Finding The Real Deal On Romney’s Offshore Investments

January 19, 2012 9:59 am

On Tuesday, Mitt Romney finally acknowledged what we’ve long suspected: that, despite earning millions of dollars a year, his tax rate is approximately 15 percent — the same as it would be if he were a teacher earning $50,000 a year.

The disclosure touched off a flurry of news stories — some about the rigged nature of the U.S. tax code, most about how this fact would play in the primary and general elections. Then on Wednesday ABC News broke another story. Romney, it turns out, has a lot of money invested in offshore funds — the sort of funds you used to hear about years ago when wealthy people, foreign investors, private pensions and others would invest and shelter their money.

The timing of the ABC story couldn’t have been better for those hoping to create a hazy sense that Romney’s some kind of tax avoider. But they’re largely two different things.The first spate of stories are about strategies Romney has used to keep his effective tax rate low. The offshore funds story is about a strategy investors use not to defer income and reduce their tax burden, but to attract foreign investors who want to avoid U.S. taxation.

“One of the reasons to have a Cayman Islands entity is so that foreign investors will not get hit with U.S. income, and that’s consistent with our general tax policy,” says Victor Fleischer, a tax professor at the University of Colorado Law School. This can give American investors who offshore a competitive advantage over those who don’t, and can cost the Treasury revenue, but it’s on the level.

And, crucially, it’s distinct from the myriad ways Romney and other high net-worth individuals avoid paying higher taxes.

“That’s absolutely right,” Fleischer says. “Congress changed the law in 2008 or 2009 to make it more difficult to [shelter money in offshore funds], so if all you do is reinvest the money in regular cash, or you put it into a diversified portfolio of investments, you can no longer defer the income.”

Before the law changed, wealthy people could invest their money in offshore funds to avoid paying U.S. taxes on the returns until years later.

“The idea behind some of the Cayman Island strategies was that the income that the fund managers receive for managing the money would be kept offshore in the Cayman Island — and the chief benefit is that you can defer when you recognize that income until a later date and you can reinvest the money from the Cayman islands and none of those reinvested funds get taxed until you bring them back either,” Flesicher says.

It’s possible, though for now completely speculative, that Romney used that strategy back when it was legal. And, as Fleischer said speculating, this could be “one of the issues in my mind why Romney may not want to release old returns is that it may highlight that issue.”

And as the Wall Street Journal reports, Romney also has an unusually large amount of money saved in his tax-deferred individual retirement account (IRA). And that could be the case because the IRA invested in offshore Bain funds — investments that would have triggered a significant, but obscure, tax if the funds had been located in the U.S. And as the Journal reports, based on an interview with a different tax expert, “there are some tax differences achieved by having an IRA invest through offshore funds, adding that the strategy doesn’t eliminate taxes owed, but defers them.”

We’ll see. Meanwhile the Romney camp says of his non-IRA overseas investments: “The Romneys’ investments in funds established in the Cayman Islands are taxed in the very same way they would be if those funds were established in the United States. These are not tax havens and it is false to say so.”

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