Two-way street

The crackdown on offshore financial centers, initiated by the Organization for Economic Cooperation and Development (OECD) in April 2009, was the starting gun in a frenzied race for compliance. Jurisdictions were placed on one of three lists – white, gray and black – depending on their transparency and cooperation over tax matters. Gray-listed offshore financial centers (OFCs) rushed to sign the 12 tax information exchange agreements (TIEAs) required to move up to white.

As of January, Seychelles hadn’t signed a single TIEA – and yet the jurisdiction met all the OECD’s requirements from the get-go. This is because the Seychelles government has eschewed basic tax information exchanges in favor of double taxation agreements (DTAs), of which it has 12.

"A TIEA just does one thing: It provides for exchange of tax information between the two countries. For a place like Seychelles that doesn’t levy tax on foreign-sourced income and a place like the UK, it’s a one-way benefit – Seychelles is helping the UK authorities collect tax," said Simon Mitchell, a consultant to Mayfair Trust, a Seychelles corporate services provider.

Better deal

A DTA includes all aspects of a TIEA – Article 26 concerns the exchange of tax information – and then some. Under a DTA, Seychelles can take its investment structures onto the territory of the counter signatory and benefit from the offsetting of tax liability. This effectively opens up new channels for the offshore business sector.

The Seychelles Companies Special License (CSL) exists for this very purpose. Only tax resident enterprises – not the plain-vanilla international business companies (IBCs) designed for broad use and minimal disclosure – can benefit from DTAs. Using a CSL, an enterprise is able to avoid Seychelles’ 40% local business tax rate in favor of a 1.5% levy. In this way, the structure is both tax-efficient and subject to sufficient regulatory scrutiny. Amongst other things, companies must file audited accounts, hold annual meetings and submit names of directors and shareholders to the government registry.

Neil Puresh, a director at corporate services provider Intercontinental Trust (Seychelles), notes that the CSL has been particularly successful when used with the Seychelles-Indonesia DTA, which reduces the withholding tax on outbound dividend payments from 20% to 10%. "There have been quite a number of registrations from our point of view," Puresh said.

Chinese CSLs are not quite as popular, which is generally put down  to competition from other OFCs – Hong Kong and Singapore both have DTAs with China and they take the bulk of the holding company business – and unfamiliarity. But Seychelles has the edge over its Asian rivals on dividends. Firms in all three jurisdictions are taxed 5% on dividend payments generated by mainland Chinese enterprises, rather than the standard 10%. However, if a Hong Kong or Singaporean company’s holding in the Chinese enterprise exceeds 25%, it doesn’t qualify for the tax break. A Seychelles firm can benefit from the discount regardless of the size of its shareholding.

"It is a very niche area. Investors that have less than 25% ownership are most likely to be mutual funds and private equity funds," said Peter Burian, a director at Mayfair Trust. "It takes time for a structure like this to establish itself and it’s really a matter of promoting it effectively."

Another reason for the slow uptake in China is that until 2009 there was no need for investors to channel their money through tax-efficient vehicles. That changed with the introduction of the Enterprise Income Tax Law. First of all, companies based offshore that are effectively managed in China are counted as tax-resident enterprises. Second, non-tax resident enterprises (a company with a CSL is effectively managed in Seychelles) have to pay the 10% withholding tax on dividends.

A DTA is the logical way around these requirements, but it is still early days. The State Administration is still in the process of clarifying the finer points of the new law. Once investors know where they stand – and the authorities become more zealous in their enforcement of the rules – offshore restructuring will become a pressing issue.

"Seychelles will see more business coming out of China because the atmosphere in China is headed in the direction of using OFCs that have tax treaties with the country," said Martin Crawford, CEO of Offshore Incorporations Limited. "The CSL will grow in popularity."

A few flaws

The DTA approach is not perfect. Tax treaties have a tendency to draw attention if overused, resulting in investigations by the tax authorities of those they suspect of abusing the system.

The Seychelles-China treaty has a long way to go before it attracts this kind of scrutiny, but there are other pressures. According to Mayfair Trust’s Mitchell, there is talk of the OECD raising its compliance requirements. Rather than settling for 12 DTAs, the organization might insist on more agreements and that they must be with OECD member nations, in which event none of Seychelles’ existing treaties would qualify.

"Some countries don’t see a DTA with Seychelles as being necessary, because of the trade, engagement and investment potential," said Conrad Benoiton, managing director of the Seychelles office for law firm Appleby. "If we can’t get a DTA then we would negotiate a TIEA. Our long term strategy is not to provide an evasive environment. If information is required, we will provide it."