Panama’s Tax system
Everybody of course wants to pay as little tax as possible and offshore tax havens are popular precisely because they allow companies and other entities to pay no taxes, especially if the income is earned from foreign sources. In the case of Panama there are no capital gains or inheritance/gifting taxes and offshore income is not taxed. There is no income tax for Panama residents on any income they earn outside of Panama and they are free to remit it into the country without paying any taxes on it. Even companies that are physically set up here in Panama pay no taxes on their worldwide income if it is not remitted into Panama. This only requires simple structuring and a bank account outside of Panama to ensure only those funds needed by the Panama company to meet its obligations are remitted.
Taking up Residency in a Tax Haven
In mentioning Panama’s favorable tax system what then comes to many people’s mind is the option of becoming a tax resident in a country like Panama. The rich for decades have done this taking up residence in countries that offer attractive policies for minimally taxing their wealth. As more and more people’s lifestyles become mobile this is increasingly possible for many, especially since most high tax countries only tax you if you remain a resident within their borders. Only the U.S.A. is the exception to this which taxes its citizens regardless of where they choose to live which has led to some Americans to expatriate and take up citizenship of another country and renounce their former citizenship. Panama is becoming increasingly popular for tax advantaged residency for North Americans and Europeans, both for retirees as well as those who want to start or carry on a business. See our Panama Passport and Residency options for more information.
High Tax Jurisdiction Residency Dilemma
The complication starts for most people because they are resident in high tax countries and not able or willing to move to a low/no tax country or are Americans who do not want to renounce their citizenship, and at the same time wish to set up a business, passive investment or other type of financial activity in a tax free jurisdiction using one or more tax free structures and offshore bank and brokerage accounts to assist in that endeavor. The problem is that most high tax jurisdictions want to tax you on your worldwide income regardless of where and how it is earned and have created all sorts of legislation to force you to report your ownership interest in foreign companies and structures, for the purpose of not only taxing that income stream but even to tax it on an accrual basis before any of it has been repatriated home.
Every country has its own nuances as to how they approach this. Countries with less sophisticated tax codes will allow you to set up a business or investment activity in another country under a foreign entity and not require you to report its activities. They would then only tax the income once repatriated. Until about thirty or forty years ago this was the general modus operandi in every high tax country. Little by little the tax bureaucrats started to close the loopholes requiring you to report income earned even if it was earned by a foreign entity using foreign accounts, no matter that nothing had been personally repatriated. Exceptions were granted for certain types of business activity and for certain locations where double taxation agreements are in force between the home country and the country where the income stream is being generated. These double tax agreements can be useful for certain types of business activities which have to take place in a certain country and cannot be moved to a no-tax jurisdiction, as it prevents one from being taxed twice on the same income.
In general businesses with a physical location in a foreign country not doing any business with one’s home country in any way will not be taxed even if the business is personally owned. However if there is no real physical operation going on in the country where it is located (i.e. it mostly exists in cyberspace) and/or the business is doing some or all of its business with one’s home country then the rules become a little more complicated.
Contact us for assistance in deciding the best strategy to embark on with regards to starting a new business offshore (or relocating an existing business or starting an international subsidiary). If wanting to start up an e-commerce business offshore first go to our Offshore Merchant Account and E-Commerce section.
Where the business or investment activity can be established in the most attractive no tax country possible then the prevailing question becomes how to structure it so that it complies with one’s home country’s tax rules. Businesses have more options and loopholes available to them over individuals looking to invest overseas through international structures. In general the overriding question is one of ownership. If one can give up legal ownership of the structures and in certain cases legal control even of the funds held by the structures, even the most draconian reporting guidelines can be legally avoided.
Tax Deferral and Elimination Options
A good strategy to consider is setting up a foundation to own the company actually operating the business or investing the funds rather than to be the owner personally. Even as a business owner there are asset protection advantages to not being considered the legal owner of your business even if it is operating in a low/no tax jurisdiction which does not recognize foreign judgments. A determined opponent can always bring a suit into the country where you have located your business. By definition no-one can own a foundation and so if one is set up as the sole shareholder it takes you out of the ownership equation. A trust could also be used in the same way. Therefore so long as you do not repatriate income from the structure to yourself you can indefinitely postpone the paying of any taxes and let your earnings compound as you invest into other opportunities abroad.
At some point one is going to want to repatriate income back to one’s home country. At that point you can receive the funds and declare them in your regular tax returns as earned income. However, it is possible to use a correctly set up foundation to grant tax-free gifts to relatives and family members (other than your spouse). This income shifting allows your family members to receive foreign gifts tax-free. In countries like the U.S. this income would still be reportable but no income taxes would need to be paid since it is foreign gift income.
There are many other ways to effectively repatriate income without paying taxes. A tried and true popular solution are the “back-to-back” loans that many offshore banks offer which involves collateralizing a foreign account and then receiving a loan back for which one pays fees on for as long as the facility is maintained. The income received is then classified as a loan or a credit line which at some point has to be paid back of course.
More sophisticated options could include setting up a separate finance company attached to the main company and have it issue mortgages on one’s properties and even loans for things like cars or other capital equipment.
Tax Reduction Options
The current trend for companies to outsource many functions of their business to international companies has created many opportunities for onshore businesses to create their own outsourcing service companies whether it be web design and hosting, call centers, direct sales, advertising or a host of other activities that can be outsourced, the opportunity exists for the home company to be invoiced for all of these services which reduces the bottom line tax payable. The additional accrued income then can stay outside of one’s home country for indefinite tax deferral.
Setting up insurance captives to provide your own in house insurance coverage provides a host of interesting options and is another favored tax reduction strategy. Not only can you eliminate the outrageous insurance premiums now required by conventional insurers for certain lines of business such as healthcare but you can reap enormous tax benefits through claiming the insurance premium deductions on your business tax returns while having the opportunity to invest your own insurance premiums on a tax deferred basis through the offshore captive. See our section on captive insurance for more information on this strategy.
Another popular option for importers is to establish a trading company in a popular jurisdiction like Panama or Hong Kong where a lot of import/export trading type companies already exist. The concept is known in the business of triangulation where the trading company becomes an intermediary between the exporter and the importer and keeps a spread or a portion of the profit between the original purchase price and the final sale price in the country where the product is being sold. The trading company bills the producer of the product and then re-invoices the importer. This could involve setting up the company in a free zone such as Colon’s in Panama, where product can be imported, re-packaged and then shipped to its final destination. The Colon Free Zone also offers you a cheaper virtual presence solution whereby you use the services of a Fee Zone based service provider who can then follow your precise product receiving, packaging and shipping/distribution requirements.
Private Annuity Contracts
No discussion about tax deferral and elimination strategies is complete without mentioning this invaluable option which can involve the exchange of appreciated assets such as stock or cash realized from the sale of a business or property to a foreign company in return for a future income stream. The periodic payments, more commonly referred to as annuity payments, may be made to the annuitant (receiver of the annuity income) on a monthly, quarterly, semi-annual or annual basis. These payments may be deferred as long as the annuitant wishes so that with appropriate estate planning the value of the appreciated foreign property may be eventually transferred to heirs and beneficiaries without the payment of estate tax. A full explanation about this invaluable tax reduction/elimination strategy that also has asset protection and estate planning features can be found in our Private Annuity Contract article.
These are just a few ideas on ways to eliminate or optimize the amount of taxes you have to pay. It is not intended as specific advice but rather general ideas to stimulate further discussion and investigation. There are many other strategies that can be pursued and we will be happy to consult with you as to which might work best for your own situation.