What’s wrong with offshore companies?

The writer is a freelance contributor.

I must confess that my beloved country is a happening place. Hardly a day passes by when the teeming millions are treated to yet another spectacle of entertainment. This time around, it’s a set of ‘leaks’ about off-shore accounts of the ruling family that has set all of Pakistan abuzz.

Although the phenomenon of the wealthy stashing their wealth outside their own country is not new, the Panama leaks seem only to have brought a forgotten chapter into perspective again. So let’s look at this business of offshore companies and what it entails for Pakistan.

First, we need to understand the logic of the existence of offshore accounts. This aspect is important if we have to decode all the recent controversy surrounding illegal wealth stashed in these accounts. It will be much easier to understand offshore companies and their financial dealings if one understands the phenomenon of outsourcing. The basic logic behind outsourcing is avoidance of higher cost of doing business.

If Western companies outsource their work to India, it’s because the labour in India is cheap. This helps them save on their cost of operations (employee remuneration is the biggest of these costs). In a similar vein, offshore companies owe their existence to lower taxation rates. Lower tax rates, in return, mean lower costs of carrying out financial transactions. All of these offshore companies are financial firms that take advantage of lower tax rates and lax laws to carry out their business (corporate tax rates in the financial centres like London can be prohibitively high).

Over time, however, this legal pursuit has morphed into a multibillion dollar business that contains shades of dubious financial operations, illegal money and questionable ways of earnings.

In an age where required information of every sort is just a click away, siphoning off wealth to offshore accounts is easier than ever. Just Google offshore investment and you’d be spoilt for choice. The initial investment in less attractive places (like the Cayman Islands) starts from $550, while the glitzy places like Switzerland require an initial investment of $5000 or more. One of the most attractive features about these structures, though, is that they are under little or no requirement to publish their financial operations and details of their clients. In other words, they are legally allowed to carry their operations without divulging much. There are no confirmed official stats about their numbers.

What little bit is known about them indicates that there are a few big players who have numerous sub-companies and sub-branches (one leading company is reported to have over 300). And the main reason that they have so many subsidiaries is that it makes tracking financial transfers difficult. They ply their trade in various professions, usually giving a healthy return to their investors. In times of recession and curtailed economic activity, these constructs become even more attractive.

And it’s not just professionals in accounting and finance who have found this business attractive. Law firms are into this business too – big time. The two prominent ones are Morgan & Morgan, and Mossack Fonseca. The latter is at the centre of controversy in the latest revelations. Besides these, there are hundreds of firms that provide administrative services to offshore companies.

In the context explained above, where does the Sharif family (and others) fit into all this? Have they done something wrong or is there a case of a mountain being made out of a molehill? My guess is that actually there is a fair case of dubious dealings. To understand this, one would have to keep in context the interview of the PM’s son and the PM’s brief address to the nation in the aftermath of these allegations. The logic given by the PM’s son, in explaining their offshore accounts, was that they offer tax advantage. In other words, they charge lesser tax. But this argument falls completely flat given the fact that Pakistan’s taxation system is one of the friendliest to the rich of the country.

This has been the case throughout our history. Take the total wealth of the rich in Pakistan and measure it against the tax that they pay, and you will find that it comes out to a miniscule percentage of their total wealth. Compare it to the fee that they pay to offshore companies, and I bet that you’ll find that rich people have it better in Pakistan rather than an offshore destination. Mind you, I am not even talking about the billions doled out in subsidies that indirectly goes to their pockets – millions that are not taxable (as in the case of agricultural subsidises, which disproportionately benefit rich landlords). To say that they invested money in offshore accounts to realise a tax advantage doesn’t sound logical at all.

The PM’s address only serves to complement my position on this issue. Just take the gigantic money amounts that he stated in his address. That itself is a reflection of the fact that he and his family have had it so good in Pakistan that they have absolutely no need to invest their money in offshore accounts. How else can one explain their sprawling estate in Raiwind and multibillion businesses? And last, but not the least, what made the PM and his family members afraid that they decided to use dubious offshore accounts rather than direct, formal channels (remember that offshore companies are famous for protecting the anonymity of their clients and their invested amounts).

In conclusion, there is nothing wrong with an offshore company since it is basically an investment outlet. They take advantage of the fact that, compared to the high corporate tax rates in financial centres like London, their tax rates are very low. The problem lies not with them, but in the way that they transact their business, and the lax laws in the country from where the investment comes in.

In a modern economy, all countries are in need of outside investment and they do everything to facilitate it. Offshore companies are one way of doing it, among many others. And their continued existence owes primarily to the fact that they require little capital for their operations, are good at keeping customer confidentiality and have been giving healthy returns to their investors. Who cares about whether the incoming investment is illegal or legal as long as it’s coming into the country.

As far as Pakistan is concerned, the problem lies not in the Cayman Islands or Swiss bank accounts but in lax domestic laws and loopholes in the administrative machinery of the government. If anybody is serious about addressing concerns like offshore accounts, then loopholes like SROs will have to be done away with. That doesn’t seem to be happening anytime soon. Therefore, stay put. More entertainment is in the offing.

Tailpiece: On behalf of the Pakistani nation, I request the PM’s son to come back to Pakistan and take over the running of our loss-making government entities. If he can take out billions in loans and return it within a few years, this means that he is a wonderfully savvy businessman. We need such a savvy businessman here, not in London.

Email: shahid.mohmand@gmail.com

Twitter: @ShahidMohmand79