Tax planning tool
A private foundation can offer an attractive solution to the problem of residency and control when setting up international corporate structures. Typically, international corporate structures are arranged to save tax on the profits realized.
The anti-avoidance legislation enacted by many countries aims to tax the undistributed or untaxed profits of low-tax-paying companies as though those profits had been received by the shareholders. The different legislation's achieve this in different ways but normally they focus on residency and control - the key criteria to determine if an international corporate structure is taxable.
Residency is determined by examining in which country (jurisdiction) the international corporate structure has been incorporated (legally domiciled) and the location of the central management and control of the international corporate structure.
Control is determined based on the ownership of the shares. The assumption is that the ones who own the shares have the maximum power to decide in the company. By exercising this power, the shareholder(s) can decide when the profits are distributed to the shareholders. This is also referred to as the dividend right of the shareholders.
One of the key characteristics of a private foundation is that it is an orphan and independent legal entity. The term orphan means that a private foundation does not have shareholders or owners; it only has beneficiaries.Independent means a private foundation is its own legal entity; it comes into existence following the completion of the incorporation process with an entry made in the register of foundations.
Using a private foundation, one can effectively address the issues of residency and control. By using a private foundation to hold the shares of an international corporate structure, the taxpayer can effectively defer or postpone the payment of taxes legally, as the following example illustrates.
An international businessman, Mr. X. Porter, wishes to set up an offshore company to trade goods between South East Asia and the West. This is a start-up operation. Mr. X. Porter will only buy goods when he has pre-sold the goods and worked through letters of credit, meaning there is no start-up investment.
Mr. X. Porter expects to make an annual profit of $1 million USD after the first year of operation.
Typically, such businessmen would set up an offshore company and arrange for the affairs of that company to be managed by offshore directors so that the company could operate completely free from tax. However, because this businessman is the shareholder of this offshore company, anti-avoidance rules would attribute the profits directly to him as a taxpayer, thereby removing the anticipated tax benefit.
As no start-up capital is required, Mr. X. Porter could use the share capital amount of the offshore company, for example $10,000, to incorporate and fund a private foundation.
The private foundation would then use these funds, as capital to incorporate and fund the offshore company. By doing this, the private foundation becomes the owner of the shares in the offshore company. As a result, the annual profits of $1 million USD can be shielded from taxation until such time as they are withdrawn from the international corporate structure and paid to Mr. X. Porter.
A legal, effective, and indefinite tax deferral is thereby achieved.Furthermore, the undistributed profits in the international corporate structure can be reinvested, tax-free, into hard assets such as stocks, shares, real estate, or any other assets deemed appropriate.
Care must be exercised when designing and implementing international corporate structures. The example given above does not provide the described benefits in all circumstances.We recommend for you to contact and be guided by a professional financial advisor before attempting these types of arrangements.