Offshore investment
Encyclopedia
Offshore investment is the keeping of money in a jurisdiction other than one's country of residence. Offshore jurisdictions are a commonly accepted solution to reducing tax burdens levied in most countries to both large and small scale investors alike. Poorly regulated offshore domiciles have served historically as havens for tax evasion
, money laundering
, or to conceal or protect illegally acquired money from law enforcement in the investor's country. However, the modern, well-regulated offshore centres allow legitimate investors to take advantage of higher rates of return or lower rates of tax on that return offered by operating via such domiciles. The advantage to offshore investment is that such operations are both legal and less costly than the solutions offered in the investor's country - or "onshore". Locations favored by investors for low rates of tax are known as offshore financial centers or (sometimes) tax havens.
Offshore solutions are accessible to anyone who can meet the minimum investment amount or pay the obligatory fees required to open such an entity and are widely used. Investopedia indicates that, "More than half of the world's assets and investments are held in offshore jurisdictions and many well-recognized companies have investment opportunities in offshore locales."
Tax is the driving force behind most 'offshore' activity. Due to offshore solutions investors are able to conduct investment activities in a more profitable fashion. Often, taxes levied by an investor's home country are critical to the profitability of any given investment. Using offshore domiciled special purpose vehicles an investor may reduce this burden, allowing the investor to achieve greater profitability overall.
Another reason why 'offshore' investment is considered superior to 'onshore' investment is because it is less regulated, and the behavior of the offshore investment provider, whether he be a banker, fund manager, trustee or stock-broker, is freer than it could be in a more regulated environment.
One may also charter an offshore corporation to provide a legal personality
, limited liability
, transferable shares, a centralized management, and shared ownership. In some cases the investment advantages of such a corporation are offset by legal, corporate and account registration fees imposed by the country in which the offshore account is established. Further, the officers of the corporation may be required to establish residence, own real estate, or meet an investment minimum (depending upon the country this may range up to $1 million). An advantage which accrues from establishing a corporate structure is that although a citizen may be proscribed from establishing an offshore account, they can establish a corporation that can do so.
offshore include:
(OECD), the European Union
(EU) and the United States of America (USA) continue to promote improved transparency on tax information and substantial progress has been made in the past 5 years. The OECD has established a threshold of bilateral tax-information exchange agreements, twelve, as the minimum which a country is placed on the “white list” and recognized as having “substantially implemented” internationally agreed tax standards. The OECD “grey list” includes countries which have not achieved “white list” status and are considered as fostering tax evasion through insufficient financial openness. As a result the Cayman Islands
and Liechtenstein
implemented financial openness reforms to get off the list and escape the threat of sanctions, while Panama
, Luxembourg
, Liechtenstein
, Switzerland
and the British Virgin Islands
(BVI) were still on the grey list as of late 2009.
The expansion of the EU has motivated major improvements in tax-related transparency. The EU requires members to exchange tax information using automatic systems by the end of 2011, which assures that Austria
, Belgium
and Luxembourg
are coming into compliance. Further, since January 2007 former tax havens (noted for their banking secrecy and low tax rates for foreign investments) in Bermuda
, the Channel Islands
(Jersey
and Guernsey
) and the Isle of Man
have achieved “white list” status due to their EU ties.
Panama is currently recognized as one of the more attractive countries for legitimate offshore investment as well as for tax evasion, and is on the OECD “grey list”. Panama’s free-trade zone handles over $19 billion in commerce per year and construction is booming. Corporations are easily created in Panama and, although they are heavily taxed on Panama-domestic operations, they pay no taxes on foreign activities. Company ownership can be readily concealed through the use of anonymous “bearer shares”. As a result, more than of 45,000 offshore shell companies and subsidiaries companies are created in Panama each year; Panama has one of the highest concentrations of subsidiaries of any country in the world. Panama’s banks are well regulated, providing stability and predictability. Panama does not yet participate in tax-information-exchange treaties; since they tax only domestic income, there is no reciprocal benefit in their sharing information with other governments. All these conditions combine to provide advantages to both legitimate business and to tax evasion.
. In 2010 the USA and Switzerland agreed to a protocol increasing shared tax information to aid the prosecution of tax evasion. As with all treaties, this does not come into force until ratified by the appropriate legislative bodies (in this case the U.S. Senate and the Swiss Federal Council and Parliament
).
As one example of efforts to reduce illegal offshore investments made for the purpose of tax evasion, in 2010 the Swiss bank Union Bank of Switzerland
(UBS) has paid a fine of $780 million and is cooperating on identifying the estimated 19,000 wealthy U.S. tax evaders who have accounts in UBS. The US Internal Revenue Service
has offered amnesty to those who come forward voluntarily. Similarly the banking firm HSBC
has been alleged to have aided two U.S. citizens in a multimillion-dollar tax evasion scheme that relied on various accounts held in the names of foreign shell corporations, using Swiss lawyers to act as cut-out signatories for some of these accounts. The two men were arrested and are under indictment for tax evasion.
Tax evasion
Tax evasion is the general term for efforts by individuals, corporations, trusts and other entities to evade taxes by illegal means. Tax evasion usually entails taxpayers deliberately misrepresenting or concealing the true state of their affairs to the tax authorities to reduce their tax liability,...
, money laundering
Money laundering
Money laundering is the process of disguising illegal sources of money so that it looks like it came from legal sources. The methods by which money may be laundered are varied and can range in sophistication. Many regulatory and governmental authorities quote estimates each year for the amount...
, or to conceal or protect illegally acquired money from law enforcement in the investor's country. However, the modern, well-regulated offshore centres allow legitimate investors to take advantage of higher rates of return or lower rates of tax on that return offered by operating via such domiciles. The advantage to offshore investment is that such operations are both legal and less costly than the solutions offered in the investor's country - or "onshore". Locations favored by investors for low rates of tax are known as offshore financial centers or (sometimes) tax havens.
Offshore solutions are accessible to anyone who can meet the minimum investment amount or pay the obligatory fees required to open such an entity and are widely used. Investopedia indicates that, "More than half of the world's assets and investments are held in offshore jurisdictions and many well-recognized companies have investment opportunities in offshore locales."
Tax is the driving force behind most 'offshore' activity. Due to offshore solutions investors are able to conduct investment activities in a more profitable fashion. Often, taxes levied by an investor's home country are critical to the profitability of any given investment. Using offshore domiciled special purpose vehicles an investor may reduce this burden, allowing the investor to achieve greater profitability overall.
Another reason why 'offshore' investment is considered superior to 'onshore' investment is because it is less regulated, and the behavior of the offshore investment provider, whether he be a banker, fund manager, trustee or stock-broker, is freer than it could be in a more regulated environment.
Vehicles for offshore investment
Offshore investing includes investment strategies outside of an investor's home country. Investment opportunities in money-market, bond and equity assets are available through offshore companies.One may also charter an offshore corporation to provide a legal personality
Legal personality
Legal personality is the characteristic of a non-human entity regarded by law to have the status of a person....
, limited liability
Limited liability
Limited liability is a concept where by a person's financial liability is limited to a fixed sum, most commonly the value of a person's investment in a company or partnership with limited liability. If a company with limited liability is sued, then the plaintiffs are suing the company, not its...
, transferable shares, a centralized management, and shared ownership. In some cases the investment advantages of such a corporation are offset by legal, corporate and account registration fees imposed by the country in which the offshore account is established. Further, the officers of the corporation may be required to establish residence, own real estate, or meet an investment minimum (depending upon the country this may range up to $1 million). An advantage which accrues from establishing a corporate structure is that although a citizen may be proscribed from establishing an offshore account, they can establish a corporation that can do so.
Reasons for offshore investment
Motivations for investmentInvestment
Investment has different meanings in finance and economics. Finance investment is putting money into something with the expectation of gain, that upon thorough analysis, has a high degree of security for the principal amount, as well as security of return, within an expected period of time...
offshore include:
- Tax advantagesTax avoidanceTax avoidance is the legal utilization of the tax regime to one's own advantage, to reduce the amount of tax that is payable by means that are within the law. The term tax mitigation is a synonym for tax avoidance. Its original use was by tax advisors as an alternative to the pejorative term tax...
- tax regulations often contain provisions to protect against taxation by multiple jurisdictions which can be exploited for legal tax reductions. Nations intentionally attract business investments through lower tax rates. The corporate-tax trend over the period from 1980 to 2010 has trended lower, with the top rate in OECD countries (excluding America) moving from 51% to 32%. Investing in such an environment can improve the investor's rate of return on investment.
- Investment diversification - risk can be managed by diversifying investments among a wider range of options than are available for onshore investment.
- Avoidance of forced heirshipForced heirshipForced heirship is a form of partible inheritance whereby a deceased's estate is separated into an indefeasible portion, the forced estate, passing to those the deceased is survived by, and a discretionary portion, or free estate, to be freely disposed of by will...
- inheritance may be passed to the preferred heir, regardless of regulations such as community propertyCommunity propertyCommunity property is a marital property regime that originated in civil law jurisdictions and is now also found in some common law jurisdictions...
laws in the jurisdiction of residence/death.
- Lower levels of regulation - a broader range of investment options are available (e.g. hedge funds, which thrive in low regulatory environments due to their highly aggressive investments strategies, thrive in offshore jurisdictions, principally the Cayman IslandsCayman IslandsThe Cayman Islands is a British Overseas Territory and overseas territory of the European Union located in the western Caribbean Sea. The territory comprises the three islands of Grand Cayman, Cayman Brac, and Little Cayman, located south of Cuba and northwest of Jamaica...
)
- Privacy - confidential financial information helps the individual manage taxes on capital gains, incomeIncomeIncome is the consumption and savings opportunity gained by an entity within a specified time frame, which is generally expressed in monetary terms. However, for households and individuals, "income is the sum of all the wages, salaries, profits, interests payments, rents and other forms of earnings...
, and inheritanceInheritanceInheritance is the practice of passing on property, titles, debts, rights and obligations upon the death of an individual. It has long played an important role in human societies...
.
- Specialist financial services - the leading offshore centres have highly developed financial services sectors with expertise in asset management, banking, insuranceInsuranceIn law and economics, insurance is a form of risk management primarily used to hedge against the risk of a contingent, uncertain loss. Insurance is defined as the equitable transfer of the risk of a loss, from one entity to another, in exchange for payment. An insurer is a company selling the...
, trusts, funds and legal servicesOffshore magic circleThe offshore magic circle refers to a number of law firms practicing in offshore jurisdictions which are considered to be amongst the leaders in the field. The term was adopted as an imitation of the more well-recognised London Magic Circle law firms...
.
Arguments against offshore investment
Reasons which have been advanced against offshore investment include:- They bypass security exchange legislation put into place after the great depressionGreat DepressionThe Great Depression was a severe worldwide economic depression in the decade preceding World War II. The timing of the Great Depression varied across nations, but in most countries it started in about 1929 and lasted until the late 1930s or early 1940s...
(e.g., the U.S. Securities Act of 1933Securities Act of 1933Congress enacted the Securities Act of 1933 , in the aftermath of the stock market crash of 1929 and during the ensuing Great Depression...
and the Securities Exchange Act of 1934Securities Exchange Act of 1934The Securities Exchange Act of 1934 , , codified at et seq., is a law governing the secondary trading of securities in the United States of America. It was a sweeping piece of legislation...
) to stabilize the word's economies and establish a fair marketplace. This increases the risk that the financial markets are not properly regulated, increasing the likelihood of bubbles and subsequent recessions.
- Ethically, it might be considered an abuse of national sovereignty by reducing transparency to regulators of financial transactions. Offshore investments reduce transparency, which abets illegal activities such as allowing investment firms to bypass their fiduciary responsibility and exploit their customers. As an example, it is alleged in a SEC-filed civil fraud suit that Goldman SachsGoldman SachsThe Goldman Sachs Group, Inc. is an American multinational bulge bracket investment banking and securities firm that engages in global investment banking, securities, investment management, and other financial services primarily with institutional clients...
set up an "offshore deal in which a longtime client, the hedge fund Paulson & Co., helped select and then bet against the securities in the deal without telling investors of Paulson's role."
- It exploits the advantages created to earn wealth by a taxed economy while not paying its fair share of taxes in that economy. Wealth earned in one (taxed) economy is taken out of circulation (i.e., it cannot be taxed again when re-spent to provide services and infrastructure).
- It encourages Tax competitionTax competitionTax competition, a form of regulatory competition, exists when governments are encouraged to lower fiscal burdens to either encourage the inflow of productive resources or discourage the exodus of those resources...
between states, provinces, countries, and regions in the way that the search for ever cheaper source of manual labor brings down wages everywhere.
- Offshore investments in poorly regulated tax havens may bypass sanctions against countries established to encourage conventions important to societies (e.g., UN sanctions for failure to adhere to nuclear nonproliferation treaties). This has the effect of undercutting the effectiveness of such sanctions.
International efforts to reduce tax evasion
The Organisation for Economic Co-operation and DevelopmentOrganisation for Economic Co-operation and Development
The Organisation for Economic Co-operation and Development is an international economic organisation of 34 countries founded in 1961 to stimulate economic progress and world trade...
(OECD), the European Union
European Union
The European Union is an economic and political union of 27 independent member states which are located primarily in Europe. The EU traces its origins from the European Coal and Steel Community and the European Economic Community , formed by six countries in 1958...
(EU) and the United States of America (USA) continue to promote improved transparency on tax information and substantial progress has been made in the past 5 years. The OECD has established a threshold of bilateral tax-information exchange agreements, twelve, as the minimum which a country is placed on the “white list” and recognized as having “substantially implemented” internationally agreed tax standards. The OECD “grey list” includes countries which have not achieved “white list” status and are considered as fostering tax evasion through insufficient financial openness. As a result the Cayman Islands
Cayman Islands
The Cayman Islands is a British Overseas Territory and overseas territory of the European Union located in the western Caribbean Sea. The territory comprises the three islands of Grand Cayman, Cayman Brac, and Little Cayman, located south of Cuba and northwest of Jamaica...
and Liechtenstein
Liechtenstein
The Principality of Liechtenstein is a doubly landlocked alpine country in Central Europe, bordered by Switzerland to the west and south and by Austria to the east. Its area is just over , and it has an estimated population of 35,000. Its capital is Vaduz. The biggest town is Schaan...
implemented financial openness reforms to get off the list and escape the threat of sanctions, while Panama
Panama
Panama , officially the Republic of Panama , is the southernmost country of Central America. Situated on the isthmus connecting North and South America, it is bordered by Costa Rica to the northwest, Colombia to the southeast, the Caribbean Sea to the north and the Pacific Ocean to the south. The...
, Luxembourg
Luxembourg
Luxembourg , officially the Grand Duchy of Luxembourg , is a landlocked country in western Europe, bordered by Belgium, France, and Germany. It has two principal regions: the Oesling in the North as part of the Ardennes massif, and the Gutland in the south...
, Liechtenstein
Liechtenstein
The Principality of Liechtenstein is a doubly landlocked alpine country in Central Europe, bordered by Switzerland to the west and south and by Austria to the east. Its area is just over , and it has an estimated population of 35,000. Its capital is Vaduz. The biggest town is Schaan...
, Switzerland
Switzerland
Switzerland name of one of the Swiss cantons. ; ; ; or ), in its full name the Swiss Confederation , is a federal republic consisting of 26 cantons, with Bern as the seat of the federal authorities. The country is situated in Western Europe,Or Central Europe depending on the definition....
and the British Virgin Islands
British Virgin Islands
The Virgin Islands, often called the British Virgin Islands , is a British overseas territory and overseas territory of the European Union, located in the Caribbean to the east of Puerto Rico. The islands make up part of the Virgin Islands archipelago, the remaining islands constituting the U.S...
(BVI) were still on the grey list as of late 2009.
The expansion of the EU has motivated major improvements in tax-related transparency. The EU requires members to exchange tax information using automatic systems by the end of 2011, which assures that Austria
Austria
Austria , officially the Republic of Austria , is a landlocked country of roughly 8.4 million people in Central Europe. It is bordered by the Czech Republic and Germany to the north, Slovakia and Hungary to the east, Slovenia and Italy to the south, and Switzerland and Liechtenstein to the...
, Belgium
Belgium
Belgium , officially the Kingdom of Belgium, is a federal state in Western Europe. It is a founding member of the European Union and hosts the EU's headquarters, and those of several other major international organisations such as NATO.Belgium is also a member of, or affiliated to, many...
and Luxembourg
Luxembourg
Luxembourg , officially the Grand Duchy of Luxembourg , is a landlocked country in western Europe, bordered by Belgium, France, and Germany. It has two principal regions: the Oesling in the North as part of the Ardennes massif, and the Gutland in the south...
are coming into compliance. Further, since January 2007 former tax havens (noted for their banking secrecy and low tax rates for foreign investments) in Bermuda
Bermuda
Bermuda is a British overseas territory in the North Atlantic Ocean. Located off the east coast of the United States, its nearest landmass is Cape Hatteras, North Carolina, about to the west-northwest. It is about south of Halifax, Nova Scotia, Canada, and northeast of Miami, Florida...
, the Channel Islands
Channel Islands
The Channel Islands are an archipelago of British Crown Dependencies in the English Channel, off the French coast of Normandy. They include two separate bailiwicks: the Bailiwick of Guernsey and the Bailiwick of Jersey...
(Jersey
Jersey
Jersey, officially the Bailiwick of Jersey is a British Crown Dependency off the coast of Normandy, France. As well as the island of Jersey itself, the bailiwick includes two groups of small islands that are no longer permanently inhabited, the Minquiers and Écréhous, and the Pierres de Lecq and...
and Guernsey
Guernsey
Guernsey, officially the Bailiwick of Guernsey is a British Crown dependency in the English Channel off the coast of Normandy.The Bailiwick, as a governing entity, embraces not only all 10 parishes on the Island of Guernsey, but also the islands of Herm, Jethou, Burhou, and Lihou and their islet...
) and the Isle of Man
Isle of Man
The Isle of Man , otherwise known simply as Mann , is a self-governing British Crown Dependency, located in the Irish Sea between the islands of Great Britain and Ireland, within the British Isles. The head of state is Queen Elizabeth II, who holds the title of Lord of Mann. The Lord of Mann is...
have achieved “white list” status due to their EU ties.
Panama is currently recognized as one of the more attractive countries for legitimate offshore investment as well as for tax evasion, and is on the OECD “grey list”. Panama’s free-trade zone handles over $19 billion in commerce per year and construction is booming. Corporations are easily created in Panama and, although they are heavily taxed on Panama-domestic operations, they pay no taxes on foreign activities. Company ownership can be readily concealed through the use of anonymous “bearer shares”. As a result, more than of 45,000 offshore shell companies and subsidiaries companies are created in Panama each year; Panama has one of the highest concentrations of subsidiaries of any country in the world. Panama’s banks are well regulated, providing stability and predictability. Panama does not yet participate in tax-information-exchange treaties; since they tax only domestic income, there is no reciprocal benefit in their sharing information with other governments. All these conditions combine to provide advantages to both legitimate business and to tax evasion.
Recent developments
In 2009 the USA initiated increased efforts to close taxation loopholes and identify and prosecute tax evaders using offshore accounts. As an element of this effort, they have pursued amended tax treaties to offset the banking secrecy laws of nations such as SwitzerlandSwitzerland
Switzerland name of one of the Swiss cantons. ; ; ; or ), in its full name the Swiss Confederation , is a federal republic consisting of 26 cantons, with Bern as the seat of the federal authorities. The country is situated in Western Europe,Or Central Europe depending on the definition....
. In 2010 the USA and Switzerland agreed to a protocol increasing shared tax information to aid the prosecution of tax evasion. As with all treaties, this does not come into force until ratified by the appropriate legislative bodies (in this case the U.S. Senate and the Swiss Federal Council and Parliament
Swiss Federal Council
The Federal Council is the seven-member executive council which constitutes the federal government of Switzerland and serves as the Swiss collective head of state....
).
As one example of efforts to reduce illegal offshore investments made for the purpose of tax evasion, in 2010 the Swiss bank Union Bank of Switzerland
Union Bank of Switzerland
Union Bank of Switzerland was a large integrated financial services company located in Switzerland. The bank, which at the time was the second largest bank in Switzerland, merged with Swiss Bank Corporation in 1998, to become UBS to form what was then the largest bank in Europe and the second...
(UBS) has paid a fine of $780 million and is cooperating on identifying the estimated 19,000 wealthy U.S. tax evaders who have accounts in UBS. The US Internal Revenue Service
Internal Revenue Service
The Internal Revenue Service is the revenue service of the United States federal government. The agency is a bureau of the Department of the Treasury, and is under the immediate direction of the Commissioner of Internal Revenue...
has offered amnesty to those who come forward voluntarily. Similarly the banking firm HSBC
HSBC
HSBC Holdings plc is a global banking and financial services company headquartered in Canary Wharf, London, United Kingdom. it is the world's second-largest banking and financial services group and second-largest public company according to a composite measure by Forbes magazine...
has been alleged to have aided two U.S. citizens in a multimillion-dollar tax evasion scheme that relied on various accounts held in the names of foreign shell corporations, using Swiss lawyers to act as cut-out signatories for some of these accounts. The two men were arrested and are under indictment for tax evasion.
See also
- Offshore banks
- Offshore financial centers
- Offshore fundOffshore fundAn offshore fund is a collective investment scheme domiciled in an Offshore Financial Centre such as the British Virgin Islands, Luxembourg, or the Cayman Islands; it is typically sold exclusively to 'foreign' investors...
s - Tax havens
- Offshore Stock Brokers
- Five Flags Theory
- Flag of convenienceFlag of convenienceThe term flag of convenience describes the business practice of registering a merchant ship in a sovereign state different from that of the ship's owners, and flying that state's civil ensign on the ship. Ships are registered under flags of convenience to reduce operating costs or avoid the...