There are benefits with offshore investments, but you need to balance the risk and reward.
A recent episode of Dragon's Den showed a complicated corporate group situation headed by a company based in the British Virgin Islands (BVI). Much has been made of the frosty atmosphere between the chairs of two adjacent Dragons over a difference of opinion on matters of non-UK domicile, so throwing offshore companies into the Den could be considered incendiary.
But what is an offshore company, why do businesses incorporate in far flung lands, and what is the effect for investors?
Offshore company or not
For tax purposes, a company will be considered a UK company if it is incorporated here, or if its centre of management and control is found to be in the UK.
While the first criterion is relatively easy to determine, the second may be less so, but in simple terms is concerned with the location of management decisions; a Monaco company may be treated as a UK company if all the board meetings (for example) take place in Slough.
Why incorporate offshore?
Often, companies will incorporate in different territories if they have a base there, which may be their customers, suppliers or manufacturers.
Strictly speaking, in tax law, there is nothing wrong with incorporating overseas, but HMRC do appear to be somewhat suspicious. Under EU law, the UK cannot impose any kind of tax penalty to businesses that choose to incorporate in the EU over the UK. HMRC has accepted this point, in theory, although recent tax cases are evidence of a grudging compliance.
However, there is a huge difference, certainly from a potential tax avoidance perspective, between a company incorporated in Germany owing to suppliers and a company incorporated in a 'tax haven' jurisdiction, such as BVI or the Cayman Islands.
Tax havens typically offer very low or non-existent domestic tax rates, which can make them attractive to investors as their investment can benefit from an effective 'gross roll-up', where profits can be retained within the company, or paid out as dividends, without having corporation tax deducted beforehand.
Other considerations for investors
UK resident investors are taxed on their worldwide income, so any dividends or interest paid on an investment will be subject to UK income tax.
If there is any foreign withholding tax deducted, in the assumed absence of a double taxation agreement (tax havens are traditionally not fans), this may be difficult to recover and is unlikely to be available for set off against a UK liability.
Any gains on disposal will also be chargeable to UK capital gains tax for resident and ordinarily resident investors, but there may be additional implications arising in the country in which the company is resident, such as those for Spanish shares.
Of course, exchange-rate movements could affect both your income return and your capital gain on the investment. And don't think that just because you bought and sold the shares for the same dollar price for example, this means you cannot generate a gain -- if the exchange rate has moved in your favour, you will need to pay tax on it.
However, non-UK domiciled investors may find offshore investment a very interesting prospect as they may be able to benefit from the remittance basis, such that any income or profits on disposal, from an investment are only taxable to the extent that they are remitted (i.e. brought into) the UK.
Additionally, non-UK assets, such as foreign company shares, are excluded from the estate of non-UK domiciled people for inheritance tax purposes.
The bottom line? The trouble of an offshore investment needs to be worth any potential increased return.
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