The Panama Papers: Taking a New Look at an Old Problem

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On April 3, 2016, the International Consortium of Investigative Journalists (“ICIJ”) published more than 11.5 million documents connected to Mossack Fonseca, a Panama law firm that helped establish offshore financial operations for some of the world’s wealthiest power players. The implicated offshore operations allegedly failed to adhere to transparency and beneficial ownership reporting requirements thereby permitting some corporations to operate behind a veil of secrecy and avoid taxing authorities around the world.

The release of the Panama Papers has prompted a new firestorm of international scrutiny and proposed reforms regarding an old problem. In the United States, the revelations of the Panama Papers have reignited support for legislation aimed at reducing the amount of revenue loss at the federal level through the use of offshore financial operations. The Stop Tax Haven Abuse Act, Senate Bill 174/House Bill 297, was first introduced in 2005 by former Senator Carl Levin and was most recently introduced in January of 2015 by Senator Sheldon Whitehouse of Rhode Island. The Act proposes a series of changes to tax withholding, information reporting, and liabilities. Specifically, the Act would require: 1) the Securities and Exchange Commission to issue rules requiring issuers to include in their annual reports information or each tax jurisdiction they are in; 2) banks and brokers that discover, through money laundering due diligence, that the beneficial owner of a foreign account is a U.S. taxpayer to disclose that information to the IRS; and 3) investment advisers and corporate formation agents to establish anti-money laundering procedures.

State governments are also paying close attention to this issue. Despite the connotations of the phrase “offshore,” the scandal hits close to home with Nevada and Wyoming being included among the 21 jurisdictions implicated in the alleged wrongdoing. Specifically, the ICIJ has alleged that a number of U.S.-based companies linked to Mossack Fonseca were formed in Nevada through M.F. Corporate Services (Nevada) Ltd., which has served as the registered agent for 1,026 business entities since 2001. Other U.S.-based companies linked to the Panama law firm were formed in Wyoming through M.F. Corporate Services Wyoming LLC, which has registered twenty-four companies in the state. In addition to the global scrutiny now descending upon these states, the Wyoming secretary of state’s office is investigating M.F. Corporate Services Wyoming LLC and the twenty-four limited liability companies it registered in the state.

In the wake of the Panama Papers there may be a renewed interest in tax haven legislation. Most states impose corporate income taxes and use federal taxable income as the starting point for calculating state taxable income. Thus, if income escapes taxation at the federal level, it will also generally escape taxation at the state level. In the absence of a uniform approach from the United States Congress, some states have considered or have already adopted legislation to tax income allegedly shielded from taxing authorities through combined reporting requirements in which income inclusion extends to foreign affiliates either incorporated in or doing business in designated “tax haven” nations. Typically, state tax haven legislation comes in two forms: (1) states statutorily adopt a blacklist of designated countries and include the income of foreign affiliated corporations located in those countries in the combined income calculation; or (2) states adopt a list of criteria giving state tax agencies the discretion in audits to determine which nations may be considered tax havens, thereby including income in the tax base from foreign subsidiaries that operate in those nations. Currently, seven states have adopted such legislation: Montana, Oregon, West Virginia, the District of Columbia, Connecticut, Alaska, and Rhode Island. Critics of such legislation have deemed it to be arbitrary and unmanageable, out of sync with global solutions being considered, and a partial return to mandatory worldwide combined reporting that violates the water’s-edge concept.

It remains to be seen whether additional states will propose similar tax haven legislation in the wake of the Panama Papers. We will continue to monitor legislative proposals and developments at the national and state levels.