WHAT IS A TAX HAVEN?
Organizations like OECD, TJN etc. have come out with list of tax havens from time to time. The basic criteria used by these organizations for listing the tax havens can be summed up in the following four points :
1. Very low or no capital tax on income: The primary aim of tax havens is to attract foreign investment and hence they have to give the foreign investors incentives to do so. But the existence of low or zero tax regimes is not by any means a sufficient condition though it is a necessary one. In fact, the OECD recognizes that every jurisdiction has a right to determine whether to impose direct taxes and, if so, to determine the appropriate tax rate. The following three criteria have to satisfied for a country to be classified as tax haven.
2. A very special tax regime for shell companies (ring fencing): A shell corporation is a company which serves as a vehicle for business transactions without itself having any significant assets or operations. The number of companies in these countries (tax havens) per capita is much greater than in many industrially and financially developed countries. British Virginia Island which has a population of 19000 has 830 000 companies registered. This is apart from the unknown number of trust, banks etc. registered there. The scope of such registrations is best gauged by the fact that a small office building in George Town (in Cayman Islands) serves as the registered address for more than 18 000 companies.
The truth is that these companies are shell companies with no or very limited local business activity. Typically such companies are denied privileges such as they cannot own or rent real property, their owners cannot reside locally or transact in local currency etc. Tax havens are generally characterized by tax and regulatory regimes that distinguishes between locals and these shell companies (foreign investors) with regulations being favorable to the latter in many ways. Such a regime is known as ring-fenced. Companies governed under such a regime are wholly or partially exempted from paying taxes, have no obligation regarding accounting and auditing, have no duty to preserve important corporate documents, and they can shift to other jurisdictions with minimum of formalities. In fact, these companies have only one obligation as far as the tax haven in which they are registered is concerned- pay the required registration or administration fees and this is how these countries earn their revenues from them.
3. A lack of transparency concerning the ownership and no effective exchange of information on tax issues with other countries and jurisdictions: the legal framework in tax havens is designed to conceal the identity of the owner, the company’s actual activity and transactions form the authorities in the country in which business transaction really takes place. Secrecy is reinforced by the absence of public registries particularly of those companies which intend to do business in other countries. Whatever information is present is also difficult to access. Considering the above points, it is clear that those countries which are affected by the operation of these companies and have claims against their owners have no way of knowing what is actually happening
Dharmapala and Hines gave the following criterion to judge whether a country is tax haven or not
a) The tax haven countries are generally small in size, commonly below 1 million in population. This is so because small countries are price takers in the world scenario. As a result they can’t transfer their tax burden to the foreigners. Moreover, the high rate of corporate taxes may well lead to reduction in wage rates, land prices and deadweight losses due to inefficient taxation which further harm the domestic factors. Dharmapala and Hines (2006) used the Hines-Rice definition and compiled summary statistic of the size of a country (in terms of population and area) for tax havens and non-tax havens separately and confirmed the fact stated here. They found the average population of tax havens to be 1145.69 thousand while for non-tax havens this figure was 126475.9 thousand.
b) Those countries which are affluent tend to be tax havens. Affluence of a country is measured in terms of its GDP per capita. Countries with greater affluence (i.e. higher gdp per capita) are more likely to be tax havens than other countries with lesser affluence other parameters remaining same. This is again confirmed in Dharmapala and Hines (2006) which found out the average GDP per capita (US $ in PPP terms) of tax haven countries to be 18.51 thousand and 9.55 thousand for non-tax havens.
c) Countries with good governance are more likely to be tax havens. Tax haven countries have a mean government index of 0.73 which is quite higher than that of the non-tax haven countries (.13) (Dharmapala and Hines, 2006). This is because the returns of becoming tax havens are more for countries with good governance. The high foreign investment and the economic growth which it brings with it result in lowering of taxes in well governed countries, one if the most basic conditions to be satisfied by a tax haven country.
Although there are 20 plus tax havens across the world but I am listing top 10 tax havens here:
- Cayman Island