Offshore or Onshore?

Andrew Rogerson LLB (Hons) TEP

Canadian banks and trust companies have a major presence in the Caribbean. Canadian tourists to many of the island tax havens are often surprised to see the same logo of their bank in their home town. Many would be even more surprised to learn that The Cayman Islands is the worlds 5th largest finance centre and has more banks and registered companies than it does inhabitants.

What is the current significance of "the offshore" for Canadian entrepreneurs and investors.

Until recently, the offshore trust was used, to good effect, to shield the assets of Canadian residents from domestic income tax. That advantage has largely dissapeared in respect of trusts where the settlor (person who contributes the assets) and the beneficiaries are Canadian resident. Offshore trusts are, however, still very much alive and well. They may be used, with the blessing of the Canada Revenue Agency, to shelter growth in the assets of landed immigrants for a period of 5 years. Trusts in which grandparents overseas establish a trust for the benefit of children and grandchildren in Canada are still tax effective. Trusts used to hold non-income producing assets continue to work just as well as they always have done.

The main advantage of the offshore trust is its traditional use: that of protecting assets from others who have a hostile intent. Once a Canadian resident transfers his assets into trust, he sheds himself of legal title and, after a prescribed period, the assets are free from the claims of creditors. This type of scheme is of particular use to entrepreneurs, company directors and professionals. While insurance is important for all such groups, there are always the times when the policy does not pay out, or the coverage is insufficient, or one cannot obtain coverage at an economic price. It is a sad fact of life that the more affluent one becomes, the more one becomes a target for hostile litigation. Even if the litigation is without merit, it can tie up valuable resources and manpower for years. If, prior to commencing proceedings against you, a potentially hostile litigant performs a search that reveals no assets recorded against your name, he or she may think twice before commencing an action. If proceedings are commenced, then many offshore finance centres (the new name for tax havens) have strict limitation periods that lean in favour of the debtor.

The Cook Islands provides considerable hurdles for a creditor to overcome. Firstly, he or she must seek the leave of the court in Rarotonga to even bring the action. Secondly, if leave is granted, he must prove beyond reasonable doubt (the criminal standard) that the transfer into the trust was made with the intention of defrauding a creditor. No action may be brought in respect of any transfer that took place before, or more than two years after, the cause of action arose. If the settlement takes place within the two year window, then the creditor must bring an action in the settlor's home jurisdiction, within 12 months of the transfer of assets to the Cook Island trust alleging some sort of debt or damages. He must then commence a further action in the Cook Islands' courts within two years of the transfer of assets into the trust. If the creditor does not comply with both of these limitation periods, then the claim will be statute barred.

The Cook Islands' regime marks the high water mark of debtor friendliness. Caribbean jurisdictions have similar regimes, but are slightly more neutral. In the Bahamas the time limit is 2 years from the date of disposition. Fraud on the civil standard of proof (balance of probabilities) has to be proved in order to have the disposition set aside. Even then, beneficiaries who have bona fide received benefit from the trust are permitted to retain what has been distributed to them. In Barbados, creditors have three years to apply to set aside the terms of a trust. An intention to defraud, on the part of the debtor, must be established. A successful creditor can only set aside such parts of the trust as have caused him prejudice, not the balance.

Once established, as indicated above, legal title rests with the trustees and the settlor and / or his family may become beneficiaries and entitled to receive discretionary distributions. It is well settled that with a properly established trust, there is no right on the part of the beneficiaries to require payments to satisfy their creditors. Accordingly execution against such a beneficiary could prove fruitless.

Laws governing the trust will be those of the offshore jurisdiction - not those of Canada. The laws of the offshore jurisdiction are likely to be much more favourable to the debtor than to the creditor. Generally, the self-interest of an offshore finance centre is best served by a legal regime that upholds the sanctity of a trust under attack from a disgruntled creditor of the settlor. In most offshore finance centres, a high proportion / the majority of the population is employed in the trust and banking sector. Hence, local laws are designed to protect confidence of international investors in their offshore trust industry.

The net result of the above is to discourage frivolous lawsuits and to encourage reasonable settlement offers from more legitimate complainants.

Other than asset protection purposes, the offshore trust is a helpful structure to ensure continuity of succession to business assets and an orderly distribution of their fruits. These considerations may be particularly relevant with, say, a family company. Typically, a number of children of the founder own shares, but only one of them has the experience or skills to participate in the active management of the enterprise. Direct ownership of shares would normally provide all siblings with full proprietary rights - enabling them to vote on the direction of the business. The aspirations of all parties and the welfare of the business can often be best accommodated by having an offshore trust hold legal title to the shareholding in the company and use the trust as a means of distributing dividends. That way business decisions are taken by those who understand and are not influenced by "family" motivations. Family members thus receive an income from the business - not as dividends directly- but as distributions from the trust.

Business considerations apart, offshore trusts are often utilised to avoid the publicity that ensues from the disclosure of one's Will upon it being probated. This is in addition to saving probate fees.

Some of these objectives may be achieved by on-shore trusts too. Lawyers experienced in this field will canvas every avenue in tailor making a plan to suit your requirements.

As is commonly known, there is a Double Taxation Treaty between Canada and Barbados. Capital Gains of a Barbados trust realised in Canada are taxable under the treaty in Barbados only. Thus, a Barbados trust may often be effectively utilised to hold shares in a Canadian company or for real estate transactions. So far as International Business Corporations are concerned, Barbados' taxation is at the rate of 2.5% for the first US$10m of their profits and gains, reducing to 1% on such over $30m. Dividends paid to a non-resident are free from withholding tax.

Offshore finance centres are efficiently used by Canadian entities for many legitimate purposes such as employing consultants, say in the oil industry, whilst overseas; as a tax effective conduit for sales to third parties in other countries and as the location for captive insurance companies.

For hundreds of legitimate reasons, the use by Canadian resident individuals and corporations of offshore finance centres continues in a healthy fashion.

Andrew Rogerson is an Ontario Barrister, Solicitor & Notary Public with substantial experience in offshore tax havens. He is a Fellow of the Society of Trust and Estate Practitioners (STEP) whose practice encompasses Estate Planning and Asset Protection. Contact Andrew Rogerson

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