While cruise lines are under near-existential threat from the COVID-19 pandemic, they have been denied stimulus relief in the United States, where they pay almost no corporate tax. Analysts say that is unlikely to change.
Although cruise line operators will probably withstand efforts to increase their exposure to corporate taxes, it’s unlikely they will have much in the way of income to tax over the near- to mid-term, because ships have been confined to port, leaving passengers leery of booking passage on what have been described as “floating petri dishes” for the coronavirus.
Despite President Trump’s early promises of support for the companies, most of which are headquartered in Florida, they were shut out of U.S. relief efforts because they pay almost no federal income taxes and are largely exempt from U.S. labor and safety laws.
Reuven Avi-Yonah, a law professor specializing in corporate and international tax at the University of Michigan, said that under article 8 of all U.S. tax treaties, ships generally are taxable only in their country of residence. “That is invariably a tax haven, so the shipping companies pay no tax,” he said. “Section 883 [of the Internal Revenue Code] implements this policy domestically. Since the tax havens have no income tax, reciprocity is formally assured.”
Robert Deutsch, senior tax counsel at the Tax Institute of Australia and a professor of tax law at the University of New South Wales, said cruise ship operators generally do not pay company tax in Australia because they are not based in the country. “If such a cruise ship operator is based in the U.K., the [Australia-U.K. tax treaty] makes it very clear under article 8 that the profits from the enterprise only get taxed, if at all, in the U.K.,” he said. “The only rider to that is that profits derived from ship operations confined solely to Australia can be taxed here. All that the [tax treaty] does is that it provides that if the ship is from the U.K., the U.K. can tax [it], but Australia can’t unless the travel is confined solely to Australia.”
Avi-Yonah said article 8 represents very bad policy. “Under OECD treaties, the definitive test is the place of effective management of the shipping company, which would typically be the U.S., although different countries interpret this phrase differently,” he said in an email. “Sometimes it's just where the board meets, which can be in a tax haven as well. Because of this, the U.N. model goes further and gives taxing rights to countries where ships dock, but I think few countries implement this rule, even though in my opinion that is a good solution.”
Deutsch said the article 8 standard has been in place for a long time and is broadly consistent across the globe. “That in and of itself does not make it right, but changing this position would not be easy,” he said. “No doubt it will now be examined more closely in the aftermath of the Ruby Princess COVID-19-related disaster.”
In mid-March, approximately 2,700 passengers on the Ruby Princess were allowed to go ashore in Sydney without undergoing health checks. Hundreds of the passengers later tested positive for COVID-19, with 15 of them succumbing to the disease. The cruise ship is operated by Carnival Australia, a unit of Carnival Corp. & PLC, a U.K.-U.S. company headquartered in Florida that operates 26 ships under the flags of either the Bahamas, Malta, or Panama.
In an April 9 article in the Sydney Morning Herald, New South Wales Police Commissioner Mick Fuller was quoted as saying, “They don’t pay taxes in Australia, they don’t park their boats in Australia, their primary flags are often in the Caribbean in different islands. [It’s] time to go home."
The Cruise Lines International Association (CLIA) told Tax Notes April 13 that there is a misconception that cruise lines don’t pay U.S. taxes. “In 2016, for example, the cruise industry paid $1.3 billion in taxes and fees to the United States, including $170 million in U.S. federal taxes, $350 million in U.S. state and local taxes, $345 million in U.S. port and other service charges and fees, $50 million in corporate income taxes, $371 million in wage taxes, $23 million in sales and excise taxes, and $7 million in other taxes,” the trade association said. “Taken together, this amounts to an effective tax rate paid by cruise lines to the United States on par or higher than the effective tax rates of many major corporations in the U.S.”
According to Carnival’s 2016 annual report, the company had pretax income of $2.58 billion on revenues of $16.4 billion.
Avi-Yonah said he doubts that the pillar 1 and 2 proposals being considered by national governments under the auspices of the OECD will result in cruise line operators being forced to pay more tax. “I don't think OECD pillars 1 or 2 would touch this,” he said. “One, [it] wouldn't because the consumers are on the ship, so allocating income to the place of consumption would not help. And two, [it] wouldn't if the residence state is a tax haven and there is no income against which deductions can be taken in source states. We really need a special rule for shipping. One option that applies to airlines is to force ships to carry a national flag of the country the company is really from and have that country tax. The other is to apply the U.N. model solution.”
Deutsch some that while some reasonable basis is needed for determining the allocation of taxing rights to Australia in such situations, achieving international consensus would be difficult. “Australia would not be able to go it alone on such an issue,” he said. “More likely it is something that perhaps the OECD could examine under pillar 1, where source rules could be rewritten so as to accommodate a taxing capacity for the destination country of cruise ships. This could take many forms — something simple like a dollar amount per passenger per 12-hour stay, or something far more complex and controversial, like a percentage of total profit for the entire cruise."
Deutsch said there are many complex problems with the first profit allocation model. “The flat-rate, per-passenger model is effectively what Australian states do in calculating port fees, but it hardly reflects an allocation of profit in any real way,” he said.
The CLIA didn’t respond to a question regarding whether the association or any of its members have expressed concern about what might come out of the OECD negotiations. “Our focus right now remains the safe return of passengers still at sea, including securing cooperation from ports and governments for the safe and orderly transportation to their homes around the world,” it said.
The group said there are “just a handful of ships in the process of concluding their voyage.” Over 95 percent of ships represented by the association have no passengers and four more are in port awaiting their turns for passengers to disembark, it said.
The CLIA said the cruise industry supports over 421,000 jobs in the United States, mostly at travel agencies, but also with tour operators and companies supplying cruise lines. “Economic analyses show that every 1 percent drop in cruising from the United States can result in up to 2,000 lost American jobs,” the association said. “Moreover, should the suspension in cruise operations continue through May, we anticipate a direct economic loss of $3.43 billion to the U.S. economy, representing 26,700 American jobs lost. The total economic loss will be far higher: $7.84 billion and 53,160 American jobs lost.”
Port Taxes
In a July 6, 2019, article for eTurboNews.com, a website specializing in news and developments related to travel, transport, and tourism, Robert MacLellan said that if Caribbean and Central American governments were to come together and form an organization of tourism economy countries along the lines of OPEC, they could negotiate as a cartel from a position of greater strength with the cruise lines. “Currently, when individual countries try to increase port taxes, they are threatened with being dropped from cruise itineraries and can be picked off one by one by the powerful cruise lines,” said MacLellan, a Bahamas-based hospitality industry consultant and managing director of MacLellan & Associates.
MacLellan said that when cruise lines have single-destination itineraries like Alaska, Bermuda, and Hawaii, those governments have negotiated higher cruise port revenues than those of the average Caribbean jurisdiction. “For mainland United States and Canada cruise itineraries, an average of 33 percent of the cruise ticket price goes to port taxes, compared to an average 14 percent for a Caribbean itinerary,” he said.
If port taxes were raised and standardized across the Caribbean, the region’s “sky-high” airport and air ticket taxes could be reduced, thereby increasing the number of visitors who stay on the islands instead of sleeping on cruise ships, MacLellan said. “Stay-over travelers . . . spend very much more than cruise ship passengers and generate considerably more local employment than today’s cruise ship business model, which is now highly exploitive of Caribbean countries,” he said. “The mega ships now have multiple shops, casinos, restaurants, and bars, offering all-inclusive packages that totally distract passengers from spending ashore. In the last 20 years, ships’ commissions on shore excursions have risen from 10 percent to 50 percent, discouraging passengers from going ashore at all and squeezing any possible profit margin for local tour operators. Today, over 80 percent of a cruise ship passenger’s discretionary spend is on board.”
Another advantage enjoyed by cruise lines over Caribbean hotels is that the vessels have a double high season because they can operate in the islands for close to six months, and then travel along the coasts of Alaska or the Mediterranean for much of the rest of the year. “Operating virtually free of corporation taxes and with very low wage bills, the largest ships cost less than $300,000 per cabin to build, while new hotel rooms in the Caribbean cost double that figure per room to develop, and have only one high season,” MacLellan said.