Profit & Solutions Management Research Publication Series
Researched & Written by Deb (Debadip) Bandyopadhyay
A tax haven is generally an offshore country that offers foreign individuals and businesses little or no tax liability in a politically and economically static environment. KEY TAKEAWAYS Tax havens provide the advantage of little or no tax liability. Offshore countries with little or no tax liabilities for foreign individuals and businesses are generally some of the most popular tax havens. Investors and businesses may be able to lower their taxes by taking advantage of tax-advantaged opportunities offered by tax havens, however, entities should ensure they are compliant with all relevant tax laws.
Understanding Tax Haven
Tax havens also share limited or no financial information with foreign tax authorities. Tax havens do not typically require residency or business presence for individuals and businesses to benefit from their tax policies.
Intranational Tax Havens
In some cases, intranational locations may also be identified as tax havens if they have special tax laws. For example, in the United States, Alaska, Florida, Nevada, New Hampshire, South Dakota, Tennessee, Texas, Washington, and Wyoming require no state income tax.
Offshore Tax Havens
Offshore tax havens benefit from the capital their countries draw into the economy. Funds can flow in from individuals and businesses with accounts setup at banks, financial institutions, and other investment vehicles. Individuals and corporations can potentially benefit from low or no taxes charged on income in foreign countries where loopholes, credits, or other special tax considerations may be allowed.
A list of some of the most popular tax haven countries includes Andorra, the Bahamas, Belize, Bermuda, the British Virgin Islands, the Cayman Islands, the Channel Islands, the Cook Islands, The Island of Jersey, Hong Kong, The Isle of Man, Mauritius, Lichtenstein, Monaco, Panama, St. Kitts, and Nevis.
Characteristics of tax haven countries generally include no or low-income taxes, minimal reporting of information, lack of transparency obligations, lack of local presence requirements, and marketing of tax haven vehicles.
In general, this and other provisions, particularly for reinvestments, provide allowances for businesses to benefit from low or no tax rates offered in foreign countries but businesses should closely monitor and accurately report foreign income as it pertains to U.S. tax law, generally accepted accounting principles (GAAP), and the guidelines under International Financial Reporting Standards (IFRS).
Some companies that have historically been known for offshore, tax haven holdings include Apple, Microsoft, Alphabet, Cisco, and Oracle. Overall, tax havens may also offer advantages in the area of credit, since it may be less expensive for U.S.-based companies to borrow funds internationally. This type of lending, which can potentially fund acquisitions and other corporate activities, is also subject to reporting within the guidelines of U.S. tax law, GAAP, and guidelines under IFRS.
Individual Taxpayers
The U.S. has special rules in place for the reporting of foreign income by U.S. citizens and non-U.S. citizens. These rules are generally governed under the Foreign Account Tax Compliance Act (FATCA).
FATCA requires the filing of a Schedule B and/or Form 8938, which provides disclosure of foreign account holdings when investments exceed $50,000. Separately, foreign account holders may also be required to file Form 114, Report of Foreign Bank and Financial Accounts.
US based companies are keeping their profits in bank accounts in other countries. Around $183 billion of stocks are piled in those countries. There was an increase of 14.4% from the previous year in the accumulation of the funds. Bloomberg studied that total of 83 companies in the USA has kept their profit earning in different low taxed countries across the globe. A total of $1.7 trillion has been outside the USA for the purpose of tax exception. Top companies like GE, Microsoft, Johnson & Johnson, and IBM are the top companies who are keeping the money outside the country so that the USA tax revenue department could not get hold of these incomes. Some of the companies are owned by foreign companies which helped them to park their profit margin companies’ bank account. The rise of the cash flow from the low taxed countries is due to the increased number of the customer from these areas. Google has kept $31 billion in annual filling in taxes but of which 65.3% are in the liquid holding outside the USA. This is hampering the USA taxes and resulting in rise of different problems due to this. US based companies receive tax credits in their income from the outside country, but still they are deferring the taxes by not bring those money back to USA. Regulatory filling asked the USA Corporation to report the foreign profit but they can defer taxes on those income. The income is not kept in the form of cash in other countries. They are using that fund to invest in the physical infrastructure and bond of that low taxed country. Intangible assets are among one of the areas where companies are selling their patents and getting cash out of it. The low tax jurisdiction allows them to pay low taxes. Among these, Microsoft has sold many patents to offshore countries and reported $60.8 billion in offshore holdings, whereas they paid only 3.1% in the foreign tax for this. The USA government tax system is outdated and is not compatible with other countries’ tax system has been claimed by many senior executives of USA based companies. They mentioned that for competing in the foreign land they have to keep the money in those countries for the future need. Citi Group has reported that foreign tax is as low as 8% which is far below that USA tax system rates. The USA tax is 35% which is the high compare to any other country corporate tax rates. This not only creates the obstacle for USA government to get a hold of the income of the companies in foreign lands. Moreover, they are lagging behind among other countries in tax system due to the low tax rate of those countries.
Many U.S. corporations use offshore tax havens and other accounting gimmicks to avoid paying as much as $90 billion a year in federal income taxes. A large loophole at the heart of U.S. tax law enables corporations to avoid paying taxes on foreign profits until they are brought home. Known as “deferral,” it provides a huge incentive to keep profits offshore as long as possible. Many corporations choose never to bring the profits home and never pay U.S. taxes on them. Deferral gives corporations enormous incentives to use accounting tricks to make it appear that profits earned here were generated in a tax haven. Profits are funneled through subsidiaries, often shell companies with few employees and little real business activity. Effectively, firms launder U.S. profits to avoid paying U.S. taxes.
Loopholes used to shift U.S. profits to tax havens U.S. firms can set up a subsidiary offshore, channel billions of dollars of profit through it and make the subsidiary “disappear” for U.S. tax purposes simply by “checking a box” on an IRS form. Corporations can sell the right to patents and licenses at a low price to an offshore subsidiary, which then “licenses” back to the U.S. parent at a steep price the right to sell its products in America. The goal of this “transfer pricing” is to make it appear that the company earns profits in tax havens but not in the U.S. Wall Street banks, credit card companies and other corporations with large financial units can easily move U.S. profits offshore using a loophole known as the “active financing exception.” A U.S. corporation can do an “inversion” by buying a foreign firm and then claiming that the new, merged company is foreign. This lets it reincorporate in a country, often a tax haven, with a much lower tax rate. The process takes place on paper — the company doesn’t move its headquarters offshore and its ownership is mostly unchanged — but it continues to enjoy the privileges of operating here while paying low tax rates in the foreign country.
The simplest solution is to end “deferral,” as proposed by Sen. Bernie Sanders and Rep. Jan Schakowsky. Corporations would pay taxes on offshore income the year it is earned, rather than indefinitely avoid paying U.S. income taxes. This would also remove incentives to shift U.S. profits to tax havens, and it would raise $600 billion over 10 years. Short of ending deferral, Congress should close the most egregious loopholes, such as “check the box,” “transfer pricing,” the “active financing exception” and corporate “inversions.” It should also end the loophole that lets firms deduct the cost of expenses from moving jobs and operations offshore if the profits earned from those activities remain offshore and untaxed by the U.S. — saving $60 billion over 10 years. Sen. Carl Levin (D-MI) has introduced legislation, the Stop Tax Haven Abuse Act (S. 1533), that will close some of these loopholes. It will raise $220 billion over 10 years.
References
Brunori, D. (2013, September 9). Want a tax shelter? just do it. The Forbes. Retrieved from http://www.forbes.com/sites/taxanalysts/2013/09/16/want-a-tax-shelter-just-do-it/
Kocieniewski, D. (2011, March 24). G.E.’s strategies let It avoid taxes altogether.The New York Times. Retrieved from http://www.nytimes.com/2011/03/25/business/economy/25tax.html
Pozen, R. C. (2011, September 19). How to bring our companies’ foreign profits back home. The New York Times. Retrieved from http://www.nytimes.com/2011/09/19/opinion/bring-american-companies-foreign-profits-back-home.htm
Rubin, R. (2013, March 8). Offshore cash hoard expands by $183 billion at companies. The Bloomberg. Retrieved from http://www.bloomberg.com/news/2013-03-08/offshore-cash
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