Tax Havens

Since World War II, a number of small jurisdictions have become “offshore financial centers” (OFCs), or “tax havens.” Initially dubbed “tax havens” because they were associated primarily with opportunities for individuals and firms to lower their domestic tax bills by moving assets to jurisdictions that had low or zero tax rates, many of the offshore jurisdictions have branched out into providing highly specialized and sophisticated financial services. Although there are [Page 1550]periodic disputes between relatively high tax jurisdictions, such as the United States, Canada, France, and Germany, and the offshore financial center jurisdictions, the offshore jurisdictions now play an indispensable role in the world economy and are unlikely to disappear.

Offshore financial centers are numerous. Anguilla, Aruba, the Bahamas, Barbados, Bermuda, Belize, the British Virgin Islands, the Cayman Islands, the Cook Islands, Cyprus, Dubai, Gibraltar, Guernsey, Ireland, the Isle of Man, Jersey, Liechtenstein, Luxembourg, Mauritius, Monaco, Montserrat, Nevis, Panama, Singapore, Switzerland, and Turks and Caicos all have significant offshore financial activity and other jurisdictions, from Mongolia to Native Americans in the United States, are investigating the feasibility of creating offshore sectors.

OFC jurisdictions share a number of characteristics. First, they are generally relatively small jurisdictions. Second, they are generally wealthy; several are among the top 20 gross domestic product (GDP) per capita jurisdictions each year. Third, successful OFCs are stable politically, giving investors confidence. The major difference between the activities in an OFC and the activities that take place in many onshore jurisdictions is that money invested in an OFC is generally later reinvested elsewhere, while onshore jurisdictions offer substantial domestic investment opportunities for foreign investors.

Taking advantage of a separate legal status, the Isle of Man offered wealthy Britons relief from high post-World War II taxes.

For example, money from outside the United States is regularly invested in American chartered companies and banks in New York. Just as OFCs do, the United States routinely reduces and even sometimes eliminates taxes on such investments as an incentive for foreign investors to put their money in the United States. Indeed, within the United States, Delaware plays a role with respect to corporate charters, and Vermont plays one with respect to insurance companies that are virtually identical to the roles of the Cayman Islands and Bermuda with respect to the United States as a whole.

The Growth of Offshore Financial Centers

The growth of OFCs began in North America, with the Bahamas, and in Europe, with the Channel Islands (Guernsey and Jersey) and the Isle of Man. Prohibition in the United States had brought great wealth to the Bahamas, which had become a center for smuggling alcohol into the United States. After the end of Prohibition, the Bahamian business sector looked for new opportunities. In 1934, Canadian mining magnate Harry Oakes moved to the Bahamas to escape a Canadian tax rate of 85 percent, and the colonial government soon began a campaign to lure other wealthy individuals to relocate to the islands. After the war, the Bahamas launched an ambitious tourism and business development program, which included establishing the Freeport complex with lucrative tax concessions and other steps that made the country a popular destination for tax exiles. The colony's access to both dollars from American tourists and pounds sterling through its ties to Britain also made it a favored business location for those attempting to avoid Britain's postwar capital and exchange controls. By 1960, the islands were the largest dollar earner in the entire British Empire.

...