Offshore 2020 Report 2015: The New Normal

Transcription

1 Offshore 2020 Report : The New Normal A Vistra Group Company

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3 Contents 2 Foreword 3 Introduction 4 Overall Outlook 6 Regulations 8 The Next Regulatory Wave 10 Jurisdictions 12 Midshore vs. Offshore Which Will Dominate? 14 Shifting Dynamics 15 Emerging Markets 16 China 17 Non-China Emerging Markets: Driving Offshore Forward 18 India 18 Southeast Asia 19 MENA 20 The Perception of Offshore: Realities and Myths 21 What Critics Think 22 Beneficial Ownership, Privacy and Transparency 24 Changing the Perception of OFCs Among Critics: Worth the Effort? 25 Quantifying the Offshore Industry s Contribution to the Global Economy 27 The Future State of the Industry 28 Offshore in 2020 The Updates 28 Offshore in 2020 The Predictions 29 Summary 30 Methodology 31 Glossary & Definition 32 Contact Us The New Normal 1

4 Foreword Welcome to OIL s Offshore 2020 report for. In 2014, we asked if the offshore industry was beginning to see the end of the storm clouds, and was more robust and confident, perhaps having weathered recent external pressures. We referred to the industry as the plumbing of the global financial system and looked forward to a day when this might be better understood both by industry participants, and the public at large. A year on, and those storm clouds are still circling, perhaps even closing in. The sky has not yet fallen in and some parts of the industry are thriving. Real and substantive change in the industry has been spoken about for years, but is now imminent: Foreign Account Tax Compliance Act (FATCA) reporting is almost upon us, with its so-called global counterpart, the Organisation for Economic Cooperation and Development s (OECD) Common Reporting Standard (CRS), close on its heels. The OECD s Base Erosion and Profit Shifting (BEPS) project is taking shape, in part driven by Lux Leaks, and the ongoing blurring of the line between legal tax avoidance and illegal tax evasion. Tax authorities continue their hunt for relevant data and additional revenues; banks continue to de-risk and key offshore jurisdictions such as Cayman Islands and the BVI are under pressure from their UK parent to evolve transparency requirements. How will all this affect the industry and client sentiment? Will implementation of the supranational standards be applied equally by, and to, all countries, large and small? Will the large onshore economies, keen to obtain data from the offshore jurisdictions, share data in return? Will major economies object to complying with FATCA, when the US has not signed up to CRS? Now in its sixth year, the Offshore 2020 project continues to explore the key trends and issues facing the industry. We are delighted by the growth in participation with more than 300 senior level stakeholders sharing their views. It is particularly pleasing that we are now able to analyse data from respondents in Asia and the rest of the world, and reflect on differing sentiments between them, giving the survey further depth. For the first time, we have also reached out to some of the industry s most ardent critics. What can the industry learn from those that want to reform and even shut it down? How should the industry respond to those challenges, especially in a supposed era of austerity, and perceived increasing inequality, where our clients are necessarily global corporations and the wealthy elite? There is still a long way to go before the contribution of offshore jurisdictions is widely understood but industry participants are becoming more forthright in articulating their value to the global economy. And we believe that, due to exchange of information data, it will eventually become clear that there is no secret stash of money hidden on small islands in the sun. In last year s paper, we examined in detail how the industry has absorbed change in recent years, and become stronger as a result. We know that further changes are coming, and perhaps those changes will ultimately increase the perceived legitimacy of the industry. The increased resilience of the industry was demonstrated very close to home for OIL in. It is public information that our parent company, the Vistra Group, flirted with a public listing on the Hong Kong Stock Exchange, before a sale to our new private equity owner, (regulatory approval pending). This process necessarily involved a great deal of work with external legal advisers, auditors, investment bankers, institutional investors and the like. Their ultimate determination was that offshore is a maturing and consolidating industry with a great future ahead of it let us hope time proves them to be correct. We trust you enjoy the read and welcome any feedback on how the report can be improved. Martin Crawford Chief Executive Officer Jonathon Clifton Group Managing Director Simon Filmer Deputy Group Managing Director 2 Offshore 2020 Report

5 Introduction The word ambitious is often used to describe the pace and scope of current and looming offshore regulatory standards. The US FATCA, has been called very ambitious in its global reach. The OECD, originator of two major regulatory schemes, describes its own BEPS project as extremely ambitious and deems the schedule for implementing its new standard for the automatic exchange of information between tax authorities, a.k.a. the CRS as ambitious but realistic. Use of the word is not inappropriate: FATCA, launched only a year ago, already has had costly ripple effects across the globe, has made it more difficult for US nationals to open foreign accounts and is expected to reap some US$840 million in for the US government. The BEPS plan, lead creator Pascal Saint-Amans assured us, is on track to be finalised in December. And by the end of 2016, early CRS adopters must have completed due diligence procedures for identifying high value, pre-existing individual accounts. Accurate crystal balls are in short supply in the world of offshore finance, which is why we canvass hundreds of experts in international financial centres (IFCs) every year; it is clear, however, that the push for regulation the push to squelch the ambitions of offshore will remain both ambitious and exigent well into But that is not the whole outlook for the near future. Yes, looming regulatory clouds certainly darken the landscape. However, despite the increasing pressure on the industry, market participants and analysts believe the future of offshore is still bright. Although qualified by a note of hesitation, such optimism, and/or a sense that demand will not diminish, led the consensus of the nearly 300 industry experts who participated in our quantitative surveys. That optimism was particularly strong among the dozens of CEOs, attorneys, fund managers and other thought leaders we interviewed by telephone between May and July in year. We wondered aloud whether strict compliance would lead to the legitimisation of offshore in the eyes of its critics. Doubtful, some of those critics told us, or at least not until the fires instigated by certain non-governmental organisations (NGOs) and members of the press are dampened by persuasive empirical analysis and thoughtful discussion put forth by industry representatives such as the IFC Forum and other industry stakeholders. Our constituents are hopeful that a combination of impeccable practices and rigorous engagement with critics and governments will indeed serve to reboot the industry going into Essential to these efforts is the creation of a robust public relations/lobbying/social media educational strategy that is more proactive than reactive. Quelling criticism is worth the effort, we were repeatedly told, and we agree: regulations stem from a sense of being wronged; proving the worth of offshore (and midshore) could weaken the regulatory urge. Of course, regulations are not the only force moulding the industry into new, perhaps leaner and more efficient shapes. Technology is also transforming the business. The digital economy is the economy, said a Paris-based, high-level representative of a supranational organisation in an interview for this project. The digitisation of business, of international transactions, and of regulatory compliance, plus the astonishing pace of global connectivity, all present client-capture opportunities. They also pose real threats to the relevance and viability of an industry whose success has in part been predicated on the presumption of privacy. Careful thought must be given to what will happen when that privacy is regulated or digitally hacked away, and to how the industry might mitigate against such a threat. FIGURE 1 Non-Asian market Breakdown of respondents 54% 46% Asian market Then there are shifts in client profiles: If money talks, these days it is more likely to speak Mandarin (and Cantonese, if it goes through increasingly powerful Hong Kong). Indeed, the strongest optimism we found rested among our Asia-based constituents. The unfurling of the renminbi (RMB) and burgeoning Chinese and ex-asian wealth are giving rise to a client base eager to protect and diversify assets. We should note here that this year we have the opportunity to parse out results by Asian and non-asian markets [Figure 1]. This adds richness to the data mined for the project. On the whole, the future looks promising. The regulatory and public relations challenges of the past few years are shaping and honing the industry into one poised to emerge stronger than ever. By 2020, we believe offshore will be a leaner, more resilient, more confident member of the global economy. The New Normal 3

6 Overall Outlook I m quite optimistic about the future of the business with an asterisk. Attorney of a UK law firm

7 The renewed sense of optimism noted in last year s report has not significantly increased over the past 12 months, but neither has it markedly diminished. Hope for the future of offshore largely stems from confidence in the underlying drivers of the industry, such as wealth planning, asset protection and emerging market wealth [Figure 2]. Respondents noted that although geopolitical and economic crises may arise, a wobbly economy does not necessarily hinder offshore s appeal. FIGURE 2 Growth drivers in the next 5 years (* industry consists offshore jurisdictions of: Anguilla, the BVI, Cayman Islands, Guernsey, Jersey, Mauritius, Samoa and Seychelles) Whether companies are growing or not growing, people will still require structures. Offshore Financial Centres will stay relevant because businesses will need them. A regulatory representative from Labuan Wealth planning Asset protection Emerging market wealth Cross border trade/fdi M&A activity Increased client sophistication Double tax treaties Privacy and client anonymity New IPOs and capital market movements Traditional tax planning Higher taxes in developed markets GDP growth 57% 51% 48% 40% 33% 32% 32% 31% 27% 24% 21% 17% FIGURE No change in demand, but likely result in switching between jurisdictions Yes, it will have an adverse impact on overall demand for offshore services Yes, demand for offshore services will increase due to underlying economic activities Impact of the convergence of new regulations + negative PR on underlying demand No, there will be no change in the underlying market 4% 7% 30% 28% 36% 41% 52% Yet although most of those we spoke with expressed hope for the near term, they often qualified their outlook as cautiously optimistic. Reticence currently stems from wariness over: This industry is not dependent on the global economy remaining stable; indeed, the best time to make money is in a bad economy, as people see opportunities for offshore to offset an underperforming economy, said one corporate service provider (CSP) based in Anguilla. Conversely, when wealth expands, as it is doing in Asia, the market is not going away anytime soon, and that wealth will seek out offshore jurisdictions. To that end, nearly six in ten of OIL s respondents believe that demand for services will either stay the same or grow over the next five years [Figure 3]. Such ideas about demand may be reflected by the number of incorporations in The Cayman Islands will likely end having broken the 100,000 mark for total registrations. A number of jurisdictions saw double-digit percentage increases in their new incorporations (NIs) in And despite dips in the global economy and negative press about offshore, the industry* saw only slightly fewer (down 1%) incorporations in 2014 than in 2013: 99,156 vs 99,973. Based on such volumes, we expect the NI figures to be similar to those witnessed in the intensity of scrutiny by governments and the press; the ambiguity around implementing current (FATCA) and forthcoming (BEPS, CRS) regulations; the cost burden of compliance; and, how much more compliance might be demanded in the face of a weakening economy. Perhaps reflecting that caution, some 36% of respondents believe there will be an adverse impact on overall demand for services during the next five years. This is a slight decrease from last year s 41%, but it remains significant. A much smaller but notable coterie of our constituents 5% takes an even dimmer view. They believe 2020 will have already ushered in the end of the use of offshore structures. An asterisk indeed. Only those who adapt will survive. A CPA from HK Big 4 accounting firm The New Normal 5

8 Regulations As for regulations, there is no U-turn. Tax advisor from HK Big 4 accounting firm

9 Concerns over offshore s future perhaps are instigated by the perception of ever increasing regulations: FATCA, UK FATCA, the CRS, the European Union s (EU) Alternative Investment Fund Managers Directive (AIFMD), the United Nations (UN) Anti-Money Laundering (AML) Convention, and the OECD s BEPS action plan all put downward pressure on the industry. Much of the pressure on offshore financial centers (OFCs) is coming from the European market due to struggling economies, said one jurisdiction official. They re looking for ways to bolster their economies. What s at their disposal are tools in the G20, G8, and so forth. Nearly all of our constituents agreed that regulatory compliance hampers business. Not only is there a proliferation of more questions than answers, but rigorous compliance raises the cost of doing business, and more than two-thirds said it necessitates shoring up both human capital and IT investments [Figure 5]. FIGURE 5 Regulation impact on internal operations Raise the cost of doing business 95% We re not around the table. And if you re not around the table, you re on the menu. Regulatory representative from the BVI official Necessitate more human capital investments Require new investments in IT capabilities 82% 76% The compliance pressure (in the form of new regulations) has become the top constraint to doing business. As reflected in the survey [Figure 4], such regulations have become a bigger constraint to business than last year s primary hurdles, competition and pricing. FIGURE New regulations Competition and pricing AML/KYC processes Opening a bank account using an offshore company Key business constraints Fundamentally undermine demand for offshore structures Create inefficiencies due to KYC/due diligence processes 34% 55% It s undeniable and inevitable that cost burdens for regulated businesses are increasing, will increase, continue to increase. That s true worldwide. Jurisdictional representative from Jersey How much are compliance costs going up? According to a Thomson Reuters survey of approximately 300 financial institutions during a November 2014 webinar: 55% expected to exceed their original budgets, compared with 35% who expected to remain on budget. 27% expected FATCA compliance in to cost between US$100,000 and US$1 million, compared with only 16% in January The industry s PR problem Information leaks eroding client confidence Lack of qualified staff Double tax treaties and information exchange Higher taxes Geopolitical tensions Then there are the invisible costs. If you re doing it properly, one Jersey-based regulatory expert relates, it s very difficult to prove a negative. What business might otherwise have flowed that we didn t see, that we didn t get, therefore that we didn t measure? Consolidation [Figure 6] and attrition both are inevitable consequences of the new normal. You ve got smaller companies merging together with other smaller companies to get some scale, some critical mass in order to deal with cost burdens, one EU governance expert notes. A Swiss banker lamented a cost burden of 5% to 10% of pure profit to implement all the different regulations. How much more can we bear and still make a profit? You just need to find a way to come out stronger. Tax advisor from HK Big 4 accounting firm The New Normal 7

10 FIGURE 6 Regulatory pressure M&A activity driven by Private Equity ownership Expansion of service offerings Scale efficiencies Geographic access to new clients Industry consolidation drivers 36% 49% 46% 43% 66% As for BEPS, purportedly created to eliminate the doublenon-taxation of global businesses, as an OECD official puts it, questions abound over whether the unprecedented levels of transparency it could require will, in fact, induce multiple levels of taxation. Its ambitious recommendations are being refined through December ; companies may soon be filing detailed tax reports in every country in which they do business. But because the project wields no tangible international legislative authority, it currently remains unclear how strenuously international tax advisors will need to take heed. It s also unclear whether countries such as the UK and Australia, which have preempted BEPS with their own similar legislation, will pass and enforce the OECD s guidelines. A lack of clarity may make compliance more cumbersome, but most of our respondents said they were indeed striving to meet all of the Western regulations. They noted, however, that not all jurisdictions are equally affected. Ancillary costs also play a role, including the highly greater cost that goes with getting more business from further afield, an Asia-based CPA says. But not too far afield: Some CSPs outright demur when queried by a potential new client from the US because, as a Swiss banker points out, the hassles of complying with FATCA are too great. No doubt the loss of US clientele could affect certain niches. There are burdens, too, in the form of anticipating and planning for some of what a BVI-based CSP calls vagaries to come in the form of new recommendations and regulations. What cost and bureaucratic burdens will unfold when people must comply with both FATCA and CRS, the latter of which more than 90 jurisdictions have committed to adopt. At least 50 CRS participants have signed a multilateral agreement committing to the implementation of automatic exchange of financial account information by September Since Cayman Islands, for example, is an early adopter, any account opened there on or after 1 January 2016 will be subject to new procedures recording the account holder s or investor s tax residence. It s the CRS sign up, laments a governance expert in a British Overseas Territory (BOT). You can t do it on a shoestring anymore. The CRS is an especially prominent change for those in the West: a full 85% of the non-asian market we surveyed believe that full implementation of the CRS will exist by Only 57% of those based in Asia responded thusly. Nevertheless, full implementation was expected by 2020 by an overall 72% of global respondents. Will it really happen on a global scale? Will China comply? Will Germany do so? It is the largest economy in the EU but, for historical reasons, holds substantially different views on privacy from much of Western Europe. What about the US? It has yet to sign up for the CRS, instead presumably relying on FATCA s long reach. If the global governments do not cooperate in lock-step on CRS, what will the impact be? Will other major countries send information to the US if nothing is received in return? Will this serve to weaken FATCA or merely to increase the number of hoops jurisdictions must jump through? That all remains to be seen. The cost burden is only a burden to those nations required to comply, says one London-based industry critic. I see countries in the GCC, the Gulf Cooperation Council, where there are massive disparities in application. There s no doubt that there are some participants in the industry that are better prepared than others, adds an international banker currently based in Hong Kong. Then there are those that just really don t care. They are not relying upon the US or settling in US dollars; they re very well-funded themselves. The Next Regulatory Wave Respondents to this year s survey demonstrated a marked increase in expectations that the licencing of CSPs and other non-tax regulations will come to the fore by Whereas in 2014 only 17% of respondents saw global licencing on the near horizon, this year 42% see uniform licencing occurring by 2020 [Figure 7]. Such thoughts were uniformly shared among those based in Asia and those elsewhere. Because governments are suffering from a palpable case of financial depletion and, to some extent, publicly blaming OFCs, some of our respondents also expressed concern over the possibility of global tax harmonisation. Although the time frames (by 2017 vs. by 2020) varied slightly, a larger percentage of survey respondents this year over last year expect global tax accounting standardisation to take place soon. More than a third of this year s survey participants believe such a scenario could take place by Interestingly, a greater percentage of Asia-based respondents (40%) than others (32%) think this scenario plausible. That said, realistically, it s never going to happen, says one UK-based NGO representative. I ll believe it when I see it, says a London-based researcher. If we see it at all, we will see it in Europe, maybe at the core of the Eurozone group of the EU. I would tend to be skeptical, though, because we haven t seen it yet. 8 Offshore 2020 Report

11 FIGURE 7 Which of the following are likely by 2020 and, which will cause the most impact? 2014 Likely impact on business Full implementation of common reporting standard 72% 2.9 A central (non-public) registry of beneficial ownership 59% 57% 3.0 Uniform global (non-tax) regulation such as licencing of corporate service providers 17% 42% 2.6 Global tax accounting standardisation 29% 36% 2.7 Publicly available beneficial ownership information 16% 17% 4.1 The end of the use of offshore structures 5% 7% 4.3 Two next wave possibilities that seem more viable to constituents are tax code overhauls and even more vehement crackdowns on spheres servicing offshore, such as shadow-banking, peer-to-peer lending platforms and automated advisory platforms. Shadow banking in particular has seen increased scrutiny by both Chinese regulators and US Federal Reserve officials of late. At some point such services get to a scale where they become important systemically, says a Jersey-based governance expert. If that s the case, you can bet your bottom dollar that somebody is going to want to regulate them even further. The other possible next wave could come in the form of squelching arbitrage scenarios in tax codes themselves. Governments are often complicit in creating the very opportunities they condemn, having put forward bewilderingly complex tax codes that open up myriad loopholes. The US, for example, has not reformed its tax code which could fill an entire football stadium since Ronald Reagan was in power. Closing up opportunities for tax efficiency in situ, rather than regulating them away, could be an eventual next step. I don t think it will eliminate the loopholes, but it will reduce the number of loopholes, says one critic of OFCs who works for a UK-based NGO. Adds another London-based expert who regularly writes about the industry: When the US tax code does eventually reform, it will have a huge impact on the rest of the world. It could well make the problem of tax avoidance even greater. To some extent the rest of the world has been shielded by the way that the US has had this worldwide tax system. If they move to a territorial system, the results could be felt all over the world. Whatever the next wave may be, global regulatory pressure is not expected to relent over the next five years, especially if the stock market continues to wobble and G20 governments continue to empower the OECD and others to mandate changes. The global financial crisis was a catalyst that gave the OECD a lot more power to dictate what we do, says one jurisdiction official in the Pacific Islands. But it behooves us to take the long view and remember that such pressures do come in cycles. Until regulators do indeed relax, looking ahead to 2016, we foresee more in advance site visits, scrutiny over systems, and questions about existing or recently adopted methodologies. Meanwhile, we also foresee the continuation of a certain brand of hypocrisy on the part of those governments which explicitly use tax breaks to attract investment into their own countries whilst simultaneously criticising offshore jurisdictions for doing the same. The New Normal 9

12 Jurisdictions What is onshore? What is offshore? These days, it s a highly questionable concept, really, very much dominated by big power politics. HK based corporate service provider

13 Head East and optimism about the future of offshore becomes less hesitant. 36% of respondents based in Asia express confidence that future demand will actually increase or remain unchanged, as to 30% from rest of world. Survey respondents overwhelmingly rank Greater China and Southeast Asia as the top two regions for growth in the next five years [Figure 8], and with good reason. Wealth is on the rise there; Asia Pacific now holds claim to more millionaires (4.69 million) than does the US. Entrepreneurs and high net worth individuals (HNWIs) are largely regarded by respondents as the primary contributors to offshore s growth [Figure 9] over the next five years. Due to that influx of wealth, it is therefore not surprising that respondents again rank Hong Kong and Singapore as the most important jurisdictions come 2020, followed by the BVI and Cayman Islands (switching last year s third and fourth place) [Figure 10]. We refer to the grouping, as we did last year, as the Big Four, due to their enduring dominance in the region. (The term may not apply in the same way elsewhere, as it refers to a largely Asia-based phenomenon.) This year, the US rises, perhaps surprisingly, to fifth place, the reasons for which we shall explore below. The UK and UK Crown Dependency (CD) Jersey both see slight rises from 2014, to 7th and 8th place. Luxembourg continues to hover in the middle of the top ten and to be Europe s highest-ranking jurisdiction. This is impressive considering the Lux Leaks scandal of late 2014, in which documents obtained by the International Consortium of Investigative Journalists (ICIJ) brought condemnation of the channelling of hundreds of billions of dollars of corporate monies through the landlocked European duchy. The Netherlands, which did not receive the same media scrutiny last year, nevertheless loses ground in, falling from sixth to tenth place. But we see no reason for worry: The Netherlands, along with Luxembourg (and Cyprus, a key jurisdiction for Eastern European clientele), has such an extensive tax treaty network with other key countries, provides such robust on-the-ground substance, and is such a critical door to intra-european trade that we do not see its star significantly dimming in the near future. The same can be said for Luxembourg. FIGURE 8 Top regions for growth in next 5 years 12% North America 11% Western Europe 5% Eastern Europe 13% MENA 12% India 72% Greater China 13% Latin America 13% Africa 50% Southeast Asia FIGURE 9 End-user segments driving growth in next 5 years FIGURE 10 Most important jurisdictions in 2020 Entrepreneurs/High net worth individuals Family offices Hedge funds/ Private equity Multinational corporations 49% 37% 22% 71% Hong Kong Singapore The BVI Cayman Islands US Medium sized enterprises 16% Luxembourg 2.7 Small private companies 8% UK 2.7 Jersey 2.6 UAE 2.4 Netherlands 2.2 The New Normal 11

14 We also forecast that CD such as the Isle of Man and the Channel Islands of Jersey and Guernsey, plus the BOTs such as Cayman Islands, the BVI and Bermuda, will continue to prosper, due in no small part to the legal bedrocks underneath them. Such territories will continue to benefit from the global respect for British common law and eagerness to enjoy access to the Privy Council in London. FIGURE 11 Hong Kong Most important jurisdictions in 2020 by market People looking for an offshore vehicle want some confidence in the outcome, an Asia-based fund manager related. A European client and a US client can use, say, a BVI company to invest in a factory in China. They know that if they get into a fight amongst themselves that there are very clear parameters under English common law, some certainty around how the investment will exit. In the same way, banks are really keen to lend to the British offshore subsidiary of big structures, rather than directly to an emerging market project, because they know that the OFC can enforce the security. Singapore The BVI Cayman Islands Luxembourg We should add that when parsed by the geographic locations of our respondents, the results of our Most Important Jurisdictions in 2020 survey greatly shift. If one were to eliminate responses by Asia-based subjects, then the top jurisdictions would be Hong Kong, Singapore, the BVI, the US, the UK, Cayman Islands, United Arab Emirates (UAE), Luxembourg and Jersey [Figure 11]. Still, over the past five years, global respondents have ranked Hong Kong, Singapore, the BVI and Cayman Islands as the top four jurisdictions of the near future. Will that trend continue unabated? Hong Kong is perhaps positioned best for the future due to its default status as the go-to jurisdiction for Chinese outbound capital. Singapore also has a highly regarded banking system. As for the BVI and Cayman Islands, the Caribbean s wellentrenched conduits for corporate vehicles and funds, respectively, our data indicate that they will continue their positive trajectory at least into This underscores a major trend from last year s report, which was that the demise of offshore has been predicted every year but those two jurisdictions in particular continue going strong. Indeed, according to our respondents, the BVI in particular has flouted such predictions, despite its own ICIJ media glare. The BVI is by far number one in Asia, says a CPA in Hong Kong. It s hard to see them losing that status or to see anyone come from behind in terms of its level of expertise. And the Asian investor is very comfortable with the BVI. Asian market Non-Asian market Jersey UK US Netherlands Mauritius UAE Cyprus Probably not in five years, may be a bit longer, said one CD-based governance official. The fact is, Hong Kong domiciled funds are still very expensive to set up, and it s really designed for retail funds, not institutionalised funds like you get in Cayman Islands, Bermuda and the BVI. It is, however, a real possibility. The heart of the matter is the notion that midshore jurisdictions such as Hong Kong may eventually make a play to subvert purely offshore ones over the coming decades People in China still say, I want a BVI. Anguilla based corporate service provider Cayman Islands is still considered the go-to for funds and is becoming more popular in Asia for corporate structures. Indeed, Li Ka-shing, Asia s richest man, publicly redomiciled Cheung Kong Holdings from Hong Kong to Cayman Islands in early. The possibility does loom, however, that in the longterm, Hong Kong in particular could eventually shed both Caribbean jurisdictional conduits. Midshore vs. Offshore Which will Dominate? Talk of a shift from offshore to midshore stems in large part from the regulatory climate. As mentioned in last year s report, midshore jurisdictions is our term for investor friendly, low tax (not no tax) jurisdictions and/or territorial tax systems with viable legal systems and infrastructure already in play. Dublin, Hong Kong, Luxembourg and Singapore all may be considered as examples. 12 Offshore 2020 Report

15 For NGOs, the term midshore is largely considered, in the words of a London-based industry critic as more a marketing one used to give a veneer of respectability to those who don t quite have as bad a reputation as some of those little specks in the Pacific. We shall visit the attitudes of NGOs and the press in a moment. In that light, purely offshore jurisdictions may find themselves struggling to compete, as clients may not wish to raise red flags by patronising them. For example, although the BVI is commonly used for structuring investment holdings, in the next ten years, this trend may change because the BVI doesn t have any tax treaties, says one UK-based attorney. The reputation is one of a tax haven without any real commercial substance, so other contenders could make a play. Hong Kong, Singapore, Luxembourg, Delaware and the Netherlands all repeatedly were mentioned as contenders for usurping purely offshore centres, largely due to the perception among regulators that they are more respectable. What is offshore? What is onshore? That is a really interesting question, posits a CSP in Hong Kong. Offshore jurisdictions are tightening up under pressure by onshore powers, who are in turn emulating offshore, at least in domestic tax systems. Midshore tries to come to terms with the blurring of the boundary; it s really onshore that s really offshore but not seen to be offshore. Semantics aside, there are genuine differences between midshore and offshore. One advantage midshore jurisdictions can wield is that they are significant business centres themselves, unlike Cayman Islands and the BVI, which were really built around the service industry, states a Hong Kong-based tax advisor. Their business prowess means that substance, increasingly important to regulators, tax authorities, advisers and clients, can be more easily established in such locales. Our respondents were split about whether midshore jurisdictions will ultimately play a complementary or adversarial role with traditional offshore jurisdictions. At the moment, midshore jurisdictions currently are seen as largely complementary to offshore. The numbers support this. Year-on-year NI volume in purely offshore jurisdictions (99,973 in 2013 vs. 99,156 in 2014) and in midshore jurisdictions Hong Kong and Singapore (210,849 in 2013 vs. 208,874 in 2014) remained basically the same. This suggests that users of structures are not leaving offshore for midshore in any material way. A Chinese company may need a Hong Kong company to play a role in ownership for local licencing while non-chinese owners may prefer to have BVI holding companies, says one UK-based attorney. So we don t actually see them as competing for the same role; they may involve two roles in one structure. Still, some midshore jurisdictions have been revising legislation to compete more closely with offshore, though they often stop short of a direct attack. Why is this? Desires to hold onto their onshore reputations and thus avoid scrutiny likely are factors preventing them from competing directly with offshore. In some cases, domestic laws created a built-in advantage that obviates the need for direct plays. Delaware, for example, benefits from a state law that does not require the filing of public accounts for either private companies or the subsidiaries of public ones. That is one reason why more press has been devoted to Google s activities in Ireland, where companies subsidiary accounts are available online. Indeed, Delaware showed an 11% increase in NI volume from 2013 to 2014, with nearly 169,000 new entities. Maintenance costs are low and incorporation is easy, and there are no statutory due diligence requirements. Then there s the US proxy factor: respondents overwhelmingly believe that the US, which comes down with an iron fist on perceived tax havens, turns a blind eye to Delaware. ( If you want to have a good hard look at offshore vehicles, then have a good hard look at Delaware. says one fund manager irked by strenuous anti-offshore sentiments expressed by US government officials.) [Figure 12] FIGURE 12 US UK Cayman Islands Hong Kong The BVI Singapore Luxembourg Jersey UAE Malta Netherlands Cyprus Seychelles Jurisdictions benefit from new regulations 3% 3% 1% 1% 11% 9% 9% 20% 24% 24% 22% 36% 41% Hong Kong was another jurisdiction respondents deemed as a beneficiary of regulations, due in this case to China s coddling. In fact, more than half of global respondents believe that global enforcement of new regulations will be political and inconsistent, and more than a third (whether in Asia or not) believe that key countries will navigate exemptions for their own offshore centres [Figure 13]. So, some midshore jurisdictions might not have to make direct plays. But does a lack of outright aggression by midshore jurisdictions therefore mean that offshore will continue to hold a competitive advantage going forward? Or will offshore s prominence simply erode away as some tax becomes preferable to and more entrenched than no tax? If these regions, Hong Kong and Singapore in particular, were to reduce the cost of setting up locally to become competitive against Cayman Islands, Bermuda or the BVI and also reduce tax on the fund itself, like what Singapore The New Normal 13

16 FIGURE 13 Political and inconsistent Global enforcement of new regulations Key countries will navigate exceptions for their own offshore or midshore jurisdictions 38% Despite this, Dubai s future trajectory may not be linear. The UAE makes the top ten list this year as one of the Most Important Jurisdictions Today [Figure 14]. But although some praised the UAE as replicating the Super Jurisdiction formula, others forecast that it will remain a long, long way from the developed world, says one banker who has worked in the region. Although it is itself politically stable, the region is not, and it needs to improve its regulation and likely adjust its rule of law to attract industry. FIGURE 14 Most important jurisdictions Today 54% 4% 4% Consistent and apolitical Others The BVI Hong Kong Cayman Islands 3.7 Singapore 3.4 Luxembourg 2.8 has done, I will see a lot more managers wanting to set up their firms domestically in Hong Kong and Singapore, predicts one fund manager in Hong Kong. What is stopping them now is the cost of entry, he adds. The cost of operating and setting up a domestic fund or a domestic vehicle in Asia is too expensive right now for your typical hedge fund versus the big retail. Jersey US UK Netherlands UAE The sentiment remains true beyond fund vehicles. Ease of administration is another factor that will need to be considered, as a UK company is cheaper and easier to set up than anything offshore, with fewer (for now) due diligence requirements. Such a company, however, requires much more ongoing administrative work than does a BVI company. Shifting Dynamics Adding complexity to the Most Important Jurisdiction mix is the rise of what we term Super Jurisdictions, those that satisfy each of three unique aspects: they are originating geographical sources of clients; they are markets where other clients go to do business; and they are jurisdictions of the entities they use themselves. Some of these Super Jurisdictions, such as Hong Kong and Singapore, also are considered midshore, but not all midshore jurisdictions are Super Jurisdictions. Luxembourg, for example, may not be a strong geographic originator of clients in the way London or New York are. Over the next five years, posit respondents, Super Jurisdictions will continue to have the ability to attract talent, remain exciting places to live and provide services. Hong Kong, Singapore, London and Dubai all meet the criteria to at least some degree. All can provide substance for structures (via a strong employee base and sound business infrastructure), plus expertise and resources to clients. All are large cities or city-states which act as regional hubs for investment, business, and travel. All now compete with offshore to some degree. Other players are emerging as well, especially looking ahead towards Although a different scale was employed this year (a percentage versus a rating of 1 to 5), it is worth noting that the US is regarded as increasingly important in this regard. And by US, despite the rise of Nevada and Wyoming, one implicitly means Delaware, legal domicile of more than a million businesses and corporate home to more than half of all Fortune 500 companies. Delaware, a short train ride from both Washington, D.C., and New York City, has long been a jurisdiction of choice for incorporation, so why the increase in popularity this year? Some point to the US s resistance to joining the CRS. Officials also have expressed reluctance to adopt BEPS, a move which an OECD director dismissed in our interview as irrelevant. If the US does not play along, then will other countries feed it information gathered under the CRS rubric? Perhaps not. The implication not only of fewer compliance hurdles, but also of perhaps greater privacy, certainly could boost the appeal of incorporating in Delaware versus, say, London or the Netherlands. Whatever the reasons for Delaware s rise, we mark the irony that the US, the great wielder and enforcer of the game changing FATCA, stands to benefit from a perception of immunity from standards created by others. 14 Offshore 2020 Report

17 Emerging Markets China has realised that the international financial contribution of the offshore space is very helpful to its economy, especially in facilitating the going abroad of Chinese businesses. Corporate service provider from Hong Kong

18 China China continues to be the major focal point for the next five years. Outbound direct investment (ODI) by Chinese entities, which contracted in the first half of 2014, is still closing in on inflows, [Figure 15] according to the Economist Intelligence Unit, which expects China to become a net investor in the world by FIGURE 15 74% 53% Source: EIU Impact of socio-economic trends in China Growing volume of outbound investment activity Raise activity demand for inbound investment 12% 9% Decrease activity demand for inbound investment Decrease volume of outbound investment activity Such factors contribute to why participants rank Greater China, alongside Southeast Asia, as one of the top two regions for offshore s growth over the next five years. Thus, despite China s slow economic gains of late, as well as the wrenching fluctuations of its stock market in, most of our respondents still see China as the story of the next generation. Capturing the Growing Chinese Market Asset protection, diversification and wealth succession all remain important to the Chinese. (Tax planning ranks as far more important to non-asians than Asians in this year s survey. Indeed, agrees one CSP in Hong Kong, I think in Asia, tax has always been less important in terms of, for example, the private wealth space. ) China s story over the next five years, emphasises one Asia-based fund manager, will be asset protection. Definitely asset protection. A lot of local firms or local investors are trying to get out of China to protect their assets. [Figure 16] Diversification via investment holdings, which survey participants ranked nearly on par with asset protection, is supported by the central government in terms of going out into the world and acquiring brands... there s no doubt that that is how activity will evolve, says a Hong Kongbased tax advisor. Wealth management, too, is important to the Chinese, but it is couched in terms of succession planning; the Chinese think in terms of generations, points out a Hong Kong banker. One point repeatedly brought up in conversation touched on wariness over trusts; culturally, it goes against the grain to entrust one s assets to someone else. Hybrid products may need to develop to further capture that market. Renminbi Liberalisation Experts we spoke to based in Asia overwhelmingly thought that the liberalisation of the Chinese RMB coupled with the rise of wealth in the region, would facilitate higher demand for offshore due to increased volumes of capital flows. A full 89% of Asia-based respondents think internal Chinese trend lines will spark an increase in outbound activity; 61% of those not based in Asia think so as well. Some 53% of our respondents globally also believe that macro trends within China will raise activity demand for inbound investment. 43% of Asia-based respondents voted thusly, as did, again, 61% of those not based in Asia. This we find to be an interesting breakdown: 89% of Asia-based respondents think there will be an increase in outbound investment, but only 43% believe there will be an increase in inbound. On the other hand, a steady 61% of non-asian-based respondents believe both outbound and inbound will rise. Does that imply that those on the ground on the continent foresee bureaucratic or other impediments to inbound in the near future? Whatever the timeline for an aggressive inbound play, China is energetically creating avenues to facilitate more such investment. For example, Beijing recently relaxed rules regarding institutional foreign investment in its onshore bond market. And over the past year, onshore has replaced the offshore dim sum bond markets as the favoured way to play Chinese currency appreciation. Such steps are seen as improving the RMBs appeal to the International Monetary Fund (IMF), which in August delayed a decision on whether to include the RMB in its basket of reserve currencies. The question will be revisited in Meanwhile, as China s currency becomes increasingly liberalised, customers increasingly will need backroom administration services to help shape and focus outbound investment. FIGURE 16 Asset protection Investment holdings for corporate Wealth management Special purpose vehicles Listing vehicles for initial public offerings Individual tax planning Funds management Tax planning for companies Trading for corporate Top key usages Greater China 8% 8% 8% 12% 21% 21% 41% 39% 39% More and more Asians are becoming attuned to professionally run wealth management institutions, just as it happened in the US, says one regulatory representative in Labuan. So in that sense, I see that businesses having the most potential in the next decade will be those servicing that growing clientele. 16 Offshore 2020 Report

19 And inbound services are destined to grow. As discussed earlier, the BVI and Cayman Islands both have facilitated capital flow into the country over the past three decades. The use of offshore and midshore jurisdictions will likely continue to blossom due to the speed, efficiency and cost-effectiveness of incorporating thusly rather than incorporating in China itself. As China opens its borders and currency further, we forecast that Chinese investors will continue to appreciate the trustworthiness of the English law system used in the BVI, Cayman Islands, Jersey and the like. Non-China Emerging Markets: Driving Offshore Forward There s less bank bashing than in Europe. Southeast Asia has a much greater respect for the industry; therefore, that s going to be more attractive to businesses over the next five years. A Hong Kong based investment banker China is not the only player wielding growing influence on offshore. Increasingly, other emerging markets are becoming important drivers in the industry as well. Venture capital investment in emerging markets rose to an all-time high in 2014, to US$6.9 billion. Emerging markets currently command an estimated US$10.3 trillion in investments as judged by equity and bond indices. Although Greater China and Southeast Asia are overwhelmingly anticipated by survey participants to be the top two regions to deliver new growth to the offshore industry over the next five years, India also shows promise, and MENA, Africa and Latin America all vie for fourth place [Figures 17 and 18]. Top services demanded by these markets generally include asset protection, wealth management and investment holdings, largely in foreign companies. As wealth grows, so will demand for versatile estate and tax planning. Most will shy away from just having a company incorporate, says a CSP in the BVI. They want more value-added services. They ll want their portfolio managed, and when I say their portfolio, I mean their company group. They ll want the option that allows them to pay the least tax and be the least exposed. We asked our experts to drill down and give us insights into a few leading regions. FIGURE 18 Southeast Asia India Latin America MENA (Middle East, North Africa) North America Western Europe Africa Eastern Europe Asian market Non-Asian market Growth markets beyond China in next 5 years by markets 15% 14% 14% 14% 12% 11% 10% 16% 29% 25% 32% 32% 42% 43% 41% 66% FIGURE 17 Growth markets beyond China in next 5 years 20% North America 15% Western Europe 10% Eastern Europe 23% Africa 22% MENA 42% India 54% Southeast Asia 24% Latin America The New Normal 17

20 India Still a question mark A fund manager based in Hong Kong Thus far, there has yet to be a substantive Modi effect in terms of piquing investor interest; activity is forecast to remain primarily outbound over the next five years. Despite talk of Chindia, as long as India remains aggressively hostile to offshore, participants say any Modi effect will not be transformative. Still, particularly for Indians working outside of India some of our respondents, including an investment banker in Asia, foresee quite a lot of outbound activity. Part of the activity flow depends upon the currency s strength. When it s weak, adds the banker, they will send a lot of money back onshore to take advantage of that and support their families. Already, some Chinese companies are investing there, says a CSP in the region. The latest smart phone technologies are opening up some factories in India. Major multinationals such as General Electric and Volkswagen are creating pilot factories relying on multi-purpose robots, 3D printing and multi-modal tools in places such as Pune. Respondents see such developments as increasing the demand for wealth management, as well as for M&A, IPO listings and other capital markets activities. I m pretty bullish about India, says an Asia-based fund manager who, like other respondents, believes the domestic market may be viable for a long-term play. It has a very big population and is developing. But you have to be very patient with India due to political volatility. Southeast Asia No jurisdiction can unplug itself from the international financial grid, says one Pacific Rim jurisdiction officer. Acknowledged. And yes, there have been severe hiccups in global performance in 2014 and. But the ASEAN Six continue to soar, beneficiaries of both investment and growing economies. As China becomes more expensive, manufacturers are decamping for Vietnam, Laos and Cambodia, giving rise to new middle class populations there. Myanmar is seeing an infusion of investment from the West; Singapore is beautifully positioned to attract business. Respondents see the transfer of business activity from China to Southeast Asia as an instigator of market origination; the region is seen as a future hub of wealth management needs, says a wealth management expert in the region. Indonesia is the biggest player here: its near-trilliondollar economy is currently the world s tenth largest and predicted to become seventh by Its middle class is expected to double by 2020, to 141 million. As for inbound, the energy-hungry country is ripe for infrastructure investments, especially power projects, via public-private partnerships (PPPs). Given Indonesia s rising wealth and its geographic closeness to Singapore, although some predict a bit of a shakeout around offshore, Indonesia is poised to remain a key jurisdiction, with Singapore obviously a part of that, says one tax advisor in Hong Kong. For Southeast Asia or India, asset protection, wealth management and investment holdings are top services [Figure 19]. Asset protection is ranked as the number one service for Southeast Asian clients by 49% of global respondents and by 60% of those based in Asia. Wealth management is also ranked more highly by Asia-based respondents than by non-asia-based ones. The reverse held true for investment holdings. FIGURE 19 Top key usages Southeast Asia/India Asset protection Wealth management 47% 49% Investment holdings for corporate 34% Individual tax planning Special purpose vehicles Tax planning for companies Funds management 14% 13% 13% 12% Listing vehicles for initial public offerings Trading for corporate 5% 7% 18 Offshore 2020 Report

21 Asia is a panoply of cultures, religions and mores; knowledge about this can play to strategies for culturally sensitive client acquisition. One observation we found intriguing was that Muslim populations in Malaysia, Indonesia, and elsewhere in the region have expressed interest in vehicles that are Shariah-compliant. The market potential here is rich: outstanding values for Shariah-compliant certificates exceeded US$237 billion in Examples of potential products include special purpose vehicles (SPVs) for funds eschewing companies dealing with gambling, pornography, pork products or conventional banking (i.e. no interest can be earned). Luxembourg was mentioned as a prime example of a jurisdiction for aiding Shariah-compliant vehicles investing in European real estate, thought to be a bargain by Asian investors at this time. MENA Vastly wealthy, geopolitically unstable, and rich with possibility, the MENA region continues to enthrall and repel. Based on conversations with local providers, we forecast that although the region will continue to play a role in offshore, it may not reach its full potential by With energy prices in flux and businesses finding it difficult to plan in terms of resource prices, morale and momentum are affected people are not putting all their eggs in one basket, says an internationally based fund expert. The region s myriad, sometimes mercurial legal systems could play an even greater role than the energy industry in determining the region s future in offshore. People are still somewhat uncertain of the outcomes of doing business in the UAE, says one Asia-based investment banker. It s considerably risky; if something goes wrong, it can go very badly wrong. The various cities, which are effectively offshore centres within the country, have their own courts. I think it would be difficult for a country like that to change the entire legal system. Although Qatar, the UAE and Saudi Arabia are wealthy nations, they are surrounded by unstable governments and inconsistent legal systems, which respondents say affect business. Iran and Iraq just don t have the same standard with regards to AML, counter-terrorist financing, etc., says a banker in Hong Kong who has worked in Dubai. Although the UAE has a particularly strong handle on these things, not all the countries around them do. MENA is one region where compliance with Western regulations is not necessarily being attended to with a sense of urgency. They are extremely well-funded; they ve got vast amounts of wealth and reserves on the whole, continues the investment banker. But that s dependent on the future of oil; if technology improves and we see less reliance on fossil fuels, perhaps those countries will need to take greater steps towards compliance. Business is still on the rise, however, in places such as the UAE. The press is not a problem whatsoever, said one wealth manager based in the UAE. And Dubai, with its ability to support business infrastructure and expansion, gives rise to a solid client base. Wealth management and asset protection are nearly equally important services in the region, according to survey respondents [Figure 20]. We are still forming an average of five to ten companies a month every single Emirate has been open to offshore companies, says a CSP in Dubai. FIGURE 20 Top key usages MENA Wealth management 55% Asset protection 51% Investment holdings for corporate 24% Special purpose vehicles 18% Tax planning for companies 13% Funds management Individual tax planning Trading for corporate Listing vehicles for initial public offerings 9% 9% 9% 8% The New Normal 19

22 The Perception of Offshore: Realities and Myths Supranational organisations will continue to blame international financial services for the ills and woes of the world. But what we do lubricates the financial system. A regulatory official based in Samoa

23 We ve examined where offshore is going over the next five years, and what regulations are being imposed on the industry by governments and their advisors. It s important now to address the root of those regulations, which are transforming the industry in terms of geography (eastward, where regulations are perceived to be less stringent) and makeup (consolidation and attrition). Those roots stem from perceptions about the industry. We therefore believe it s important, firstly, to understand what NGOs and other critics of OFCs believe about offshore, what they want, and why they want it. If the chasm in philosophies around money can ever be bridged, it is critical to understand its span. What Critics Think We are grateful for the candor and willing participation of the economists and activists we spoke to for this project, as we genuinely want to understand their perspectives. Some of the criticisms were predictable; for example, we were often told that offshore only makes the rich richer and steals taxes from sovereign governments. Some we found puzzling, and we address the perception that offshore only hurts developing nations and funds corrupt dictators later in this piece. The major conclusion we came away with, however, was that offshore needs to do a better job of defining and justifying its contributions to the global economy. As one London-based NGO economist puts it: There s still a lot to be done to understand what the exact role of the offshore jurisdictions are. I absolutely get the point that when you have unstable countries and risky rule of law, you may want to invest via jurisdictions that provide you with certain guarantees. But there s a question of whether that s a good long-term strategy. I don t think the offshore world has to disappear. There will be things well served by offshore jurisdictions; some of it may be insurance. But the role will be slightly smaller than it is now. I don t think there s any way around that, given that we believe a lot of what currently goes in the offshore world is of bogus value. But it doesn t mean that it should not exist and could not exist in a cleaned up world. Although statements such as that one can frustrate those of us who see firsthand the value of offshore to the global economy, it illuminates a path we must pursue. (We explore offshore s value in a later section.) We also were keenly interested in finding out what critics of offshore want from governments, industry players, and supranational organisations? We queried representatives from leading organisations and publications. Here are the macro points: Better, more efficient laws, not just lots of laws It s difficult for anyone to show much convincing evidence that there s less money laundering now than there was prior to the introduction of these various tranches of global and national regulation. For 22 years the Financial Action Task Force was in the business of reading laws, looking at flowcharts and saying, Great law, or Great flowchart, or Terrible law. It didn t really ask questions about whether it made any difference. Now, since 2012, at least it is asking the right questions, or at least more sensible questions. That s a good first step. (Economist and AML expert, Australia) Governments should close loopholes I think governments are incredibly inconsistent in many of these areas. The UK plays a significant role in the offshore world and yet is trying to bring in the AML directive as a legally binding instrument to require registers of beneficial ownership (BO) across the EU. I think you do find in lots of governments these kinds of approaches. It s a huge challenge. (NGO representative, UK) Governments should refine their own tax codes To start with tax avoidance, many of these loopholes were created as a result of corporate lobbying. To that extent, it s very hypocritical for governments to then turn around and criticise corporations. For example, if you look at the very open statements of the American Bankers Association, they re pretty clear that they re happy to facilitate tax evasion by Latin Americans as long as they park their capital in the US. That s been, up until very recently, a position that the US government has been happy to uphold. The US is the biggest economy. It s the biggest drug economy. It has the biggest legitimate financial sector and it has the biggest illegal financial sector. I think on a good day even the US government acknowledges that. (Economist and AML expert, Australia) Increased scrutiny over the role of onshore jurisdictions I have the increasingly minority and unfashionable view that a lot of the stigmatisation of the offshore industry is undeserved. Not necessarily because everyone offshore is a role model of a person, but more because small offshore centres tend to do pretty similar things to large onshore centres. It s just that large onshore centres tend to get called out for less. From my research, if you re a seriously corrupt person with lots and lots of dirty money, then you re more likely to put it in London or New York than you are in Vanuatu, the Seychelles or Saint Kitts and Nevis. (Economist and AML expert, Australia) It s not just the tax havens that are problematic; there s quite a lot of evidence that it can be easier to launder money, etc. in the UK or US than in the BVI or Jersey. I think it is really important that we don t end up just scapegoating OFCs. London, Delaware they re also tax havens in their own rights. (Activist and critic, London) OFCs should pay more than lip service to compliance What is depressing is that most of the compliance apparatus, in terms of hiring other people and buying The New Normal 21

24 fancy-schmancy software, is not geared towards stopping money launderers. It s to prevent fines from regulators. So it s kind of a Potemkin village of, We re spending X million dollars on World Check and our compliance department has a thousand people in it. But this is to prevent fines rather than to prevent money laundering. Instead of looking at actual effectiveness, people tend to ask how much money is being thrown at the problem, because that will ostensibly tell us how much you care. Which is not really a sensible way to proceed. (Economist and AML expert, Australia) Beneficial Ownership, Privacy and Transparency As underscored by that last point, debates have come to the fore over increased transparency regarding OFCs, specifically in the form of public registers of BO [Figure 21]. The consequences of such registers could prove ominous for an industry dedicated to discretion and privacy. Individuals, not just institutions, should be punished or incentivised One of the things that we ve been discussing is the need for more accountability for senior managers, because at the moment big banks get a big fine, but frankly the fines usually end up hurting shareholders. The fine is priced into the share price, which actually goes up because the market is relieved. Under the current system you ll never send the bank to jail, so if you can t really fundamentally tackle it on an institutional level, it s worth thinking about how you incentivise senior managers. (Anti-industry activist, London) FIGURE 21 Remain with licenced and regulated service providers and be provided only upon request Availability of beneficial ownership Available only to local competent authorities Available to foreign competent authorities 14% 30% 77% but OFCs should not expect much congratulations for compliance or substance Available to the full public for review 2% 22 I m not sure that critics will really ever be satisfied. Arguably there is quite a lot of substance in places like Bermuda, Guernsey or Cayman Islands. There really are a lot of people who work in the financial sector there. Frankly, that hasn t helped their reputation. I think that s a little bit of a Holy Grail. (Economist and AML expert, Australia) End tax efficiency I was reading a book from the 1970s about taxation of multinationals. It made a point that in some countries when the rate of taxation is around 90%, it is entirely legitimate to use every tool in the book to avoid that tax. However, when tax rates are normal and acceptable, around 40% to 50%, then companies should just pay up and be happy to go on with things. There are very, very few countries now where the tax rate is 40% to 50%, which I think shows how companies will always say the tax burden is too high. (NGO representative, UK) Make beneficial ownership registers public at least to journalists The mere fact that there s a presumption that you d have a register of BO would have sounded completely bizarre even three years ago. So it shows how far we ve come, which may be good or bad. One reason why they should be public is because most investigations are actually started by journalists and NGOs, and not the police. (NGO representative, UK) There s a lot of skepticism about whether BO registries would flush out criminals. It s hard to imagine a criminal wanting to have his real name put on this register. (Researcher, London) Offshore 2020 Report Although, as one economist puts it, really crude secrecy products are pretty marginal now, the emphasis on privacy, critics vehemently argue, is what allows the more nefarious, secrecy-embedded edges of our industry to proliferate. But what, we asked critics, of the notion of privacy versus secrecy? Can a distinction be made? Organisations such as Christian Aid don t think so. They argue that the public should have access to BO registers, with the rare exception of those companies where the potential fallout of public access could prove risky (such as animal testing facilities). I think people hide behind the word privacy, states a UKbased NGO official. Nobody has been saying that we want bank account information made public. But it is a privilege to have and operate a company. There are certain duties and responsibilities that should come with that, given potentially significant financial implications. The idea that you shouldn t have to disclose who you are, or allow people who may interact with that company to be able to assess the risk involved with that company, is untenable. Once you re doing something that is not in your individual name, I think people have the right to know who is controlling those companies. We shall address that argument shortly. Adds another UK-based activist, one who claims to oppose the publishing of bank account or tax return details, I think it becomes a different question when you are talking about ownership and control of corporate structures, which are the basic building blocks of our economy in many ways the vehicle that people use to do investment, to hire people, to own assets. It is increasingly easy and quick and cheap to carry complicated networks of companies and structures to hide and disguise what you re doing. This is not good for the society and not good for the economy and not good for business participants.

25 As for trusts, and other vehicles for individuals, the ability to use a trust to facilitate corruption and tax avoidance renders it worthy of closer scrutiny. (As a side note, here again, we ask, can a distinction be made between tax evasion and tax avoidance or efficiency? By and large, say the critics, the answer is a vehement no. This stance is reflected in the real progress recently made by those critics: Western media now tend to condemn tax avoidance, a longstanding tenet of common law allowing organisations and individuals the legal right to reduce the taxes that they pay.) Given the tenor of the debate, it comes as no surprise that some 59% of our respondents believe that a central, non-public registry of BO will be implemented by That s slightly more people than thought so last year. Indeed, privately held companies in the UK will be forced to disclose their BO starting in 2016; this includes any individual who directly or indirectly holds more than 25% of the company s shares or voting rights or otherwise controls company management. Although the West is leading the charge towards transparency, ripple effects may be keenly felt in the Eastern emerging markets to where money is currently flowing. Survey data indicates that information leaks are considered a bigger constraint on business by Asia-based constituents than by those elsewhere [Figure 22]. And a far greater percentage of Asia-based respondents believe BO information should remain solely with licenced operators. Echoing the sentiments of most of our respondents, a tax expert in Hong Kong worries about information regarding trusts, in particular, falling into the wrong hands. Part of the reason people set up a trust so that information is kept confidential is not that they are trying to cheat on their taxes; they don t want their children and grandchildren to know the extent of their wealth at too young an age. They also are very worried about kidnappings, which happen regularly, so they have very legitimate reasons for keeping information confidential. The same protective attitude is reflected around incorporations. In the case of a government contract with an offshore company, a legitimate argument might be made for public disclosure, with rules set by each particular government. But we do not see any valid reason for the public to be made privy to the details of two private investors doing business with each other through corporate vehicles. Nor is it appropriate, in our view, for shares in private companies to be treated differently from any other asset class. Still, jurisdictional leaders say the industry should prepare itself now for the stripping away of privacy. I think there are definitely two directions of travel for all finance centres, whether they re big or small, says a regulator in a UK jurisdiction. One is towards embracing greater transparency, and the other one is, stick your head in the sand. Probably within two to three years, says a Swiss banker, we ll see even more transparency I think sooner or later, we will realise that we have gone too far. Also noted was the salient point that once the appetite for data is whetted, governments will likely want more. Personally, says one Hong Kong-based tax specialist, I want to be optimistic, but the trend is a bit worrying. In five years, privacy might still exist, but in ten or twenty years I can t tell. How would public registers affect business? If commercial clients could copy each other s structural models to become more competitive, or if private clients knew that the details of their wealth could be exposed with a click of a mouse, would the desire for such services wane? Commercial clients, our respondents predict, would still want and need structures that provide tax efficiency. But it s likely that CSPs would have to hustle to convince private clients to engage in trusts, wealth management services and the like. The majority of those we spoke to about the issue service private clients; their anxiety over the issue was palpable. It will really put a chill on the industry, says a Hong Kong attorney, if we are required to disclose the names of all the beneficiaries of a trust. FIGURE 22 Availability of beneficial ownership by market Remain with licenced and regulated service providers and be provided only upon request 72% 82% Available only to local competent authorities 24% 34% Available to foreign competent authorities 11% 16% Asian market Non-Asian market Available to the full public for review 1% 3% The New Normal 23

26 Changing the Perception of OFCs Among Critics: Worth the Effort? One takeaway from conversations with respondents was the belief that the machinations of the global economy have emboldened offshore s critics and regulators by inciting public outrage. An angry public, and angry governments, feel more entitled to punish those whom they see as taking what s theirs. It does not help that we are in a supposed age of austerity, and that the users of offshore normally constitute the global 0.1%. Although such a climate makes it difficult to defend the offshore industry, the conversation, we repeatedly were told, must be reframed. A trifecta of approaches rank almost equally [Figure 23]: lobbying of governments and regulators, creating more industry professionalism and training across the board, and improving public relations in the media. Less important is direct dialogue with the NGO sector, although engaging with general critics (and the public) through social media, research reports and televised debates all are mentioned as important strategies for education and conversion. We are the plumbing of the global financial economy, says a regulatory expert in the BVI, but organisations such as Tax Justice and the like don t want to hear that. We need a real dialogue with them. Still, given the entrenched criticism witnessed in previous sections, it s understandable that some respondents, such as an industry veteran in Monaco, maintain that the accusations lobbed at the industry are largely based on fundamentally different philosophies about money and that trying to bridge the gap between those philosophies is a waste of time. Note, for example, the assertion by a leading critic in the previous section that 40% to 50% is a normal and acceptable tax rate. No matter how much we comply and jump through their hoops, says one expert in the Pacific, some people will always believe that it s morally wrong to have a business like this. Especially these days: industry tends to come under fire most, these respondents maintain, when governments are buckling under the weight of their own self-incurred debts. Why don t Christian Aid, the OECD and others go after the rampant waste of taxpayer money as vehemently as they do the offshore industry? grumbled one Asia-based fund expert. Because it s easier to target us than to target sovereign nations. Perhaps the blowback will die down without any dialogue, added an Asia-based banker, as economies recover all of those driven by the fact that governments are scrapping to fund themselves will be sated. The bit that worries me is that tax efficiency seems to be merging with tax evasion. In other words, what is lawful swiftly is becoming politically immoral, due in part to media blitzes such as the Lux Leaks. In conversations with OIL, respondents recognised this: One change from last year is an increased sense of urgency to improve the industry s image in the public eye. Reframing the conversation around offshore might FIGURE 23 Industry responses in addressing its image problem 2014 Lobbying of governments 4.2 and regulators 4.1 Industry professionalism and training Public relations in the media Certification and licencing of offshore service providers in markets where they serve clients Coordination with other industry participants (e.g. banks) Independent industry 3.1 and market research 3.6 Dialogue with the NGO sector Offshore 2020 Report

27 relieve some of the regulatory pressure, or at least temper the public support for it. Whereas last year respondents might have described addressing critics as a futile exercise, this year the continued fallout from criticisms (increasing stringency and number of regulations) seems to spur a sense of action. Reframing the conversation will not be an easy task. Says a jurisdictional official in Jersey. For example, it s difficult to dismantle the perception of a pot of gold ( black money ) hidden offshore. Deposits of the entire BVI banking system total approximately US$2.5 billion. Funds are not stashed offshore; they are reinvested in first-world economies such as the UK. But that s not the story we see in the press. Most of the NGO community simply don t understand the business model in the first place, continues the Jersey official. That requires the jurisdiction to overcompensate, in terms of communications, in terms of performing well with international evaluations. You ve almost got to do better than everybody else, just to stand still. Basic education about the tenets of offshore via white papers and social media might make a dent, respondents say, as the public holds only a vague perception of what offshore entails. International finance is non-homogeneous with very different business models being pursued, continues the Jersey official. It s unfortunate that the world writ large does not understand those differences. The problem is that we must deal with perception, not reality. A fund manager based in Hong Kong Quantifying the Offshore Industry s Contribution to the Global Economy We ve heard industry players, in these pages and elsewhere, make general statements about the usefulness of offshore. For example, when asked what the world would look like without offshore, some of our respondents balk at the very premise of the question. It s like saying, What would happen if they took away airline travel? according to one UK-based legal expert. That reflects an insular view of offshore s contributions. Critics, as we have seen, present sophisticated, nuanced arguments against offshore. Alarmingly, we find that even the leading industry experts we spoke to are often not able to present little substance in defending offshore or cogently articulate its contributions. We need to get better at the dinner party defence, at the elevator pitch, at gaining traction in media, says one respondent based in the BVI. Such defences might include the following: Offshore is generally the leader in modern, cutting-edge legislation We noted earlier the slow lurch of change around behemoth, decades-old tax codes. While the US and UK recently have looked up and realised that financial guidelines need to be tailored to include both brick-andmortar and digital businesses, offshore has been servicing e-commerce for years. And over the past two decades, much of the innovation in corporate and trust legislation has taken place offshore. Offshore presents a neutral venue An offshore jurisdiction provides a neutral venue, one which all parties can trust. As we ve noted previously, those offshore jurisdictions which employ a British legal system in particular, with dedicated commercial courts and ultimate right of appeal to the Privy Council, are best suited for neutrality towards all involved. Banks, and other lenders, are happy to lend to structures based offshore, due to this strong rule of law, and modern legislation, with an effective regime for registering charges. Offshore comes to your door There are the BVI and Cayman lawyers all over the world: Hong Kong, Singapore, Dubai and London. That means that the vast majority of a client s legal, and other, work can be done offshore, but also in his or her own time zone or market jurisdiction. Offshore can often prevent an added layer of taxation A German investor in China must pay all relevant taxes in China, where he invests, and also back in Germany when any profits are repatriated what he wants to avoid is a third layer of tax. It is, therefore, essential and beneficial that offshore is tax neutral not tax free. which means that offshore helps squelch the price bloating of goods Thanks to globalisation, supply chains have become more and more extended. Pieces may be separately manufactured in China, Vietnam and Poland, assembled in Mexico, and then shipped to ports in Brazil and Europe or trucked into Canada via Texas and the American West. A company s servers may be located in Ireland, its online merchant account in Hong Kong, its customers in London and Denver. Offshore smooths out the kinks in such a supply chain. It allows companies to spend more on innovation and less on production and shipment. It allows for tax efficiency, instead of the burden of multiple levels of taxation on the same profit. Offshore structures allow companies to create jobs and services in various parts of the globe without having to incur higher cost bases that would then be passed onto the customer. India, for example, is now one of the world s biggest customer centres for smart phones. That would likely not be the case if affordability were compromised by the elimination of offshore structures. In last year s report, we used the metaphor that the offshore industry acts as the plumbing to the economy and we stand by that: offshore facilitates the efficient movement of capital The New Normal 25

28 that is expected in a globalised economy. Take it away, and we would need to reinvent something else like it, or see costs increase across the board. Offshore and economic development Of course, empirical research also is necessary to undergird such arguments. Jersey has been proactive about commissioning studies. But because comparatively few papers attesting to the benefits of offshore (as opposed to its alleged detriments) have been peer reviewed, one must go about proving it in a roundabout way. Foreign direct investment (FDI) is one way to garner concrete numbers and then extrapolate. For example, at a time when the global economy is struggling to gain momentum, a large portion of Chinese ODI is routed through offshore centres such as the BVI and Cayman Islands. Chinese investment in the Eurozone is particularly critical, and investments in European assets often go through Belgium and Luxembourg. Between 2001 and 2012, according to United National Conference on Trade and Development (UNCTAD), FDI flows from China to Luxembourg totaled US$1.13 billion. Indeed, such contributions have made Luxembourg one of the world s top five host economies for FDI inflows. Ernst & Young notes that China s FDI into Europe, largely via offshore vehicles, increased by 47% between 2013 and And that s just China, whose ODI could exceed US$20 trillion by Offshore can be particularly beneficial to emerging markets. Overall, an estimated US$130 billion more in FDI flows into developing countries than into the first world. According to the UNCTAD, on average, the government budgets of African countries depend on foreign corporate payments for 14% of their funding. As we stated earlier, critics claim that corrupt leaders siphon off those flows. This may have been the case in some past instances, but this argument ignores that the offshore industry is committed to it not happening again, as it is neither in offshore s business model nor in its best interest. The argument also ignores the contributions of FDI and their offshore vehicles to the PPPs that are largely responsible for creating or enhancing transportation, communication and healthcare infrastructure in developing nations. Essentially, PPPs afford cash-strapped societies the ability to create or shore up critical infrastructure and services. Because of their highly international nature, and because PPPs often are investing in dicey governments and/ or projects, a robust legal framework is key to mitigating investor risk. Here, offshore excels at providing such a platform, whether it be through a SPV or another protective entity. Offshore also provides neutral ground for projects involving multiple state and non-state actors, as well as offering an administrative ease not often found in developing markets. PPPs in Nigeria, Africa s most populous country, are enabling both the critical Lagos Rail Mass Transit project and the 186km Abuja-Kaduna Rail Modernisation Project. Both are receiving hundreds of millions of dollars in Chinese investments through offshore and other vehicles. Chinese FDI also flows into Nicaragua s US$50 billion Interoceanic Grand Canal (a rival to the Panama Canal); at least seven Netherlands registered, Chinese owned entities are tied to the project. A PPP consortium of Kenyan and American partners led by a US-based firm was granted a contract in 2014 to help build Konza Technology City, which the Kenyan government hopes will become a leading technology park on the continent. And offshore enhanced PPPs are bolstering important port and energy projects in Colombia, Brazil and other emerging markets. Private equity (PE) is an area of market growth whose role in offshore over the past ten years has blossomed, and which appears undimmed by negative perceptions of the industry. PE funds approached US$800 billion in 2013 to 2014, and governments in emerging markets are becoming more welcoming of PE investment in state infrastructure via Cayman Islands and other offshore locations. Investors in the 2014 Alibaba (China) IPO listed on the New York Stock Exchange actually were buying contractual shares of a Cayman company. The US$57 billion acquisition of TNK- BP by Rosneft (Russian Federation) involved a company registered in the BVI. More research papers demonstrating the specific contributions of offshore need to be written. Empirical studies by Roger Bootle and others have shown, for example, that Jersey has supported 180,000 UK jobs and added about US$6 billion in aggregate value to the UK economy. But performing the research is just the first step. The above findings by Mr Bootle failed to receive a large amount of press coverage. It s much easier to sell stories about celebrities stashing money away and dodging the bank man, says one Monaco-based respondent. That gets an awful lot more print press than stories with facts and numbers about the contribution of the industry to the global economy. It s therefore critical to create strong narratives as well, and to utilise industry channels and push forward our research. Social media is increasingly important. Supporting the work of the IFC Forum, of which OIL is a member, with empowering facts will undergird their lobbying efforts on behalf of industry. And when it comes to dealing with the press, becoming proactive, instead of simply reactive, is essential to reframing the conversation. We welcome further suggestions on this topic for next year s survey. 26 Offshore 2020 Report

29 The Future State of the Industry The next generation is not going to be satisfied with basic solutions. Hedge funds, incorporations and resources are emerging as more sophisticated products more tiered solutions. An attorney in Cayman Islands