Tax Haven or Tax Heaven 2: Tax Havens and the “poaching” of capital – theft or competition?

Introduction …

On the campaign, I used to talk about the outrage of a building in the Cayman Islands that had over 12,000 business — businesses claim this building as their headquarters.  And I’ve said before, either this is the largest building in the world or the largest tax scam in the world.

President – Barack Obama – May 4, 2009

What about Nevada, Delaware, Wyoming and S. 871 of the U.S. Internal Revenue Code?

“Tax Haven” or “Tax Heaven” – it’s a question of perspective …

This is the second of my posts about the “Panama Papers” and the question of “Tax Havens”. The first was:

Tax Haven or Tax Heaven 1: Fran Hendy and Barrie McKenna see “Panama Privacy Leak” as about more than #offshore witch hunt

The “Panama Papers” has generated discussion about “tax havens”, “tax evasion” and “international tax policy”.  The revelations included (“surprise, surprise”) that many of the accounts were NOT held by residents of Panama, but by residents of other nations. There is nothing that is “per se” illegal about having “offshore accounts”. In fact “offshore accounts” are (even for U.S. citizens) perfectly legal. U.S. citizens are required to report these accounts (FBAR anyone?) to the U.S. Government. The failure to report these accounts may (but not must) result in the imposition of draconian penalties.

Given that the “offshore accounts” are (in general) legal, the problems arising from “offshore accounts” are NOT the result of a lack of compliance with the law, but rather WITH compliance with the law. In other words, “For Good and Evil“, the use of offshore accounts  is the result of compliance with existing law. Perhaps the problem (if you agree that there is one) is the result of the system itself and NOT with bad actors in the system.

The system, the participants and participants in the system

The above tweet references an article that appeared in the Globe and Mail on April 9, 2016 by University of Montreal Professor Peter Dietsch. The article is interesting (whether you agree with the author or not) because the author equates the concept of a “Tax Haven” with the concept of “capital poaching” (the attempt to attract capital).

Mr. Dietsch writes:

This week’s fallout from the Panama Papers merely reminds us of something that we already know: Illegal tax evasion and legal (but often immoral) tax avoidance remain very common.

To get a grip on these problems, the first thing to realize is that we are faced with a systemic issue, rather than a few rotten apples. It would be naive to simply blame the individuals and corporations who exploit the loopholes. Their behaviour is abetted, in many cases even encouraged, by states. It isn’t just small tax havens, but bigger states, too, that try to use fiscal policy to attract capital.

Any effective systemic reform requires understanding the nature and extent of the problem. Rich individuals stashing their wealth behind the secrecy of offshore accounts, as in Panama, is merely one facet of tax competition.
The Organization for Economic Co-operation and Development’s 2014 standard for automatic information exchange, the European Union’s initiatives on tax transparency, the U.S. Foreign Account Tax Compliance Act – all these measures are directed at making it harder, or impossible, for people to avoid paying their taxes in their country of residence. Optimists will see the Panama Papers as a sign that these reform efforts are bearing fruit. Pessimists will take them as proof that the steps taken so far are ineffective. …

attracting individual portfolio capital and corporate paper profits have one thing in common. As the OECD puts it, they “poach” capital from the tax base of the state that has a right to tax this capital – the residence state in the case of individuals and the source state in the case of multinationals.

Mr. Dietsch identifies the twin realities of (1) “poaching capital” from the tax base of other countries and (2) the avoidance of taxation on the capital being “poached” when the capital has been transferred to the “poacher” nation. The avoidance of taxation can result from (1) NOT being required to pay taxes in the jurisdiction that is the recipient of the capital or (2) hiding (not disclosing) the income generated by the capital from the authorities that claim the right to tax this income.

Mr. Dietsch’s article is written in the context of the “Wide and Wonderful World Of Tax Havens“.

What is a “Tax Haven” (or is it “Tax Heaven”) anyway?

“Public Tax Havens” for “tax avoidance” vs. “Private Tax Havens” for “tax evasion”

There are at least two ways that a country can be a “Tax Haven”.

1. “Public Tax Havens” – A country can be a Tax Haven if it has lower tax rates than your country. The lower the rate of taxation, the higher the incentive to transfer capital to the lower tax country. A transfer of capital to a “lower tax” country will be a loss of capital to the first country. Note, the “lower tax rate Tax Haven” is completely transparent. It competes in a public and visible way on the open market for capital. It “lures” capital to other jurisdictions in a public and transparent way. It makes no attempt to hide the identities of those who send their capital to that country. Therefore, “Public Tax Havens” may result in “tax avoidance”, but they do NOT result in “tax evasion”.

At a 35% tax rate the United States has the highest corporate tax rates in the world. Therefore,  from a U.S. perspective almost EVERY other country in the world, because it has lower tax rates, is a “Tax Haven”.

Therefore, running a bit of logic:

If the U.S. were serious about wanting to eradicate “Tax Havens” it would lower it’s tax rates to the level of other nations (ensuring that other nations would not be a “Tax Haven” relative to the USA).

Since the USA has not lowered its tax rates to the level of other nations, it’s clear that the U.S. does NOT want to eradicate “Tax Havens”.

2. “Private Tax Havens” – A country can be a Tax Haven if it allows, or participates in hiding capital from tax authorities,  capital to be hidden from the tax authorities.

“Private Tax Havens”, by hiding the identify of the account holders,  are more likely to result in “tax evasion”.

The United States has accused Switzerland and other countries of running “Private Tax Havens”.  Yet, pursuant to the FATCA IGAs, the United States is requiring all other nations to disclose the identify of “U.S. Person” customers, while NOT providing “equivalent” exchange to other nations.

The message from the United States is:

“Seeking to hide your wealth? Park it in the United States of America!”

See this recent post by Fran Hendy, where she confirms what we all know, specifically that:

These two testimonies from its service-providers are instructive:

“Delaware is the state that requires the least amount of information,” says David Finzer, the chief executive of Capital Conservator, a registration agent that sets up accounts in Delaware and elsewhere for non-United States citizens. “Basically, it requires none. Delaware has the most secret companies in the world and the easiest to form.”

Mr. Finzer, an American based in Novi Sad, Serbia, advertises his services online. “Tax-Free Havens for Non-U.S. Citizens,” his site, says. It continues: “More than 50 percent of the major corporations in the world are incorporated in Delaware. Why? Because it provides the anonymity that most offshore jurisdictions do not offer.”

Whether a country is a “Public Tax Haven” or a “Private Tax Haven” (or both), capital is being “poached”. In the case of “Public Tax Havens”, capital is being “poached” because it is being “lured” from one jurisdiction to another because of a promise of a lower rate of taxation. In the case of “Private Tax Havens”, capital is being “poached” because of a promise to “hide” the ownership of the capital.

All “Tax Havens” compete in “marketplace” for capital

A “Tax Haven” is a country that either directly or indirectly “poaches” capital from another country by providing incentives to transfer that capital from the less “capital friendly jurisdiction” to the more “capital friendly jurisdiction.” In other words, the “Tax Haven” (regardless of the reason) is simply more “capital friendly”.

But, being “capital friendly” is a good thing and not a bad thing, isn’t it?

The question is whether “tax competition” should exist among nations. Daniel Mitchell of the CATO Institute is a proponent of the view that “tax competition among nations” is a good thing. It seems clear that proponents of the OECD Common Reporting Standard (CRS) are NOT advocates of tax competition.

Whether you believe in “tax competition” or whether you believe in no “tax competition”, all would agree that “competition” among nations for capital is the ONLY thing that ensures (relatively) lower tax rates. If you believe in lower tax rates, then you would believe that nations should compete for capital. If you accept that countries compete for capital by having relatively lower tax rates, then you would agree that “Tax Havens” have a socially and economically useful purpose.

 

John Richardson