Tax Havens (sometimes called tax shelters, secrecy jurisdictions, international financial centres, or simply offshore) are the hubs of a growing shadow economy of unregulated global capital.
The Canada Revenue Agency has defined Tax Havens as jurisdictions with:
- No tax, or very low rates of taxation;
- Strict bank secrecy provisions;
- A lack of transparency in the operation of its tax system, and
- A lack of effective exchange of information with other countries.
Tax Havens also help their users:
- Bypass financial regulations and regulatory watch dogs;
- Launder money earned illegally through drug trafficking or organized crime; and
- Hide from criminal laws and liabilities.
Tax Havens come in all shapes and sizes, from small, tropical Caribbean islands to old, aristocratic European principalities. They can be places you’d need a magnifying glass to find on a map or even large, major industrialized states. They can even be cities or designated areas within countries too.
In the last 10 years (and particularly since the global financial crisis) Tax Havens have emerged as a wildly popular destination for big banks, multinational corporations, the super wealthy and their armies of lawyers and accountants. A recent study by James Henry of the Tax Justice Network estimates that $21 to $32 trillion is now invested in tax havens. This is equal to the combined annual output of the USA and Japan combined.
Most people get the idea of what a Tax Haven is, but how exactly are they used?
The growth of Tax Havens has created a burgeoning industry of ‘aggressive tax planners’ and ‘creative accountants’ who are always on the lookout for ‘innovative’ and ‘efficient’ ways to game the tax code and maximize profits.
The list below details a number of common strategies (some illegal, some legal) for using tax havens to exploit loopholes and cheat the tax code:
Deliberate (and illegal) attempts to distort, hide, or fail to report net income to tax authorities as a means of paying lower tax rates. Tax evasion schemes can be very sophisticated and often involve establishing a series of trusts, corporations, and other financial entities headquartered offshore that essentially launder money, making it difficult for authorities to trace transactions and identify the true owners of assets.
DEBT AND EARNINGS STRIPPING
‘Stripping’ essentially means moving money around from A to B. The idea with debt and earning stripping is you shift the debt or profits between high-tax and low-tax jurisdictions to get a more favorable tax rate. A company might borrow more in a high-tax jurisdiction while moving profits into a jurisdiction with low taxes.
TRANSFER PRICING (OR TRANSFER MISPRICING)
Multinational corporations with subsidiaries operating in multiple countries will sometimes sell goods and services from one subsidiary to another subsidiary at a price far lower than the actual market price for these goods. When a subsidiary sells something to a subsidiary in a tax haven at a fraction of its actual cost, the corporation is able to shift its income .
PATENT AND INTELLECTUAL PROPERTY LICENSING
Companies can set up and transfer its patents and intellectual property to a subsidiary in a tax haven and have that subsidiary charge the parent company a licensing fee at an exorbitant rate. Unlike the price of commodities or other goods that are traded, it is difficult to establish a “market price” for patents and intellectual property so it is difficult for tax authorities to police this type of arrangements. High tech and pharmaceutical companies are increasingly employing this trick. It is even more galling when the patents and intellectual property were developed with the help of research tax credits from Canadian or other host country governments.
LIMITED INFORMATION REPORTING BETWEEN JURISDICTIONS
The one thing that empowers Tax Havens and offshore tax avoidance is banking secrecy. Many Tax Haven jurisdictions enforce strict confidentiality laws (even asking about someone’s account is a punishable crime in the Cayman Islands) or simply do not keep any records at all (The British Virgin Islands is home to over 400,000 corporations and requires no financial or personal records be kept whatsoever). As a result, it is ridiculously easy to transfer large sums of money into Tax Havens undetected.