There’s no doubt that a sense of mystery and foreboding surround offshore financial centres (“OFC”) - sometimes called offshore tax-havens. The so called mystique of these locations is further enhanced through movies, books, TV shows and even the governments of some developed countries which tend to place these jurisdictions in negative light.

The truth is: if one were to believe all the hype about these centres then one would surmise that the only people that operate in these centres are the bad elements of society. How wrong can perception and innuendos be towards OFCs?

In reality, many successful offshore jurisdictions have stronger laws and regulations than the developed countries that we have come to respect and which criticize how these centres operate. Many of the world’s richest people and families and some of the biggest and most reputable companies use them through legal structures to minimize their taxes and the litigious aspects of modern society.

Most Fortune 500 companies have lawfully created corporate structures in locations such as Bermuda and Switzerland to legally minimize their tax obligations. For instance, the large American conglomerate General Electric’s finance division – one of its main profit engines - has global operations, including many in OFCs. In addition, household names like General Motors, Pfizer, and Ingersoll Rand all have a portion of their operations in OFCs, which are legally structured to minimize corporate taxes.

Although free trade and other internationally accepted methods of doing business between countries by lowering tariff barriers, increasing competitiveness and creating a more level playing field are always in the news, there have never been any discussions among international organizations or groups of countries about “tax harmonization”.

A recent World Bank study showed that cutting tax rates and simplifying tax systems can greatly reduce the incidence of tax evasion. Doing so would make tax havens less attractive. So until there is a wholesale effort to create tax harmonization between countries these OFCs would continue to operate.

Former US presidential hopeful Mike Huckabee, while visiting the Cayman Islands in February 2008, stated: “If the US could ever implement a fair tax law, it would make US companies so much more competitive …” “He further pointed out that 22% of the cost of US products were from such levies as payroll, income and other taxes, forcing them to outsource to Asian and European partners”. He also stated that, “… our tax code penalizes productivity.” As the recognized most powerful country in the world, the U.S. has a totally inconsistent tax structure among its various states that defies any sense of normalcy. How can the U.S. argue with tax-free centres when it has its own tax free states? Also, how can the U.S. or anyone expect a tax equalization system when the US cannot agree internally to a common tax structure?

It is too bad that more people could not understand that OFCs are only one facet of the international financial scene. These centres are trying to create jobs and wealth by structuring their operations to benefit both domestic and international individuals and corporations by offering a needed service. The smaller jurisdictions are trying to become more independent and to diversify their economic base away from tourism and/or agriculture. The more independent some of these developing countries can become the less they will rely on assistance from the wealthier countries. That would allow these countries to increase their revenues, making them more self sufficient and less dependent on foreign aid for their existence. By offering tax efficient banking, investment and corporate business structures, these countries will be able to diversify their economies and become less reliant on their traditional industries which have suffered with the increasing influence of international free trade policies.

One of the most ironic things we hear about is the harm that these OFCs are doing to large countries because of the loss of tax revenues. However, are you aware that these same large countries entice and attract foreign investors by allowing them to invest in their sovereign debt with no tax obligations on interest earned? A foreign investor can invest in US or Canadian government bonds and treasury investments and have no tax payable whereas a citizen/resident of these countries investing in the same instruments is taxed at their personal tax rate. Are people aware that over 40% of the huge US Government debt is owned by foreign companies and individuals? They are attracted to zero taxes on these types of investments? Many of the funds that are placed in OFCs are invested in US government securities because of the tax free incentive of investing in the US. Some believe the largest offshore market in the world today is actually the US market. Isn’t it paradoxical then that the U.S. is one of the biggest critics of OFCs?

Offshore holdings now run between US$ 5 - 7 trillion, five times more than 20 years ago and make up perhaps 6 - 8% of worldwide wealth under management according to the OECD. The Islands are the world’s fifth largest banking centre with over US$ 1.5 trillion in assets. But over 90% of this total is in interbank deposits. With a population of around 55,000 they have over 70,000 International Business Corporations and nearly 9,000 hedge funds. Some of the largest and best known investment banks and companies from around the world have operations there, including most of the large Canadian Banks (CIBC, BNS and RBC), Goldman Sachs, General Motors Acceptance, UBS, Bank of America, Bank of China and HSBC, to name a few of these easily recognized names.

Are you aware that there are offshore companies listed on the NASDAQ and Hong Kong’s Hang Seng stock exchanges? It is estimated that over 90% of companies listed on the Hang Seng are incorporated offshore.

In the CIA list of the top economies by GDP per person using 2006 estimates you will find a most interesting list of countries, the Top 10 of which include Bermuda, Luxembourg, UAE, Norway, Guernsey, Cayman Islands, Ireland, United States, Jersey, British Virgin Islands. Note that only UAE and Norway would not be considered offshore jurisdictions. Therefore 80% of the top countries based on GDP per person derive a portion of their country’s income from offshore services. These low tax countries are doing quite well for themselves. These same countries are not ones that are considered large manufacturing giants but are more service oriented income producers.

How Have Some of These OFCs Grown?
Some OFCs have grown significantly in size in recent years. For example, Jersey Island in the Channel Islands used its role as a low-tax repository to build up a sophisticated private-banking and trust business in the ‘60’s. More recently, it has moved into the corporate businesses of structured finance, the administration of investment funds and the management of company share plans.

Another example is Barbados which was once heavily reliant on sugar. However it received help from the IMF and other international agencies to establish its financial sector in the ‘70’s. Since then Barbados has grown to become a significant offshore jurisdiction, especially for Canadians, largely due to the existence of a tax treaty between Canada and Barbados. According to the Business Barbados Report 2007: “Canadian led investment in Barbados increased by CAD 4.0 billion to CAD 34.7 billion ranking third behind the United States and United Kingdom” (end of 2005)….This investment is represented mainly in the presence of the foreign affiliates in the areas of banking, investment and trading companies and insurance entities.” Canadian businesses “represent at least 30% of the collected corporation tax” plus personal income tax and national insurance payments.

There are many other similar examples of successful results from OFC jurisdictions which control more of their economies with properly structured financial incentives.

It is evident that international movement of funds will not stop. What must occur is strengthening of the international bank standards and regulations on risk asset ratios and capital and less emphasis on so called problem jurisdictions. With all the problems generated by the recent sub-prime loan fiasco which originated in the US but consequently affected banks throughout the world, we question the controls by large countries on their own turf. The problems were caused by poor judgment on the quality associated with these risky investments and a laissez-faire attitude by regulators in monitoring or establishing risk measures on these types of investments. We have yet to hear of a bank in an OFC being bailed out by the local government but the same is not true of major banks and brokerage houses in the major financial centres of the US or the UK. These countries should worry more about their own business than everyone else’s. The losses which have been experienced by the major institutions which are being bailed out by governments and ultimately the tax payers is far greater than any purported tax losses resulting from the existence of OFCs.

The countries that set so called standards for banking and financial transactions are an oligopoly that is seemingly trying to keep out smaller competitors. Being both a player and referee in the same game does not allow any objectivity.

Patrick Holmes is a Principal of Hol-rob Advisory Services Ltd. He has built a superior reputation for principled banking and financial operations in the Caribbean, the United States and Canada. Phone 905-481-0752 Email srholrob@gmail.com