by Lawrence R. Barusch & Marjorie Rawls Roberts
Offshore Financial
Center Report Eleventh Edition 2002
Three possessions of the United States offer significant tax incentives to foreign investors. All three, the United States Virgin Islands (the "Virgin Islands"), the Commonwealth of the Northern Mariana Islands (the "Mariana Islands") and Guam are U.S. flag jurisdictions offering U.S. law, protection of property rights, the U.S. banking system, U.S. dollar currency and excellent communication systems. These three jurisdictions are unique in that resident Green Card holders enjoy a permanent reduction in U.S. income tax liability to the extent of the tax relief granted by a possession. This article provides an introduction to benefits currently available.
The United States Virgin Islands
The Virgin Islands offer two types of tax incentives. First, exempt companies are exempt from all income taxes. These holding companies do not engage in business in the Virgin Islands and must be predominantly owned by non-U.S., non-Virgin Islands persons. Second, incentives are provided for new businesses in the territory.
Exempt Companies
As set out in a 20-year contract offered by the Virgin Islands government, an exempt company is exempt from all taxes on income from business activities outside the Virgin Islands and the United States and on domestic source income such as interest and dividends. Its shareholders are exempt from withholding tax on dividends (even if the exempt company has non-exempt income such as passive income from U.S. sources), as are creditors on interest payments. The only tax imposed by the Virgin Islands is an annual $1,000 franchise tax.
Stock held by a non-resident alien individual in a Virgin Islands exempt company is not subject to Federal estate or gift tax, nor to Virgin Islands inheritance tax.
An exempt company is covered by the United States' network of treaties of friendship, commerce and navigation and bilateral investment treaties. These treaties confer important benefits, such as protection from expropriation.
Some exempt companies register "N" aircraft with the U.S. Federal Aviation Administration. This indicates the aircraft is maintained to high U.S. standards, even where the aircraft is used exclusively outside the United States and the Virgin Islands. To obtain an "N" registration number, an aircraft must be owned by a U.S. company, including a Virgin Islands company, and must comply with other requirements that can be readily met through the use of a voting trust with a U.S. citizen resident in the Virgin Islands as trustee.
An exempt company may not engage in the active conduct of a trade or business in the United States or the Virgin Islands, although it may be administered in the Virgin Islands and maintain a bank account there to invest proceeds from its international operations and receive interest income on the deposits free of tax. Individuals or entities may own an exempt company from any country in the world, except that U.S. and Virgin Islands persons may not own more than 10 percent of its stock. A company usually elects exempt status in its initial articles of incorporation, filed with the Office of the Lieutenant Governor.
Economic Development Incentives
The Virgin Islands economic development program provides tax credits and exemptions to rum production, manufacturing, tourism-related, transportation, business and management consultants, software developers, investment advisers, and high-tech businesses located in the territory. Additionally, significant tax incentives are provided for exempt international insurance companies underwriting risks outside the jurisdiction, casinos, farmers and fishermen, and the construction of affordable housing.
To qualify for tax benefits under the economic development program, investors must make a capital investment of at least $100,000, exclusive of inventory, in an eligible business and employ at least ten persons full-time, 80 percent of whom must have resided in the Virgin Islands for at least one year. The tax benefits are granted by the seven-member board of the Economic Development Authority for ten years for investments in St. John, St. Thomas, and eastern St. Croix, and for 15 years in western St. Croix. Benefits packages can be extended upon proper application and review, initially for a 10-year period and then in subsequent five-year increments.
Applicants can be sole proprietorships, limited liability companies, corporations, partnerships, and trusts. Applicants must commit to providing management training for their employees and to purchasing locally all items available in the Virgin Islands. The application fee ranges from $1,000 to $2,000, depending on the type of business, which is in addition to the annual compliance fee.
The economic development legislation permits a 90 percent income tax reduction, resulting in a maximum tax rate of less than four percent on income from approved operations. Income must either be domestic source. The 90 percent reduction extended to dividends or other distributions received by a beneficiary's domestic resident partners, members, or shareholders.
Customs duties are reduced from six percent to one percent on raw materials and component parts imported from outside the United States. No local customs duties are imposed on U.S. made products. In addition there are complete exemptions for Virgin Islands property and gross receipts taxes, otherwise imposed at the rates of .75 percent of fair market value and four percent respectively.
Beneficiaries are exempt from withholding tax on interest payments and receive a reduced withholding rate of four percent on dividends, which can be reduced to two percent in limited circumstances. Other forms of passive income payments are subject to withholding tax at an 11 percent rate if paid to a corporation and ten percent if paid to an individual.
The Commonwealth of the Northern Mariana Islands
The Northern Marianas has recently added free trade zones and investment incentives to its long-standing rebate program.
Rebates in the Northern Marianas
The Northern Marianas imposes a local tax on wages and salary and another on earnings that reach 9% if the wages or earnings exceed $50,000. A third tax is imposed on business gross revenue reaching 5% on revenues in excess of $750,000. Taxpayers may claim non-refundable credit for these taxes against their Northern Mariana Islands territorial income tax liability arising from domestic source income.
Income tax liability arising from domestic source income, reduced by these credits, is the "rebate base." Taxpayers, both individual and corporate are entitled to rebates of 90% of the first $20,000 of the rebate base, 70% of the next $80,000 and 50% of the rebate base in excess of $100,000. Singles and couples share the same schedule, giving an incentive for married couples to file separately.
Free Trade Zones
Effective September 22, 2000 the Northern Marianas established a 20-hectare free trade zone near the Saipan International Airport. Other free trade zones ("FTZs") may be established at a later date. Land within the FTZ is available for lease from the government at attractive rents.
Foreign and domestic merchandise of every description (not prohibited by law) may be admitted to the FTZ free of customs. The activities that may take place within the FTZ are virtually unlimited. As long as the finished product is exported, no customs duty is imposed.
To operate in an FTZ, a business must obtain a license from the Board of Directors of the Commonwealth Free Trade Authority (the "Board"). The Board will consider the economic impact of the activity, the amount of capital invested, a cost/benefit analysis of the activity, its environmental impact, its impact on other Northern Marians businesses, its labor requirements and to what extent the business will employ and retain resident workers. A licensee must obtain insurance at its own expense and release and indemnify the Board from most claims.
A licensee may be exempt from the 5% business gross revenue taxes and the excise tax (duty) on importation on use of equipment and machinery in the FTZ. The duty free treatment extends to raw materials consumed in the FTZ including food "utilized in the daily operations of the business."
A 100% rebate of income tax is available to the extent resident workers are employed in the FTZ and the income is domestic source.
Licensees will be exempt from taxes on developers and taxes on exports for twenty years. However, the Board determines the actual percentage of reduction.
Licensees may hire non-resident workers under the Northern Marian's rather generous rules (there is a moratorium on hiring nonresident workers generally) but must pay the U.S. minimum wage.
An effort is being made to provide one-stop shopping with the Board for all licenses necessary to conduct business in the FTZ including environmental and coastal development licenses.
Investment Incentives
Effective December 1, 2000 the Northern Marianas offers special incentives for new investment. The Governor is authorized to issue a Qualifying Certificate, which is a contract between the CNMI government and the beneficiary that may not be subsequently curtailed, limited or impaired without mutual consent.
The Governor is authorized to issue certificates that abate or rebate up to 100% "of all taxes of any nature paid or to be paid to the Government of the Commonwealth by the Beneficiary and ?its owners." The rebate may last for up to 25 years. In the alternate, a certificate may provide for up to a 50% rebate for 50 years.
Qualifying certificates are available for a number of tourist related projects. They are also available for "manufacturing or processing high technology products" ("High Tech") and for "internet related businesses and/or business engaged in internet commerce" ("Internet and E-commerce").
A High Tech business must invest at least $1,000,000 and pay a non-refundable filing fee of $10,000. An Internet or E-commerce business must invest $100,000 and pay a $2,500 fee. The capital investment requirement is reduced by 40% for investments in the out-lying islands of Rota and Tinian.
Businesses will be evaluated, as applicable, based on prospects for success, location, new employment, replacement of imports, reduction of consumer prices and promotion of tourism.
Applicants must submit an application, a plan for financing the project, a copy of articles of incorporation or equivalent document, the names, addresses and interests of owners, a business plan, a legal description of land where the business will be located and a certificate of tax compliance.
Guam
Guam has recently added special incentives for trusts that receive non-domestic source income to its long-standing domestic tax incentives.
Guam-Based Trusts
A trust administered in Guam may apply for a Special Qualifying Certificate ("SPC") from the Guam Economic Development Authority ("GEDA"). Beneficial ownership and the total assets must be disclosed. The trust must agree to file an annual accounting with GEDA. For trusts with assets from one million to one hundred million dollars the filing fee and the subsequent annual fees are each $1,000. Above one hundred million dollars the fees are each $2,000. Copies of the trust instrument and the trustee's license to act as trustee in Guam are also required.
A Guam-based trust may be established by will or instrument for the purpose of protecting or conserving property. A $10,000 deposit must be maintained with a Guam bank for the duration of the trust. A Guam-based trust may not engage in a business or be a shareholder in a business for which a Guam business license is required.
The holder of an SPC is entitled to a rebate of 100% of all income tax on "all its earnings from either inside or outside of Guam, including all income from investing its funds on Guam or elsewhere" for twenty years. Guam intends that the rebate itself not be taxable.
Income tax paid by Guam-based trusts is deposited in a special-purpose trust account maintained by an FDIC-insured bank with offices in Guam. One hundred and eighty days after filing its income tax return the trust is entitled to "the refund of the income tax."
Guam lies within one hundred miles of the Northern Marianas. Thus it is relatively easy to combine the Northern Marianas rebate on domestic source income with the Guam rebate (to trusts) on foreign source income.
Investment Incentives
GEDA also offers incentives to Guam investment. A "Qualifying Certificate" ("QC"), which is a contract between the government and the holder, may be issued for a wide variety of activities including manufacturing; agri-, aqua- and mari-culture; tourism; commercial, captive and re- insurance; and global internet infra-structure.
The business activity must benefit the Guam economy, as by creating employment, replacing imports, reducing prices, or increasing Guam's attractiveness as a financial and insurance center for the Pacific.
Seventy-five per cent of income tax can be rebated for up to twenty years. The rebate is also available to members of a limited liability company who report income on a pass-through basis. A similar rule applies to "S" corporations. A seventy-five per cent rebate is also available on dividends paid, but only for five years. One hundred per cent of property tax may be abated for up to ten years. For certain enterprises, including insurance underwriters and builders of affordable housing, one hundred per cent of income tax may be rebated. The rebates themselves are not intended to be taxable.
The applicant may choose to double the length of time the QC is in effect but halve the rebate rate. Annual filing fees and "surveillance fees" are generally in the range between $500 and $3,000.
Granting of QCs involves an administrative procedure and negotiation. Currently Guam is most anxious for investment and terms and requirements for QCs are liberal.
