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Tax Haven

Reviewed by Annapoorna | Updated on Sep 30, 2020

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Introduction

Have you heard of countries charging little or no income tax at all? These include Bermuda, Singapore, Netherlands, and Luxembourg to mention a few. They are the worlds favourite tourist destinations. These countries are referred to as the tax havens.

What is Tax Haven?

Tax havens, also known as the offshore financial centres, are countries or jurisdictions that offer minimal tax liability to foreign individuals and businesses. They do not need businesses to operate out of their country or individuals to reside in their country to receive benefits.

The countries that are tax havens profit by attracting capital to the banks and financial institutions established in such countries. In turn, these can be used to build a flourishing financial sector, whereas individuals or businesses benefit from tax saving. In most of the tax haven countries, tax can range from nil to nominal digits in comparison to high tax rates in the country of citizenship or domicile. So, a business may want to set up its operations in a tax haven and save considerable tax outflow.

The Organization for Economic Cooperation and Development (OECD) has laid down criteria to qualify as a tax haven in 1988. Some of these criteria are: 1. Nil or nominal tax on the relevant income. 2. No effective exchange of information. 3. Non-transparent. 4. No substantial activities occur.

There are several internationally followed procedures to maintain an arms length pricing of a product so that the low price is not paid in a tax haven and high pricing is avoided in high tax rate countries. Accordingly, the transfer pricing provisions of income tax law defines the situations that need the arms length pricing. One of them is artificial price distortion. A Multi-National Company (MNC) sells goods or provides services to a controlled entity in the high-taxed country at high prices and in tax havens at a low price. Fixing a transfer price for the transactions done in tax havens will redefine the profits and accordingly leave the assessee to pay a uniform amount of tax. Without this, the country's due share of the revenue may get affected.

During the filing of income tax returns, Transfer price shall be recomputed. It is due to check the reasonableness of international transaction. Accordingly, profit and taxes are recomputed.

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