The release of the Panama Papers has created a number of recent articles critical of South Dakota’s asset protection statues and lack of an income tax. The Panama Papers are over 11 million leaked documents containing sensitive information for 214,000 offshore companies set up by Mossack Fonseca, a Panama law firm. The leaked documents bring to light how some wealthy individuals hide assets from public scrutiny.
The immediate assumption by many journalists and members of the public is that anyone wanting to hide something from public scrutiny must inherently be engaging in illegal activity. Such an assumption is wrong on several fronts.
First, it is perfectly legal in every U. S. state for business entities to be owned by nonresidents. A corporation registered in South Dakota or a trust with its situs in South Dakota is legitimate even if it is owned or controlled by someone living in another state or country.
Second, it’s legal for residents of any U. S. state to own corporations or trusts located in other states. The same is true for most other countries, although many countries put limits on the amount of assets located within their borders that may be owned by foreign corporations.
Third, just because there are no personal or corporate state income taxes in South Dakota does not mean nonresidents who own businesses or assets in the state do so illegally or avoid taxes as a result. While they may not owe income taxes in South Dakota, they probably do still owe state income taxes in the state in which they live. And, of course, all US citizens and corporations must still pay federal income taxes.
One reader commented that we need a state income tax to discourage people from bringing their income and assets into the state, contending that South Dakota “communities, schools, and healthcare suffer [and] it depresses the lower/middle income people.” Unless I am missing something, it doesn’t seem to me that moving money and income into South Dakota hurts our infrastructure or costs our residents money in any way. Conversely, it does create a few high paying jobs and professional opportunities that otherwise would not exist.
Fourth, there are compelling and legitimate reasons why law-abiding citizens may want to hold assets in corporations, limited liability companies, and asset protection trusts. Longtime readers have seen me preach for 25 years that investors should never own real estate or businesses in their personal names. Why? Any wealth is a target for those unscrupulous people who make a living preying on the hard-earned assets of others. While liability insurance and umbrella policies are the first line of defense, the proper use of these other entities is additional protection in case your insurance fails because your insurance carrier denies the claim, you miss a payment, are sued for more than your insurance limit, or the insurance company goes bankrupt. I have personally seen every one of these events happen to clients.
Finally, reporters did find that some of the Panama Paper corporations were shell corporations seemingly used for illegal purposes. But is that a reason to ban corporations or trusts from a jurisdiction? Using legal entities for illegal purposes is something that no government can fully regulate, control, or stop, any more than it can eliminate other forms of criminal behavior.
Corporations, trusts, and other entities are business and financial planning tools which can be used legally or illegally. Ultimately, whether they are used appropriately and legitimately or whether they are misused depends on one simple but essential factor: the integrity of the individuals who own them.