How to choose your yacht's flag state

If you consider buying a superyacht for international cruises and chartering in the Caribbean and the Med, your lawyer or broker will tell you to register and flag the yacht offshore.

The flag you choose to fly from your transom can have a direct bearing on your privacy, taxes, exposure to liability and boarding, the vessel’s success as a commercial enterprise, and, ultimately, your enjoyment of the yacht. So how do you decide which flag best serves your purposes? There is no simple answer that covers every owner, but some basic considerations do apply.

‘The choice of flag state has, over the last few years, become one of the most important decisions owners and/or their representatives must make,’ says Mike Dean of Isle of Man-based Döhle Yachts.

A flag state is the country or governmental entity under whose laws a vessel is registered or licensed. This can be the country in which the owner resides, or more commonly in the superyacht world, an offshore ship registry in a country with laws that are attuned to the complexities of yacht ownership and charter operations.

The flag state has the authority and responsibility to enforce regulations over vessels registered under its flag, including those relating to inspection, certification and issuance of safety and pollution prevention documents.

Offshore flagging advantages

Owners who choose to flag offshore – especially those who plan to make their yachts available for charter in the EU – can benefit in many ways, including, but not limited to, mitigation of some tax burdens, confidentiality of ownership, and reassuring lenders and insurance companies. An owner who intends to operate his vessel as a private yacht and not charter might register the vessel in his home country.

However, many popular flag states have appealing and relatively simple avenues for setting up offshore corporate structures that offer favourable taxation and liability protections under a stable fiscal and legal system. In addition they have construction, inspection and regulatory compliance regimes that can streamline the process of owning and operating a large yacht.

Registering as a private yacht with a non-EU flag also allows an owner to operate under the Temporary Importation regime in Europe in which a yacht can operate for up to 18 months without the vessel being subject to customs duties or the EU’s Value Added Tax (VAT).

Owners who intend to actively pursue charter in the world’s most popular destinations – in particular, the Med, which is ringed by EU states – and the Caribbean, will generally choose to incorporate, flag offshore and register as a commercially operated vessel.

In addition to the benefits above, such structures can allow the vessel to operate within the VAT system. VAT on charters is still chargeable to the end consumer – the charterer – but the system allows operators of legitimate charter businesses to account for their input tax in the normal business sense. For instance, if a business buys food for a charter, it will pay input tax on the supply but can deduct it as an operating expense.

Good and bad flags

Registering a yacht to operate commercially subjects it to a broad range of regulations related mainly to safety.

A flag state will generally require a yacht to be in compliance with construction standards set forth by one or more of the main classification societies such as Lloyd’s Register, American Bureau of Shipping or Det Norske Veritas, as well as meeting safety and practice standards set forth by government agencies such as the UK’s Maritime and Coastguard Agency (MCA), as applied by the relevant states’ national legislation.

Choosing a particular flag is a vastly complicated matter generally settled between an owner and his attorney, but there are some basic considerations, not the least of which is the potential for the yacht to be boarded and detained by authorities. In short, there are good flags and bad flags.

‘You need to be with a flag that can provide a solid commercial registration that’s accepted in the shipping industry and accepted by the governments of the world,’ says Ken Argent of Water’s Edge Consulting Ltd.

A wise starting point would be to choose a flag on the so-called ‘White List’ as maintained by the Paris Memorandum of Understanding on Port State Control (Paris MoU).

The Paris MoU consists of 27 participating maritime administrations and covers the waters of the European coastal states and the North Atlantic basin from North America to Europe. Its mission is to eliminate the operation of sub-standard ships through a harmonised system of port state control. There are other MoU groups around the world, with similar aims.

Port officers inspect foreign ships in the Paris MoU ports, to ensure they meet international safety, security and environmental standards, and that crew have adequate living and working conditions.

Flags on the Paris White List have demonstrated strong performance in those areas and thus, are subject to fewer boardings when they enter foreign ports.

Flags on the Grey List and Black List have been deemed deficient and risk more boardings and possible detentions. Traditionally, yachts have been a low priority for Port State Control (PSC) inspections, but since the advent of the New Inspection Regime in Paris, this is no longer the case and so it is important to choose a flag with a good PSC record and a rigorous approach to safety and certification.

‘There are rogue states that remain outside the family of civilised nations, and yachts that fly those flags are not welcomed,’ says maritime attorney Michael T. Moore. ‘Generally speaking, most civilised countries have subscribed to a web of treaties designed to protect the world’s oceans from pollution, overfishing and various other unacceptable practices. Almost all seafaring nations are on the alert for out-of-pattern flags.’

Other considerations extend beyond the prospect of being boarded. ‘Lenders and insurance companies will review a flag state’s enforcement of international environment and safety and procedures and standards, compliance with international regulations and casualty record,’ says Dean. ‘A poor record will inevitably affect the decisions of the lenders and underwriters.’

The Red Ensign Group

The brokerage and management firm Edmiston Company estimates as many as 80 per cent of large yachts are flagged in the British overseas territories commonly known as the ‘Red Ensign Group’, in particular, the Cayman Islands, Gibraltar and the Isle of Man.

Factors influencing that, says Edmiston, include prestige, tradition and history; international recognition of high standards and adherence to the Large Yacht Commercial Code; ready availability of a large number of qualified surveyors; protection of British maritime law, consular services and navy; and commercial confidentiality (the owning companies can be registered in the flag state, rather than the person who owns the yacht).

‘The Red Ensign Group uses the UK MCA’s Large Yacht Code (LYC) as the criteria for building and equipping commercial yachts,’ says Clive Harrison of Döhle Yachts. ‘The LYC has been submitted (and accepted) to the International Maritime Organisation (IMO) as the UK’s equivalent provisions under the equivalence arrangements of several international conventions (Load Lines, SOLAS and STCW).

‘Yachts built and operated under the LYC do so under internally recognised standards,’ says Harrison, ‘whilst other jurisdictions operate their own codes, these have not been presented or accepted to the IMO. Compliance with LYC can have a positive impact on resale values.’

The Red Ensign registry with the largest number of yachts is the Cayman Islands Shipping Registry. According to Peter Southgate, Advisor, Maritime Policy and Legislation Development and Shipping Master of the Cayman Registry, service is one key to the flag’s popularity.

‘The various members of the Red Ensign Group offer a very high quality flag option for any owner, and we ensure that as a group, we do not compete on quality,’ Southgate says. ‘This leaves essentially only service and the possible effects of local restrictions. For example, the UK is an EU flag and hence, temporary importation would not be available to a UK-flagged vessel.’

Flags of different colours

Most flag registries, while either an agency of a government or acting on behalf of the government, are to some extent, in competition with each other for business and offer various angles that may benefit the needs of some owners.

The Marshall Islands allows qualified private yachts to charter up to 84 days a year, but subjects them to detailed surveys heavy on lifesaving, safety and fire fighting. They also have to have a minimum safe manning certificate for when they’re chartering.

‘We look at that as an owner trying to recoup some of his expenses – not putting his yacht into a commercial mode,’ says Eugene Sweeney, senior vice president, Yacht Operations for International Registries, Inc., which provides administrative and technical support to the Marshall Islands Maritime and Corporate Administrators.

The US flag has long been problematic for ship and yacht owners due in large part to onerous regulations and manning requirements. ‘The US flag has a very unwelcoming regime of laws and regulations that make it extremely difficult for a ship of any size to be registered,’ says Moore. Matt Ruane, director of JTC Marine and Aviation, cites some specific reasons a US flag may not appeal to owners of large yachts.

‘US residents often wish to purchase yachts outside the US and register on to a non-US flag in order to avoid US sales and/or use tax,’ Ruane writes. ‘US Coast Guard legislation fails to differentiate between merchant vessels and commercial yachts, meaning most large yachts would fail to meet their “Seagoing Motor Vessel” requirements, which, in essence, apply SOLAS requirements to all vessels in excess of 300GT.

‘A US-resident master and crew are required for all large yachts, unless operating privately and outside of US waters. A US flag requires US corporate or private ownership, and the concept of nominee directors and shareholders is less understood and thus, less acceptable, essentially meaning that US corporate ownership is more transparent.’

The actual cost of flagging offshore is relatively low, provided your yacht meets class requirements, which is something an owner would want to consider especially when buying a brokerage yacht. The cost of bringing a yacht up to class can be substantial.

Choosing a flag is a matter best undertaken under counsel of a maritime attorney. There are many possible avenues depending on an owner’s intended use and other considerations, but at the end of the day, most advise sticking with the tried and true.

‘If for whatever reason you are tempted to use the flag of a state because you like the AK-47 image on it,’ says Moore, ‘resist.’

Originally published: Superyacht Owners’ Guide 2012.