Offshore centres and the institutions that operate have had a battering at the hands of politicians and the public in the past few years. And when times are hard, the story of wealthy investors and corporations stashing cash in tax havens and denying governments around the world much needed revenue is an easy one to sell.
But the issue is more complex than that. Morality, which is highly subjective, has been confused with legality, which is not, somewhere along the way. Indeed the majority of so called ‘tax havens’ are arguably better regulated than their onshore counterparts and the notion of secrecy is somewhat different to that of privacy.
In addition the legitimate usage of offshore centres and banks seems to have been cast aside along the way, as has the money and assets that come into the UK via people, institutions and structures based in these centres.
In the past decade the OECD blacklist, the Financial Action Task Force (FATF) on money laundering and the EU Savings Directive have all sought to increase transparency and tighten know-your-client (KYC) rules and processes.
More recently, and perhaps pertinently, since the 2008 crash and subsequent recession attention has been very much focused on the morality of actively seeking to reduce tax liabilities. Attention has been focused on companies such as Starbucks, Google and Amazon all of which were deemed to be using offshore centres to avoid paying a ‘fair’ amount of tax.
Offshore banking would seem, therefore, to be an area of business that was likely to slowly dwindle over the coming years. In reality this is far from the case, offshore centres account for 42% or US$8.3 trillion of the global private banking industry assets under management (AUM), research from consultancy WealthInsight suggests.
Switzerland is the largest worldwide player with AuM of US$2.8 trillion with the bulk (over 80%) of funds held in Switzerland for foreign clients. Switzerland’s dominance may not last for long. WealthInsight expects Singapore to overtake Switzerland by 2020 to become the largest global offshore wealth center by AuM. This will be fuelled by a movement of funds away from Switzerland, Luxemburg and the Caribbean and towards Singapore. Furthermore, high growth in HNWIs in APAC countries such as China, India and Indonesia HNWIs, which are among the largest investors in Singapore, will further boost AuM.
How then can offshore financial institutions navigate a maze that has both legal and moral routes? And how can those centres that are of high quality avoid being tarred by the same brush as less reputable centres?
Fiona Le Poidevin, chief executive at Guernsey Finance comments:
"Morality seems to be the key issue here but legislating for that is hard." She says that in essence the financial crisis has forced a battening down of the hatches and a perception of fat cats and poor ones. The real issue, she says is the inherent complexity of the tax system which means that experts are able to navigate it to make best uses of its quirks on behalf of clients- something that is not illegal. "Everyone has the right to minimise their tax bill in a legal way," she says.
Legitimate use – secrecy vs. privacyLegitimacy then seems the issue. Offshore banks and financial institutions have long argued that they have a legitimate purpose and that their bases and institutions act always to the letter of the law and do not hide money on behalf of wealthy individuals or corporations.
George Hodgson, deputy CEO of the Society of Trust and Estate Practitioners (STEP) comments: "In a comprehensive 2009 report surveying our members thoughts about the future of offshore, it was clear even then that most saw little future for anyone reliant on secrecy as a wealth planning tool."
Indeed historically offshore banks were attractive because of their superior rates of interest. The offshore banks would then upstream its deposits to its onshore counterpart and provide liquidity. This is now restricted however.
But nonetheless people still need offshore banking and wealth management services for reasons that are not solely tax related. Key users are globally-mobile families who do not want the hassle of moving their bank account and other financial affairs every time they move countries. Families from emerging markets sometimes want the stability of a European base for their financial affairs and a growing number of Chinese individuals are sending their children to university in the UK, and thus need to provide for them from a European base. On a corporate basis businesses based in emerging economies might be establishing subsidiaries in European markets and thus need corporate banking services in multiple jurisdictions. All of these are common sense plays; holding assets centrally makes sense from a personal point of view. It also makes sense from a tax point of view too.
Le Poidevin comments: "The globally mobile want to avoid dealing with multiple tax regimes multiple times. They hold their money centrally and then pay tax to treasury x on assets earned in country x."
In the UK for example only money actually earned in the UK attracts tax. But bringing money that was earned elsewhere into the UK might render it liable for UK tax, (as well as potentially the tax net of the country where it was initially generated), so it makes sense to hold it offshore. This is not illegal.
Le Poidevin comments: "Having an offshore bank to keep something out of the UK tax net is not illegal. Hiding the money or not declaring it is where the murky water lies."
In this she means the difference between being entitled to privacy and confidentiality and actively evading tax by hiding assets or not declaring them when required to do so. Thus the onus is on the regulators to clarify what they require as regards declaring assets and to then decide what legally constitutes a taxable asset or scheme versus a legitimately non taxable asset or scheme.
Well regulatedIn so far as transparency and declaration demands, many offshore centres are actually doing pretty well.Hodgson comments: "We are moving towards a more transparent world. Offshore centres are having to adapt rapidly to the changing regulatory environment which is evidenced by the number of these centres currently in negotiations with the US government regarding FATCA inter-governmental agreements."
The UK Treasury meanwhile has recently announced that all its overseas territories; have agreed to much greater levels of transparency of bank accounts held in those jurisdictions, following on from a similar agreement signed by the Cayman Islands. The Crown Dependencies have also finalised tax agreements with the UK Government. HMRC has stated it expects to recover £1 billion in unpaid taxes via the Isle of Man, Guernsey and Jersey. It will expect to recover much more from the overseas territories as a whole.
Andrew Walker, tax investigations partner at Smith & Williamson comments: "It is clear the pressure mounted on these offshore jurisdictions has forced co-operation in the exchange of information and disclosure. These jurisdictions clearly want to ensure that they can continue to do business effectively with their global counterparts and maintain a positive reputation regarding openness and transparency."
And in terms of anti money laundering and know your customer many offshore regimes actually do better than their onshore counterparts.
Le Poidevin comments: "In 2009 Guernsey were placed on the OECD’s white list and with the FATF we have a higher score than the US and UK. The IMF in 2011 scored us very highly on our regulation. It would be very hard to use Guernsey as a place to hide or launder money."
Perhaps most tellingly the EU Savings directive failed to produce significant uproar. The vast majority simply revealed the information – and thus FATCA, which is in the same vein but involving a broader range of assets and structures, does not hold much fear in Guernsey, at least according to Le Poidevin.
At the moment whether FATCA will extend to trusts and companies is unknown. Should it do, then certainly many of those individuals publicly-named would not have been able to ‘hide’ activities.
Perhaps then the attraction of offshore is about something other than simply the tax. The McKinsey Private Banking report published in 2012 found that as the traditional tax rationale for offshore markets comes into question, customers with less than EUR 1 million of invested assets are moving back onshore.
Indeed, double taxation agreements and tax information exchange treaties have undoubtedly prompted a rethink and shaped a new operating environment for offshore banks but in practice this means a proposition that is sold on its expertise and stability. For example, Switzerland continues to attract significant flows from emerging markets, while Luxembourg retains its appeal for UHNW clients in Europe. Indeed in general, offshore centres can provide promote diversification, and offer high-quality services, strong capabilities, discretion, and safety, according to the McKinsey report.
And as well as the inherent value of an offshore centre to its clients there is also the value to national economies in terms of assets coming into the country via offshore individuals and companies. Le Poidevin comments:
"The bigger picture is to look at net inflows into the UK from centres like Guernsey. In 2008 US$70 billion flowed through Guernsey into the UK partly though banking services and partly through private equity – that is creating money in the UK. Individuals flouting the law are a very small part of the overall picture and it is frustrating to have to constantly battle against the perception of being a tax hideaway."