What Is a Tax Haven?

A tax haven is a legal jurisdiction such as a country or principality where the rate of taxation is lower than in surrounding areas. Tax havens are generally characterized by strong privacy protections, low tax rates, and highly reputable banks. They are traditionally amongst the most politically stable regions in the world.

To take full advantage of a tax haven, it may be necessary to live there. The French principality of Monaco, for example, only provides tax benefits to individuals who are legal residents. The tax benefits are so significant that a small industry has grown to establish residency for individuals who don't actually want to live in Monaco. Other examples of tax havens are Switzerland, where resident foreigners can negotiate their taxation level with local authorities, the Channel Islands, where there is no taxation on foreign income, and Gibraltar, where companies with no significant business interests in Gibraltar itself are charged a flat tax of approximately $200.

Individuals hoping to benefit by moving assets to a tax haven must be aware of the potential legal ramifications. While banks in a tax haven may not report income to the client's domestic taxing authority, the client does have a legal obligation to report such income. This is especially true for citizens of the United States; while most countries base taxation on residency, the United States taxes solely on citizenship. No matter where an American may be living, all their income is, by law, taxable in the United States. Failure to report income earned outside the country may constitute tax evasion.

Corporations may take advantage of a tax haven by establishing their legal headquarters there. For example, many large US corporations locate their legal headquarters in Bermuda. In addition to tax advantages, this confers certain legal protections in the case of civil lawsuits. It may also allow a company to circumvent regulatory issues in the home country.

The term offshore bank is often used interchangeably with tax haven. While related concepts, they are not synonymous; an offshore bank is simply a bank located outside an individual's home country.