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Ratification of the 16th Amendment to the Constitution on February 25, 1913 provided Congress with the framework for the inception of federal income and estate taxes. Since then, US citizens and residents have attempted to structure their personal holdings and income producing assets in a tax wise and preservationist manner. The old adage ‘a penny saved is a penny earned’ truly applies when you are attempting to preserve your assets.
The legacy of the 16th Amendment is the Internal Revenue Code. The Code has become the embodiment of the government’s attempt to assess taxes and the citizen’s right to personal wealth. It is also the source of painful discord among academia, legislators, and special interest groups as they put forth remedies to correct a tax code that almost everyone agrees needs to be fixed. Unfortunately for taxpayers, the solutions often become part of the problem.
The utilization of Offshore Corporations and Offshore Trusts to reduce taxes and protect assets have continued to be popular tools among tax and estate planning professionals. Over the years however, ensuing legislation has eroded their effectiveness as financial planning tools. Revisions to the Code are typically constructed to close the so called ‘loop-holes’ that prudent taxpayers have enjoyed. Such ability to structure one’s income and assets in the most proficient manner is paramount to effective financial planning.
It is well established that a taxpayer has the legal right to minimize his/her taxes or avoid them totally by any means which the law permits. [Gregory v. Helvering, 293 U.S. 465, 469 (1935)] However, this right does not bestow upon the taxpayer the right to structure a paper entity (i.e. trust, corporation, etc.) to avoid tax when that entity does not stand on the solid foundation of economic reality.
Therein lies the dilemma. For while tax avoidance is legal; tax evasion is illegal. The perplexity of determining the difference often lies within the manner in which the Code is written. The Code typically states restricted or disallowed actions rather than the proactive measures that may be undertaken by a taxpayer to reduce his/her tax liability. Revenue rulings and court precedents have thus become the litany of the Internal Revenue Code.
The following dissertation focuses on the advantages of utilizing an Offshore Corporation rather than an Offshore Trust. The premise is based upon the substantial differences among US Dept. of Treasury financial disclosure requirements between Offshore Corporations and Offshore Trusts. Supporting evidence is provided by means of reference to applicable sections of the Internal Revenue Code, revenue rulings and case law. It also provides a practical analysis for operating the offshore corporation’s bank and financial accounts for purposes of tax reduction, asset protection, business activity and investing. It will further address the fiduciary responsibilities of Trustees and Nominee Directors.
Offshore entities (i.e. corporations and trusts) are often used by individuals to divest themselves of certain assets, by expatriates working abroad who wish to accumulate funds offshore prior to returning to a high tax country, or by businessmen engaged in international trade and investment. When established properly, offshore entities provide the codependent features of asset protection and anonymity. Proper establishment thus requires an understanding of the differing reporting requirements between establishing an offshore corporation and offshore trust. The following is an applicable review of the US financial disclosure requirements for offshore corporations and offshore trusts.
Offshore Corporations: US citizens (as well as residents of other such high tax jurisdictions) seeking to protect their wealth will benefit from establishing an Offshore Corporation. Foreign jurisdictions that provide a favorable environment for the establishment of an Offshore Corporation share the following criteria: (1) strict banking secrecy laws, (2) no tax reporting or financial disclosure requirements, (3) an established financial industry, (4) a developed infrastructure, and (5) political stability. The best jurisdictions are typically members of the British Commonwealth. As one of the few jurisdictions that provides such an environment, the Bahamas is renowned as a leading offshore community. To fortify its competitive edge, the Bahamas enacted the International Business Corporation (IBC) Act of 1990 to provide for the establishment of Offshore Corporations.
While it is certainly permissible for a US citizen to establish an Offshore Corporation, proper structuring will alleviate all US tax and financial reporting concerns. The first issue of concern is that the Internal Revenue Code categorizes Offshore Corporations according to ownership. Examples of such categorization can be found in Internal Revenue Code (‘IRC’) Title 26, Subtitle A, Chapter 1, Subchapter G, Part III, Sec. 552 Definition of "foreign personal holding" company in IRC Title 26, Subtitle A, Chapter 1, Subchapter N, Part III, Subpart F, Sec. 957 Controlled foreign corporations. Offshore Corporations that may be defined in such a manner are subject to US Dept. of Treasury financial reporting requirements which essentially negate the inherent benefits of anonymity, asset protection, and tax reduction. How does one legally avoid such categorization? The answer is to structure the issuance of stock to avoid shareholder registration or other such records of ownership. Thus, the issuance of bearer shares will avoid any such definitions of ownership. For reporting requirements, please reference IRC Title 26, Subtitle F, Chapter 61, Subchapter A, Part III, Subpart A, Sec. 6038 Information with respect to certain foreign corporations.
The central aspect in utilizing an Offshore Corporation is the establishment of foreign bank and financial accounts. The laws that govern banking in The Bahamas and offshore banking communities in general prohibit the release of information regarding client accounts. This serves to protect your assets as well as your privacy. However, many countries impose strict disclosure requirements on their citizens and residents regarding foreign bank and financial accounts. So while banking secrecy laws prevent the disclosure of such information many individuals are required by law to disclose such information. In the US, all citizens or residents who have a "financial interest in or signatory authority, or other authority over bank, securities, or other financial accounts in a foreign country" are required to file US Dept. of Treasury form TD-90-22.1 Report of Foreign Bank and Financial Accounts.
Clearly, such disclosure would eliminate the asset protection and anonymity benefits of establishing an Offshore Corporation with foreign bank and financial accounts. How then does one establish a foreign bank or financial account while preserving their anonymity? First, the question of "financial interest" has already been negated through the issuance of bearer shares. Second, structure the foreign account without one’s "signatory authority". This is accomplished through utilizing the services of a Trust Account.
For ease of operation, shareholders of Offshore Corporations typically elect to establish a corporate brokerage account in addition to the corporate bank account. Through THMS’s Trust account services, your Offshore Corporation can establish a Working Capital Management Brokerage Account. The Brokerage Account will provide the shareholder with sole trading authority, Visa debit card and cheque writing privileges without requiring disclosure of one’s social security number, photo identification or other such personal information.
Since the Brokerage Account is established domestically (i.e. within the US), there are no financial disclosure requirements. All US tax reporting is referenced to the tax identification number of the Offshore Corporation. Furthermore, the application for the tax identification number is completed by the Trustee so as to preserve shareholder anonymity. While the Offshore Corporation will be liable for taxes on interest and dividend income; as a foreign entity it is exempt from capital gains taxes!
The shareholder only incurs a tax liability on income received from the Offshore Corporation. Thus, the Offshore Corporation may be used as a tax-deferred investment vehicle. Additionally, the Offshore Corporation may distribute funds for business expenses. For example, the Brokerage Account Visa debit card may be used with complete anonymity for business purchases. Such distributions within the guidelines of generally accepted accounting principles are not reportable as income to the shareholder. Please consult with THMS or a competent tax advisor for specific information.
Offshore Trusts: An Offshore Trust is a complex legal structure. It is vital that strict guidelines are followed in order to realize the beneficial tax treatment afforded to the beneficiaries of offshore trusts. However, unlike Offshore Corporations, the establishment of Offshore Trusts creates an anonymity and disclosure paradox for US citizens and residents. While it is perfectly permissible to establish an Offshore Trust; the law requires that such an act be disclosed; which effectively negates the inherent anonymity features of Offshore Trusts. Can this paradox be resolved? The answer to that question is the long sought Holy Grail of asset protection.
Why would one pursue the establishment of an Offshore Trust when a favorable alternative, that is an Offshore Corporation, readily exits? Ironically, the answer is embodied within the Internal Revenue Code. U.S. citizens and residents are not taxed on income earned from a foreign-grantor trust. Revenue Ruling 69-70, 1969-1 C.B. 182 states that a U.S. citizen or resident "is not taxable on that portion of the income distributed to him from a foreign trust if it is considered to be owned by a nonresident alien grantor" as defined by IRC Title 26, Chapter 1, Subchapter J, Part 1, Subpart E, Section 672.
The popular advice to take advantage of Rev. Rul. 69-70 is to use the services of a non-resident alien to ‘grant’ a series of foreign trusts. The non-resident alien initially establishes foreign trust A which in turn establishes foreign trust B. The beneficiary of foreign trust A is foreign trust B; and the beneficiary of foreign trust B is the US person. However, Revenue Ruling 80-74, 1980-1 C.B. 137 states that any attempt to establish an Offshore Trust in such a manner by a US citizen or resident, whether directly or indirectly, is essentially a sham. Revenue Ruling 90-106, 1990-2 C.B. 162 further states that tax consequences flow from the substance of a transaction, not the form in which it is cast. Thus, a trust will be disregarded for tax purposes if it has no substance, utility, or purpose, and the income of the trust will be included in the gross income of the person who controls the trust. This is further evidenced by IRC Title 26, Chapter A, Part 1, Subchapter J, Part I, Subpart E, Section 679. Therefore, an Offshore Trust may not be established, directly or indirectly, as a foreign-grantor trust by or on behalf of US citizens or residents. Thus, the practical alternative is to establish an Offshore Corporation.
So as the evidence reveals, an Offshore Corporation is the ideal vehicle for asset protection and anonymity. Please visit the OFFSHORE SERVICES PRICING & ORDERING page to begin the establishment of your Offshore Corporation with foreign bank and financial accounts.