Is a general anti-avoidance provision a desirable feature of the law? The question is open to argument. Australia has had nearly 70 years experience with such provisions: first with S.260 and more recently with the provisions of Part IVA. There are also comprehensive statutory provisions dealing with transfer pricing and over the last ten years a number of specific anti-avoidance provisions have been introduced – “thin capitalisation rules”, “debt creation rules”, “dividend streaming rules” [to avoid the benefit of franking credits being utilised by those allegedly not intended to benefit from such credits]. Additionally, we have seen the introduction of comprehensive controlled foreign corporation rules, rules relating to the transfer of assets to non-resident trusts and the income of non-resident trusts where there has been no such transfer but where Australian resident beneficiaries participate in such trusts, as well as foreign investment fund rules.
The Australian government has established a task force charged with the task of rewriting the Assessment Act in simple plain language. Nevertheless, anti-avoidance provisions have consistently been drafted with the object of obfuscating rather than clarifying. Moreover, decisions of the Courts in more recent times have shown a propensity to make the law more confusing – the recent decision of the High Court in Peabody on the application of the provisions of Part IVA illustrates this.
While S.260 looked to the purpose or object of a transaction, the provisions of Part IVA are concerned with the purpose [objective not subjective] of a person who entered into the transaction. If the dominant purpose, objectively ascertained, was one of obtaining a tax benefit [a defined term] in connection with the transaction, then the provisions of Part IVA empower the Commissioner to cancel that tax benefit.
While the provisions of Part IVA have been in the Assessment Act for some fifteen years, only one case to date has found its way to the High Court [Peabody]. However, the provisions have had their intended interrorem effect and the Commissioner is now applying, or threatening to apply, the provisions of Part IVA to a wide range of transactions. A number of these cases will, no doubt, come before the Courts over the next ten years. They include, for example, sale and leaseback transactions, the use of offshore captive insurance companies, transactions designed to effectively utilise interest deductions in relation to foreign investments where the interest deductions might otherwise be quarantined, transactions designed to move profits of group companies from one country to another through measures which are alleged to involve dividend stripping. This list is by no means exhaustive. Only time will tell whether the provisions of Part IVA will turn out to be more efficacious than its predecessor, S.260. However, one can be sure that the Government will not be as slow in introducing amending legislation to fill any gaps found to exist in the provisions of Part IVA as it was prepared to do with its predecessor.
Revenue authorities around the world have continued to develop the methods of collecting tax overseas, and the principle in Government of India v. Taylor has been further eroded, as discussed in the 1995 lecture.
It is now quite widely recognised, for example, that while that principle may prevent the direct or indirect enforcement of a foreign tax debt in a jurisdiction, it does not prevent the gathering of information which will assist in the collection of foreign tax. A recent example of this is the decision of the High Court of the Isle of Man in Re The Petition of John William McClean (1997) 1 OFLR 818 where a trustee in bankruptcy acting on behalf of the Inland Revenue was authorised by the Manx Court to interview three employees of banks in the Isle of Man in connection with the enforcement of tax debts due to the Inland Revenue.
In the context of these erosions of the principle, certain countries and certain court decisions have bucked the trend. An example of this is the decision of the High Court in the Irish Republic in the case of Bank of Ireland v. Meeneghan and the Commissioners of Customs & Excise  1 ILRM 96. In that case the English High Court placed a restraint order over the assets of a defendant who was charged with fraudulent evasion of VAT. The Irish High Court held that that order could not be enforced in Ireland over assets held at a bank there. The basis was the principle in Government of India v. Taylor.
The jurisprudence on the question whether trustees or executors of an estate may pay an otherwise unenforceable foreign tax debt remains inconclusive. However, there is a noticeable trend in the drafting of trust deeds, particularly where the offshore nature of the trust means that there is a high likelihood that there will be a tax demand from a foreign revenue authority, to include a power authorising the trustees to pay an otherwise unenforceable foreign tax debt. The object of including such a clause is to protect the trustee from the unenviable position where he is required to pay a tax liability in a foreign country (which he may visit regularly, or where he may hold personal assets), but is prevented by the courts of the country in which he administers a trust from using trust assets to pay that liability.
States also continue to agree to provide cross-border assistance in tax collection by entering into treaties to that effect.
The OECD/Council of Europe multi-lateral convention on administrative assistance in tax matters (the “Interfipol” convention) entered into force on the 1st April 1995. Parties to the Convention now include the United States, Norway, Sweden, Finland, Denmark and the Netherlands. These States have agreed to provide extensive mutual assistance and co-operation in the gathering of information and the enforcement of tax liabilities.
Provisions for mutual assistance and the collection of tax have also been included in certain bi-lateral tax treaties. An example is Article 26A of the Canada-Netherlands Tax Treaty which was added by a Protocol of the 25th August 1997. This provides that each country is to assist the other party with regard to the collection of taxes.
Finally, there have been a number of recent developments in cross-border assistance in the investigation and trial of criminal tax frauds and with regard to extradition for fiscal offences. These developments have an indirect impact on the cross-border enforcement of tax debts. This topic will be the subject of the author’s speech at the ITPA Monte-Carlo meeting in June 1998.
The offshore company is the entity most commonly used. It is formed under the Companies Act, which is similar to the English Act of 1948. It must be foreign owned and carry on its activities abroad. Corporate directors are allowed; bearer shares are not. Bank references are required. Auditors must be appointed. Its profits are taxed at 4.5% but there is no withholding tax on dividends. An overseas company may be registered as an offshore company; it will qualify as a resident of Cyprus if its management and control are there.
Limited and general partnerships may be similarly registered as offshore partnerships. Provision is made for the registration of offshore insurance companies – including captives, for Offshore Banking Units, for ship-owning companies and for offshore trusts. The trust law of 1992 has an “asset protection” feature; it excludes the application of any forced heirship rule; the trust is free of all tax, except for an initial stamp duty of £250. Collective investment schemes are now provided for; bank references are required for the promoters and managers but not for future shareholders; companies are taxed at 4.25% but unit trusts are free of tax. The unit trust does not qualify as a resident of Cyprus for treaty purposes but a corporate collective investment scheme does.
Cyprus has a long list of tax treaties – notably that with Russia, and more recently those with Malta, India and Egypt. The constituent countries of the former USSR continue the old treaty relationship with Cyprus, except Kazakhstan; the Russian treaty has no anti-avoidance provisions; it exempts a Cyprus resident from all withholding taxes and grants other reliefs and exemptions. There is also a bilateral shipping agreement with Russia. Russian representatives are to meet representatives of Cyprus in September to consider treaty revision. The treaty with Bulgaria is similar to that with Russia. The treaty with Hungary has no special advantages – except in relation to director’s remuneration.
Reduction of withholding taxes on dividends is a feature of the new treaty with Malta and of those with Syria and India. Capital gains and technical fees are also exempted in the treaty with India.
Much use has been made of the facilities of Cyprus for Russian shipping fleets, for construction and assembly projects in Russia, for investment in Russia, for collective investment schemes and for foreign affiliates of Canadian companies.
In eight years, Europe’s shipping fleet has declined by 50%: it has emigrated to the flags of convenience. Europe’s Second Registers are an attempted answer to this movement: they offer tax advantages and lower social security costs. The French first attempt in this area has not been a great success. The German second register at least slowed down the departure of the German merchant fleet. The Danish equivalent has also been something of a success. Norway has been the most successful: it has attracted an international clientele. Madeira is now on the map. Luxembourg was an immediate success, attracting Belgian ships, but the register has been largely static since 1991. Experts expect huge investment in merchant shipping in the next decade. This will call for tax planning and innovative financing. Cross-border leases can offer a “double dip” – allowances in more than one jurisdiction; this requires advisers with a wide range of knowledge. The finance cost of a ship will generally be the largest outgoing – larger than the cost of the crew. Export credit funding needs to be taken into account; combined with double dip, the cost of the finance can be substantially reduced.
Can one avoid paying VAT on yachts? The establishment of the Single Market on 1st January 1993 abolished the VAT frontiers between European Union countries. Rates of VAT vary from one country to another, and so do the rules on valuation.
Greece, Portugal and even the Netherlands offer the most sympathetic valuation procedures. But it is always open to another country to challenge the valuation and demand further VAT. The rules are becoming more uniform and better understood. Yachts chartered to sail into EU ports attract VAT and the charter will require to be registered for VAT. This may be done in the United Kingdom or the Isle of Man. Luxembourg and Madeira present themselves as locations for chartering companies.
The VAT rules affecting aircraft are similar to those affecting yachts.
An Austrian or UK company can be used to carry on business on behalf of an undisclosed zero-tax company. A small amount of tax has to be paid in the United Kingdom, a smaller amount in Austria.
A partnership, whether open or limited, established under English or Scottish law, but with non-resident partners and no source of income in the United Kingdom, is not liable to UK tax. The same is broadly true of a number of other countries – the Netherlands and Switzerland; the US Limited Life Company has similar features.
Non-resident companies are offered by Ireland, as well as by Barbados, Botswana, Israel, Singapore and Swaziland. Other countries tax on a “remittance” basis: the countries here to look at are Barbados, Malaysia and Singapore. Foreign income is wholly exempt in other countries – notably Costa Rica, Lebanon and South Africa.
The IBC concept – carving out a zero-tax facility in a high-tax jurisdiction – may be traced back to the Liechtenstein Anstalt and the Luxembourg Holding Company, but took on a new lease of life in the Caribbean. The “cosmetic” IBC may be found nowadays in Labuan, Madeira and the US Virgin Islands.
The “thin” trust in Britain as well as in Australia and elsewhere allows foreign income to go to a foreign beneficiary without a local tax charge; the rules in Cyprus and New Zealand are even more generous. The trading trust and unit trust do not reveal to persons dealing with them the identity of the ultimate owners.
All large developed countries deal harshly with their own residents while offering incentives to attract residents of other countries.
For US citizens, the acquisition of another citizenship is an essential part of tax planning by change of residence. The best available citizenship is that of Ireland: a significant investment (some US$1.65m) is required and the applicant must have a residence and promise to spend a certain period in Ireland. St. Kitts and Dominican passports are available. Visas are required, but these are becoming easier. An investment of the order of US$75000 is required. There is a new programme in Belize and a budget programme in Cape Verde.
Canada used to require substantial periods of actual presence in Canada but now 30 days over a 3-year period is sufficient. United States citizenship is available but understandably not popular. Australia is similarly unattractive; New Zealand can be more attractive.
Attractive destinations include Anguilla, Bahamas, Cayman and Turks and Caicos. Bermuda is attractive and has a “back door” via a work permit; the holder may be able to enter the United States visa-free. The procedure in Andorra is simple but presently obscure. Monaco is easy but expensive. Campione works but its future is uncertain. Malta and Cyprus have residence programmes: the immigrant should retain his foreign domicile. Gibraltar also has a residence programme which leads to UK citizenship.
Ireland offers assistance to those who can buy a home and taxes non-domiciled residents on a remittance basis. Citizenship is available after 5 years. The United Kingdom is more difficult: it requires “close connection” or a substantial investment; a work permit offers an alternative route. Switzerland offers possibilities of residence on the footing of a”lump sum” tax agreement.
All rich people should now have a second passport as a matter of course.
It is always necessary to be on the lookout for the unexpected. The needs of the client have not changed; what has changed is the ways in which these needs may be met.
The primary need of the private client is for someone who will help him to assimilate the advice coming from a number of specialists – his lawyer, his accountant, his investment adviser, and so on. The quality of the assistance he gets is of extreme importance: it needs to be correct, efficient, accurate and prompt. Continuity of assistance is also important: the law and other circumstances are always changing, and the client’s structure needs always to be reviewed in the light of these changes.
The client who embarks on a transaction in a jurisdiction with which he is not familiar needs to be reassured as to the security of his assets: the jurisdiction needs to offer credibility, quality of service, flexibility, mobility.
The expectations and needs of the client as regards investment advice are nowadays directed towards preservation of wealth. He wants his investment adviser to save him from mistakes. In his tax planning or in his investment planning he is looking for an unaggressive and low-key approach, with an emphasis on long-term planning and incorporating a fall-back plan to deal with the unexpected.
Twenty years ago there were few offshore jurisdictions. Today more than 50% by value of the world’s financial transactions are routed through offshore jurisdictions.
Population growth and changing patters of expectations and wealth provide challenges to government. High taxes seem inevitable and consequently also the continued growth of the offshore industry.
South-East Asia is destined to be the paramount market for offshore and financial services. Customers are becoming increasingly demanding: the days of an aspiring jurisdiction enacting “me too” legislation are coming to an end.
An offshore centre has the characteristic that business is conducted primarily by non-resident. Tax mitigation, risk management and cost reduction are the objectives of the user. In 1994 some 50,000 companies were incorporated in the Caribbean alone. The world total exceeds 100,000 a year. Political and economic trends indicate even greater numbers in the future.
The users of offshore facilities include individuals with new wealth generated not only in Europe and North America but also elsewhere. Asset protection is important, especially in relation to US litigation. Immigrants and expatriates also are major users. Among corporate users are financial institutions, multinationals, shipping companies and owner-managed businesses. Insurance, fund management and private banking are increasingly finding a home offshore. Funds are no longer flowing out of but are flowing into South America. This and other economic changes need to be catered for by the private banking industry; it seems that Switzerland’s dominating position is under challenge.
Competition is becoming more intense – not least in shipping. In the Caribbean, new laws and regulations are being enacted in Barbados, Belize, Anguilla, Bermuda, B.V.I., Montserrat and St. Kitts and Nevis. In Europe, there is new legislation in the Channel Islands, the Isle of Man, Canary Islands, Ireland and Malta. Madeira is growing rapidly. In the Indian Ocean, Mauritius is developing a range of new products and the Seychelles has enacted a suite of laws, now providing a residence permit on generous terms. New Zealand trusts are proving popular.
The departure tax proposals in the United States present another challenge to practitioners. In general, growth and competition are the leading features of the offshore future.
The main difference between the two countries is the accessibility of the personnel of the Revenue Department: the Dutch inspectors in Rotterdam will discuss the taxpayer’s problems and do so in English. Tax is a cost like any other. The professional adviser is there to take advantage of all incentives made available. Within the European Union, tax concessions require the approval of all the member states. The crucial requirement of a tax system is certainty. This is lacking in the United Kingdom¹ . A ruling practice provides certainty; this is to be found in other countries in the EU.
¹ The March 1998 Budget has however proposed an advanced ruling procedure in connection to transfer pricing arrangements.
The new International Headquarters Company² sets out to solve the “surplus ACT” problem arising from the distribution of foreign income for which credit against mainstream corporation tax for foreign taxes suffered on that income. For a non-quoted company, not more than 20% of the shares may be owned by resident investors. A disadvantage is that capital gains are not exempt; the CFC rules apply; credit is of course limited to the foreign tax rate. Advantages are – absence of capital duty and a larger treaty network. The EU Directives apply to both countries. No active participation is required in the United Kingdom.
² On November 25 1997, the Chancellor delivered a pre-budget statement outlining his proposals, which will be embodied in the 1998 Finance Act. As from April 5 1999ACT will be abolished and companies paying a dividend will not have to account for ACT, as was previously the case. However, companies will have to pay corporation tax in four annual instalments thus allowing the Treasury to maintain the existing flow of tax revenue. As a result of the abolition of ACT, the much-heralded International Headquarters Company (IHC) will also be phased out simultaneously.
Tax on capital gains in a U.K. company may be avoided by heavy interest charges. The U.K. may provide a substitute for Holland in relation to investment in the United States. The U.K. company may give an option over 90% of the US shares to a zero-tax company, so as to avoid U.K. tax on 90% of the eventual gain.
The Netherlands rules require the foreign subsidiary to be liable to tax – at whatever rate. Other jurisdictions offer holding company facilities – notably Austria, which is now part of the EU. A useful structure for investment in Russia is an Austrian company held by a Netherlands holding company, but Austria does not offer the degree of certainty found in Holland. The old U.K. non-resident company was brought to an end in the 1988 Act with the business now taken on by Ireland. By a quirk of fate the 1994 Act brought back the non-taxable U.K. company – where such a company is resident in a treaty country, however this loophole lacks certainty, too.
A Dutch finance company is taxed on 1/8% of its loans; this is a modest price for obtaining treaty benefit on interest. The Dutch do not levy tax on outgoing interest. A Dutch licensing company is similarly advantageous; a 7% spread is generally acceptable to the Dutch Revenue, which is of course subject to standard Dutch tax of 35%. Some uncertainty has been experienced in this area.
A Dutch service company needs to show a profit, the amount of which can be negotiated with the tax authorities.
There are advantages in the use of U.K. trusts – especially in relation to capital gains. There is no comparable facility in the Netherlands.
The Dutch limited partnership – the CV – can be effectively free of Dutch tax.
Foreign branch profits receive favourable tax treatment in certain circumstances. The branch will generally be a “permanent establishment” for treaty purposes.
Where a company established in country A has a branch in country B, country A may give credit for taxes paid in country B or may exempt the profits made in country B. Credit is given where country A is the United Kingdom. In the United Kingdom, advance corporation tax used to be a serious problem: now no longer. Suppose a U.K. company has a branch in Mexico: Mexican tax is 34%, credit for which wipes out the U.K. corporation tax liability (at 31%) and no ACT is payable.
The Netherlands exempts foreign branch profits from Dutch tax so long as they are taxed where the branch is situated. The Swiss have a similar system. Belgium and Denmark – and to some extent Italy and France – also have an exemption system. Profits of a Belgian company made by a branch in a non-treaty country suffer only 10% and those made in a treaty country are exempt.
Jersey, Guernsey, Gibraltar and the Isle of Man may be suitable locations for the branch. In Jersey and Guernsey a full tax-paying company may be used, with a special “deal”, or an IBC may be used. In Gibraltar, a qualifying company may be used.
Cyprus, Barbados, Malta and Mauritius offer opportunities for branches, together with treaty benefit. Finland, Germany and Luxembourg have treaties providing for exemption of branch profits. The “permanent establishment” definition is generally narrower than the domestic concept of “branch”. A non-Swiss company may have a branch in Switzerland: it can obtain “domiciliary” treatment in Switzerland but note that the foreign company must have substance elsewhere.
There is a Switzerland-Barbados treaty – being the 1954 U.K. treaty extended to Barbados.
A branch may receive interest with treaty protection and not suffer tax. Swiss branches of Netherlands companies have been used to receive interest from the United States. The new treaty aims to prevent this. The Luxembourg/Swiss route may replace it.