The Organisation for Economic Co-operation and Development (OECD) defines the Offshore Banking Centers as: countries or territories whose financial institutions deal primarily with non residents. As a corollary, an offshore bank can reasonably be described as: a financial institution located outside the country of residence of the depositor, typically in a low tax jurisdiction (or tax haven) that provides financial and legal advantages. These advantages typically include:
• Greater privacy (see also bank secrecy, a principle born with the 1934 Swiss Banking Act);
• Low or no taxation (i.e. tax havens);
• Easy access to deposits (at least in terms of regulation); and
• Protection against local political or financial instability.
Offshore Banking and Secrecy
Bank secrecy (or bank privacy) is a legal principle in some jurisdictions under which banks are not allowed to provide to authorities personal and account information about their customers unless certain conditions apply (for example, a criminal complaint has been filed). In some cases, additional privacy is provided to beneficial owners through the use of numbered bank accounts which never have the depositor’s name on the account. Offshore banks, typically, have no obligation to report income to tax authorities due to protection given under the country’s bank secrecy laws. Typically, this will not create a situation where the depositor is participating in tax evasion by not paying tax on that income. Offshore banks, typically, have no obligation to report income to tax authorities due to protection given under the country’s bank secrecy laws. Typically, this will not create a situation where the depositor is participating in tax evasion by not paying tax on that income.
Created by the Swiss Banking Act of 1934, which led to the famous Swiss banking system, the principle of bank secrecy is always considered one of the main aspects of private banking. After September 11, 2001, there have been many calls for more regulation on international finance in particular concerning offshore banks, tax havens, and clearing houses such as Clearstream, based in Luxembourg, being possible crossroads for major illegal money flows.
Defenders of offshore banking have criticised these attempts at regulation. They claim the process is prompted not by security and financial concerns but by the desire of domestic banks and tax agencies to access the money held in offshore accounts. They cite the fact that offshore banking offers a competitive threat to the banking and taxation systems in developed countries, suggesting that the Organisation for Economic Co-operation and Development (OECD) countries are trying to stamp out competition.
The Offshore Group of Banking Supervisors (OGBS)
The first meeting of the Offshore Group of Banking Supervisors (OGBS) was held in 1980 in Basel when representatives of a number of offshore centers met with members of the Basel Committee on Banking Supervision. The proposal to form an Offshore Group was welcomed by all concerned as a means of allowing offshore centers to define their common ground more clearly, to participate in the defining and implementation of international standards for cross border banking supervision, and to hammer out a positive, constructive and coordinated response to the approaches made by other supervisory authorities for assistance in the effective supervision of international banks.
Since 1981 the Chairmanship of the Offshore Group has been held by Colin Powell, who is also the Chairman of the Jersey Financial Services Commission: the body with responsibility for regulating Jersey’s financial services. The Offshore Group has worked closely with the Basel Committee on the supervision of cross border banking. The Offshore Group also works closely with the Financial Action Task Force on money laundering, and is represented on three working groups set up by the Financial Task Force as part of the general review of the FATF’s Forty Recommendations (available here). Membership of the Offshore Group calls for a clear commitment to the Basel Committee on Banking Supervision’s Core Principles, the Financial Action Task Force’s (FATF) Forty Recommendations on money laundering, and the FATF Eight Special Recommendations on terrorist financing.
Members of the OGBS: Aruba, Bahamas, Bahrain, Barbados, Bermuda, Cayman Islands, Cyprus, Gibraltar, Guernsey, Hong Kong (China), Isle of Man, Jersey, Labuan (Macau), China, Mauritius, Netherlands Antilles, Panama, Singapore, and Vanuatu.
Advantages of Offshore Banking
An Islamic offshore banking system which acts as a savings depository system where the system shall enjoy stringent protective regulatory procedures and low taxation. Under such system, the depositor shall have immediate unfettered access to his saving upon demand. The risk involved shall be minimal to the depositor, as long as, the Central Bank ensures the reserves held in the Central Bank for such banks are relatively high. An Islamic offshore system will enhance the country’s ability to attract foreign investment because the stability of the system and the confidence it generates will have a ripple effect enhancing the general investment capabilities of the country as a whole.
This is a unique opportunity and if used craftily will benefit from the mass of wealth which escapes Africa annually to find home in Europe and other offshore centers. Somaliland can, furthermore, discourage the depository of dirty money in its offshore system by implementing fair and stringent supervisory majors in the offshore business procedures.
Offshore banks can sometimes provide access to politically and economically stable jurisdictions. This will be an advantage for residents in areas where there is risk of political turmoil, who fear their assets may be frozen, seized or disappear. For example, during the 2001 Argentine economic crisis where on December 2, 2001, the Argentine government announced measures restricting deposit withdrawals. At that time the Argentine government announced that withdrawals were to be limited to 250 pesos per week per account. However it is often argued that developed countries with regulated banking systems offer the same advantages in terms of stability.
Some offshore banks may operate with a lower cost base and can provide higher interest rates than the legal rate in the home country due to lower overheads and a lack of government intervention. Advocates of offshore banking often characterise government regulation as a form of tax on domestic banks, reducing interest rates on deposits. Offshore finance is one of the few industries, along with tourism, in which geographically remote island nations can competitively engage. It can help developing countries source investment and create growth in their economies, and can help redistribute world finance from the developed to the developing world. Interest is generally paid by offshore banks without tax being deducted. This is an advantage to individuals who do not pay tax on worldwide income, or who do not pay tax until the tax return is agreed, or who feel that they can illegally evade tax by hiding the interest income.
Some offshore banks offer banking services that may not be available from domestic banks such as anonymous bank accounts, lower rate loans based on risk and investment opportunities not available elsewhere. Offshore banking is often linked to other structures, such as offshore companies, offshore trusts, or private foundations which may have specific tax advantages for some individuals.
Many advocates of offshore banking also assert that the creation of tax and banking competition is an advantage of the industry. The advocates of this argument expound that tax competition, in fact, allows people to choose an appropriate balance of services and taxes. Critics of the industry, however, claim this competition as a disadvantage, arguing that it encourages a “race to the bottom” in which governments in developed countries are pressured to deregulate their own banking systems in an attempt to prevent the offshoring of capital.
Bahrain (the geographically nearest offshore banking zone to Somaliland) is the leading financial services hub in the Middle East. One of its traditional specialties is its offshore banking. Al Baraka Banking Group is an example of an Islamic-oriented institution with prominent offshore bank in Bahrain.
Disadvantages of Offshore Banking
The disadvantage of ‘conventional’ offshore bank accounts is the fact that they maybe less financially secure. In the banking crisis which swept the world in 2008 the only savers who lost money were those who had deposited their funds in offshore branches of Icelandic banks such as Kaupthing Singer & Friedlander. Those who had deposited with the same banks onshore received all of their money back. In 2009 the Isle of Man authorities were keen to point out that 90% of the claimants were paid, although this only referred to the number of people who had received money from their depositor compensation scheme and not the amount of money refunded. In reality only 40% of depositor funds had been repaid 24.8% in September 2009 and 15.2% in December 2009.
Both offshore and onshore banking centers often have depositor compensation schemes. For example the Isle of Man Compensation Scheme guarantees £50,000 of net deposits per individual depositor or £20,000 for most other categories of depositor and point out that potential depositors should be aware that any deposits over that amount are at risk. However, only, offshore centers such as the Isle of Man have refused to compensate depositors 100% of their funds following the collapse of any bank in that jurisdiction. For example, deposits made at Jersey branches of Bank of Scotland PLC and Lloyds TSB Offshore Limited are covered by the Jersey Depositors’ Compensation Scheme which came into effect on 6 November 2009. The scheme compensates people who have money in current and deposit accounts in Jersey with up to a maximum of £50,000 of deposits per individual depositor per Jersey banking group. The compensation is payable, irrespective of which country they live in.
Offshore banking has been associated – in the past – with the underground economy and organized crime through money laundering. Following September 11, 2001, offshore banks and tax havens, along with clearing houses, have been accused of helping various organized crime gangs, terrorist groups, and other state or non-state actors. However, offshore banking is a legitimate financial exercise undertaken by many expatriate and international workers.
Offshore jurisdictions are often remote, and therefore costly to visit, so physical access and access to information can be difficult. Yet in a world with global telecommunications this is rarely a problem for customers. Accounts can be set up online, by phone or by mail. Offshore private banking is usually more accessible to those on higher incomes, because of the costs of establishing and maintaining offshore accounts. However, simple savings accounts can be opened by anyone and maintained with scale fees equivalent to their onshore counterparts. The tax burden in developed countries thus falls disproportionately on middle-income groups. Historically, tax cuts have tended to result in a higher proportion of the tax take being paid by high-income groups, as previously sheltered income is brought back into the mainstream economy.
Conventional offshore bank accounts are sometimes touted as the solution to every legal, financial and asset protection strategy but this is often much more exaggeration. However, a model of offshore banking based on Islamic financial principles will, to a large degree, overcome the debilitating ‘Achilles heel’ difficulties associated with the conventional system, which potentially made vulnerable by the regulatory system which regulates it being feeble and uncertain (usurious).
In conclusion, it is my opinion that Somaliland and its people will, with some sustained effort and persistence, benefit immensely from setting up an Islamic finance system – a credible system and one which will be unique to Somaliland /Africa. This success will depend on setting up a system which is rigidly based on rule of law. This is the key. It would be inescapable, but to set up a Commercial Court which has the jurisdiction to settle any financial / commercial disputes which may arise, in future, as result of setting up the envisaged financial system. Even those in the diasopora, alone, can constitute the constituents of an Islamic finance system and this will gradually thereafter attract an international clientele.
Generally, the Hawalla system utilized by those in the diaspora and the NGOs is based on Islamic financial principle which proves my point. It is a simple system which if employed systematically and awarded the protection of the law will be highly beneficial to the people of Somaliland.
By Abdulaziz Ismail (Watershed legal).
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