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Lowtax Shipping and Aviation Taxation

By Lowtax Editorial
12 July, 2012


A number of factors combine to influence where companies and owners register ships and aircraft, but none more so perhaps than taxation, and considerable cost efficiencies can be achieved for operators if their businesses are structured in the right way, often across multiple jurisdictions.

It has now become the norm for ships to be registered in international offshore financial centres or low-tax jurisdictions. However, ownership, registration, administration and operation of ships are four different activities, and are often situated in two, three or even four different jurisdictions in order to achieve an optimum result. Thus, an owner in a high-tax, non-maritime country might register his ships in a low-tax jurisdiction, operate them from there, but administer them from a European port city.

The situation for large commercial airline companies is somewhat different than for the shipping industry as national carriers mostly lease aircraft from specialist leasing companies rather than purchase them outright, due to the prohibitive cost of financing a large fleet. However, for the private aviator, there are now a number of IOFCs offering registration services for small jets, helicopters and other types of small private aircraft, offering similar sorts of tax and regulatory benefits for owners.

Open Shipping Registries

Panama and Liberia were pioneers of the offshore shipping registry having opened their doors to ship owners regardless of their nationality several decades ago, and despite the OECD’s efforts to shut down ‘flags of convenience’, they still remain the world’s two largest international shipping registries.

Panama has the largest merchant marine fleet in the world, whether measured in terms of total tonnage or in terms of number of vessels.

The registry was founded in 1925 and has no restrictions either on the nationality or domicile of owners or on the age, size or type of vessel. In fact, it accepts many types of vessel that are not counted as such by other registries, such as drilling rigs. The registry forms part of the Panama Maritime Authority, and has offices in London, New York, Houston and New Orleans. 

In 2011, there was a total of 8,900 vessels registered in Panama, totalling over 222.5 million gross tons, making it the world’s top ranking open registry flag.

Income tax is levied only on income derived from operations within Panama. Therefore, a Panama business entity can direct its offshore activities from Panama without becoming liable for tax.

Similarly, the success of the Liberian registry is due to low taxation and high standards set and maintained over a long period of time. Thus, Liberia also offers one of the most convenient, efficient, and tax effective offshore corporate registries in the world.

Liberia's fleet is made up of nearly every type of ship, with large concentrations of oil, chemical and gas tankers, followed closely by both dry bulk carriers and containerships, and figures state that over 3,200 vessels of more than 100 million gross tons are registered under the Liberian flag. 

The registry is operated by LISCR, LLC (The Liberian International Shipping and Corporate Registry) , which has offices in the USA (Vienna, Virginia, and New York), Piraeus, Hamburg, Hong Kong, London, Monrovia, Zurich and Tokyo.

A recently-opened office in Hamburg testifies to Germany's maritime importance. It has been estimated that sixty per cent of all international ship finance originates in the German market. And on April 18, 2012, the Greek Shipping Co-operation Committee (GSCC) confirmed that Liberia is the leading independent ship register of choice for Greek-controlled shipping companies, second only to the Greek flag itself. However, owners come from more than 50 countries, with, Japan, Russia, Taiwan, the UK and the USA also figuring prominently.

The Liberian Registry is open to any ship owner in the world. In order to enter the Liberian registry a vessel must be owned by a Liberian legal entity (corporation, etc.), be less than 20 years of age and must meet high safety standards. Liberian corporations, limited partnerships, registered business companies, foundations and LLCs are free of taxation if non-resident, i.e. not beneficially owned by a resident of Liberia, or with income earned in Liberia or repatriated to Liberia.

However, competition between some IOFCs to offer the most advantageous fiscal and regulatory regime for ship owners has intensified in recent years and a number of other countries and territories now offer shipping registries. Cyprusthe Bahamas, and the Cayman Islands are among the world’s largest shipping registers, and Malta is now Europe’s largest with a total of 5,830 ships, equal to 45.6 million tonnes registered by the end of 2011, thanks in large part to its benign shipping tax regime.

The Maltese register came to prominence in June this year when it was revealed that German cruise ship operator Deilmann had decided to reflag its sole remaining German-flagged vessel, the MS Deutschland, in Malta. Citing Malta’s more favourable fiscal environment, as well its simpler administrative procedures, it has been estimated that the decision may cut the operator’s costs by more than EUR250,000 (USD315,000).

Another offshore shipping jurisdiction that has risen to prominence in recent years is the Isle of Man. The Manx registry prides itself on its high quality of service and flexibility to meet customer needs; but the right to fly the British Red Ensign as well as its highly favourable tax regime (0% income tax for non-banking companies) make the Isle of Man an all the more attractive place in which to register a ship.

The volume of registered tonnage in the Isle of Man has grown rapidly in the past couple of years. In 2010, 139 vessels were added to the register, increasing the gross registered tonnage (GRT) by almost 15% (1.6m GRT). Manx fleet tonnage surpassed 12m GRT during the year, smashing the year’s target for tonnage growth of 3%. The Registry grew by a further 12% in 2011, from 12.36m GRT at the start of the year to 13.84m GRT. Indeed, in 2012, the Manx Registry announced the appointment of several external surveyors to manage overseas audits and inspections following a marked increase in the number and geographical spread of vessels registered under the Manx ensign.

Tonnage Taxes

Shipping registries are by no means restricted to 'offshore', however. Many high-tax countries offer 'tonnage tax' regimes, under which ship-owners are charged according to the tonnage of their fleets, thus preserving employment for the host country, and in some cases they run their own registries as well, although these are often 'closed' rather than 'open' registries.

Tonnage Tax is an alternative method of taxing a shipping company’s income, using the net tonnage of the ship operated as the basis of calculating tax instead of a standard profit/loss account.

There are often a number of conditions that need to be met for a company to be able to elect use a tonnage tax system to calculate tax. For example, in the UK, companies liable to UK corporation tax and which operate qualifying ships that are “strategically and commercially managed in the UK”, can take advantage of the Tonnage Tax regime. Other stipulations include that a ship must be seagoing, at least 100 gross tons, and used for: carriage by sea of passengers; or carriage by sea of cargo; or towage, salvage or other marine assistance carried out at sea; or transport by sea in connection with other services of a kind necessarily provided at sea. A number of vessel types do not qualify, including fishing vessels or factory ships, pleasure craft (excluding cruise liners), harbour or river ferries, offshore installations, tankers dedicated to a particular oil field, certain tugs, certain dredgers, and floating hotels, shops and other vessels providing services normally provided on land.

Typically, shipping companies must elect to calculate tax under tonnage tax systems for a set period of time. In the UK for example, a company can enter the Tonnage Tax regime by electing for an initial period of ten years, although this can be renewed for another 10-year period at any time prior to expiry.

Generally speaking, electing to calculate tax under a tonnage tax system results in less tax being paid overall by a shipping company than if it was assessed under the country’s normal corporate tax regime, and this is why they are usually sold by governments as a tax incentive.

It is not always the case, however, that a company will end up paying less tax under a tonnage tax system, which is why such schemes tend to be optional. For example, a shipping group may not be able to use losses to offset profits elsewhere in the company structure if electing to use a tonnage tax system. Tonnage tax legislation may also impose certain other obligations on ship owners, such as minimum training standards, or other regulatory requirements.

Other potential pitfalls also show that it is not always plain sailing for shipping companies under tonnage tax. For instance, there is the risk that part or all of a shipping company’s operation or fleet may cease to qualify for tonnage tax part way through the election period, and under some tonnage tax regimes penalties are levied on a company if it decides to exit the tonnage tax system prior to the expiry of the election period, as is the case in Cyprus for example. Furthermore, shipping firms will have to be cognizant of additional anti-avoidance measures which are put there by governments in order to prevent abuse of tonnage tax systems.

While a number of ‘high tax’ countries have tonnage tax regimes which will cut a company’s tax by varying degrees, including the UK, Greece and Norway, several ‘low tax’ and offshore jurisdictions have also enacted tonnage tax laws, including Malta, the Cayman Islands and, as mentioned, Cyprus.

Other approaches to revitalize the shipping sectors of the traditional maritime nations are also being used. One notable and recent example in Australia, where the government hopes that new legislation providing favourable tax conditions to operators who choose to flag their vessels with Australia's new international shipping register will breathe new life into an industry that is much in decline.

The reform, described as the most significant overhaul of the Australian shipping industry in 100 years, introduces a full corporate tax exemption, providing an operator commits to 10-year registration. Other changes include roll-over relief for selected capital assets, tax exemptions for seafarers working overseas on qualifying vessels, a royalty withholding tax exemption where vessels are leased by an Australian company from foreign owners under a demise or bareboat charter, and a reduction in the depreciation period from twenty, to ten years.

In recent years, the number of Australian licensed trading vessels has been allowed to drop at an alarming rate, from 55 in 1996 to 21 today, and it is hoped that the tax reform will help arrest the decline in Australia’s shipping industry.

Other Maritime Taxes

There are, of course, many other issues for shipping companies to consider when deciding how and where to structure their businesses. Pay, employment regulations and taxation relating to crew will be important factors, and an awareness of new environmental rules is becoming increasingly important as nations seek to drive down carbon emissions through carbon taxes and other carbon reduction schemes.

In the United States, foreign shipping firms have, since a 2004 amendment, faced a 4% freight tax on US-source income and, since 1986, the Harbour Maintenance Tax which is based on the value of the goods being shipped through ports at a rate USD1.25 per USD1,000 in cargo value passing through those waters.

Concerned that such taxes are driving shipping traffic to ports in Canada and Mexico, moves are afoot in the United States Congress to reform the taxation of the shipping sector in the US. This is likely to remain a fairly low priority however, in an election year!

Aviation

For the commercial aviation sector, the combination of soaring fuel costs and flat demand through the financial crisis has meant that much of the sector is operating on razor thin margins. And given the prospect of further oil price hikes and the ongoing European sovereign debt crisis the International Air Transport Association (IATA) has said that even a consolidated industry margin of just 0.5% faces downside risks.

As yet another cost, tax, therefore, has become a hot issue for the industry. Indeed, IATA’s Director General and CEO Tony Tyler has accused governments of using the aviation sector as a ‘cash cow’ with their misguided attempts to tax the industry in the name of environmental conservation.

Tax, Tax, and More Tax

The various carbon tax schemes that are springing up in countries all over the world have become a major concern for aviation companies and airlines. In some respects, an increasing awareness that governments seem intent on taxing their way towards a cleaner environment does seem to be having a positive outcome, as many airlines and aviation firms begin to investment in much leaner fuel-burning aircraft. The flip side to this coin however, is that taking money out of the pockets of aviation companies through taxation in the first place is leaving precious little in the kitty to be reinvested in cleaner fleets.

Much of the industry’s ire has been directed towards the European Union’s Emissions Trading Scheme (ETS) which was extended to cover aviation emissions earlier this year. Under the ETS, airlines operating into and out of the EU, regardless of how long that flight is in EU airspace, will be required to surrender varying emission allowances, and will be required to purchase any additional permits outside of their free allowance. Harsh penalties will be slapped on those airlines that refuse to play ball.

The ETS has been moderately successful according to European Commission figures: overall emissions fell by 2% in 2011 compared with 2010’s data. However, irrespective of whether the ETS could lead to a cut in aviation emissions (we simply don’t know this yet), many countries are questioning the legality of the ETS with respect to aviation, and many influential figures in the industry have warned that a highly-damaging trade war is not out of the question.

In March this year, the heads of some of Europe's major airlines and aviation engine manufacturers called upon EU leaders to take action and stop an escalating trade conflict with China and other countries opposing the ETS. The nine CEOs warned that countries opposed to the ETS are preparing countermeasures and restrictions on European airlines, such as special taxes and traffic rights limitations. The letters were signed by the bosses of Airbus, Air Berlin, Air France, British Airways, Iberia, Lufthansa, MTU Aero Engines, Safran and Virgin Atlantic and addressed to Prime Ministers David Cameron of the UK, (former Prime Minister) Francois Fillon of France, and Mariano Rajoy of Spain, and German Chancellor Angela Merkel.

The aviation and travel industry has also slammed national air travel taxes such as the UK's Air Passenger Duty (APD), which, although levied as 'environmental’ taxes, are seen purely as revenue-raisers for cash-strapped governments.

Last November, the heads of Easyjet, IAG (the British Airways parent company), Ryanair and Virgin Atlantic wrote to the UK government calling for APD to be scrapped entirely. They argued that the negative impact of APD on the UK economy outweighs any benefit from the revenue raised. There are also fears that APD could have economic effects beyond the UK’s shores because the tax rises depending on how far way the traveller’s destination is from the UK. Indeed, governments as far afield as New Zealand and the Caribbean are lobbying the UK government to, at the very least, relax the system.

Although there is no evidence that ticket taxes have led to a reduction in aviation emissions, Germany has followed in the UK’s path with its own APD-style tax. There is evidence to suggest, however, that passengers are finding ways to get around ticket taxes by starting their journey from countries which don’t apply them. Recent figures suggest that this method is already impacting on passenger numbers in Germany, where for millions of people it is a relatively short drive over the border to airports in the Netherlands (which has scrapped its version of APD), Switzerland or France, for example.

Aircraft operators also face taxes on fuel, as well as airport fees and other quasi-taxes, and, if they are able to make a profit, they still face paying corporate income tax in the country which they are registered for tax purposes.

Private Aviation

The tax situation is not nearly so dire for private aviators or operators of corporate jets, however, and like ship owners they have many opportunities to reduce their exposure to tax by registering a private aircraft in an offshore or low tax jurisdiction, of which there are an increasing number with aircraft registries.

Where to register an aircraft is not a straightforward choice, and will depend on factors like the owner’s jurisdiction of residence, the type of aircraft involved, how the aircraft will be used (for example, it may or may not be used to generate income) and the ownership structure; and, of course, different permutations in terms of tax will flow from these choices.

While most corporate jets have traditionally been registered in the United States, owners must pass ‘citizenship’ and use tests in order to register such an aircraft there or remain on the US registry. Therefore, a foreign-owned corporation in the US may be classified as non-resident under the registration rules, and if the aircraft is not used at least 60% of the time within the US, it will not qualify for ongoing registration. In such a situation then, registration offshore becomes more of a necessity than a choice.

For individual owners of private aircraft, the issue of liability is of heightened importance in this increasingly litigious world. Therefore, it is common for single owners or small groups of individuals to form a company, often with limited liability, to insert a corporate veil between the owner(s) and the aircraft and thus limit their exposure to claims, for example in the event of an accident. Since many registries are located in offshore jurisdictions which have a choice of corporate entities, including limited liability companies, as well as very low or zero income tax, then the attractions of registering an aircraft in this way offshore are manifest. Moreover, owners may also benefit from the added protection of confidentiality by registering in an offshore jurisdiction, where the beneficial owners of a company are typically not a matter of public record.

The Bahamas, Bermuda and the Cayman Islands have traditionally been important jurisdictions for aircraft registrations. All three of these territories have a range of company formats available and offshore companies are not subject to income tax. As British overseas territories, English is widely spoken, making them particularly attractive to American aircraft owners, and their institutions tend to be less weighed down by bureaucracy than those of large countries, meaning that owners will typically receive a more personalised service from registry officials.

It is worth noting, however, that innovative new offshore registries have appeared on the scene over the past five years and are growing rapidly.

One of these budding new registries was launched in the Isle of Man in 2007 and, unusually, accepts both private and commercially operated aircraft. In a short time, the Isle of Man has become widely regarded as a one-stop shop for worldwide aviation business supported by the Island’s well established banking sector experienced in financing aircraft, lawyers familiar with aviation law, insurance companies which can provide cover without the addition of an insurance premium tax and corporate service providers experienced in structuring companies to take advantage of the Island’s beneficial tax regime.

Statistics attest to the Isle of Man’s growing popularity as a place in which to register an aircraft. Figures released in May 2011 showed that the Registry had grown 50% since May 2010, with the number of registered exceeding 350 aircraft. By June 2012, the 500th airplane was registered in the Isle of Man, a Bombardier Global 5000, with registration M-SEAS.

Malta is also hoping to complement its position as one of the world’s largest shipping registries with a new aircraft registry, which was created by the Aircraft Registration Act, 2010. This new Act, as well as existing laws, encourages the development of finance and operating leases of aircraft and provides clear rules on the tax treatment of the finance charge, available tax deductions to finance lessors and capital allowances for lessees. In addition, there is no withholding tax on lease payments where the lessor is not a tax resident of Malta. The Act also recognises the fractional ownership of an aircraft and regulates, among other things: the registration of aircraft and aircraft mortgages; the aircraft register; the enforcement of aircraft mortgages and other interests in aircraft; the special privileges on aircraft; and the ranking of secured creditors.

Conclusion

Like any other internationally-facing businesses, shipping and aviation companies face something of a minefield when it comes to taxation. However, as highlighted above, it is perfectly possible to reduce a company’s exposure to tax by carefully structuring a business across two or more jurisdictions, and registering a ship or aircraft in an offshore or low-tax territory remains central to such a strategy.




 

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