The Paradise Papers have stirred up quite a bit controversy in recent weeks, just like when the Panama Papers were released just a year ago. But among all the talks about tax avoidance, shell companies, and offshore accounts, we ask, what exactly are tax havens?
While we won’t delve deep into complicated concepts and terminology, a tax haven is often used for tax avoidance. Being the owner of a bank account in most countries means that there are records of money entering and leaving the account, making it easy to detect taxes owed. Depending on the income, those taxes can amount to a hefty sum. A sum so significant, some may choose to actively search for loopholes in the system to avoid paying taxes in their home country. Tax havens offer these possibilities for their own gain.
Tax Avoidance: A Moral Gray Area
Looking at the name, it should be clear when talking about Tax Avoidance, the emphasis is on avoidance. It’s not straight up a crime, but it is a moral predicament.
Tax havens like the Cayman Islands, Bermuda, Switzerland or Panama have low taxes, if at all. Those countries benefit solely by luring vast amounts of money into the country, invigorating their financial sector and economy. In return, they charge very little tax and provide anonymity and security. People who choose to stash their money in offshore accounts want to get away from the prying eyes of their governments. Tax havens don’t pay too much attention to those things and, even if, don’t share those with the home country of the affected individual or company.
Definition of Tax Havens
There is no singular exact definition of what a tax haven is or isn’t. There are many perceptions of what a tax haven entails and what not. There are however a few points that are mostly agreed upon.
A tax haven is defined by
- Low or nonexistence taxes
- Safeguarding financial information
- Being non-transparent
Some may consider a country a tax haven if only one or two of these criteria are met while others rely on even more than these three indicators. Some may count the encouragement of illegal activities such as money laundering to indicate a tax haven.
Tax Havens and Tax Avoidance are often named in conjunction with Shell Companies. A shell company is often used by major corporations to move assets and profits from their home country, where they’d have to face substantial taxation, to a tax haven, effectively cutting down taxes.
While a company, once filed, is locked into place within the country it was formed in, a shell company can be founded as a subsidiary in a country with a lower tax rate. By transferring assets to this newly founded shell company, which doesn’t conduct its own business or initially holds anything, they become taxable in the country the shell company was founded in. Bermuda, for example, where the corporate tax rate has always been zero.
Tax avoidance, however, may not be the only reason for a shell company or an offshore account. As tax havens don’t usually share any information with the outside world, business processes can be disguised and hidden by using a country like Bermuda or the Cayman Islands.
The recent Paradise Papers like, just as the Panama Papers last year, uncovered some of those activities as well. It was revealed that, for example, Trump’s commerce secretary, Wilbur Ross, holds investments in a company linked to Vladimir Putin’s son-in-law. A link never uncovered thanks to the secrecy of tax havens, until the Paradise Papers leak.
Tax havens do invite illegal behavior, the vast majority of proceedings are, however, perfectly legal. They may be morally challenging for some, but in the end, it is a sometimes meticulously crafted legal construct by companies. It is more of a bending than breaking of rules in order to save on taxes. And you don’t have to travel to far-away tropical islands to find one either. Several nations in Europe and even the US can, under certain circumstances, be viewed as a sort of tax haven to some.
The lack of information exchange between those tax havens and other countries is what makes it most difficult to get a grasp of what’s really going on and how to solve it.
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