By Mark Pragnell, Director, Pragmatix Advisory (on behalf of BVI Finance)
The International Consortium of Investigative Journalists (ICIJ) and their collaborators within mainstream media organisations have reignited an important and lively debate about offshore tax. Unfortunately, their perspective looks more towards the 70s than the 2020s.
There is no doubt that some parties abuse the international tax rules, sometimes egregiously, and that behaviour should be stopped. However, there is a huge difference between use and abuse, and rogue behaviour (of which ICIJ have identified very little from their latest tranche of leaked information) doesn’t invalidate the whole system.
The Mythical Caribbean Island “Tax Haven”
The reporting of confidential client records from 14 different offshore service providers, among other sources, has led to calls for governments to clamp down further on, or even close, the international finance centres in the crown dependencies and overseas territories. The blanket assumption that “offshore” is “illicit” creates an ill-informed debate that revives “tax haven” stereotypes from an era before globalisation and the internet, and when “onshore” could involve tax rates at more than 80 per cent. As businesses, people and capital have become less bound by geography, offshore centres have developed in response to the growth of international trade, globally mobile labour, and cross-border investment.
Self-governing small jurisdictions, such as the British Virgin Islands (BVI), offer neutral locations from which to conduct and administer this burgeoning multinational business. A small island with a history of political stability, a rule of law that is globally respected, and an established cluster of specialist financial institutions is a logical and unbiased location to hammer out a joint venture between, say, Dutch, US and Russian energy firms. Likewise, it is an effective centre to pool funds from investors in Asia and Europe for onward investment in projects and assets in Africa and the Americas – especially when that island’s government is committed to not increasing your tax burden.
The BVI doesn’t impact an individual or a company’s liability for taxes in other countries. It simply does not have the diplomatic clout to negotiate the “double tax agreements” that Luxembourg or the Netherlands have with other EU members – and which have been used by these countries to offer sweeter tax deals.
Instead, the crown dependencies and overseas territories only offer “tax neutrality” whereby they do not further add to the tax burden of those carrying out cross-border economic activity. A British resident who holds assets in the BVI, for example, is still obliged to pay income and capital gains tax at home. Many of the stories of the Pandora Papers involve offshore holding structures for residential real estate in the United Kingdom. The tax on such structures is now significantly higher than direct ownership of real estate because of the “enveloping” taxes introduced by the London government in 2013. As a result, it is disadvantageous from a tax perspective to own UK residential real estate through an offshore structure.
One Person’s “Leak” Is Another’s Stolen Information
In releasing the Pandora Papers, the ICIJ has made every effort to push the narrative that offshore companies provide “secrecy” and “hide” the true owners of an asset. This is false. Unlike the position in the United Kingdom and the United States, it is unlawful to incorporate or administer a company in the BVI without first verifying information on its beneficial owners – including the source of the wealth in question. This information must then be uploaded to the centralised Beneficial Ownership Secure Search (BOSS) system so that it can be searched at will by law enforcement and regulatory authorities. Ironically, it is only because BVI has these laws in place and the appropriate disclosures had been prepared that the ICIJ was able to get hold of this information in the first place.
Meanwhile, privacy shouldn’t be confused with secrecy. Numbered bank accounts may be common in offshore folklore but, in the real world, Switzerland was alone in its levels of secrecy and lack of co-operation with other nations’ police and tax authorities.
The crown dependencies and overseas territories have never had banking secrecy laws, and they have led the world in the implementation of measures to stop international money laundering, tax evasion, and financing terrorism. Small offshore centres including the BVI are regularly scored by the likes of the Organisation for Economic Co-operation and Development (OECD) as equal, if not better, than the biggest industrialised nations for the quality of their financial and company regulation and enforcement. For years they have willingly exchanged relevant information about their clients with law enforcement and tax authorities elsewhere. All the British-linked jurisdictions are signed up fully to the latest international tax transparency initiative, the Common Reporting Standard, unlike the United States.
Just because information is not visible to journalists does not mean it is not visible to regulators and law enforcement agencies. Privacy remains a human right – even for the rich.
And it is this rightful desire for privacy that motivates many of the individuals named in the Pandora Papers to hold family assets in offshore companies and trusts. For those who live in countries without due rule of law and/or which suffer from political instability where private property can be expropriated for political reasons, the security and confidentiality offered by offshore jurisdictions like the BVI is indispensable. They have a law-based order that respects private property and ownership rights, and their judicial systems ultimately appeal to the Privy Council in London. In this context, it is not surprising that individuals may decide to transfer assets to structures where they cannot be confiscated on a whim.
The Real Tax Issues Lie Elsewhere
The Pandora Papers are diverting attention from the real issues within international tax systems. And they risk undermining an offshore system that has served both global prosperity and domestic economies well.
The United Kingdom’s tax collection agency, HMRC, has recently published a 98-page report into what they estimate is the UK’s £35 billion “tax gap”. There is no mention of BVI – or any other crown dependency and overseas territory. Indeed, it makes no mention of “offshore”. Instead, domestic issues – frailties of self-assessment tax returns, VAT and excise fraud, and “moonlighters” and “ghosts” in the cash economy – account for the bulk of missing tax revenues.
International concern about tax avoidance is not unfounded but it is increasingly misplaced. Base erosion and profit shifting (BEPS) by big corporates who artificially manipulate the reporting of their internal cross-border activities in order to have profits booked to locations where they receive low or favourable tax treatment is estimated by the Tax Justice Network to cost countries US$245 billion in lost corporate tax every year. But while small offshore centres are often (incorrectly) implicated in such activities, the OECD’s response to tighten up global fiscal and accounting practices demonstrates the lack of culpability of small offshore centres, especially those that are tax neutral, like the BVI. To reliably minimise tax, profit shifting requires firms to book their surpluses into low tax jurisdictions that have double taxation agreements with the other nations in which they operate. Profit shifting occurs through so-called ‘treaty jurisdictions’, like Ireland, Luxembourg and the Netherlands, which provide legal protection to companies from being taxed twice – and not through smaller tax neutral centres.
BVI and the other crown dependencies and overseas territories play an important and valuable role in the modern global economy. Offshore finance has moved on from the clichés of cash-stuffed suitcases and treasure islands. It’s time for journalists to catch up.
Mark Pragnell, director of Pragmatix Advisory, has over 25 years’ experience as a macroeconomics consultant and forecaster. He has worked with a number of IFC governments, promotional bodies and businesses, and has led seminal research to explain and quantify the value of IFCs.