A view of Mount Rushmore, which is located near Keystone, South Dakota. Scott Olson/Getty Images

How did the U.S. become a tax haven?

Janet Nguyen Oct 8, 2021
A view of Mount Rushmore, which is located near Keystone, South Dakota. Scott Olson/Getty Images

Several U.S. states — including South Dakota, Delaware, Nevada and New Hampshire — have become popular places for the wealthy to park billions of dollars in secrecy. South Dakota, for example, has more than 100 trust companies that manage $367 billion in assets, which ballooned from $75 billion in 2011. 

Over the past week, media organizations have reported on a series of leaked documents known as the Pandora Papers, which showed how wealthy foreigners are using these U.S. destinations to hide their assets from authorities, creditors, and public view. 

The International Consortium of Investigative Journalists shared its trove of financial data, consisting of more than 11.9 million files, with hundreds of journalists from different news outlets. 

In 2016, a similar leak known as the Panama Papers revealed how former Panamanian law firm Mossack Fonseca helped wealthy clients launder money and avoid taxes. 

Reporting exemptions 

The U.S. is unique in allowing shareholder secrecy, which makes the U.S. an attractive place to put foreign money, said Adam H. Rosenzweig, a law professor at Washington University in St. Louis. 

He explained that a corporation does not have to list who all its shareholders are and a trust doesn’t necessarily have to list all its shareholders. 

The Organisation for Economic Co-operation and Development, an intergovernmental economic organization, developed the Common Reporting Standard in 2010. It calls on “jurisdictions to obtain information from their financial institution and automatically exchange that information with other jurisdictions on an annual basis.” More than 100 countries have signed up to use the CRS, including the European Union, China and Russia.

However, the U.S. is not part of the common reporting standard, said William Byrnes, a law professor at Texas A&M University. (On the other hand, in 2010, the Foreign Account Tax Compliance Act went into effect. This U.S. law calls for foreign financial institutes to report on foreign assets held by U.S. account holders.)  

On top of that, some states have lenient rules when it comes to assets and taxes in the first place. Stewart Sterk, a professor at Yeshiva University’s Cardoza School of Law, said that these laws were established with the aim of attracting business to the region.  

“Most of the ways to attract business has been through asset protection on the one hand, through just low taxes generally on the other hand, and through abolition of the rule against perpetuities,” Sterk said. 

Lasting estates that aren’t taxed

In 1983, South Dakota officially repealed the rule against perpetuities, which had been established to prevent hereditary estates. 

This rule, which originated in England, allows you to pass down assets to your children through a trust and defer estate taxes — but only for a certain amount of time, explained Rosenzweig. Typically, this cap is set at 21 years. 

By getting rid of this rule, South Dakota has enabled trusts to exist indefinitely. 

“We’re back in almost a pre-revolution, English common law, where there are hereditary estates, and once they’re in a family, [you] can put it in a trust that lasts forever,” Rosenzweig said. “And because it never leaves the trust, it can’t be bought or sold. But also, it never gets taxed.”

South Dakota pushed for this, along with other changes to the law, in an effort to attract banking positions to the area, Sterk explained. 

In a law review article, Sterk wrote that prior to 1983, the state had also repealed an interest rate ceiling on consumer credit cards, which brought Citibank’s credit card business to the state. 

“They actually were reasonably successful in attracting banking business generally,” Sterk noted. 

Advantageous trust laws and intangible assets 

Byrnes noted that some regions have asset protection trusts, which are recognized in over a dozen states, including South Dakota and Delaware. 

These trusts shield an individual’s assets from creditors, and can offer protection in the event that you get divorced or file for bankruptcy. 

And other states considered tax shelters, like Delaware, have looser regulations in general. 

Delaware does not collect state or local sales taxes, nor does it collect tax on the income from “intangible assets,” which include computer software, licenses, trademarks, patents and copyrights. This means a company can set up its headquarters there, but not have to pay taxes for intellectual property. 

Sterk said that Delaware’s corporate law was also designed to attract corporate businesses. 

“Delaware’s success has been a boon for local law firms, and for the state treasury,” he said. 

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