OFFSHORE BANKING

Money makes the world go around

An offshore bank is a bank located outside the country of residence of the depositor, typically in a low tax jurisdiction (aka "tax haven") that provides financial and legal advantages. These advantages typically include some or all of

• strong privacy (see also bank secrecy, a principle born with the 1934 Swiss Banking Act)

• less restrictive legal regulation

• low or no taxation (i.e. tax havens)

• easy access to deposits (at least in terms of regulation)

• protection against local political or financial instability

• An alternative to oppressive governement taxation and Banking regulations.

While the term originates from the Channel Islands "offshore" from Britain, and most offshore banks are located in island nations to this day, the term is used figuratively to refer to such banks regardless of location (Switzerland, Luxembourg and Andorra in particular are landlocked).

Offshore banking has often been associated with the underground economy and organized crime, via tax evasion and money laundering; however, legally, offshore banking does not prevent assets from being subject to personal income tax on interest. Except for certain persons who meet fairly complex requirements , the personal income tax of most countries makes no distinction between interest earned in local banks and those earned abroad. Persons subject to US income tax, for example, are required to declare on penalty of perjury, any offshore bank accounts—which may or may not be numbered bank accounts—they may have. 

Although offshore banks may decide not to report income to other tax authorities, and have no legal obligation to do so as they are protected by bank secrecy, this does not make the non-declaration of the income by the tax-payer or the evasion of the tax on that income legal. Following September 11, 2001, there have been many calls for more regulation on international finance, in particular concerning offshore banks, tax havens and clearing houses such as Clearstream, based in Luxembourg, being accused of being a crossroads for major illegal money flows.

Defenders of offshore banking have criticised these attempts at regulation. They claim the process is prompted, not by security and financial concerns, but by the desire of domestic banks and tax agencies to access the money held in offshore accounts. They argue that offshore banking offers a competitive threat to the banking and taxation systems in developed countries, and that OECD countries are trying to stamp out competition.

Advantages of offshore banking

• Offshore banks provide access to politically and economically stable jurisdictions. This may be an advantage for those resident in areas where there is a risk of political turmoil who fear their assets may be frozen, seized or disappear (see the corralito for example, during the 2001 Argentine economic crisis). However, developed countries with regulated banking systems offer the same advantages in terms of stability.

• Some offshore banks may operate with a lower cost base and can provide higher interest rates than the legal rate in the home country due to lower overheads and a lack of governement intervention. Advocates of offshore banking often characterise government regulation as a form of tax on domestic banks, reducing interest rates on deposits.

• Offshore finance is one of the few industries, along with tourism, that geographically remote island nations can competitively engage in. It can help developing countries source investment and create growth in their economies, and can help redistribute world finance from the developed to the developing world.

• Interest is generally paid by offshore banks without tax deducted. This is an advantage to individuals who do not pay tax on worldwide income, or who do not pay tax until the tax return is agreed, or who feel that they can illegally evade tax by hiding the interest income.

• Some offshore banks offer banking services that may not be available from domestic banks such as anonymous bank accounts, higher or lower rate loans based on risk and investment opportunities not available elsewhere.

• Offshore banking is often linked to other services, such as trust and corporate management, which may have specific tax advantages or disadvantages for some individuals .

• Many advocates of offshore banking also assert that the creation of tax and banking competition is an advantage of the industry, arguing with Charles Tiebout that tax competition allows people to choose an appropriate balance of services and taxes. Critics of the industry, however, claim this competition as a disadvantage, arguing that it encourages a "race to the bottom" in which governments in developed countries are pressured to deregulate their own banking systems in an attempt to prevent the offshoring of capital.

Disadvantages of offshore banking

• Offshore banking has been associated with the underground economy and organized crime, through money laundering. Following September 11, 2001, offshore banks and tax havens, along with clearing houses, have been accused of helping various organized crime gangs, terrorist groups, and other state or non-state actors.

• The existence of offshore banking encourages tax evasion, by providing tax evaders with an attractive place to deposit their hidden income.

• Offshore jurisdictions are often remote, so physical access and access to information can be difficult. Yet in a world with global telecommunications this is rarely a problem. Accounts can be set up online, by phone or by mail.

• Developing countries can suffer due to the speed at which money can be transferred in and out of their economy as "hot money". This "Hot money" is aided by offshore accounts, and can increase problems in financial disturbance.

• Offshore banking is usually more accessible to those on higher incomes, because of the costs of establishing and maintaining offshore accounts. The tax burden in developed countries thus falls disproportionately on middle-income groups. Historically, tax cuts have tended to result in a higher proportion of the tax take being paid by high-income groups, as previously sheltered income is brought back into the mainstream economy [1]. The Laffer curve demonstrates this tendency.

Banking services

It is possible to obtain the full spectrum of financial services from offshore banks, including:

• deposit taking

• credit

• wire- and electronic funds transfers

• foreign exchange

• letters of credit and trade finance

• investment management and investment custody

• fund management

• trustee services

• corporate administration

Not every bank provides each service. Banks tend to polarise between retail services and private banking services. Retail services tend to be low cost and undifferentiated, whereas private banking services tend to bring a personalised suite of services to the client.

Statistics concerning offshore banking

Offshore banking, which has a historic association with tax evasion or organized crime, is an important part of the international financial system. Experts believe that as much as half the world's capital flows through offshore centers. Tax havens have 1.2% of the world's population and hold 26% of the world's wealth, including 31% of the net profits of United States multinationals. According to Merrill Lynch and Gemini Consulting's “World Wealth Report” for 2000, one third of the wealth of the world's “high net-worth individuals”—nearly $6 trillion out of $17.5 trillion—may now be held offshore. Some $3 trillion is in deposits in tax haven banks and the rest is in securities held by international business companies (IBCs) and trusts. 

The IMF said that between $600 billion and $1.5 trillion of illicit money is laundered annually, equal to 2% to 5% of global economic output. Today, offshore is where most of the world's drug money is allegedly laundered, estimated at up to $500 billion a year, more than the total income of the world's poorest 20%. Add the proceeds of tax evasion and the figure skyrockets to $1 trillion. Another few hundred billion come from fraud and corruption. "These offshore centers awash in money are the hub of a colossal, underground network of crime, fraud, and corruption" commented Lucy Komisar quoting these statistics. Among offshore banks, Swiss banks hold an estimated 35% of the world's private and institutional funds (or 3 trillion Swiss francs), and the Cayman Islands are the fifth largest banking centre globally in terms of deposits.

Regulation of offshore banks

In the 21st century, regulation of offshore banking is allegedly improving, although critics maintain it remains largely insufficient. The quality of the regulation is monitored by supra-national bodies such as the International Monetary Fund (IMF). Banks are generally required to maintain capital adequacy in accordance with international standards. They must report at least quarterly to the regulator on the current state of the business.

Since the late 1990s, especially following September 11, 2001, there has been a number of initiatives to increase the transparency of offshore banking, although critics such as the Association for the Taxation of Financial Transactions for the Aid of Citizens (ATTAC) non-governmental organization (NGO) maintain that they have been insufficient. A few examples of these are:

• The tightening of anti-money laundering regulations in many countries including most popular offshore banking locations means that bankers are required, by good faith, to report suspicion of money laundering to the local police authority, regardless of banking secrecy rules. There is more international co-operation between police authorities.

• In the US the Internal Revenue Service (IRS) introduced Qualifying Intermediary requirements, which mean that the names of the recipients of US-source investment income are passed to the IRS.

• Following 9/11 the US introduced the USA PATRIOT Act, which authorises the US authorities to seize the assets of a bank, where it is believed that the bank holds assets for a suspected criminal. Similar measures have been introduced in some other countries.

• The European Union has introduced sharing of information between certain jurisdictions, and enforced this in respect of certain controlled centres, such as the UK Offshore Islands, so that tax information is able to be shared in respect of interest.

Joseph Stiglitz, 2001 Nobel laureate for economics and former World Bank Chief Economist, told to reporter Lucy Komisar, investigating on the Clearstream scandal:

"You ask why, if there's an important role for a regulated banking system, do you allow a non-regulated banking system to continue? It's in the interest of some of the moneyed interests to allow this to occur. It's not an accident; it could have been shut down at any time. If you said the US, the UK, the major G7 banks will not deal with offshore bank centers that don't comply with G7 banks regulations, these banks could not exist. They only exist because they engage in transactions with standard banks."

 

In the 1970s through the 1990s it was possible to own your own personal offshore bank; mobster Meyer Lansky had done this to launder his casino money. Changes in offshore banking regulation in the 1990s in the form of "due diligence" (a legal construct) make offshore bank creation really only possible for medium to large multinational corporations that may be family owned or run.

Offshore financial centres

Offshore financial centres include:

• Bahamas

• Barbados

• Bermuda

• British Virgin Islands

• Cayman Islands

• Channel Islands (Jersey and Guernsey)

• Dominica

• Gibraltar

• Hong Kong

• Isle of Man

• Labuan, Malaysia

• Liechtenstein

• Luxembourg

• Montserrat

• Nauru

• Panama

• Saint Kitts and Nevis

• Singapore

• Switzerland

• Turks and Caicos Islands

LINKS:

• "Offshore accounts: No longer an easy option"

• Offshore_Business Portal.com   Information Resource for Offshore Company Formation, Offshore Banking, Offshore E-commerce, Offshore Merchant Accounts, Privacy Protection, Internet Marketing and Ebooks

• Congressional Research Service (CRS) Reports regarding Offshore banking

• Caribbean Financial Action Task Force - works with IRS and others.

• Untraceable Digital Cash, Information Markets, and BlackNet by Timothy C. May

• Principles for a free, powerful and stable monetary system for the digital era by S. Poirier

• Flood Control on the Information Ocean: Living With Anonymity, Digital Cash, and Distributed Databases by Michael Froomkin

• Status Report on Free Market Money from The Indomitus Report

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