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International Wealth Management and Asset Protection

By Lowtax Editorial
28 June, 2012


People with at least a reasonably substantial net worth have traditionally utilised wealth management strategies, often with an offshore dimension, to protect their income and assets from the ever-growing reach of national tax collectors or against attack from frivolous lawsuits, and given the current volatile regulatory and economic environment, this remains very much the case today.

Introduction

Despite the fact that many parts of the world are mired in economic recession, the number of high net worth individuals (HNWIs) increased slightly last year, even though the overall financial wealth of this group declined. According to the 2012 World Wealth Report by Cap Gemini and RBC Wealth Management, the global population of HNWIs (defined as those having investable assets of USD1m or more, excluding primary residence) grew by 0.8% in 2011 to 11 million. Most of this growth can be attributed to HNWIs in the USD1m to 5m wealth band, which grew 1.1% and represents 90% of the global HNWI population. In contrast, global HNWI wealth in 2011 fell by 1.7% to USD42 trillion (compared with 9.7% growth to USD42.7 trillion in 2010). 

In recent years, much of the world’s new wealth has been generated by individuals in the Asia-Pacific region, and last year was no different. In 2011, the number of HNWIs in Asia-Pacific expanded 1.6% to 3.37 million, making Asia-Pacific the largest HNWI region for the first time, surpassing North America’s HNWI population of 3.35 million. Nevertheless, North America remained the largest region for HNWI wealth at USD11.4 trillion compared to USD10.7 trillion in the Asia-Pacific region.

These figures underline the fact that wealth management services are likely to stay very much in demand, especially so in today’s uncertain economic and regulatory environment. However, the fact that a huge industry centred around the banks has arisen to advise on, or more directly manage, people’s wealth also shows that there is no silver bullet wealth management solution. National tax and regulatory laws will dictate much of the decision-making process, and how one’s wealth is ultimately managed will depend on where an individual is resident, how and where her income is generated, and the location and form of her assets. Indeed, the term ‘wealth management’ itself is a very loose one, and encompasses a whole gamut of investment services and other disciplines, from retail banking to investment management, estate planning, tax planning and legal services.

Obviously, the central goal of any wealth management strategy is going to be the minimisation of risk, and the maximisation of returns. High up the list of goals for most HNWIs however is going to the optimisation of tax, especially for those individuals resident in a ‘high-tax’ country, and this is where placing at least a part of one’s wealth into a low-tax or offshore jurisdiction can help.

Investment Funds

As a generalisation, investment managers in low-tax areas have a considerable tax advantage over their colleagues in high-tax areas, which is eventually reflected in better returns for the investor. Offshore jurisdictions which have good double-tax treaty networks are often able to receive investment income even from high-tax countries without the imposition of withholding tax, and usually offer tax-exempt or tax-reduced local regimes, so that the final investor has access to gains in a fund or an investment with little or no intervening taxation. It is obvious that a fund which pays a composite rate of 10% tax on its profits will grow much more quickly that one which pays 20%, and differentials on this scale are easy to achieve just as a result of picking a low-tax base as against a high-tax base.

While many high-tax countries offer minor tax concessions to those investing in certain, usually low-risk, instruments, such as government securities, several offshore and low-tax jurisdictions now have well-developed investment fund regimes in place, and in most cases investment schemes in the form of an offshore company will pay very low or no income tax. One notable example is the Cayman Islands, which now is one of the world's leading fund management centres due to the welcoming regime, well-constructed legislation, good reputation, and the presence of the Stock Exchange, whose regime is particularly well-suited to mutual funds. It is estimated that about 80% of the world’s hedge funds are registered in the Cayman Islands and by the end of the second quarter of 2011, the number of active mutual funds regulated by the Cayman Islands Money Authority stood at 9,409. Other offshore jurisdictions with modern investment fund legal frameworks include: the Bahamas, Bermuda, the British Virgin Islands, Cyprus, Guernsey, Hong Kong, Ireland, Luxembourg, Malta, Mauritius, the Seychelles, Switzerland and the Turks and Caicos Islands.

Banking

Next to low taxation, the other major attraction of offshore is privacy and confidentiality. And while the combined initiatives of the OECD, the FATF, the EU and US since 2000 have endeavoured to make the world a more ‘transparent’ place, they have yet to make comprehensive inroads into banking secrecy.

Home to over 500 major banking institutions and with an estimated 27% of the world’s private wealth, Switzerland remains the world’s premier private banking jurisdiction. In recent years a combination of legislative measures and market forces have re-orientated the Swiss banking services market so that banks cater less and less to the traditional small-to-medium-sized private accounts and more and more to large professional clients for whom sophisticated services are being offered at competitive prices. Nonetheless, assets under management of Swiss banks are estimated to top CHF10 trillion.

In March 2009, the Swiss Federal Council announced that Switzerland intends to adopt OECD standards on administrative assistance in tax matters in accordance with Article 26 of the OECD Model Tax Convention. The decision will permit the exchange of information with other countries in individual cases where a specific and justified request has been made. The Federal Council has decided to withdraw the corresponding reservation to the OECD Model Tax Convention and to enter into negotiations on revising double taxation agreements.

The UBS affair cast the Swiss banking industry in something of a negative light in the United States and Europe. The bank, which was accused by the US authorities of helping American clients to evade US taxes, was eventually made to hand over details relating to about 4,500 account holders (far less than the 50,000 or so that were originally sought). The US government has subsequently heaped pressure on Switzerland to make it easier for information on US citizens suspected of tax evasion to be passed to the US tax and other authorities, and this eventually led to an amendment to the bilateral double taxation agreement (DTA) with the US, permitting grouped requests. Adopted by the Swiss National Council in March, administrative assistance will in future be granted in cases of suspected tax evasion as well as tax fraud, as is currently the case. The new law paves the way for implementation of the planned Swiss-US DTA allowing grouped requests to be submitted based on patterns of behaviour by individuals or financial institutions. However, this right will only be granted in the first instance to the US authorities. The National Council categorically refused to extend this right to all the countries with which Switzerland has concluded a double tax treaty.

Switzerland has also entered into withholding tax agreements with Austria, Germany and the UK which will allow those countries to tax income and assets held by citizens of those countries in undeclared Swiss accounts, should those account holders choose to volunteer themselves. These initiatives have left banking secrecy in Switzerland more or less intact, however.

In terms of tax, bank interest has traditionally almost never been subject to withholding taxation in offshore jurisdictions. However, the EU Savings Tax Directive, introduced in 2005, has meant that savings interest received in any of the signatory countries is subject to a withholding tax, or to information exchange, in order to ensure that it is taxed in the EU resident's home country. As well as all 27 EU member states, a number of ‘third’ countries and territories have signed up to the STD. These include the European banking centres of Andorra, Monaco, Liechtenstein, San Marino and Switzerland; the UK Crown Dependencies of Guernsey, Jersey, and the Isle of Man; the British and Dutch overseas territories of Anguilla, Aruba, the Bahamas, the British Virgin Islands, the Cayman Islands, Montserrat, the Netherland Antilles and the Turks and Caicos Islands. Gibraltar, as a UK Crown Colony, in also included in the STD’s ambit. Bermuda, however, appeared to miss out by accident. Attempts by the European Commission to coerce the major Asian financial centres like Hong Kong and Singapore into signing up to the STD were, unsurprisingly, given short shrift. Indeed, it is suggested that these Asian centres have benefited from a flow of money out of the jurisdictions covered by the STD towards the East. In any case, the STD is quite easily avoided due to its limited scope; the directive applies to many types of return on savings instruments, all loosely described as interest, when received by individuals, but does not affect interest paid to companies. The EU is however, keen to change this, and amendments to the STD widening its scope are progressing.

Other significant offshore banking jurisdictions include the Bahamas, the Cayman Islands, the Isle of Man, Jersey, Hong Kong, Monaco and Panama.

Asset Protection

The offshore trust remains the mainstay of an offshore investment strategy, and if structured appropriately, this vehicle can be a very effective means with which to achieve tax optimisation and, importantly, asset protection.

A financial management strategy in which asset protection is a key goal will be of particular interest to those working in professions where there is a high risk of litigation, for example doctors, lawyers, business owners, and financial planners, to name but a few. There are increasing numbers of frivolous lawsuits being brought (particularly in the US), in which the defendant is being targeted not necessarily because of his culpability in the case, but because of his ability to pay. Individuals in the above high risk groups with savings or significant assets could well fall in this 'deep pocket' category, and risk losing everything if there are not proper protection measures in place.

Although professionals of many kinds are obliged to have liability insurance, this is becoming more and more expensive due to the increase in litigation and the rising level of damage awards - and in any case, may not cover the full size of an award, particularly in the USA. Therefore, it is increasingly important to consider putting in place some additional asset protection measure.

Asset protection strategies basically work by making the assets of an individual unavailable, or difficult to recover, (and hence potentially more unattractive) in the event of legal proceedings being taken against them by employees, clients, patients, litigious family members or other creditors.

Protection of assets can take a number of forms, and while there are many domestic alternatives, including living trusts, limited liability partnerships and companies, and family limited partnerships, offshore vehicles are usually more effective for this purpose. The trust is the lynch-pin of offshore asset protection; although offshore bank accounts on their own can provide enhanced privacy and confidentiality, they are usually an integral part of an asset protection strategy.

Offshore trusts and companies can be used separately or together for asset protection purposes (usually in conjunction with an offshore bank account). In a trust arrangement, the settlor (the person who transfers assets to the trust) legally gives over control of his assets to a trustee (or trustees), who manages and controls them for the benefit of a beneficiary or beneficiaries (of which the settlor can be one). Although the settlor will usually provide a letter of wishes, detailing how he would like the money to be managed, and distributed, the trustee/s have legal control over the assets.

Although trusts could once be used in order to 'break the link' between an individual and his assets, this is less the case in recent times, as high tax countries have had time to develop legislation forcing at least some degree of transparency onto trust arrangements. However, recent legislative developments in many offshore jurisdictions have significantly improved on the original English trust law model, providing effective defences against forced heirship provisions, and in many cases, imposing a time limit on creditors' claims. Many offshore jurisdictions, like some US states, also now have 'spendthrift' trust legislation under which trustees can disregard requests by or on behalf of a settlor.

Examples of jurisdictions with well-established trust law frameworks in place, usually built on English common law principles, include: the Bahamas, Barbados, the British Virgins Islands, the Cayman Islands, the Cook Islands, Gibraltar, Jersey, Mauritius and Nevis.

Foundations, which are seen as the civil law equivalent of a common law trust, are also being introduced into the legislative frameworks of common law offshore jurisdictions. The manner in which a foundation is established and run, however, is quite distinct from a trust. Unlike a common law trust, a foundation is a legal entity more akin to a company and as such, it is usually entered onto the Companies registry in the jurisdiction concerned. Foundations are formed by a founder who provides the initial assets of the foundation, otherwise known as the endowment. This highlights another area where foundations differ from trusts in that the assets are held for the purposes set out in the foundation’s constitutive documents and are administered according to contractual rather than fiduciary principles. Whereas trust assets are held by a trustee, a foundation has a council which acts much like a company board and which is responsible for fulfilling the purpose of the foundation, although there are no shareholders. Beneficiaries have contractual rights to enforce the operation of the foundation in accordance with its constitutive document – rather than propriety rights in its assets.

Foundations have been in existence in Europe since the 1920s and notable jurisdictions with foundations laws include Austria, Liechtenstein, the Netherlands and Sweden. They are also to be found in Asia and Latin America, for example in Panama. Recently, however, Foundation laws have been introduced in the Bahamas, the Isle of Man and Jersey, and are set to be introduced in Guernsey in 2012.

Conclusion

The campaign by multilateral groups like the OECD and the G20 for greater transparency with regards tax and financial information is unlikely to abate. However, to a great extent, this campaign has played into the hands of the most reputable offshore and low-tax financial centres, which are now regarded as some of the most transparent territories in the world - in many cases more so than their onshore counterparts. The competitive world of offshore also means that low-tax jurisdictions are constantly evolving their legal regime to attract a larger slice of the wealth management market, with an especial focus now being trained on the Middle and Far East. Offshore and low-tax territories will continue, therefore to play a major role in the management of personal wealth. 




 

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