Shipowners are rerouting vessels, increasing their route by thousands of miles around Africa’s southernmost point, encouraging investors to buy shares. This crisis should draw renewed attention to an industry that largely operates outside international tax rules and now looks to governments to protect it.
Western governments have sent navies to protect ships seeking to pass through the Suez Canal – a major artery of international trade – and the US and Britain have launched strikes on Houthi targets in Yemen to prevent further attacks in the Red Sea.
These naval defense efforts are key: sailors are in danger, manufacturers are forced to curtail production, and all of this could reignite inflation. But they are not cheap.
This year, large multinationals are subject to a minimum tax of 15% on profits, but the shipping industry successfully lobbied the Organization for Economic Co-operation and Development (OECD) for an exemption. This preserves a system where ships are often registered in loosely regulated, low-tax jurisdictions – known as “open registries” – and fly a flag of their convenience, rather than that of the true country of ownership. About 44% of the world’s ships by dead weight (DWT) are registered in just three countries – Panama, Liberia, and the Marshall Islands. This represents a significant change from the 1950s when so-called “open registers” represented less than 5% of the world’s marine fleet.
To compete with “open registries”, more than 20 European countries plus South Korea and Japan have offered shipowners preferential terms under which they are taxed based on tonnage rather than profit.
The average tax rate paid by international shipping companies was just 7% between 2005 and 2019, according to data from Olaf Merck, head of the Ports and Shipping Unit at the OECD’s International Transport Forum. In some categories, companies pay significantly less: the average tax rate for carrying liquid cargo – where vessels such as oil tankers enter – was just 3%, while cruise ships paid an average of 0%.
Trade organizations have long criticized flag-of-convenience sailing for undermining labor standards, but the tax breaks have been overlooked in part because this cyclical industry often lost money.
However, that changed when container shipping companies suddenly started generating tens of billions of dollars in profits during the coronavirus pandemic. Some of them even revealed that they owed less than 1% in taxes and governments had to write off billions in potential revenue.
Even the boss of German shipping giant Hapag-Lloyd said in 2022 that low tonnage taxes were not fair. However, his inconvenience did not prevent the company from paying a total of 17.3 billion EUR in dividends for the financial years 2021 and 2022.
There has been progress in promoting competition in shipping and penalizing pollution, but excluding the industry from the global minimum tax is a missed opportunity.
The lesson from the pandemic, and now from the Houthis, is that maritime trade is highly subject to obstacles, and in a multipolar world, freedom of navigation is no longer a sure thing.
The Houthis make no distinction between the nationality of the ship’s owner and the flag under which it sails. And no one seriously expects the Marshall Islands, Liberia or Panama to come to the rescue if a ship is attacked. It depends on the US, UK and their allies.
All of this calls for rethinking so-called “convenience” flags once the attacks stop, writes Kevin Rowlands, head of the Royal Navy Strategic Studies Centre, an in-house think tank.
Meanwhile, a British parliamentary committee warned in 2022 that the use of “convenience” flags had created a “legal vacuum” on the high seas.
Ironically, the shipping industry pushed for exclusion from the OECD minimum tax on the basis that maintaining a shipping fleet through tax subsidies is important to national security.
In fact, the need for governments to protect cargo ships in international waters – at considerable cost – is a good reason to start taxing ship owners properly.
