Challenging times

Monday, 01 October 2012
The Crown Dependencies' new challenges: the Far East's increasing wealth and distinguishing tax avoidance from evasion.

Jersey, Guernsey and the Isle of Man are facing two new challenges: the shift in focus for wealth creation towards the Far East, and the attempts by some commentators to blur the distinction between tax evasion and legitimate tax avoidance. Are the Crown Dependencies up to the challenge?

The 2012 World Wealth Report produced by Capgemini and RBC Wealth Management found that Asia-Pacific is home, for the first time, to more high-net-worth individuals than any other region. Given that there are other international finance centres (IFCs) closer to that region, Singapore and the Dubai International Finance Centre being obvious examples, one might conclude that the business opportunities for the Crown Dependencies are likely to diminish. However, that is proving not to be the case.

The qualities that historically attracted business to the Crown Dependencies, such as integrity, stability, tax neutrality, robust regulation and a common-law legal framework, are now present to a greater or lesser degree in their competitor jurisdictions. However, what distinguishes the Crown Dependencies from their competitors is the skills that they have developed in administration, fiduciary decision-making and corporate governance. One can create an IFC with an appropriate legal and regulatory framework and a benign tax regime, but experience in running corporate and fiduciary structures cannot be established overnight.

The ability to show that the real decision-making is taking place in the jurisdiction in which a trust or company is based is increasingly important. The Garron Family Trust litigation in Canada is a case in point. The Canadian courts held in Garron that the appropriate test under Canadian tax law for determining trust residence was central management and control over trust property. They found that a trustee in Barbados had so little experience in running the particular trusts that it played virtually no part in the real decision-making process for the trust assets. The consequence was that the trust was held to be resident for tax purposes in Canada.

As the recovery of tax becomes increasingly important as a result of the financial crisis, those running fiduciary structures will need to demonstrate that they have the expertise and ability to take fiduciary decisions and are not merely rubber-stamping decisions taken elsewhere. The Crown Dependencies, with their many years of experience of managing fiduciary structures, are well-placed to demonstrate that expertise. This appears to be one of the reasons that they are attracting business from the emerging markets.

Although tax mitigation may be less of a motivating factor in the creation of structures for clients from some of the emerging markets, there are increasingly moves, particularly by politicians and the popular press, to blur the distinction between tax evasion and legitimate tax avoidance. As governments desperately try to maximise tax returns to finance their deficits, the use of legitimate tax-avoidance schemes is being branded as ‘immoral’. The challenge for the Crown Dependencies and IFCs is to judge where a particular jurisdiction is going to draw the line between what is morally acceptable and unacceptable tax mitigation, despite the activity itself being perfectly lawful in the taxpayer’s home jurisdiction. While tax-avoidance schemes for private clients are a very small part of the business conducted by IFCs, they attract a disproportionate amount of publicity, no doubt to the delight of revenue authorities.

The Crown Dependencies, in common with other IFCs, cannot hope to win a debate in which the amount of tax to be paid is effectively determined by public opinion. Perhaps the way to meet this challenge is to recognise that negative publicity, especially when ill-informed and unjustified, is unwelcome. A more appropriate way to discourage the more aggressive tax-avoidance schemes would be through legislation or the application of anti-avoidance measures in the taxpayer’s home jurisdiction.

These are challenging times for the Crown Dependencies, but they remain well placed to capture new business from emerging markets, with the benefit of consequent capital flows into adjacent financial centres such as the City of London – a point that their detractors sometimes miss.

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Alan Binnington

Alan Binnington TEP is Private Client Director at RBC Wealth Management.

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