Tax Havens : All You Need To Know

Tax Havens : All You Need To Know

What is the safest place to stash your cash?

A drawer, in the oven, the bag of your vacuum cleaner or simply bury it in a jar in your backyard. Or let’s look at some of the fairly lower risk options where you can put your money like Bonds, Bond ETFs, TIPS and I-Bonds, high-yield bank accounts, certificates of deposits or money market mutual funds.

Being a high earner does not mean the absence of financial stress. In fact, very often, higher incomes/ revenues demand the need for better financial management and more decisions to be taken. As a high earner, an individual/company may need to plan and strategise allocation of the money into profitable investments, while also paying enormous taxes.

Can taxes be avoided?

There are a number of ways like opening an Individual Retirement Account (IRA), buying a home as mortgage interest is tax deductible, and starting a home-based or online business that is monetising your hobbies/skills, to reap the tax benefits of owning a business. However, these ways work for an individual.

Many a times, large businesses and multinationals avoid paying hundreds of billions of dollars of taxes in countries where they make large revenues, through three key channels which enable shifting profits from high-tax countries. These channels include Debt Shifting; Registration of Intangible Assets like Trademarks, Copyright etc; Tax Havens; and Strategic Transfer Pricing.  

Let us consider a multinational comprising two key companies. The holding Company L is located in a low-tax jurisdiction like Bermuda with 0% corporate income tax, and the other Company H is operating in a high-tax country like Australia, levying a corporate income tax of ~30%. Here, the multinational can avoid as much as 30 cents of tax for every dollar shifted from Australia to Bermuda.

  • The mechanism at play under debt shifting is that Company H borrows money from Company L , thus interest income is earned in the low-tax country, resulting in higher expenses and low profits for Company H in Australia, higher profits in Bermuda, and overall tax savings for the multinational.
  • The second channel involves a multinational transferring its intangible assets to the Company L, and thereafter Company H would have to pay royalties to Company L for using those assets, again leading to deductions in profits and higher expenses in Australia. Another way to increase the profit of less-taxed Company L.
  • Under, strategic transfer pricing, Company H trades with Company L and sets the prices for the trade non on the arm’s length principle, whereby prices should ideally be set the same as they would be if two non-associated entities traded with each other.

What works in favour of these multinationals is the way international corporate income is taxed. Taxes are paid in the country where profits are reported, and not where the economic activity, is in fact taking place. This provides the liberty to multinationals to optimise their tax liabilities as a whole.

It is noteworthy that, in the above example, Australia has an exceptionally high corporate tax, with the country's income from taxation among the highest in the world.

An international tax report by the Organisation for Economic Co-operation and Development (OECD) in December 2019, indicated that local companies pay the third-highest share of tax to government coffers while personal income tax was 40.3% of total government revenue, below only Denmark in 2017.  This comes as a big disappointment for the business sector and naturally prompts companies to find some refuge from taxes in the Tax havens.

Which brings us to what Tax havens essentially are. Tax havens, also known as Offshore Financial Centres (OFCs), are remote low tax jurisdictions, where super-wealthy individuals or multinationals hide money in offshore accounts for reasons such as tax evasion. Tax havens offer minimal tax liabilities, lack of effective exchange of information, lack of transparency and no substantial domestic economic activities, which is highly attractive to foreign investors and entrepreneurs.

Sometimes, these individuals/ multinationals may also hold money in the name of shell companies or anonymous entities, that only exists on paper and has no real office /employees, but they do have a bank account.

Most of the tax havens are island nations but may also include big nations like the United States or the UK. Some of the Popular Tax Havens of the world are Seychelles, Cyprus, Nauru, Luxemburg, Mauritius, Marshall Islands, Cayman Islands, Bermuda, Taiwan, Switzerland and British Virgin Islands. Every year, the European Union updates a tax haven "blacklist", which was first released in 2015 to pressurise particular nations to improve their tax codes and bring about improvements in the global tax governance and minimise tax fraud.

The leading Companies That Benefit From Tax Havens around the world include Apple, Nike, Goldman Sachs, and some of other big US companies like General Electric, Chevron, Walmart, IBM, Microsoft to name a few.

Owning an offshore company is not illegal but the main concern of the multilateral global institutions is that the companies conceal the identities of the true company owners of the majority of the offshore companies.

Nevertheless, an important feature of tax havens is that they facilitate efficient allocation of capital, encourage saving and investment, promote better policy in the rest of the world due to tax competition, thereby playing a valuable role in the global economy.

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