Offshore accounts in their various forms have been around since people have been taxed yet until very recently they hadn’t gotten much news coverage, that is until the unveiling of the Panama Papers. The Panama Papers are a collection of 11.5 million documents leaked by the service provider Mossack Fonseca. Mossack Fonseca is based out of Panama, thus the resulting nickname used to encompass the massive leak. The Panama Papers do not name many Americans comparatively, around two hundred in total at the moment (citation, date), which may come as a surprise to some. In this essay we will investigate offshore banking, its legality and the recent changes regarding this, benefits, current events surrounding the issue, and more. Although we will provide ample material on the Panama Papers more in depth later we will also focus on the United States and events that have occurred nationally. Our focus will continue to explain why there could be such a lack of American’s listed and where they are keeping their money. There is an effective explanation for why American’s aren’t being named in these papers yet are still using tax havens within the nation.
The word “offshore account” doesn’t do justice the complexity and diversity of the real meaning. It is also important to note that the offshore account is an umbrella term, encompassing LLCs, international funds, an offshore corporation, or some other type of tax shelter. All of these names can provide some of the same benefits but also come at the same cost if a U.S. citizen is found guilty of illegal activity. The generic offshore account for a bank would be defined as a bank outside of one’s home country, preferably in a “tax haven”, a country where it is potentially viable to have an account that evades the IRS and doesn’t have to be used during the annual tax write up or somewhere with a very low tax rate, much lower than the United States. Although these countries are often islands and the world originates from using the Channel Islands (implying the offshore aspect), they do not exclude countries such as Switzerland (citation). Prior to 2010, this was extremely common. It is also important to note that not all offshore accounts are illegal, or being used to evade the IRS. As long as an American citizen accurately discloses their income, worldwide included, they should be safely within the legal realm. This is done with a FBAR form that only applies to those who have over an aggregate of ten thousand dollars outside of the U.S. at any point during the year.
Why are so many people still interested in offshore accounts if the legality has quickly become much stricter? There are a few reasons. The hands down largest reason is tax evasion. Although disagreeable and clearly illegal, it isn’t a challenge to see the perks to keeping one’s money out of the government’s hands. Tax evasion has been occurring since the beginning of taxation. Tax evasion can be accomplished in a multitude of ways but has had an interesting progression which we will examine more in depth when we see how shell LLCs within the U.S. may be the new mode of hiding money from the IRS, or at the least shifting to a lower taxation rate.
The second largest would have to be secrecy and company transparency. The ultra wealthy are the biggest users of offshore accounts, regardless of how they came to be that wealthy. If one is performing illegal acts to obtain this money, they will need a way to hide it as to not raise suspicions during taxation. Less severe secrecy also includes those who want to keep their funds high without the attention, especially during certain business transactions where funds will have to be evaluated and distributed. Many high end investors do not want their investments being known, or how much capital they are actually holding. Offshore accounts become the primary way to create transparency of an individual or company. This need for secrecy can then breed the underground economy, which is flourishing. A quick search of offshore accounts will bring up sites demonstrating the instability of U.S. markets, highlighting FDIC policy loopholes, and the Great Depression, thus encouraging those searching to obtain offshore accounts. Another factor is the recent changes in legality. Not everyone has been caught up and versed in the laws regarding reporting to the IRS, yet those wealthy enough to be considering moving large sums of money outside the country will likely have someone in charge of their finances who can advice them with this knowledge in mind.
The effect that offshore accounts may have on the market comes into play from foreign investments, interest and hidden assets. In a market such as the United States, you have large corporations that spill out millions and millions of dollars in revenue as well as dividends. Almost all corporations have grown into the foreign markets: through oversea outsourcing and growth. These investments and income gained potentially play an important role in offshore banking as income is held in accounts within other countries. The interest and control of those assets and income varies from the United States. Taxes and foreign interest rates on deposits can be at higher rates when held in other countries. In the last 15 years, the growth and expansion of foreign outsourcing has been exponentially large: (Graph) (citation)
The distribution and management of this much income is important on its overall effect on the market. It increases profitability of companies as well as can diminish domestic companies from continuing to succeed. Also, you are holding assets in foreign nations; companies then can maneuver assets and profits of those investments overseas instead of returning that revenue domestically. This continues the discussion of variances between tax rates and company subsidiaries. When you keep your business in the foreign market, you change the domestic market indefinitely.
The United States domestic market is also often seen as a center of insolvencies, where companies may also fear to engulf their money into where insolvency has been noticeably high. You can look back to the 2008 mortgage crisis, where the insolvency factor diminished an entire market as the banking system crashed. Currently, the Federal Reserve stands at a capital ratio of 1.24%, where most companies go bankrupt at around 3%. While the United States government's own net worth is negative $17 trillion. (Blacksmith, 2016) This fear then leads to foreign banking, where solvency is much higher and better suited for some individuals.
The laws concerning off shore accounts are domestically implemented and foreign banks are expected to be complacent. Before 2010, there were no major rules created against offshore accounts in any efforts to control as well as regulate them. This however changed greatly after Congress passed the Foreign Account Tax Compliance Act. The act required foreign institutions to turn over information about any U.S account holders in order for the IRS to control compliance. (Saunders, 2015) The main advantage of offshore accounts is simply the fact that they are not regulated by our own nation. It continues to be increasingly difficult to force foreign nations to comply with any agenda that the United States tries to enforce. When it comes to international law, there truly is no authoritative body to ensure just cause. However many firms have signed to comply, because they do fear the consequences that may be enforced to account holders.
As this new act is being pushed forward, there have been some issues. It is important to note that offshore accounts are both in large and small scale. Offshore banking can account for any type of resident who has money in another nation; this may even be an individual who is in the United States on a green card. The push for appropriate tax regulation is also creating a push toward people renouncing their citizenships or green card. This reform also declares that money in foreign investments must be filed, as those accounts can be well hidden through the use of foreign income taxes. (Barro, 2015) The argument now stands that if you would like to accurately reform the system, you need to reform the taxes. Companies and individuals would be more inclined to stay in the United States and have the income and investments be taxed domestically rather than abroad. This change would redirect investments on receiving the highest returns, rather than searching for tax havens (Barro, 2015). Although with a system so deeply rooted in foreign markets, a change like this would most likely lead to small effects.
Currently in the industry is the scandal that erupted from the Panama Papers, as we have introduced earlier, these papers have become on the the largest public uncovering of offshore banking. The implications of such a reveal are that all of these facts previously discussed, are in fact tangible. The Panama Papers have led to connection of over 140 political officials from over 50 countries (ICIJ, 2016), and many known associates of heads of state, prime ministers and elected officials. The danger of offshore accounting fraud is proved to be something to worry about, as well as a large institution. These Panama accounts have been used for many different investment entities, officials who have been banking their money tax free and then using it to hold assets or create companies. One example would be the current President of Ukraine. It was discovered that President Poroshenko became the sole shareholder of his company Prime Asset Partners Limited, which Mossack Fonseca set up in the British Virgin Islands (ICIJ, 2016). This account then was used for out branching acquisitions and assets such as: (chart)
Granted, many if not most, of the accused within the Panama Papers have denied any sort of allegations. What the Panama Papers have done is display assets that have been placed in various parts of the world through Mossack Fonseca institutions. Many of these institutions have then avoided certain taxes, and done business with other nations. That is an important aspect, many nations and associates have chosen to go through Mossack Fonseca in order to protect themselves from deals with countries that seem to be risky investments. Many foreign nations are not legitimate and safe business partners, but they do possess assets that other countries are interested in. The offshore banking then protects their transparency of wealth as well as any public distrust. That is why almost every acknowledged offical seems to have political ties, and because of this, they have been using these accounts to privately protect themselves.
Yet, you also have the issue of bearer shares. The idea that when share certificates are issued in a certain company, you do not need to disclose the name of an owner instead it would be the bearer. Companies held this way, provide massive amounts of security for certain people involved. When the British Virgin Islands started to crack down on bearer shares in 2005, Mossack Fonseca moved the companies to Panama (Carvajal, 2016): Chart:
At this point it is important to examine the question of why there are so few American’s named in the Panama Papers, especially since it is estimated that Americans hide billions in offshore accounts every year (citation). There are two general explanations. One is the fact that Panama isn’t the usual place for American offshore accounts. The majority of our offshore accounts have been found in the Caymen Islands, Singapore, or Bermuda. This favoring could vastly change the situation if for instance the leak had occurred in one of these countries (citation, probably Politico).
The bigger reason and most important is the ease of creating a shell LLC within the United States. A shell LLC is a company that isn’t necessarily illegal or created with malicious intent, but is just an inactive company without assets or operations. Meaning, this limited liability corporation has the potential for being used for either moral or immoral purposes, but will undoubtedly will have great tax benefits. This isn’t a new trend, but definitely has been brought up with the conversation of the Panama Papers. A shell LLC gives a protective layer of anonymity to purchases and moving money around, by removing the actual owner’s name and in place using the LLC. As stated in the Washington Post, “In the last quarter of 2015, 58 percent of all property purchases of more than $3 million in the United States were made by limited liability corporations, rather than named people.” These companies can be registered anonymously through several states in the United States, including most famously Delaware, Nevada, and Wyoming. These states offer an extremely easy and quiet method to creating LLCs through registered agents and boast about being “business friendly”. Although this is encouraging to business entrepreneurs, it also raises concerns of malicious accounts within the U.S., some of which are potentially owned by foreigners that are using our country as a tax haven. In fact, the United States has become one of the world’s biggest tax havens.
The ease of creating a LLC is captured in a five minute video where a journalist travels (as she is a nonresident) to Delaware to create a shell LLC for her cat. Within the five minutes she has created a LLC, all without showing any identification, as not even a driver’s license is required. It requires more identification to purchase alcohol or even sign up for a library card. The company who helped her reports that they often don’t meet in person with their clients but if anything is alarming, they do report it, but this is rare. These clients also don’t have to disclose what their business will be doing and can use a lawyer to go through the agency and add even more secrecy. In the end, the person in the demonstration paid $240 for a year of service through the agency and their company. All that is left to do is have the state approve, and in Delaware this is a quick process. Although this is a simple example, it still exemplifies how one can easily create these shell companies and then apply the tax rates to LLCs.
Returning to the real estate aspect, a large percentage of the luxury real estate market is bought through LLCs (see below). Many of these are believed to be foreign purchases, and used as a type of holding place for money, as our real estate market is comparatively stable. Instances like these were revealed in the Panama Papers when a purchase made in Miami-Dade County for nearly $3 million proved to be Paulo Octávio Alves Pereira rather than the company called Isaias Property. Pereira is a Brazilian developer and politician, who happens to have recently been indicted for corruption in Brazil. As of late, within the Miami-Dade area a total of nineteen other instances like this have been discovered through the Panama Papers. This is very hazy territory and definitely a convenient route for someone who is attempting to hide millions of dollars.