It is commonplace for High Net worth Individuals (HNIs) to use special vehicles to hold their investments in financial and non-financial assets. These special vehicles are typically used for various purposes and could either be domiciled locally or offshore. Generally, HNIs have shown preference for offshore Investment Holding Structures (IHS) for various reasons. Some of these include preservation of asset value, robust estate planning laws in those jurisdictions and the need for efficient risk management framework.
Recently, these offshore jurisdictions have come under scrutiny of the international community on the basis that some HNIs establish complex structures in certain offshore jurisdictions with the aim of evading taxes. Since 2016, there has been massive leak of personal financial information, which were hitherto kept private, about many wealthy individuals around the world. A German newspaper called Süddeutsche Zeitung received tons of leaked documents from law firms, Mossack Fonseca based in Panama (popularly referred to as Panama Papers)1 and Appleby (known as Paradise Papers)2 in 2016 and 2017 respectively. The most recent leaks of these nature is the Pandora Papers (a leak of almost 12 million documents and files) in 2021. In all these, the documents obtained were shared with the International Consortium of Investigative Journalists for extensive review and they reveal financial information about former world leaders, public officials, politicians, celebrities, business people, and other wealthy individuals across the world (including Nigeria).
In this article, we examine the use of offshore investment holding structures by private individuals and matters arising thereon.
What are Offshore Investment Holding Structures
Offshore IHS are vehicles typically used to hold equity, loan, liquid/ illiquid assets of individuals or corporate entities. The offshore IHS may have an operational or non-operational status. In either scenarios, it will be required to comply with the relevant regulatory requirements or obligations of its respective domicile jurisdiction.
Reasons for Setting up Offshore Investment Holding Structures
We consider below, some of the reasons HNIs prefer to set up offshore IHS:
One of the many desires of wealthy individuals and family business founders, is to adopt an efficient and effective method of wealth transference to their successors. Some of these jurisdictions have wellestablished legal frameworks that guarantees this in a seamless and efficient manner. These include legislation such as Trust Act, Foundation Act etc., with provisions that govern the mode or manner by which private wealth can be transferred using structures such as private trusts, foundations, IHS etc. Thus, the certainty, precision and unambiguity around wealth transfer structures as provided in the legislation of some offshore jurisdictions, makes offshore IHS attractive and as such embraced by a lot of wealthy individuals in Nigeria for wealth succession purpose.
Preservation of Asset Value
Owing to the perceived instability of the value of the naira, some HNIs prefer to hold their naira denominated assets in a more stable currency such as USD, GBP etc. This is to avoid the continuous diminution in the value of their assets.
Taxable persons in Nigeria are subjected to tax on their global income. Thus, tax is applicable on the income derived within and outside Nigeria by wealthy individuals that are deemed resident or taxable in Nigeria. However, the tax laws in Nigeria grant tax exemptions to certain categories of income (including dividend and interest) earned abroad and brought into the country in foreign currency and through government approved channels (such as Nigerian banks). Hence, a Nigerian shareholder of an offshore IHS is able to enjoy tax exemptions in Nigeria on the income distributions received from the offshore IHS where the earlier stated conditions are met.
Furthermore, the offshore IHS can earn passive income in Nigeria where it holds loan and equity investments in Nigerian companies. The applicable tax on the income derived by the offshore IHS from these investments will be subjected to tax at 10% (as against the Nigeria's income tax rate of up to 30%), which is to be deducted at source. The tax so deducted is the final tax due on such income.
In a bid to grow and reach more customers, wealthy individuals with vast businesses seek opportunities to expand. One of the measures to achieve expansion goals is to attract investors (local and foreign) into the business. Foreign investors are often comfortable investing in a local company with foreign ownership. Offshore IHS helps to achieve this as the foreign investors are able to channel their investments in the local entities through the offshore IHS.
Offshore Investment Holding Structures and Illicit Financial Flows
The High Level Panel (HLP) on Illicit Financial Flows (IFFs) from Africa, was established by the Economic Commission for Africa in order to ensure Africa's development through its reliance on its own resources. In 2015, the HLP issued a report wherein an estimate of $50 billion was stated to have been lost annually in illicit financial flows. 40% of this sum (i.e. $20 billion) was attributed to Nigeria via various forms of illegal financial outflows including profit transfer by multinationals, tax evasion, corrupt business practices etc. The HLP, at the Nigeria inter-ministerial meeting in 2018, stated that the value of IFFs had increased to $80 billion. The continuous rise in these statistics has led governments in Africa to begin to think of how to combat these illicit financial outflows and encourage policies that will ensure retention of capital within their respective countries.
The exposé of Panama Papers, Paradise Papers and the recent Pandora Papers with regards to Nigerians, also puts the Nigerian government on alert on the need to fortify its anti-graft agencies towards combating IFFs out of the country. In 2019, an inter-agency committee with the Independent and Corrupt Practices Commission as its secretariat, was set up in an effort to stop IFFs. The members of the committee include the Central Bank of Nigeria, the Nigerian Financial Intelligence Unit, the Federal Inland Revenue Service, the Economic and Financial Crimes Commission etc.
Considering the various efforts by the Nigerian government and its anti-graft agencies in eliminating corrupt practices, owners of IHS should ensure that their structures conform to applicable local and foreign legislation in order to avoid being caught in the web of antigraft agencies in their fight against corrupt practices
Risk Mitigating Measures
Considering the various efforts by the Nigerian government and its anti-graft agencies in eliminating corrupt practices, owners of IHS should ensure that their structures conform to applicable local and foreign legislation in order to avoid being caught in the web of the anti-graft agencies in their fight against corrupt practices, should there be a clampdown on offshore IHS. Some of the measures that can be considered in this regard are discussed below:
Investing After-Tax Legally-Sourced Income in the IHS: - Wealthy individuals typically have various sources of income with different tax implications. They need to ensure that they are compliant with the tax and regulatory requirements that are applicable to the respective income category. They also need to ensure that they keep a good record of the value of income earned from each category, the tax returns filed and evidence of tax payments made (where applicable). Initial fund outlay into the IHS (whether private funds or gifted funds) must have suffered taxes (as applicable) and must be obtained legally.
Full Income Declaration: - Nigeria resident shareholders of offshore IHS are required to annually declare the dividend income or other forms of income derived from the IHS in their annual returns. As discussed previously, the dividend income is tax exempt where certain conditions are met. However, based on Section 48 of the Personal Income Tax Act as Amended, the income is required to be declared to the relevant tax authority for full disclosure purpose.
Continuous Regularization: - Compliance with tax and regulatory obligations is mandatory. However, it is not uncommon for taxpayers to occasionally falter in this regard. It is however expedient, for taxpayers and especially wealthy individuals in this instance, to carry out tax health checks periodically in order to know where they stand with regards to their obligations, and afterwards, regularize as soon as possible. For instance, where the owners of IHS have not complied with tax and regulatory obligations with respect to the initial outlay, they are able to retrospectively check the areas of default and regularize. They should also take advantage of amnesty or other tax incentive schemes (such as the Voluntary Asset and Income Declaration Scheme, 2018) that are set up by the government from time to time.
The Nigerian government needs to put in more effort in establishing policies and structures that will restore the confidence of the populace in the system. Policies that will encourage local investments even by the locals should be considered. It also needs to establish dedicated vehicles for wealth transfer so that local options will be as attractive as offshore options.
Wealthy individuals with offshore IHS need to ensure that they are not on the wrong side of local or foreign laws with regards to the operations of their IHS in the respective jurisdictions.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.