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From the Managing Director's desk

2017: the year of purges


Miért éri meg a jövőben is offshore céget működtetni?The current year, with the start of the automatic exchange of banking information, will see the beginning of a whole new era in the financial world. National tax authorities are going to have access, in respect to their tax residents, to such information whose legal acquisition would earlier have been inconceivable. From October 1st, 2017, these reports, the processing of which is going to add a considerable burden to the tax authorities, are going to arrive on an annual basis. How they will be able to deal with this is a very complicated question indeed. In this article I would like to highlight other aspects of the process: that is, how all this is going to affect the owners and managers of international companies and the company formation industry which serves them.

When I refer to purges in the title of the article, I am talking about both parties. Starting from this year, we will see a significant purge in both clients using international companies and the service providers who serve them. The complexity of the process, coupled with the fact that it is such a new phenomenon, inevitably means that not everybody will remain standing. In addition, it will not be worth it for everybody to maintain their existing company structures. A good number of service providers will also be forced to give up the status they have achieved. If I had to describe the situation figuratively, I would say that it’s like a course which tests both the horse and the rider.

Although these may not be the only changes taking place, I would like to highlight 3 circumstances for company owners and 3 for service providers which, in my opinion, will be particularly significant in 2017. Naturally, as with all attempts at classification, this is somewhat arbitrary, and should not be considered as hard and fast fact, but at the same time, it will help to understand the process better.

The downgrading or closing down of oversized structures. The case of the Panama Papers and the company Mossack and Fonseca provided a number of lessons. The Mossack company itself is representative of the sector over the last 40 years. If we examine the number of companies they have incorporated, it is clear that their company formation figures have also fallen to a quarter of what they were 10 years ago. This is typical of the whole company formation industry, and the turbulence which we are still feeling today began a long time ago. The clients using companies, who in the past registered and maintained 2 or 3 companies, now think more rationally, and where possible, arrange their business affairs through fewer and fewer companies.

It’s not worth it for small players. Cost effectiveness and sensitivity will be important factors in the rationalisation process. Maintaining an international company costs more and more each year, and there are a number of reasons for this. The service providers have no choice but to pass the increased costs of compliance on to their clients. This effect could be two-fold, if the banks also take such steps. This could mean up to 1000 EUR or USD per year, and may not necessarily be worth it for „smaller” clients. The cost of the various related services is also increasing. As a result of the increased risk involved, company directors are only prepared to offer their services in exchange for higher fees. And the banks who are still prepared to work with foreign clients, also expect higher fees for the services they provide. All in all, this can add up to 2 or 3 times the amount paid in earlier years.

The nervous client drops out. It may not sound very nice, but it’s true. I’ve tried to put it in simple terms, and it was certainly not my intention to offend anybody. Those who instigated the process are only too aware of the fact that the nerves of businessmen are exactly the same as those of the rest of the population, just as changeable and occasionally very unstable. Accordingly, if they spend enough time bombarding them with various threats, there will always be a significant number who throw in the towel. This is exactly what they are hoping to achieve with the constant changes. Always chipping away, increasing the tension, constantly threatening with some or other sanctions. It is just a matter of time. The question is how many will give up and when.

If I wanted to use economic terminology, then I would say that up until now we have been looking at changes on the demand side. But what about the supply side? Is this going to change, as well? My answer is emphatically yes. The market changes will certainly not leave the providers in the international company formation industry untouched. Here are 3 of the possible significant factors:

The end of the „cowboy” era. At the end of the 90s and in the early 2000s a large number of entrepreneurs decided to become specialists in the field of international company formation and its related services. A significant number of these had no idea what they were getting involved in. In the hope of making a fast buck they began dealing in something about which they knew nothing, or very little. Unfortunately, they caused a great deal of damage to their unsuspecting clients by selling them structures which were either oversized, or simply just didn’t work. There were numerous cases, even through law firms, where they managed to have the company incorporated, but then couldn’t help in the opening of a bank account, or even sent their clients off to banks which hadn’t offered the opening of accounts for such companies for years. They convinced people to buy 2 or even 3 companies when they only really needed 1. My favourite was the Russian businessman who was sold a Scottish LP (Limited Partnership) with 2 Belize companies as the members. That’s 3 companies, whose annual maintenance is several thousand euros. But, not content with that, they also persuaded him to open a branch in another country, and the poor chap ended up spending some 20 000 euros a year to maintain it – more than the 3 initial companies put together! My other big favourite is the service provider with a preference for Malta when it comes to clients looking to establish companies in the EU, even though they know from the outset that they will not be able to open a bank account for the company in Malta, nor will they be able to obtain an EU VAT number. So what can the client do with the 300 grams of paper that he has paid 6 000 euros for?

Unlicensed providers will be forced out. International company formation is now more seriously regulated than the arms trade. They now insist that participants be regulated persons, otherwise they can not become involved in company formation, even as intermediaries in the process. Law firms are generally exempted from this, though not in all countries, as company formation is their inalienable right. Company law providers can only become involved if they are licensed to do so by the authorities of the given country. This is how they are trying to enforce the anti money-laudering legislation, and also keep checks on the sector. Obtaining such a licence can cost tens or even hundreds of thousands of dollars; not everybody can satisfy the personal and material requirements being imposed by the legislation.

Only companies providing complex services will survive. The demands of the market have changed. The tightening of the regulations has led to an increase in the demands of the clients who use international companies. Today, it is no longer enough to collect the 300 grams of corporate paperwork from a law firm and smile politely as you bid farewell to the lawyer. Numerous related services are required, which, if possible, the clients should be able to find in one place. For years now, clients have been coming to LAVECO Ltd. and bringing their own accountants, tax advisors or lawyers. For us this is completely normal, as we are not only available as an internet interface, but our clients can come in anytime and ask for advice or pick up ideas. We provide working solutions to those clients who are seriously interested in long term advantageous corporate constructions. And there is another very important aspect of this complexity. Tax-planning today has become two-tier, and it is no longer sufficient to optimise taxation at the company level. The individual has become the focus of the process, so we too have to concentrate on the individual, and make our recommendations accordingly, having examined the given situation.  

2017, the year of purges. Maybe it sounds a little cold or alarming. Not at all, this is a natural market transition, a reflex reaction to the changes introduced by the regulators that will apply in the case of both the service providers and the clients. The outcome, at least from the point of view of the numbers, will be a process declining in size: fewer clients and fewer service providers will remain standing. But then again that is just the market, the balancing of supply and demand. The automatic exchange of information has accelerated the process somewhat, but if we look at the long term market analyses, with time its role will be minimal. Just as can be seen today, the introduction of the exchange of information hasn’t caused nearly as much panic in the market as many, primarily those creating the regulations, had counted on.

With warm regards,

László Váradi
Managing Director