Both Panama and the U.S. have refused to sign a treaty that requires the sharing of financial information with other countries, making both nations attractive to wealthy people and businesses eager to hide their earnings.
AUSTIN, Texas — The Panama Papers, a massive leak of secret financial data relating to the use of overseas tax havens, cast an uncomfortable spotlight on many political figures and world governments.
However, the 11.5 million documents contain few American names or corporations, leading some to speculate that the documents had been censored before release.
While Mossack Fonseca, the secretive “boutique” law firm that created the hundreds of offshore shell corporations revealed in the leak, may have simply served a primarily European clientele, there’s another reason that few American corporations have been found in the files: When a U.S. company wants to hide its earnings, it’s easier to create a tax shelter at home than to take its business abroad.
Several states, including Nevada, Delaware, and Wyoming, have corporate tax laws so lenient, they are effectively domestic tax havens. In these states, “it’s possible to create these shell corporations with virtually no questions asked,” said Matthew Gardner, executive director of the Institute on Taxation and Economic Policy, a Washington-based nonprofit, in a recent interview with The New York Times’ Patricia Cohen.
While shell corporations may have legal uses, they are most often used for “cloaking wrongdoing” from public and governmental scrutiny. Gardner described to Cohen that, “Aside from avoiding taxes, shell companies are routinely used by terrorist organizations to hide assets, by political donors to sidestep campaign finance laws and by criminals to launder money.”
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Nevada: A top 10 tax haven
One U.S. state appears more than any other in the Panama Papers: Nevada. Although Mossack Fonseca created far more shell corporations in island nations, mostly the British Virgin Islands and Panama, Nevada is the eighth most frequently mentioned tax haven in the leak, according to a Marketwatch analysis published on April 4.
Julia Glum, writing on April 5 for International Business Times, explained some of Nevada’s appeal to the global 1%:
“The Silver State has no income tax or annual franchise tax while offering privacy for executives, according to Incorporate.com. It only recently passed a commerce tax for business entities with gross annual revenue over $4 million and increased license fees.
But perhaps more attractive to business owners abroad are its loose laws for setting up corporations. Nevada courts historically protect the ‘corporate veil,’ according to nevadacorporationsonline.com. Until three years ago, people could use nominees to set up corporations without letting their names go public. An example: In 2011, Reuters wrote a feature article about three financial felons running corporations there without incident.”
The state is growing more popular as a tax haven over time. “In 2012, Nevada pulled in about $133 million from corporate filings, VegasInc reported. In 2002, it brought in merely $43 million in revenue, Reuters reported,” Glum noted.
Before the Panama Papers story broke, Jesse Drucker, an investigative reporter with Bloomberg, reported in January that wealthy investment banks are beginning to move funds from offshore shell companies into Nevada as foreign nations crack down on tax havens or begin reporting more data to the U.S.
“Everyone from London lawyers to Swiss trust companies is getting in on the act, helping the world’s rich move accounts from places like the Bahamas and the British Virgin Islands to Nevada, Wyoming, and South Dakota,” Drucker wrote.
Among those assisting the flight from Switzerland is one of the world’s most notorious and controversial investment banks. Drucker reported:
“Rothschild, the centuries-old European financial institution, has opened a trust company in Reno, Nev., a few blocks from the Harrah’s and Eldorado casinos. It is now moving the fortunes of wealthy foreign clients out of offshore havens such as Bermuda, subject to the new international disclosure requirements, and into Rothschild-run trusts in Nevada, which are exempt.”
American financial hypocrisy
Jesse Drucker also revealed that Andrew Penney, a Rothschild attorney, praised Nevada’s lenient tax laws in a speech presented in San Francisco last September:
“For financial advisers, the current state of play is simply a good business opportunity. In a draft of his San Francisco presentation, Rothschild’s Penney wrote that the U.S. ‘is effectively the biggest tax haven in the world.’ The U.S., he added in language later excised from his prepared remarks, lacks ‘the resources to enforce foreign tax laws and has little appetite to do so.’”
While the U.S. government has shown little willingness to go after criminal business behavior at home, it’s been a leader in targeting overseas tax fraud, as noted by the Times’ Patricia Cohen:
“After revelations came to light about Americans using Swiss bank accounts to evade taxes, the United States in 2010 passed the Foreign Account Tax Compliance Act, which requires financial firms in other countries to disclose details about American clients with offshore accounts.
Yet the United States is one of the few countries that has refused to sign new international standards for exchanging similar financial information with other countries.
Another country that has failed to sign the standards? Panama.”
Far from discouraging the behavior overall, it’s simply brought most of that illegal capital back into America.
“How ironic—no, how perverse—that the USA, which has been so sanctimonious in its condemnation of Swiss banks, has become the banking secrecy jurisdiction du jour .. That ‘giant sucking sound’ you hear? It is the sound of money rushing to the USA,” wrote Peter A. Cotorceanu, an attorney at a Swiss law firm, in a legal paper quoted by Drucker.
The international standards at issue in this massive shift in capital were created in 2015 by the Organisation for Economic Co-operation and Development, and 97 countries have signed onto the regulations. Only a few countries are refusing to sign on, including the U.S., Panama, Bahrain, Nauru, and Vanuatu.
Sven Giegold, a member of the European Parliament from Germany’s Green Party, told Drucker:
“I have a lot of respect for the Obama administration because without their first moves we would not have gotten these reporting standards. On the other hand, now it’s time for the U.S. to deliver what Europeans are willing to deliver to the U.S.”
‘Delaware has more companies than people’
A December report from the Institute on Tax on Taxation and Economic Policy cited Delaware’s role as a leading “onshore tax haven.”
“Delaware has more companies than people,” the authors wrote, adding:
“Delaware ranks 46th in population among the 50 states with roughly 935,000 residents. Yet more than 1.1 million companies incorporated there as of 2014, including 65 percent of Fortune 500 parent companies. Additionally, 85 percent of Fortune 500 companies reported having at least one subsidiary in Delaware in 2014. In total, these companies reported more than 19,000 Delaware subsidiaries. In sum, 58 percent of all reported U.S. subsidiaries and 30 percent of total reported subsidiaries are housed in Delaware. In contrast, the two states that account for the largest contribution to the nation’s Gross Domestic Product, California and Texas, have 1,160 and 1,540 Fortune 500 subsidiaries, respectively.”
A key factor is known as the “Delaware Loophole,” which lets corporations pay zero taxes on intellectual property and other so-called “intangible assets” held by Delaware-based “passive investment companies.”
For example, the leading toy store chain, Toys R Us, created a shell company called Geoffrey LLC to own the company’s trademarks and trade names, including the corporate mascot, Geoffrey the Giraffe. ITEP reported:
“Retail Toys R Us stores in other states pay royalties to Geoffrey LLC for the use of these intangible assets, which are not taxed in Delaware, and then deduct the royalties on their state tax returns. For example, in 1990, Geoffrey LLC received $55 million in royalty income, and Toys R Us was able to avoid an estimated $2.75 million in state taxes as a result of this strategy.”
A 2012 investigation by The New York Times cited one address in particular, 1209 North Orange in Wilmington, Delaware, that serves as the legal address of at least 285,000 corporations. The city of Wilmington has a population of less than 72,000.
“Its occupants, on paper, include giants like American Airlines, Apple, Bank of America, Berkshire Hathaway, Cargill, Coca-Cola, Ford, General Electric, Google, JPMorgan Chase, and Wal-Mart. These companies do business across the nation and around the world,” wrote Leslie Wayne. “Here at 1209 North Orange, they simply have a dropbox.”
The Delaware Loophole has proven extremely lucrative for Wall Street, Wayne noted. “Over the last decade, the Delaware loophole has enabled corporations to reduce the taxes paid to other states by an estimated $9.5 billion.”
Closing the loopholes
“Some states have attempted to prevent revenues lost due to Passive Investment Company loopholes by adopting some variation of an ‘addback rule,’ which requires companies operating in the state to add back into taxable income payments made to related companies for interest or intangible assets,” ITEP reported.
“For example, a company in a state passing an addback rule would no longer be able to avoid taxes by deducting payments for the use of a trademark made to a Delaware subsidiary (or a subsidiary in another state where that income would not be taxed).”
But even these new laws don’t go far enough, as accountants can usually find other ways to move income to other states where it will be taxed less or even not at all.
One option is called combined reporting, under which companies are required to “report the income and expenses of all out-of-state subsidiaries for the purpose of determining corporate income tax (in contrast to separate accounting, which only requires reporting of the income with a substantial ‘economic nexus’ with the home state).”
ITEP noted: “In states that have enacted combined reporting laws, businesses no longer have an incentive to move income to other states, as they will be taxed on the income of all their U.S. subsidiaries. About half of all states have already adopted combined reporting.”
Congress could also act to fix the issue. ITEP noted:
“The Incorporation Transparency and Law Enforcement Act, which would mandate that states require the name and address of each beneficial owner of a company at the time of incorporation and after any change in ownership, has been proposed in the last several Congresses but has never come to a vote in either chamber.”
But Bloomberg’s Jesse Drucker reported that conservative lawmakers and deep Wall Street pockets have blocked other forms of progress:
“The U.S. Treasury is proposing standards similar to the OECD’s for foreign-held accounts in the U.S. But similar proposals in the past have stalled in the face of opposition from the Republican-controlled Congress and the banking industry.”
The flood of taxable income out of state coffers and into shell corporations has left states and local communities reeling under budget shortfalls. In a 2012 interview with the Times, Brian Murphy, president of De Anza College, a community college just miles from Apple’s main Cupertino, California, campus, lamented the devastating effect tax havens have had on his school and the state.
“When it comes time for all these companies — Google and Apple and Facebook and the rest — to pay their fair share, there’s a knee-jerk resistance,” he said. “They’re philosophically antitax, and it’s decimating the state.”
Murphy described it as a betrayal of his community, especially where Apple is concerned. He said:
“I just don’t understand it … I’ll bet every person at Apple has a connection to De Anza. Their kids swim in our pool. Their cousins take classes here. They drive past it every day, for Pete’s sake. But then they do everything they can to pay as few taxes as possible.”