Tax Havens and How They Work
By admin March 30, 2018

According to a related set of figures compiled by the Bank for International Settlements (BIS) from 1995 to the end of 2007, offshore banks, on average, were receiving little more than 47% of total cross-border deposits and little more than 43% of all cross-border loans from other tax havens. Though these figures do not distinguish offshore financial centers (OFCs) and tax havens, it is reasonable to assume that a great portion of cross-border capital goes into tax havens. In 2007, the UK’s National Audit Office reported that 30% of the largest companies in that country had not paid tax in the previous year (Ronen Plan, Richard Murphy and Christian Chavagneux). Another research conducted by Sullivan points out that U.S. corporations shifted $75 billion of their taxable profits into tax havens in 2003, which deprived the IRS of between $10-$20 billion in expected tax revenue (Ronen Plan, Richard Murphy and Christian Chavagneux).

These findings clearly demonstrate that rich individuals and multinational corporations have been shifting profits to tax havens in order to avoid taxation. Therefore, it is necessary to have an understanding of what tax havens are and how they work.

The Characteristics of a Tax Haven

There is no universal definition of a tax haven. However, there are certain characteristics that can help identify potential tax havens in real world. First, for most tax havens, the financial sector is their pillar industry. Unlike financial systems in many other nations, financial systems in tax havens target wholesale finance rather than retail banking. The book Tax Havens: How Globalization Really Works points out that wholesale finance manages specialized, bulk financial transactions, often of unimaginable sums of money, trade between the financial institutions themselves, and it tends to be highly profitable while retail banking mainly focuses on financial requirements of individual savers and borrowers. Second, most tax havens offer zero or near zero rates of taxation to nonresident companies and savers (Ronen Plan, Richard Murphy and Christian Chavagneux). Third, financial transactions in tax havens are highly likely to be secretive. This is the main character that separates offshore financial centers and tax havens. Finally, it is extremely easy and cheap to set up companies in tax havens. The cost to incorporate is extremely low.

How Do Tax Havens Work?

Relocating themselves to a tax haven is the simplest way for rich individuals and multinational corporations to avoid relatively high taxation in their home country. For individuals, a new citizenship surely allows them to avoid paying taxes and regulations from the “home country.” Besides immigration, there are other ways for individuals to enjoy low tax rates and less regulation including through a permanent tourist identity. For corporations, they can relocate by the simple expedient of creating new subsidiaries, affiliates or companies in a tax haven. Two things should be known to understand how corporations benefit from relocation. First, corporations can be taxed either at a place where they make profit or at a place of residence of the company or its subsidiaries. In practice, the residential principle remains a dominant position. Second, corporations are taxed on profit rather than turnovers. Conclusively, corporations can avoid paying the home country’s taxes as long as they can transmit their profits to subsidiaries that are located in tax havens.


It is obvious that governments all around the world need tax revenue to support their operations. However, tax havens provide a way for rich individuals and multinational corporations to avoid paying their home country’s taxes. Because of this, it is likely that as the scale of tax havens continues to grow governments all around the world might begin to take actions to regulate their citizens’ offshore financial activities.

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