Panama loses its tax haven status for 24 hours

Is Panama a tax haven? At the moment, we could still can consider it as such … But for how long? We have already got used to Governments just changing laws overnight.” We saw it in Cyprus, where during a bank holiday in a hurry the Government passed a law to skim deposits at the country’s two largest banks in order to bail them out from its disastrous financial situation. The latest “Government outrage,” however, happened in Panama.

On December 30th, 2013, the whole offshore industry of this well-known tax haven got shacked up by the So-called Law 120, which was published in the Official Gazette of the country without any prior notice, just before the New Year’s Eve. The new law, more or less abolished the existing territorial taxation system which had existed in Panama since decades. Individuals and companies domiciled in Panama would from this day forwards be taxed on their worldwide profits and not only for income from local source. In other words, the new law would mean the end of Panama as a tax haven and also for the whole offshore industry of the country that employs around 30,000 people. The announcement caused such an outcry within the financial community throughout the country, that it was no surprise to read on the Presidency’s website the next day:

” The Director of the National Revenue Authority, Luis Cucalón accepted having been wrong by proposing to the Members of the National Assembly, the inclusion of Articles 2 and 3 of the law 120 of 2013, concerning the territoriality of the foreign income earned by Panamanian natural and legal persons .”  “Although incorrect things were said about the scope of this law, I must admit that I was wrong in thinking that Panama was ready for this step,” he said.

And indeed, as most experts predicted, on January 2cnd, 2014, the Panamanian Government Council passed a resolution repealing sections 2 and 3 of Act 120, which provided for the payment of taxes on income earned outside Panama. With this, everything was back to normal.

However, this episode has seriously eroded the image of Panama and the seriousness of its Government. Firstly, because a measure of such significance, that changes the whole tax structure of a country, cannot just be passed overnight, without discussion, through a backdoor on the Eve of a main bank holiday. Such an approach not only denotes improvisation, but also a total lack of respect for the professionals working in the financial and corporate services industry, as well as for the thousands of investors who hold the ownership of companies or bank accounts in Panama. It also provides important clues about the intentions of the Panamanian Government in the future, in respect to its status as a tax haven. It is expected that Panama will follow the footsteps of other jurisdictions such as Gibraltar or Andorra and seek to abolish the offshore sector and territorial tax system, becoming a conventional low-tax country. The Government of President Martinelli has shown a clear commitment and intention to promote other income streams for Panama, dropping the offshore sector, may it be little by little (as supposed until now) or once and for all. The question is: will Panama be able to offset all the income, deposits and jobs generated thanks to its current status as an offshore jurisdiction? May a loss of confidence in the country trigger a massive flight of capital that even could compromise the traditionally high solvency ratio of its financial system? The latter is hard to guess, but what seems clear is that Panama will no longer be perceived as a stable and safe place in the eyes of the international investment community, who does not like surprises or instabilities. Thus, the decline of Panama as a tax haven seems inevitable…

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Can tax havens be used legally?

Tax havens and their use by the rich, famous, or by large corporations are often the subject of controversy in the media, particularly since the beginning of the current economic and financial crisis. Because of their opacity, they are frequently blamed to host criminal activities and tax evasion.

However, is it possible to use tax havens in a totally legal way?

The answer is yes, but it will be only interesting in very specific cases. Of course, it is possible to form and own an offshore company without breaking the law, by reporting all their profits in one’s personal tax return in the country of residence. The problem is that, in many cases, the tax treatment of these profits wouldn’t be favourable at all, because of certain “anti-circumvention” measures that exist for many countries and, which try to make tax haven investments unattractive. The most well known are the so-called “CFC (controlled foreign corporations) rules” which treat offshore companies as transparent or “disregarded” entities.  What does this mean? Basically, that any profit obtained by the company is attributed directly to the owner, regardless of whether or not dividends are distributed or capital is repatriated to the country of residence. Under these circumstances, incorporating an offshore company would not provide any tax advantage and be may be quite useless. Of course, unless it is formed for non-tax-related reasons such as such as privacy, asset protection or portfolio risk reduction through global investment.

So then, who can take advantage of tax havens without incurring a tax evasion? Generally, four distinct groups:

  • The first would consist of natural or legal persons residing in a country with a territorial taxation system. Such states tax their citizens only for those profits obtained within its own territory, while all foreign source income being tax exempted. This kind of system can be found in countries like Hong Kong, Singapore, Panama and Uruguay, to name a few.
  •  The second group are the residents in countries that have not yet developed proper anti-circumvention rules in their legislation. This allows owners of offshore companies to defer tax payments,  and be taxed solely on those profits that they decide to repatriate to their home countries. Most industrialized nations have “CFC rules” in their legislation, but there are still a number of developing nations that either has no such rules, or they are in very early stage of implementation. As part of this group, we could mention certain countries in Africa, Central America or Asia.
  • The third group would be made up from individuals who have taken up residence in countries that offer tax advantages to those who reside more or less permanently within their territory, but conduct their business in other parts of the world. Here we could mention certain residency by investment or so-called economic citizenship programmes”  as the ones existing in countries such as Malta, Dominica, St. Kitts & Nevis and so on. A well known example is also the UK “non-dom” status.
  • In the fourth and last group, we would have those investors who are not affected by “CFC rules” as they are considered not to have enough voting power or control over an offshore company to decide about profit or dividend distribution. Generally, anti-circumvention legislation only applies to persons or entities that control 50% or more of the share of an offshore company, either directly or through other related persons. It doesn’t apply to minority shareholders, because otherwise they would be forced to pay taxes on profits which even may not have been distributed yet.  This minority shareholder exemption can be enjoyed by virtually any offshore company that has three or more shareholder having less than 50% voting power each. In that case the owners will only pay taxes on those profits distributed as a dividend, being able to indefinitely defer taxation for all income which is kept inside the company as retained earnings. Those funds may also be re-invested in the same or other tax-free offshore jurisdictions. This is one of the exceptions to the application of CFC rules which allows many multinationals, having a large number of shareholders,  to use tax heavens extensively for aggressive tax planning.

All this shows that, despite the generalization of “CFC rules,” there are still a large number of companies or individuals who can benefit from tax havens in a perfectly legal way.

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Are British tax havens’ days numbered?

UK tax havens will likely come under increasing pressure in the coming months.  Recent informations published by the British press have revealed that Prime Minister David Cameron has sent a letter to the Governors of the ten British Crown Dependencies, in which he called for a greater level of transparency. In the mentioned letter, the Prime Minister pointed out:

 “I respect your right to be lower tax jurisdictions. I believe passionately in lower taxes as a vital driver of growth and prosperity for all. [...] But lower taxes are only sustainable if what is owed is actually paid - and if the rules to achieve this are set and enforced fairly to create a level playing field right across the world. There is no point in dealing with tax evasion in one country if the problem is simply displaced to another.”

Likewise, David Cameron encouraged the leaders of the British tax havens, including such significant offshore jurisdictions as the British Virgin Islands, Cayman Islands and Gibraltar, to move towards a greater level of transparency, allowing access to the names of the owners’ offshore companies.
For now, this letter is only a recommendation, but it is an indicator of the intentions of the British Government, which for the first time in history seems determined to promote transparency and exchange of information. However, for this initiative to succeed, it would be necessary to get similar commitments from all the other independent tax havens, since otherwise any legal change promoted by the UK alone would simply result in the flight of businesses and capital to other jurisdictions. And the possibility of tax havens committing to their self-destruction is a very unlikely scenario.

However, it cannot be denied that winds of change are blowing lately in many European governments, particularly interested in reducing their public debt by increasing their tax revenue. But will the large financial and business lobbies allow substantial changes in their play field? Or are possible changes once again to be limited to the “small fish” only? Possibly, some of these questions begin to be clarified during the next G-8 summit, where it is expected that new measures against tax havens and offshore secrecy may be proposed.

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Offshore leaks: tax havens once more on the spotlight

“Offshore leaks” is the name of a new scandal referred to tax havens, which spread through the Internet in the last few days. In this article, we’ll try to make a brief summary of the facts known so far.

The facts:

Who has disseminated the information?

The “International Consortium of Investigative Journalists” (ICIJ), an organization of more than 160 journalists in 60 countries. The purpose of this consortium is to promote cross-border investigative journalism. For the dissemination of the material obtained, the agency collaborates with various TV channels and newspapers around the world: BBC World Service and BBC World TV, the International Herald Tribune, Le Monde (France), El Mundo (Spain), Trouw (Netherlands) , El Pais (Spain), Folha de Sao Paulo (Brasl), Le Soir (Belgium), Novaya Gazeta (Russia), the South China Morning Post (Hong Kong), Stern (Germany), The Guardian (UK), The Sunday Times (UK), Proceso (Mexico), the Huffington Post (USA), The Age (Australia) and The Sydney Morning Herald (Australia).

What information about tax havens does the consortium have?

They claim to have access to data of about 130,000 individuals and legal entities conducting business or investments through tax havens and 122,000 offshore companies related thereto. The resulting material consists of approximately 2.5 million files, including four major databases, plus hundreds of thousands of text documents and pdf files. In total, about 260 gigabytes of information. The documentation contains names of individuals and companies from over 170 countries.

Who is in the listings?

Among many ordinary citizens, the listings also contain names of prominent businessmen, politicians and their families. Some of the names which have become known by now are Jean-Jacques Augier (the treasurer of the election campaign and personal friend of President François Hollande), the new Prime Minister of Georgia Bidzina Ivanishvili, the President of Azerbaijan Ilham Aliyev, the daughter of the former Philippine dictator Ferdinand Marcos, Maria Imelda Marcos Manotoc, and the sons of previous President of Colombia Alvaro Uribe, among many others.

How has this information been obtained?

As per the consortium’s informations, the research began with a hard disk mailed anonymously to their editorial office. This hard drive contained data from two major offshore service providers, of which the names have not been confirmed, and apparently had been subtracted by some of their employees. Most of the information is related to the jurisdiction of the British Virgin Islands (BVI), and thus it is assumed that the data come from that country. However, other jurisdictions such as Singapore are also involved.

As the consortium has informed, The classification work was extremely complex, and it was necessary to use highly sophisticated electronic and optical means for analysing the large amount of documentation available and to find the transactions related to prominent public figures.

Clearly, the “offshore leaks” case will put tax havens once again in the spotlight and may trigger possible regulatory changes or new campaigns against offshore secrecy. Therefore, it will be of utmost interest to track the events in the coming months, particularly in what concerns the British crown dependencies.

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Tax Havens - Investigating International Finance

Tax havens are used by wealthy individuals and companies to shift large sums of money around the world in secret, which costs governments billions in tax revenue.
Critical video by the new economics foundation addressing tax evasion and tax avoidance issues.

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