Students pursuing degrees in taxation—such as the Online Master of Science in Taxation from Northeastern University—need to be familiar with all types of different taxation structures and strategies. From consumer tax breaks that can help save money to divisive and somewhat problematic tax havens, students need to deepen their understanding around these important concepts to be an effective tax professional.
When it comes to corporate tax havens, these loopholes aimed at enterprise owners are not the equivalent of consumer-level tax credits and deductions. In fact, tax havens can create considerable problems, particularly for overall economic growth and accounts receivable from multinational corporations.
While students may be somewhat familiar with the concept of tax havens, it’s critical for those studying tax law to understand the impact of these loopholes and why businesses go this route. It’s also important to see how this practice affects the economic standing of the U.S. and other countries throughout the globe.
Tax Haven Definition
A tax haven is an offshore country that allows wealthy individuals and business owners to bank with the country’s local institutions in order to avoid paying home country taxes on gains or profits. These tax haven countries offer the benefit of little to no tax liability, and company owners or consumers with considerable wealth do not usually need to be citizens to take advantage of this kind of tax loophole.
As a result of this tax haven structure, business owners and wealthy consumers pay little or even no taxes on their profits or personal finances. In other words, tax havens offer a way for companies and affluent individuals to avoid higher corporate tax rates or income tax in their home countries.
Shifting profits to avoid paying corporate tax rates
To further describe how tax havens work, let’s consider the current U.S. corporate tax rate, which sits at 21%, as prescribed by the Tax Cuts and Jobs Act of 2017. Organizations that are based or generate profits in the U.S. are required to pay the 21% on their profits.
However, using a tax haven, businesses can shift profits to subsidiaries in identified tax haven countries and leverage this loophole to reduce or even eliminate their tax liability and avoid having to pay the 21% corporate tax rate on some or all of their profits. What’s more, many tax haven countries do not provide financial details to tax authorities outside their borders.
Pros for Business, Cons for Economic Growth
According to Americans for Tax Fairness, this practice of profit shifting to avoid taxes has resulted in a significant decline in federal revenues stemming from corporate profits. Where American enterprises once contributed about one-third of overall federal revenues through their profits and associated corporate taxes, tax avoidance practices have resulted in these businesses now only contributing about one-tenth of federal tax revenues.
Americans for Tax Fairness reported that U.S. businesses are collectively able to avoid paying an estimated $90 billion in income taxes simply by shifting profits to subsidiaries in tax haven countries. Overall, there are about $2.1 trillion in offshore profits owned by American businesses in tax havens, and this capital has not been taxed at the required corporate tax rate in the U.S.
Pros for business
Using a tax haven to shift profits is not technically illegal, and therefore enables businesses and wealthy individuals to avoid having to pay considerable amounts in income tax and corporate tax rates on their profits and personal wealth.
“A large loophole at the heart of U.S. tax law enables corporations to avoid paying taxes on foreign profits until they are brought home,” Americans for Tax Fairness noted. “Known as ‘deferral,’ it provides a huge incentive to keep profits offshore as long as possible. Many corporations choose never to bring the profits home and never pay U.S. taxes on them.”
While this provides more revenues and profits for businesses, it also creates considerable problems for American economic growth.
Cons for U.S. economic health
Despite these corporations leveraging and using public services and other American structures to support their businesses, using corporate tax havens creates an imbalance of tax liability, with smaller companies and middle class consumers having to make up the share of the burden from enterprises that use tax havens, Corporate Tax Haven Index explained.
“Multinational corporations rely on a wide range of public services to support their activities … All these things need to be paid for—largely through raising tax,” Corporate Tax Haven Index stated. “When multinationals use corporate tax havens to escape paying their contributions to these public goods and services, they are free-riding off the taxes paid by other people—you and me.”
These practices also stem the possibility of significant economic growth, particularly when one considers the amount of federal funding that could be generated through corporations paying their required corporate tax rates, and wealthy individuals paying their income tax.
Where Is This Happening? Tax Haven Countries
Corporate Tax Haven Index includes a ranking for the current leading tax haven countries used by multinational corporations. These countries have the type of attractive tax jurisdictions that limit tax liability and enable businesses to pay little or no taxes on their offshore profits.
According to the Corporate Tax Haven Index, the top tax haven countries include:
- British Virgin Islands
- Cayman Islands
- Jersey, a dependency of the United Kingdom in the Channel Islands
- Hong Kong
What’s Next for Tax Havens?
Although the current tax loophole practice of shifting profits and wealth outside of the U.S. to tax haven countries is legal, it creates an imbalance of tax liability and prevents economic growth in America.
As of mid-2020, federal legislation is under consideration to help prevent the use of tax havens. The Stop Tax Haven Abuse Act, introduced by Rep. Lloyd Doggett [D-TX] in 2019, is being reviewed by the House of Representatives’ Committee on Ways and Means.
In the meantime, multinational businesses and wealthy individuals are still free to shift profits and personal wealth to tax haven countries and avoid paying income and corporate tax rates.
As practices like these continue to draw the spotlight in political and finance circles, it’s important that students and professionals remain up to date on tax law and regulations. With the right education and training, tax professionals can help businesses and affluent consumers find better ways to navigate the territorial tax system and support American economic growth.
To find out more, check out the curriculum of Northeastern University’s D’Amore-McKim School of Business Online Master of Science in Taxation, and connect with an enrollment advisor today.