In the last five years, there has been a steady increase of the number of multinationals who prefer to register their subsidiaries in low-tax jurisdictions, and not in no-tax jurisdictions. In this regard, Allen Tan, the leader of the tax practice division of a leading law firm in Singapore, stated: “The days of picking a holding jurisdiction mainly because of tax are over”.
One of the main reasons for the new trend of choosing low-tax jurisdictions is a series of requirements adopted by the Organization for Economic Cooperation and Development (OECD). The requirements aim to avoid base erosion and profit shifting (BEPS). OECD defines BEPS as “tax avoidance strategies that exploit gaps and mismatches in tax rules to artificially shift profits to low or no-tax locations.”
As a result of the BEPS requirements, many companies prefer to establish subsidiaries having real economic presence (e.g., employees and offices) in the countries where the subsidiaries are registered. The registration of a letter-box company (i.e., a company which just meets the registration formalities, but does not have any economic activity) in an offshore jurisdiction serves little or no purpose in the context of the contemporary legal tax optimization schemes.
Nowadays, the letter-box company as a tool for tax optimization is replaced by a company in a low-tax and low-cost jurisdiction which complies with all tax requirements while, at the same time, benefits from a favorable tax regime and affordable business infrastructure. Below, we will examine three jurisdictions that are often used by multinationals for tax optimization purposes. Those jurisdictions are Bulgaria, Ireland, and Singapore.
By applying the lowest personal and corporate tax rates (10%) in the EU, Bulgaria has become one of the most attractive EU jurisdictions for international investors. A study by the European Commission reveals that Bulgaria’s economy will grow by 3,8% in 2018 following a growth of 3,9% in 2017. According to Rossen Ivanov, partner at a Sofia-based venture capital fund, “increased investment in export-focused manufacturing and improvements in the labour market will sustain growth at the current level for at least another two to three years.”
The favorable tax regime is not the only reason for which foreign companies choose to establish their businesses in Bulgaria. The costs of the labour force in Bulgaria are more than affordable and, therefore, many large companies prefer to outsource their activities to the Balkan country. To illustrate, the average gross monthly salary in Bulgaria is just EUR 580, whereas the average gross monthly salary in Belgium is EUR 3,401, in the Netherlands – EUR 2,855, in the United Kingdom – 3,080, in Germany – 3,875, in Portugal – EUR 1,154, in Spain – EUR 2,189, in Poland – EUR 1,117, in Romania – EUR 962.
Since the IT sector in Bulgaria is very developed, technological companies can easily find there highly qualified IT experts willing to provide excellent services in exchange for salaries that are relatively low for the West European standards.
Ireland levies corporate tax at the rate of 12,5% which is one of the lowest corporate tax rates in the European Union. Furthermore, the country has relatively low-cost English speaking labor force. Multinationals who choose to register a company in Ireland usually prepare carefully in order to make sure that the company has real economic presence. Vivian Nathan, an advisor who provides company formation services in Ireland, noted: “Fifteen years ago we would form 500 companies in a month or two. Now we do 10 big projects.” He also added that: “It’s taken more seriously. It’s more proper.”
In 2017, the Irish newspaper Independent reported that the job numbers at multinationals in Ireland reached a record of 200,000. The majority of the investments came from the U.S., followed by Europe, India, and Japan. Most multinationals started up with modest business operations in Ireland and, later, substantially expanded their operations. For instance, Google opened its Europe, the Middle East and Africa (EMEA) headquarters in Dublin in 2003 with 100 employees. The headquarters in Dublin now employ more than 2,500 people.
In 2016, the Swiss insurance company Swiss Re AG closed one of its subsidiaries in Bermuda and, shortly afterwards, opened regional headquarters in Singapore. Facebook Inc. announced that its workforce in Singapore multiplied by almost three times. According to a 2017 study conducted by the Institute on Taxation and Economic Policy, Facebook has subsidiaries in Ireland and Singapore only.
Singapore attracts multinationals companies due to its low corporate tax rate (17%), strategic business location in the heart of Asia, highly-educated work force, and developed business infrastructure. Ronen Palan, a professor in international politics at the City University of London, noted that even Switzerland (a traditional low-tax jurisdiction for money managers and banking) is at risk at losing some of its market dominance to Singapore or other locations.
Within the time period 2010 – 2017, Singapore increased its market share of global assets under management by 12%. In contrast, according to study conducted by Deloitte in May 2018, Switzerland witnessed a decline of its assets under management by 7%. The same report states that Panama and the Caribbean lost 67% of their assets because they were not viewed as attractive as larger and more mature countries.
Looking to the future
Taking into account the constant international pressure aiming to decrease the number of legal methods for reducing tax burden, we can expect that more and more companies will establish their subsidiaries in low-tax countries rather than in no-tax countries. Although low-tax countries are not a magical solution that completely eliminates the need to pay tax, they are an optimal solution that allows companies to operate not only cost-efficiently, but also on the right side of the law.
We can also expect the competition between low-tax countries for international investors to become stronger. As a result, countries traditionally regarded as tax friendly may lose their attractiveness while, at the same time, other countries can become very attractive for investors.