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Bahamas At Crossroads Through Financial Reform

By Veronica Miranda

The Bahamas is considered a tax haven for both companies and people alike. Many companies that operate in high-tax jurisdictions take advantage of the low-tax environment in The Bahamas by shifting their profits without engaging in real business in this locale. This tax status has effectively allowed the Bahamas to be a centre for the financial services industry. However, with international bodies such as the Organisation for Economic Co-operation and Development (OECD) implementing their initiatives regarding “harmful tax practices”, this status is changing.

The European Union (EU), too, wants to level the playing field and eliminate tax havens and other jurisdictions that operate under so-called “harmful tax practices”. The goal is to create conditions for a more stable global economy. This effort has resulted in Criterion 2.2 of the annex to the conclusions of the EU Council, dated November 8, 2016, which states that the existence of tax regimes which facilitate multinational financial structures that attract profits without real economic activity are a threat to the principles of fair global taxation. This Criterion enforces three actions to counter various forms of tax avoidance. These actions include the removal of preferential exemptions; clear identification of a company’s beneficial owners; mandatory economic substance of an International Business Company (IBC); and the combating of Base Erosion and Profit Shifting (BEPS). The EU and OECD issued several threats to The Bahamas to comply or else be placed on a global blacklist that would discourage other countries from trading and conducting business with The Bahamas. Such “blacklisting” would jeopardise the financial services industry, which makes up 25 percent of the Bahamian economy. However, it has created a dilemma regarding the most appropriate form of compliance. All degrees of compliance, from non-compliance to total compliance, have different repercussions for the Bahamian economy.

BEPS is intended to counter the strategy of exploiting gaps in tax laws to shift profits from high-tax jurisdictions to lower tax jurisdictions to avoid paying taxes on income or profits, as defined by the OECD. These tax gaps are alleged to have been exploited by companies established in The Bahamas. The “action plan” to eradicate BEPS practices, published by the OECD in 2013, contains 15 actions to be implemented for its complete eradication in low or no-tax jurisdictions, such as The Bahamas, and includes four BEPS minimum standards. BEPS Action 5, an action which The Bahamas has recently implemented, is one of the four minimum standards addressing the issue of preferential tax regimes and tax transparency. These standards correspond with the annex to the EU Council conclusions, which aim to promote tax transparency and fair taxation. Action 3 of this annex aims to enforce the implementation of anti-BEPS measures. With both the OECD and EU having imposed their concordant initiatives at the same time, The Bahamas was forced to implement them to avoid being blacklisted.

To further comply with these anti-BEPS measures, it is possible that the government may consider introducing a low rate corporate tax, thus eliminating The Bahamas’ status as a tax haven. However, statistical evidence implies that the eradication of BEPS through the introduction of taxes would not only have little impact on government finances, but would also drive away investors in the offshore financial services industry. Moreover, the downfall of this sector due to the introduction of these taxes has been foreshadowed, which would have negative repercussions for the Bahamian economy. According to James R Hines of the University of Michigan Law School, studies find that multinational firms which are located in low-rate tax areas create more employment, own more property, and have more equipment because the money they are saving on taxes is redistributed into other sectors of the business. This business activity itself is a form of base erosion from the standpoint of high-tax countries; companies are reallocating funds that would be used for taxes to create a more active business, thus implying low-tax jurisdictions attract business activity. With The Bahamas having implemented the BEPS minimum standards, business activity may possibly decrease, meaning less jobs would be created for Bahamians and less land and property would be bought, which are all activities that contribute to government taxes.

The BEPS actions implemented in The Bahamas are in direct alignment with the Commercial Entities (Substance Requirements) Act 2018. This Act is targeting those Bahamian IBCs and Companies Act companies (CACs) without any real economic substance in this jurisdiction, but which conduct certain relevant activities as defined in the Act. These companies need to have a physical presence along with the active conducting of profitable business. This Act aims to ensure that companies are no longer able to take advantage of the tax gaps between The Bahamas and higher-tax jurisdictions, which directly relates to BEPS. The enactment of the Substance Requirements legislation in The Bahamas ensures that Bahamians are the beneficiaries of this economic substance.This means that jobs might be created, and business opportunities for Bahamians may present themselves, due to this Act.

Additionally, the Register of Beneficial Ownership Act 2018 promotes complete transparency for IBCs and CACs established in The Bahamas. Accordingly illegal activity is likely to be deterred, thus making The Bahamas a beneficiary from an enhanced reputation and improved political relationships, while paving the way for compliant business.

Moreover, The Bahamas is recognised as both an International Financial Centre (IFC) and developing country by the OECD. This means that The Bahamas is subject to international initiatives such as the standard of transparency and the exchange of information for tax purposes, thereby promoting complete transparency for the financial services industry. However, according to data from both the Bank of International Settlements (BIS) and Capital Economics, net assets held in IFCs declined by 75 percent from 2009 to 2017, the period of time in which these reforms were being introduced and implemented. According to the World Bank, these reforms have not yet yielded substantial benefits, especially in developing countries such as The Bahamas. This means the implementation of these Acts might not help in the development of the financial services industry of The Bahamas, and might even contribute to the downfall of this sector. However, the long-term benefits of these initiatives have not yet been considered.

In the short-term, IBCs and CACs established in The Bahamas may be liquidated, and the business previously conducted by them could move to low-tax jurisdictions that have not yet implemented the aforementioned international initiatives. This would have the effect of jobs created by these companies being lost in The Bahamas. Conversely, long-term benefits will likely take effect when the OECD and EU impose the same initiatives on the remaining non-compliant tax havens. Consequently, business may return to The Bahamas due to the commendable reputation it has gained from fully complying with the powerful international initiatives. Normally, IFCs’ lack of growth is due to the risky investment environment surrounding this sector, but the implementation of the many aforementioned initiatives would effectively eliminate this problem in The Bahamas. This newly-gained reputation would attract international business and investors into the Bahamian financial services sector due to the secure and stable image of this IFC.

NB: Veronica Miranda is a 10th grade student at Lyford Cay International School.

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