Individuals and corporations can use offshore services to legally establish an effective structure for tax planning, international investment and trade, and for protecting assets from economic and political instability. However, offshore services are sometimes misused for illegal tax evasion, rather than permitted tax planning. Violations against anti-tax evasion provisions will not only render the planned tax scheme ineffective, but might result in heavy fines. Users of offshore services should be able to demonstrate that the offshore service was set up for a legitimate purpose. If an offshore service is suitable for a certain objective depends on a number of factors, including the structure of the planned transactions, the owner's domicile or citizenship and the countries in which a business is carried out.
The following is an overview on various types of structures that are frequently implemented and is not a thorough examination of the topic. Because the effectiveness and legality of a planned transaction cannot be determined without careful examination of the factual pattern, it does not constitute legal advice of any nature and must not be relied on.
International Investment Portfolios
Both individuals and corporations domiciled in economically and politically instable countries can reduce risks and gain tax benefits by transferring assets to offshore jurisdictions. They often hold investment portfolios through offshore companies to (i) defer and reduce taxes; (ii) minimize professional and administrative fees; (iii) hand down assets; and (iv) secure assets from politicaly and economicaly instable countries.
Funds accumulated in these offshore companies can be invested into a broad range of investment products, such as stocks and bonds throughout the world. Foreign jurisdiction where the investment was made may impose withholding tax on the returns or interests on the investment, but generally do not tax capital gains. Furthermore withholding tax on foreign investments is often lower than income or corporate and may be further reduced by double-taxation treaties with the offshore jurisdiction. The offshore jurisdiction itself does not impose tax at all or at a low rate on the capital gains and returns of the investment.
Wealthy individuals often use offshore companies or foundations as personal holdings for investments made in a number of different countries. Such holdings can save the investor professional and other fees for setting up and maintaining entities in a number of different countries. They are also used for inheritance planning and reduce the costs and time delays arising from probate. If all assets of an individual are transferred into the holding company, probate can be applied for in a single jurisdiction rather than in each of the countries where the deceased held assets.
Like wealthy individuals, many large companies from politically and economically instable countries mitigate risk by re-incorporating in an offshore location. Such companies can also benefit from a sophisticated, well-developed, flexible and investor-friendly legislation that has been enacted by a number of offshore jurisdictions. Liechtenstein, for instance, permits the formation of any type of corporation, which is recognized under the law of any jurisdiction of the world. This leaves a variety of choices to investors how to arrange their corporate structure.
E-commerce businesses are particularly well suited to conduct business through offshore service centers, especially if their business activities reach beyond national borders and can deliver services electronically, because data can be hosted on servers located anywhere in the world. Operating through an offshore company may offer a number of advantages going beyond tax planning and include the avoidance of sales or value added taxes, limiting the impact of existing or potential restrictive regulations governing the Internet, limiting exposure to liability and foreign jurisdictions. They also may defer taxes so that profits may be reinvested in international expansion.
International Trading and Purchasing Companies
Companies are frequently incorporated in low tax areas to carry out international trading. If a business in one country buys goods in a second country and sells them to a third country, there is no need to establish this business in the home country, rather than in a low tax international service center. Significant tax savings can arise by interposing an offshore company into an international trading transaction. The profits derived from goods that were procured in one country and sold to another country may be accumulated in the offshore company, free from taxation in the offshore center. By this means it may be possible to legitimately defer taxation on the profits, which can be used for further investments.
Offshore companies can also be used for bulk purchasing transactions. Typically a group of associated or un-associated companies use an offshore company to benefit from economies of scale and reduce administrative costs. Moreover, such a structure may be more tax efficient than an onshore arrangement.
Offshore companies are also used for the factoring of trading debts from a company resident in a high tax jurisdiction to one located in a low or zero tax offshore location.
Finance, Capital Raising and Leasing
Offshore companies are regularly employed to manage finance and to raise money either from outsiders or from members of group companies. Instruments used are loans, bonds and leasing. Through careful tax planning income tax that would be levied on such transactions in high tax areas can be mitigated.
International Acquisition and Joint Ventures
Offshore companies are often used for the establishment of joint ventures, the acquisition of foreign entities, international restructuring of corporations, real estate and other corporate finance related projects. If companies domiciled in different companies wish to set up a joint venture, they often choose to incorporate it in an offshore location. They benefit from the tremendous flexibility most offshore jurisdictions allow to structure a company and from the well-developed corporate legislation. Moreover, some of the complex international tax implications arising from such cross border transaction can be avoided.
Offshore corporations and trusts can be holding companies of any kind of entity, such as subsidiary and associated companies, publicly quoted and private companies and joint venture projects. In many cases capital gains, arising from the disposal of particular investments, can be made without the encumbrance of taxation. A reduced tax rate on withholding tax for dividend payments can be achieved through interposing a company incorporated in a zero or low tax jurisdiction that has double-taxation agreements with the state where the dividend paying company is domiciled. Capital gains and returns from the investment are not taxed at all or at a low tax rate by the offshore jurisdiction.
Intermediary Holding Companies and Mixing Companies
Because double taxation treaties do not always exist between the investor's domicile and the country where the investment is to be made, many large corporations establish an intermediary company in a jurisdiction where suitable treaties exist.
Multinational operations with subsidiaries in a number of countries can establishe their own offshore mixing companies to mix dividends from their subsidiaries, to take maximum advantage of tax credits.
Personal Service Companies
Individuals rendering provisional services in more than one country can gain tax benefits by establishing professional service companies offshore. The offshore company can contract to supply the services outside the individual's normal residency and the fees earned can accumulate offshore, free from taxation in the offshore center. Payments to the individual can then be structured in such a way to minimize income tax. This structure is frequently used by professionals in the construction, engineering, aviation, finance, computer, film and entertainment industries.
Many companies utilize offshore companies for the employment of staff working on overseas assignments. This helps to reduce the costs associated with payroll and travel expense administration, and may provide a tax and social security saving benefit for the employees.
Property and Land Ownership
The ownership of real property and land by an offshore company can often create tax advantages. If an offshore company owns the real property, the shares in the company can be transferred rather than the real property itself. In some instances this may result in the avoidance of capital gains, inheritance and property transfer taxes.
Intellectual property, Licensing and Franchising
Owners of intellectual property rights can achieve tax savings and deferrals by assigning their rights to an offshore company with the power to sub-license it. Usually rights in computer software, technical know-how, patents, trademarks, and copyrights are assigned. Upon the acquisition of the rights, the offshore company can then enter into license or franchise agreements with companies interested in the exploitation of such rights around the world. Income arising from such arrangements can be accumulated offshore. Usually royalty payments attract withholding tax at the country where it is paid from, but can be reduced by double taxation treaties. Ideally, intellectual properties are assigned before they become valuable, for instance while a patent is still pending, so that the payment for acquisition of the payment can be set at a lower amount.
Many shipping companies are registered in international financial service centers to reduce registration fees and direct or indirect taxation on shipping. For maximizing the tax benefits, most jurisdictions require that a ship is registered at the place where the shipping company is incorporated.