Offshore: ‘Wealth preservation, asset protection more important than tax reduction’

Hans-Lothar Merten

Hans-Lothar Merten, trained in banking and business administration, is known in Germany as an insider in the offshore world. He has written books about tax havens for more than 20 years, and he also publishes articles on finance and taxes as a freelance journalist. According to the German financial newspaper Handelsblatt, his guide “Steueroasen” has cult appeal in relevant circles. His new book “Vermögen richtig schützen,” co-authored with German inheritance law expert Markus Schuhmann, will be published this month.

978-3-89879-988-1_4c_hiresQ. Many people are concerned about the stress in the global political, economic and financial systems and worry about their savings. Where is our money still safe nowadays, in your opinion?

A. In Europe, there are the classic examples: Switzerland, Luxembourg, Austria, as well as Liechtenstein or the Channel Islands. In Asia, Singapore and Hong Kong should be mentioned; in Africa, Mauritius; and in the Caribbean, the Bahamas or the Cayman Islands.
The deciding factor in these financial centers is not zero taxes. In addition to the quality of the respective financial industry, investors value political stability, legal certainty and access to their assets, either directly or via offshore structures.
Central Europeans, for example, should stay away from offshore destinations like Liberia or Sierra Leone in Africa; Panama or Paraguay in the Americas; or the financial centers in the Middle East.

Q. What do you think about the headlines around the Panama Papers?

A. The Panama Papers or LuxLeaks prove that customer data is no longer safe. There will be more whistleblowers. For tax evaders there is always the risk of getting caught. The media attention on the subject of tax havens in recent years has increased the public awareness around the topic.

Making billions in profits without paying taxes as Apple does currently with the help of Ireland and the Cayman Islands is not accepted by taxpayers anymore. Even less so since the coffers of treasuries in industrialized countries are empty, and at a time when in Europe hundreds of thousands of refugees have to be taken care of and many more are waiting behind the border.

Q. Does the increased media attention on offshore issues have a negative effect on the ability to avoid tax?

A. In any case, the tax savings practices of individual countries and companies, as well as offshore structures, are now in general under the microscope.

Q. Given the increasing criticism, does the “tax haven” business model still have a promising future?

A. In the light of empty state coffers in many industrialized countries, it is understandable that their finance ministers in recent years have targeted tax havens in their attempt to search for additional income sources. Bank customer data purchases by governments, LuxLeaks or the Panama Papers came at the right time.

Tax havens simply for tax evasion or for tax savings are no longer viable. Offshore destinations have to find new business models. The protection of assets will be the topic of the future. This applies to wealthy families and to businesses alike.

Only on this basis will offshore financial centers be able to successfully compete for wealthy individuals and companies.

Should the Caymans Islands succeed in preserving its more positive offshore image of the recent past and be able at the same time to develop solutions for the current changes in the offshore world, then there is a future. Here the offshore industry has to play its part.

Q. Where do you see the strengths and weaknesses of the Cayman Islands in the struggle for international capital?

A. Assistance in tax evasion is off the table. For wealthy individuals the topics of the future are wealth preservation as well as asset protection and that should be the direction of the business model of the Caymans Islands. The use of offshore companies is part of these topics.

For companies like Apple and Facebook, the new business model is still to be found. Their tax saving detours via Cayman and other offshore places in the Caribbean have no future in the face of impending back payments of taxes for previous years. Here the offshore industry in Cayman is also required to break new ground.

The required infrastructure for an offshore financial market is in place. Hedge funds and banks feel in good hands in the Cayman Islands with the customer money they manage because of the weaker regulations and capital requirements compared to other regions like Europe, for example. As a result, wealthy people feel well protected at the multinational financial institutions which are active in Cayman. They also make use of the local Trust Law in order to safeguard assets and to circumvent the often strict inheritance regimes in their home countries.

While other offshore places in the Caribbean have to fight for international clientele, the Cayman Islands remains an attractive destination in the offshore world.

Q. Where exactly has Cayman done things right or wrong lately in the rivalry with the competition?

A. Cayman has managed in the last few years to stay largely out of the global debate about tax havens. However, they are now required to adapt to new developments in the business of companies. The good image of the past years could otherwise be burned quickly. You only have to look at Panama to understand how quickly that can happen.

Q. The number of registered companies in the Cayman Islands has exceeded the 100,000 mark for the first time. That does not give the impression that offshore centers lose traction in that respect?

A. The Cayman Islands has developed quite late into an international financial center compared to other offshore centers in the Caribbean. The numerous hedge funds and branches of international banks contributed to that evolution. But in recent years the process was also helped by the flight capital that left Southeast Asia or Europe in reaction to the introduction of withholding taxes. That money is usually incorporated in offshore companies. That is one reason why now the 100,000 mark for registered companies has been exceeded. But compared to the more than 600,000 registered companies in the British Virgin Islands, there is still room for improvement.

Another contributing factor is the tax-saving models such as the “Double Irish” in Ireland, which is used by U.S.-companies like Apple and Facebook to channel their global earnings into the Cayman Islands because of the zero income tax regime there.

Q. How important are all the tax transparency initiatives like FATCA, the OECD common reporting standard, etc.?

A. Initially these treaties achieved little. It was only due to the mounting pressure of public debt in industrialized countries that political decision-makers saw the need to jointly combat the harmful tax practices of tax havens.

Q. How much value does the proposed agreement for automatic information exchange have, if even leading countries do not fully participate in it?

A. Whether it is the United States or others, unless all states around the world cooperate in the information exchange, gaps and tax havens will always exist. Taxes are typically still national law and therefore many different tax rates exist worldwide. In other words, international tax and corporate law firms will continue to find new loopholes and then try to design tax-saving models for the wealthy. The experts are always one step ahead of the regulators.

Q. What do you think about the accusation that the U.S. is the largest tax haven?

A. The United States is indeed a significant tax haven. While on the one hand they brought, for example, Switzerland to its knees in tax matters, they offer themselves, in states like Delaware, Nevada, Wyoming and Florida, many possible ways for companies, wealthy people, tax evaders and criminals from abroad to save taxes, hide or launder money, at the expense of their resident countries. The banks involved usually do not care about the origin of the money they manage.

What once was Zurich’s Bahnhofstrasse in Switzerland for many German tax evaders, is now called Brickell Avenue, Miami’s financial district. For the more than 300 banks there, business with undeclared money is still thriving. That means, instead of increasing the pressure on other tax havens and offshore centers, it is about time for the United States to question the tax practices foreigners can use in their own country. Here the OECD and the EU should also finally show their colors.

Q. After the Brexit vote, the United Kingdom has announced it will reform its tax system. Could this lead to the emergence of a new haven for foreign capital?

A. Well, the Channel Islands, which belong to the United Kingdom, for decades have been an attractive haven for wealthy foreigners. Why should Great Britain not make itself more attractive for international companies as well? In 2013, the so-called “patent box” with a profit tax of just 10 percent, was introduced. And neighboring Ireland demonstrates how companies can be attracted.

Q. What functions must a legal entity fulfill nowadays to be attractive to potential founders?

A. Foundations, trusts, asset managing companies or special funds for large assets usually provide tax advantages to some extent. But that is not necessarily the most important feature anymore. Much more important for them is wealth preservation and asset protection.

This also applies to the protection from increasing state repression, against systemic risks in the financial system, against creditor claims and against claims from family members. By moving assets into such legal entities, risks can be avoided, and the legal entities can also assist in structuring assets in a sustained way across generations.

Q. How have the entities typically used in offshore jurisdictions changed over time?

A. The stronger international control measures against tax avoidance are, the more complex the constructs become that are used in the attempt to minimize the tax burden of wealthy people and corporations. It is a global race with new offshore destinations and the constant search for new loopholes in national laws, as well as bilateral and multinational agreements. But that is also always connected with new pitfalls in the international tax jungle. Without expert advice, nobody can navigate these anymore.

Q. How cost-effective are the available structures?

A. The transfer of assets or income into low- or zero-tax countries, just because of lower taxes, is often a zero-sum game given the costs connected with it.

And it is – as the recent examples of Apple or Starbucks demonstrate – more and more just a matter of time until the tax savings backfire in the form of billions of dollars in back tax demands. Due to the increased international information exchange, it seems as if this calculation will no longer add up.

Q. What should one consider with regard to moving inheritable assets abroad?

A. These assets can lead to unwanted pitfalls that adversely affect their value. There is a significant need for advice in advance. Asset holders with undeclared assets abroad, out of deference to their heirs, should in good time before their death report to the tax authorities. It saves their heirs a lot of trouble.

If untaxed inheritance money was stashed in the Caymans Islands in the past, this was usually done via offshore companies. This money is easily passed on to the heirs via the transfer of shares. The relevant tax authorities usually did not learn anything about that.

Hedge funds and banks feel in good hands in the Cayman Islands with the customer money they manage because of the weaker regulations and capital requirements compared to other regions like Europe, for example. As a result, wealthy people feel well protected at the multinational financial institutions which are active in Cayman.

Offshore destinations have been the topic of a lot of headlines in 2016, as in most every year. This is reason enough to ask German tax expert Hans-Lothar Merten for a European point of view about the controversial topic in general and about the prospects of the Cayman Islands as an offshore jurisdiction in particular.