Congressional moves against Bermuda were renewed unexpectedly in May, when Reps. Nancy Johnson and Richard Neal from the insurance-rich states of Connecticut and Massachusetts introduced a second round of proposed legislation to “close the Bermuda loophole”, as the proponents' spin has it.
The legislation would represent a break with tradition; most countries tax their own people and residents. If the US reaches out to tax foreigners in other lands, every other country in the world would feel free to tax US corporate interests in their own countries with similar eagerness.
Before there was time to digest the news came a story that the US's resolve to beat the tax havens was faltering. Had President Bush lost faith in the OECD's behaviour and would he withdraw from its activities? Andres Oppenheimer of Knight Ridder wrote that the OECD “bad boys lists had worked ... and moved several countries – including the Cayman Islands and Bermuda – to clean up their act to (win) OECD approval.” The spin on that line is received differently in Bermuda and the Cayman Islands.
Yet there it was, the very next day, more or less. “Bush to OECD: Drop Dead”. Treasury Secretary Paul O'Neill wrote in a newspaper article that the effort by the Paris-based Organisation for Economic Co-operation and Development (OECD) was “too broad and not in line with the Bush administration's tax and economic priorities”.
O'Neill wrote what may amount to a death knell for the Europeans. “I am troubled by the underlying premise that low tax rates are somehow suspect and by the notion that any country, or group of countries, should interfere with any other country's decision about how to structure its own tax system,” O'Neill said.
Those words must have gone down well in the Caribbean. Two weeks earlier, Antigua had dropped a letter off to President Bush, writing on behalf of the Caribbean community. The message was delivered at the riotous Quebec City meeting of world powers.
The OECD tax regime, the Caribbean islanders told the President, “poses an immediate and detrimental threat to countries in the region.” He was urged to “let the OECD know that your administration will not agree to the imposition of sanctions against your friends and allies.” Pulling no punches, the Caribbean communiqué blamed “left-wing ideologues in certain European treasury departments who believe in the notion of high taxation”.
President Bush is in the throes of distributing a $1.3trn tax cut and was in no mood to stand by and let his Caribbean neighbours be caned for having low taxes.
The ‘Bush doctrine' on taxes was crystal clear, although its authorship was initially confused. At about the time Donald Rumsfeld broke off diplomatic relations with the Chinese and then withdrew his withdrawal, blaming secretarial errors, O'Neill's article appeared in The Washington Times, originally assigned to one of his staff, before being reissued as O'Neill's.
Explaining government policy is O'Neill's job. His predecessor in the Clinton administration was Lawrence Summers, who was equally adamant that the OECD initiative was a good idea. “In today's global economy, it is vital that we put an end to international tax practices that encourage tax evasion and improper tax avoidance and that distort capital flows,” Summers said in 1999.
No problem there for O'Neill. “The United States must make every effort on our own to obtain the necessary information to enforce the US tax laws,” O'Neill said. “We cannot tolerate those who cheat on their US taxes by hiding behind a cloak of secrecy.” He recommended, tellingly, that the work of the OECD be centred instead on catching non-taxpayers onshore, by means of co-operation and information exchange.
The news will be well-received in the islands. Bermuda and the others which caved in early have benefited in different ways. Insurance is booming in Bermuda with ‘the OECD stamp of approval'. In the Caymans, the government, which came to power after a national election in which its opposition to the OECD was an issue, will be seen as conquering heroes as the trade blocs line up for the next round of history.
The main driver behind the Bush doctrine was simple enough to divine, although everyone had the good grace not to mention it. With the tax havens forced to regulate and price themselves out of existence, the next lowest offenders in the resultant new world order might have been of the stripe of Jersey, Guernsey, Dublin and quite quickly on from there up to Uncle Sam. Brussels dictating policy to Washington? Tax policy? Sounds unlikely in that light.
And so the Caribbean islands may have been saved. Things will never be the same again, however the OECD firecracker sputters and burns before it finally fizzles out.
“An international initiative to identify and eventually sanction countries used as tax havens could improperly interfere with the laws of those countries,” O'Neill wrote, framing the Bush doctrine.
The relevance of all this cannot be lost on those attempting to interfere with Bermuda's laws by means of the renewed Congressional push to tax reinsurers.
Johnson and O'Neal's Reinsurance Tax Equity Act 2001, code-named HR 1755, seeks to impose a new tax on all foreign-owned US insurance companies. The bill follows complaints to Congress by several large US insurers, including Chubb and Hartford, that by moving to Bermuda, American insurers could avoid paying US taxes. “They felt this gave a competitive advantage to those based offshore in low tax or no tax jurisdictions,” said press reports.
Last year's Congressional moves were aimed exclusively at Bermuda. They stalled in committee. This year's proposal targets everyone offshore, which in insurance terms means not only Bermuda and the Cayman Islands, but also Gibraltar, Guernsey, Jersey, Monaco, Switzerland and technically, Dublin, as well as half a dozen Caribbean jurisdictions which are keen to build meaningful infrastructures suitable for large reinsurance operations. It would also establish the US as the official lowest taxpayer in the reinsurance world, technically speaking.
The new proposals, in essence, would deny a US income tax deduction on the premiums on the offshore reinsurance of US risks.
These denied deductions would be allowed later only if reinsurance recoveries were received. Insurers showing they are subject to foreign tax equal to a percentage of US corporate income tax or volunteering to be taxed based on income relating to US business could avoid the deduction deferral. At least one major, Allianz Re, already voluntarily pays that tax on its Bermuda operations, believing that you can make money in Bermuda even after tax.
Spokesman Wendy Davis-Johnson of Bermuda-based ACE, commented: “Cloaked under the moniker of tax fairness, representatives Nancy Johnson and Richard Neal have introduced a protectionist measure aimed at improving the competitive advantage of several US-based insurance companies by increasing taxes on their internationally-based competitors.
“The bill would extend the reach of the Internal Revenue Service in international tax matters by exempting US insurers from the proposal if they prove to the satisfaction of the US Treasury that their parent companies pay a specified level of tax in their home countries. Presumably a foreign corporation not otherwise subject to US taxation would have to submit to audit by the IRS in order to prove its case, increasing administrative costs on both public and private sectors,” she said. ACE has been particularly vociferous on the subject.
“The Johnson/Neal bill is the third in a string of increasingly harsh proposals advanced by a handful of US companies, all of which violate the letter and spirit of US international trade and tax policies and could have severe consequences globally on US industries and trade relations,” ACE said.
Introducing the bill to the House of Representatives, Rep. Neal said that tax advantages “for some foreign companies over US-owned companies is patently unfair and should be eliminated immediately. Our legislation solves the problem by deferring the deduction for reinsurance premiums until the loss is paid in recognition that the primary insurance covers US business risk. This would only apply when reinsurance to parent companies in tax havens is used.”
Neal added: “This is clearly a very technical issue, but that should not stop Congress from moving quickly to shut down this loophole. If we do not stop this practice, other US companies will be forced to relocate to Bermuda or be bought by a Bermuda-based parent in order to stay competitive.”