International tax structuring in the Turkish market is evolving. What are the expectations for the future?
It has long been discussed amongst Turkish international tax structuring practitioners whether tax efficiency or asset protection should be the priority. Determination of the answer has naturally been led by clients' preferences and risk appetites in the past. This is changing however, with trends towards increasing transparency and cross border cooperation coming to the fore.
Turkish international tax structuring relied heavily on opacity of information and concentrated on certain off and onshore jurisdictions with strict secrecy laws. These first-generation structures were designed towards Turkish businesses looking to expand internationally and Turkish resident high net worth individuals/families. Increasing levels of foreign direct investment into Turkey together with a shift towards greater transparency in the international arena created a sharp decline in these structures.
At the beginning of the 2000's, foreign direct investments increased with strategic investors looking for long term business opportunities in Turkey. These investors adopted a more sophisticated approach utilising Turkey's Double Taxation Agreement ("DTA") network to achieve efficiency in their investments and business models. These second-generation structures sought repatriation of capital through very traditional methods, mostly in the form of dividends since the investors had long term return on equity expectations. With the introduction of these new structures, some of the Turkish firms also shifted to second-generation international structures.
From around 2005, foreign private equity firms began investing significantly in Turkey. This investor type differed from the strategic investors as their investment plan relied on various tools for capital repatriation. This same period also gave rise to a radical change in tax regulations. Some existing concepts such as Transfer Pricing and Thin Capitalization were brought to international standards in terms of clarity and detail in guidance. New international standards were also introduced such as Controlled Foreign Company and Anti-Tax Haven regulations. These changes were widely regarded as a positive indication since they provided far clearer guidance on cash repatriation tools like related party financing, Group Company shared services and royalties. These developments allowed for third-generation international structures. The main difference was that, whilst the second-generation international structures used a longer investment model that sometimes took into consideration operational aspects of the business (such as flow of goods), the third-generation international structures are based on shorter term (5–7 year) investment plans, concentrating on quicker return on equity by using as many available tools as possible.
The most recent changes in the regulatory and economic environment have brought forward several different considerations especially for ultimate beneficial owners. The increase in transparency has amplified the importance of asset protection, making Bilateral Investment Treaties a vital element of fourth-generation international structures. Trusts and similar vehicles are now utilized more frequently for investors seeking additional security for asset protection. These vehicles are used within inheritance planning for high net worth individuals and families too. The other important development is an increasing emphasis on substance requirements across all jurisdictions. This means allocating greater resources in terms of personnel and capital in holding companies located in Double Taxation Agreement jurisdictions, which in turn makes fourth-generation structures more expensive in terms of operational costs.
Increasing cooperation between different jurisdictions, growing emphasis on substance and a rapidly changing regulatory environment have increased the popularity of reputable on-shore jurisdictions; these do not necessarily provide the most tax efficient or cheapest (in terms of operation) alternative, but allow for more protection on investments and assets. We believe that these contributing factors are not temporary and indicate a long-term trend. Therefore, investors would be well advised to consider updating their existing structures and to factor in these latest issues when implementing a new structure.