Offshore companies can be the tax planner's Happy Meal
By the time you read this column, the tax return filing season will be over and I can go into hiding for a month or two. April is when I make myself the most unpopular person in town, so in May I should make myself scarce. I know everyone knows it's not me that's collecting tax money, but when I tell people they have a big tax bill, it's inevitably a shock, and the idea of their killing the bearer of bad tidings makes me nervous. It's as if somehow the tax liability didn't exist until I tell them about it, so it must be my fault. You can only use the argument of "think of it as an interest-free loan you've had from the government since last year" a certain number of times.
Inevitably, we get into the discussions over whether there is anything we can do to be more creative. I've been speaking to my old friend Vassos in Cyprus recently, so here are some ideas you might like to mull over.
Everyone thinks having your own offshore company is a good thing, because offshore means not paying tax, right? Well, in certain cases that can be true, but it's not always that simple. If the money is going into the company, then it is the company's taxable income (although I agree that Cyprus' 4.25% tax rate for firms carrying on business outside Cyprus is not as crippling as Poland's 40% PIT.) If the company pays the income to you it gets a corresponding deduction for the cost, meaning it may have no income to tax. But the income you receive from your Cyprus company is taxable income just as if you were getting it from your home country employer, so you haven't really gained anything.
A friend of mine repatriated to the U.K. about six months ago. When discussing his contract with his new U.K. employer, it didn't occur to him to ask if the company would accept an invoice from a Cyprus company so he could reduce his tax bill, yet I must hear that request from expatriates coming to Poland at least once a month.
You can get into a discussion at this point about who will know about it, and how they could find out, but to me that's not effective tax planning. It has as much to do with tax planning as a "Happy Meal" has to do with happiness. (I'm sorry; I saw that phrase in a James Hawes novel and couldn't resist working it in.)
Also, do you really want to renegotiate your contract with the express intention of tax evasion? I don't believe this is conducive to building that important mutual trust between employer and employee!
In any event, more sophisticated countries than Poland, tax-wise, would say that if you own the company it will treat your firm as a controlled foreign company (CFC) and tax it just as if it were you earning the income.
There are other things you can do from here, though, as Poland doesn't have CFC rules yet. One is a neat little trick based on the Poland-Cyprus double-tax treaty. If a Polish tax resident earns income that is subject to tax in Cyprus, then Poland can exempt that income from tax in Poland. If you're an employee, then only the country of residence (Poland) will be able to tax you unless you spend more than 183 days in Cyprus. If you receive director's fees from being a director of a Cyprus company, the treaty gives Cyprus the right to tax you and Poland will exempt this income from tax.
If you are an expatriate, then director's fees arising in Cyprus for being a director of a Cyprus company would not be taxable in Poland anyway. If you're Polish you get a better deal in this case, as Cyprus won't tax the director's fee because you are not a Cyprus resident!
So why don't we all do this? Well, if you're also a company shareholder, the Cyprus tax authorities would likely argue it is not possible for the company's whole income to be paid as a director's fee, and would seek to reclassify that amount as a dividend distribution to ensure that it taxes the income for corporate tax purposes. And if it's treated as a dividend for Cyprus purposes, then under the treaty it's taxable in Poland at the normal rates, and not covered by the exemption. And if you're a U.S. resident or U.K. resident or resident of many other countries (names withheld to protect the innocent, but you know who you are!), then you could get done for CFC purposes anyway.
Also, how much of your income could be attributed to being the director of the Cyprus company, compared with the time you're spending in Poland? And how would the Cyprus company receive the income to pay the director's fee from? If it comes from operations income in Poland, then the transfer out could be challenged, and the loss of 30% of corporate income tax deduction and a potential additional 22% VAT assessment to save a maximum of 40% of personal income tax doesn't look like a good investment to me.
I like to take it as a sign of trust that pillars of the international business community are quite prepared to discuss with me if this is a realistic opportunity. I don't think it does any harm to talk through it, and I'm always happy to listen to a good scheme. Also, there are times when it genuinely does work.
But painting white stripes on a black horse does not mean that you end up with a zebra, even if it looks like one from a distance. By all means, if you have a genuinely international cross-border structure with operations in many countries, then let's take all genuine opportunities to manage tax liability. But if you are an employee of a U.S. company in the United States and the company is picking up the Polish tax bill anyway, then the chances of this being a planning option that is really worth spending time convincing people in the United States to pursue are limited. But it does impress your friends in the pub, and can make them very jealous, so if you are one of the lucky people it works for, feel free to carry on bragging about it!
Peter Ferrigno is a tax manager in the Warsaw office of Arthur Andersen.
