The season finale of Daredevil: Born Again referenced a fictional freeport in the Red Hook neighborhood of Brooklyn, New York which the villain, Kingpin was using to shield illicit assets from tax and tariffs. This nod in popular entertainment to a classic tax-efficiency strategy, especially for wealthy collectors of art, highlights the concern that freeports are also a breeding ground for illicit activities, such as money laundering. Unlike Foreign Asset Protection Trusts (FAPT), the use of freeports to limit tax exposure and obtain more security and privacy in the storage and transfer of luxury goods, such as fine art and wines, cryptocurrency, and classic cars was generally only accessible and known among the uber-wealthy.
However, in past few years, the European Union has focused its attention on regulating activities in freeports, especially after increasing instances of use of these freeports, including those in Switzerland and Geneva, for illegitimate activities. The increasing uncertainty on tax and tariffs may garner more interest in freeport use even within the United States. The Delaware Freeport, for example attracts significant art collectors from New York especially because it provides a state tax haven and an alternative to shipping artwork to Switzerland, for example. Rising tariffs which would support the increased use of freeports may result in greater scrutiny and tax enforcement to combat potential tax evasion and other illicit activities that may increase also. The implementation of any asset protection or tax-efficiency strategy, including the use of freeports is a risk assessment, where the administrative costs and burden of compliance must be weighed against the financial and security benefits of using these wealth planning vehicles.
Freeports Are Nothing New But They Are Drawing More Scrutiny
Freeports have been used to reduce overhead costs, enhance security and privacy, and support globalization and trade liberalization for centuries. They are designated areas, situated near seaports and airports, globally, to hold and transact activities involving luxury goods for wealthy investors. Freeports which as legally classified as Special Economic Zones (SEZ) or Free Trade Zones (FTZ), are structured to encourage economic activity by providing a tax haven wealthy investors. When the owner of a luxury asset, such as a work of art, collectible, or a classic car, acquires and transports the asset directly to a freeport, the asset is considered “in transit.” Therefore, the asset is not subject to the taxes that would apply to the sale or movement of goods across borders. Additionally, the asset would continue to appreciate for an indefinite period, and continue to be exempt from tax, including sales tax, import duties, and capital gains tax.
Beyond Trade Through Freeports: Asset Protection
Originally established for storage of grains and other assets in transit between borders, freeports have become an attractive asset protection vehicle for the wealthy, globally. In addition to the exemption of sales tax, capital gains tax, and import duties, the seller can avoid capital gains tax upon sale also. However, simply directing storage and transactions of the assets to a freeport will not benefit the asset owner on tax-efficiency. For example, the United States taxes its residents and citizens on income generated anywhere, globally. Therefore, an asset that generates income, even in a freeport that remains under the ownership of a US citizen or resident would be subject to US federal tax. Tariffs which apply on the trade of goods may be reduced or eliminated by the use of freeports, but holding assets in freeports may attract the scrutiny of the IRS and the US Customs and Border Protection (CBP), which supervises certain freeports. Note that the CBP subjects all activity within the freeport zone to public interest review and U.S. laws and regulations, providing the CBP authority to exclude any merchandise that may be considered detrimental to the public interest.
While a freeport may eliminate the application of any tariff imposed by the US and minimize trade barriers, the tax exposure due to the US tax regime should be considered. Assets in freeports are considered to be in transit and therefore not subject to tariffs, however, additional enforcement and compliance obligations may be implemented to align with the increased tariffs that cause significant administrative burden on the asset owners. Freeports do not, therefore, replace the need for additional planning, such as the use of Domestic and Foreign Asset Protection Trusts.
Foreign Asset Protection Trust Can Provide Additional Tax-Efficiency and Security For Freeport Assets
Using a Foreign Asset Protection Trust (FAPT) or similar irrevocable trust structures and independent entities in conjunction with storing assets in freeports may provide additional layers of security and opportunities for further tax mitigation. A FAPT enables a U.S. citizen to transfer assets to be held in a foreign jurisdiction while protecting it from domestic creditors because of the limited jurisdiction of the legal system across borders. Assets stored in a freeport may use a FAPT or other entity to be the owner of the asset to provide layered protection as well. A FAPT imposes a significantly higher burden of proof for creditors attempting to claim fraudulent transfer, shorter statute of limitations in many foreign jurisdictions, thus reducing the window for litigation, and, in some cases, favorable tax benefits.
Unlike assets in free ports, FAPTs, if designed and managed with certain restrictions, can qualify as being outside the scope of U.S. tax jurisdiction, which would be tax-advantageous. Significant compliance obligations exist, however, on distributions to foreign beneficiaries, to foreign holders of the underlying entities, foreign asset reporting, and foreign trust regulations which can be administratively burdensome and risk significant non-compliance penalties. Additionally, FAPTs without carefully planned funding and structured restrictions on transfers and control risk may bypass any creditor protection and the original asset owner may suffer the wrath of the courts. Further, if the US passes the Big Beautiful Tax Bill, several provisions, including proposed Section 899 would impact the tax treatment of foreign holdings, which can be challenging for highly valuable assets, as are generally stored in freeports. Regardless, if structured properly and legitimately, the tax-efficiency and privacy protections offered by the FAPT can be significant.
Freeports Use Is Best Considered With Broader Foreign Asset Protection
Freeports have historically supported global trade, asset protection, and tax efficiency. They can facilitate commerce and globalization and can be especially useful for wealth preservation with assets subject to tariffs and duties in a time of uncertainty on global trade. However, as global financial regulations and transparency initiatives expand, freeports are ripe for scrutiny and regulatory measures which warrant staying up to date with compliance and reporting requirements. The high cost and administrative burden of compliance supports the use of freeports primarily for high-value goods and luxury assets, especially those requiring more security and privacy than more common investments.
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