Bruce Zagaris (FP)
THE COUNCIL OF THE DISTRICT OF COLUMBIA (DC) recently enacted, as part of its budget, provisions that force entities doing business in any of 39 arbitrarily designated “tax havens” to report their income on worldwide combined reporting. Eighteen are Caribbean jurisdictions.
A tax haven is defined by the DC code as a jurisdiction that lacks transparency, facilitates the establishment of foreign owned entities without the need for a local substantive presence, or that has created a tax regime that is favourable for tax avoidance.
The law unfairly targets small Caribbean jurisdictions even though many of them meet international transparency standards and spend disproportionate resources to help United States (US) tax enforcement.
Ironically, the biggest deficit in transparency is found in DC and in the US more broadly. Even though the Financial Action Task Force (FATF) found the US non compliant on corporate transparency and gatekeepers standards in 2006 and strengthened its standards in 2012, neither the US nor the District has improved its own. In most of the Caribbean jurisdictions, the incorporation of entities requires registration with the Financial Services Commission after showing fitness to conduct international business. In the District there are no requirements concerning experience, expertise, or lack of criminal record for corporate formation agents.
Most of the Caribbeean jurisdictions have strict corporate transparency rules that require disclosure of beneficial owners and updating of such information on the corporate registry. In contrast, the DC law does not require the registrar of companies or the formation agents to know and keep information on beneficial owners, let alone update it. As a result, the Justice Department is not able to fulfil requests of foreign counterparts during investigations of transnational crimes involving DC entities. While most Caribbean jurisdictions have a mutual legal assistance treaty with the US, the US is unable to provide help to owners of corporations.
Congress has proposed legislation that would require states to have corporate formation agents ascertain and make available, on request, beneficial ownership information for corporate entities. The legislation never got any traction, and opponents failed to introduce substitutes. Despite the enormous shortfalls in its balance of payments, the US Treasury has used economic coercion to make Caribbean jurisdictions sign Foreign Account Tax Compliance Act (FATCA) inter-governmental agreements (IGA). FATCA has required them to enact new laws and regulations and expend enormous resources. Their financial institutions must find and report to the US any accounts of US taxpapers.
Because of the US’ disproportionate power and the economic problems in the Caribbean, FATCA is immoral. In the IGAs the US acknowledges its inability to fully reciprocate and promises to do so by January 1, 2017. However, 14 months before the deadline, Treasury is nowhere close to reciprocating and, unlike some of the Caribbean jurisdictions, the US has failed to signed the Organisation for Economic Cooperation and Development (OECD) standard for automatic exchange of information.
While the federal government suppresses Caribbean captive insurance, US states gain more market share for their own captive industries. As the federal government restrains Caribbean trusts, states such as Dakota attract more international trust companies. The federal government restricts Caribbean international business companies as US states attract single member limited liability comapnies, which conduct cross border business, generating non sourced US income and pay no US tax.
When a small Caribbean country challenges the US over discriminatory treatment regarding cross border services and wins, the US refuses to comply. In 2004 the World Trade Organisation (WTO) upheld Antigua and Barbuda’s claim that US and state statutes imposed unfair barriers on cross border Internet gaming services.
Subsequently, when the US failed to comply with its order, the WTO ruled that sanctions are applicable. Still, 11 years later the US has not met its obligation under international law to the small Caribbean state.
In enacting its provisions, DC is emulating laws enacted by Oregon and Montana which are based on palpably flawed criteria. They all use the OECD’s 1999 criteria for tax havens, which the OECD has long abandoned. Anyone who has dealt with the DC Department of Revenue knows it has insufficient capacity to determine regularly which jurisdictions of the world meet the definition of tax haven. Furthermore, although anti-tax haven laws are meant to raise revenue, these laws are based on exaggerated economic forecasts that assume companies will continue doing business in these states. Instead, the laws will cause businesses to invest in states with more tax friendly laws.
On November 3, DC council chair Phil Mendelson proposed an amendment that repeals the list of 39 designated tax haven jurisdictions, and instead reverts to the set of criteria previously enumerated in DC budget law. This will allow for additional time to evaluate what jurisdictions should qualify as a tax haven under existing law, underscoring the arbitrariness of the current law. Global tax problems should be addressed by the federal government in concert with international bodies.
On October 5 the OECD issued the final reports of its base erosion and profit shifting initiative to address these issues. If multilateral bodies, such as the OECD and FATF, are to have legitimacy to impose standards universally, they will need to meet the professed level playing field (LPF) principles. LPF means that the rules and the consequences of violating them will apply to all – even to a super power such as the US. Anti tax-haven laws will degrade the reputation of Caribbean jurisdictions and cause US banks to continue closing correspondent accounts. The phenomenon of de-risking correspondent accounts in the Caribbean undermines the warning by the Crimes Enforcement Network that banks should desist from such action.
Closing the accounts of indigenous banks in the Caribbean cuts the only access many people have to the US financial system and destabilises the region. Rather than trying to raise revenue on the backs of small Caribbean jurisdictions, DC should first enact and implement effective laws on entity transparency and gatekeepers.
Caribbean jurisdictions should insist that any tax agreement with the US emulate Article 1(3) of the 1994 protocol to the Mexico-US income tax treaty, which covers states and local governments.
Bruce Zagaris is a partner with Washington law firm Berliner Corcoran & Rowe LLP. He has a long-standing working relationship with Barbados. This article was published by taxnotes.com.