 does also suffer from
multicollinearity, as all VIFs are inferior to 1.420.
To test the moderating effect of corruption level on the association between financial
crime and tax evasion (hypothesis H2), we divide the overall sample into countries
characterised by high and low corruption levels. For low corrupt environment sample, the
association remains significant at 10 per cent significance level (Coeff = 2.925; t = 1.930)
(model 4), while it becomes significant at 5 per cent significance level (Coeff = 2.698; t =
2.100) (model 3). These results provide support for H2 suggesting that corruption moderates
the association between the financial crime and tax evasion and such a relationship is more
prevailing for high corrupt environment. These findings imply that countries characterised
by high levels of corruption may create a favourable environment to the development of
financial crimes which leads to an increase in the scope of black economy and translates into
higher tax evasion levels.
As for models 1 and 2, market size conserves its negative and significant effect on tax
evasion either for model 3 (Coeff = 4.131; t = 2.660) or model 4 (Coeff = 3.972; t =
3.110). Finally, models 3 and 4 do suffer from multicolliniarity problem since all VIFs are
inferior to 1.360 and 1.390, respectively.

5. Conclusion
In this study, we examine the association between financial crime and tax evasion and
investigate whether corruption moderates such a relationship at country level. Using a
sample of 120 countries, we document that financial crime is positively associated with tax
evasion and such a relationship is more pronounced for settings characterised by high levels
of corruption.
JMLC These results imply that countries characterised by high levels of financial crimes create
21,4 a fertile ground for black economy and tax noncompliance behaviour among their citizens
which translates into high levels of tax evasion. In addition, corruption may establish a
favourable environment to the development of financial crimes which implies an increase in
the scope of black economy and translates into higher tax evasion levels. Empirical findings,
in this study, alert policymakers and governments about the adverse effect of financial
552 crime and corruption on the public revenues. The results are important for developing and
emerging economies that aim to decrease the level of financial crime and black economy in
order to increase tax compliance and economic development.
Our study has a number of limitations. On the one hand, variables collected do not relate
to the same years and same periods. However, published reports do allow this and tax
evasion practices remain stable over certain period of time for several countries (Tsakumis
et al., 2007). Furthermore, alternative measures are not available in recent international
reports to be considered in the empirical analysis. On the other hand, independent variables
(corruption, tax regulation) are measured based on survey data which may introduce a bias
into the analysis. However, the data are collected from reliable sources (e.g. World Economic
Forum, Basel AML Report) which may diminish this concern.
Future research on tax evasion may consider the effect of foreign ownership on tax
evasion practices and whether religious beliefs of these foreign owners affect their policies in
terms of tax compliance, subject to the availability of reliable cross-country data. In
addition, using several proxies of tax evasion is required to give rise to the robustness of the
results of this study, subject also to the availability of reliable cross-country data.

Notes
1. For more details, see the literature review conducted by Khlif and Achek (2015).
2. This topic has been treated in a literary manner (Tavares, 2013) without any empirical.
3. www.investopedia.com/terms/m/moneylaundering.asp
4. For more details about this approach, see Gemmell and Hasseldine (2012, pp. 213-214).
5. The size of shadow economy is defined as: All market-based legal production of goods and
services that are deliberately concealed from public authorities.
6. The median of corruption in our sample accounts for 10.

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Further reading
Basel Institute on Governance (2016), “Basel AML index 2016 report”, available at: https://index.
baselgovernance.org/sites/index/documents/Basel_AML_Index_Report_2016.pdf
World Economic Forum (2015), “The global competitiveness report 2014-2015”, available at: http://
www3.weforum.org/docs/WEF_GlobalCompetitivenessReport_2014-15.pdf
JMLC Appendix
21,4

Variable Description Source

TEV The size of the shadow economy. Data on the size of Collected from Table. 2 pages
554 shadow economy is collected from a World Bank 454 to 456, column country
paper prepared by Shneider, Buehn and Montenegro average from the paper
(2010). The size of the shadow economy is estimated Schneider et al. (2010)
as a percentage of ‘official’ GDP
FC The Basel AML Index which measures the risk of Basel AML Index 2016
money laundering and terrorist financing of countries Report
based on publicly available sources
COR The weight of corruption as the most problematic The Global Competiveness
factor in doing business (a percentage). The report 2014-2015 (Country
information is drawn from the 2012 edition of the profiles)
World Economic Forum’s Executive Opinion Survey
(Survey). From a list of 16 factors, respondents were
asked to select the five most problematic and rank
them from 1 (most problematic) to 5. The results were
then tabulated and weighted according to the ranking
assigned by respondents
IP The level of investor protection The Global Competiveness
report 2014-2015 (Country
profiles)
MKS The size of the national domestic and foreign market The Global Competiveness
in an index ranging from 0 to 7 report 2014-2015 (Country
profiles)
CTR The weight of tax regulation as the most problematic The Global Competiveness
factor in doing business (a percentage). The report 2014-2015 (Country
information is drawn from the 2012 edition of the profiles)
World Economic Forum’s Executive Opinion Survey
(Survey). From a list of 16 factors, respondents were
asked to select the five most problematic and rank
Table AI. them from 1 (most problematic) to 5. The results were
Data description and then tabulated and weighted according to the ranking
sources assigned by respondents

Corresponding author
Hichem Khlif can be contacted at: hichemkhlif@gmail.com

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