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Doing Business : Tiny Island Angling for Offshore Banking : Malaysia's remote Labuan has no natural resources and little industry. But it has lots of ambition.


LABUAN, Malaysia — First, a short geography quiz: You may have heard of Grand Cayman, Malta and even Guernsey. But can you find Nauru, Vanuatu and Labuan? And what do they all have in common?

Yes, they are all fairly remote islands. But all six also are up-and-coming IOFCs, an acronym in the banking industry for international offshore financial centers. They may epitomize the term backwater, but they are attracting billions of dollars in investments and deposits.

The granddaddy of offshore banking was, of course, Switzerland, which provided overseas depositors with the first guarantees of secrecy and low taxes on their wealth. But Switzerland is highly regulated and more and more open about its banks, so depositors with money to park "offshore" have increasingly looked elsewhere.

Labuan is the latest island to join the rush for offshore banks and companies. A flyspeck on most world maps, Labuan lies just off the northern coast of the island of Borneo, about 80 miles southwest of the city of Kota Kinabalu.

The Malaysian government decided in 1989 to turn Labuan into an offshore financial center, enacting bank secrecy laws, making the island a duty-free port and imposing a corporate tax of just 3%, up to a maximum of $7,800, compared with the 40% corporate tax rate in the rest of Malaysia.

According to Ramli Othman, an official with the Malaysian Industrial Development Board, the government chose the island because it has no natural resources and little industry to provide jobs for its 50,000 inhabitants.

Malaysia wrested control of the island from the state of Sabah in 1984, and it is now ruled as a federal territory--a little bit like the District of Columbia--directly from Kuala Lumpur, the Malaysian capital. So the government of Prime Minister Mahathir Mohammed had a strong political reason for wanting to pump development dollars into the island.

Another, more cynical view of the government's motives, which is expressed by critics on Labuan, is that senior government officials bought up land on the island at bargain prices and now stand to make large profits. In a recent court case, for example, it was revealed that a former chief minister of Sabah, Harris Mohammed Salleh, claimed to be the owner of the island's only golf course.

A more unlikely spot for a financial center would be hard to imagine. The 35-square-mile island is a 20-minute propeller plane flight from Kota Kinabalu, which is itself not exactly world renowned.

The island had a fleeting fame in the closing days of World War II as the site of a sharp battle between Japanese and Australian forces. The airport exists thanks to the Japanese occupation army, and there are large war memorials to Japanese and Australian soldiers on opposite sides of the island.


Before offshore banking came along, the island's main sources of income derived from its geography: as a port to ships serving the offshore oil industry in the waters off Borneo and as a somewhat tawdry rest-and-recreation spot for expatriates resident in Brunei, which is Islamic and allows no alcohol. The main town of Labuan has a large number of crowded discotheques.

The government reckons that its location may help Labuan catch on among foreign banks because it is just two hours behind the time in Tokyo and in the same time zone as Hong Kong and Singapore. The hope is that customers will prefer to deposit their cash in a bank in the same time zone as these major financial centers rather than in one halfway around the world.

"The location of Labuan is ideal, in the heart of the Asia-Pacific region," said Mainor Awang, general manager of the Labuan Development Authority. After three years as an active offshore financial center, Labuan has attracted 16 banks, he said, and about 250 companies have registered here.

The government hopes those numbers will swell following the completion of a huge financial park costing $148 million. The center will feature five 18-story buildings, two of them apartments and the remainder offices and shops.

In addition, two five-star hotels are under construction nearby, and a $50-million marina project is on the drawing boards.

The Malaysian government is trying to be selective about which banks are given licenses to operate in Labuan because choosing which customers can use the island's facilities will be solely up to the banks. The belief is that prominent banks will weed out suspicious characters so that Labuan will not get the reputation as a repository for drug money that has afflicted some other offshore centers.

"If we confine ourselves to big banks that will not do something which will smear their name, that in itself is a protective measure," said Mohammed Ibrahim, the representative of Bank Negara, Malaysia's central bank. According to Malaysian press reports, deposits in Labuan banks are now estimated at about $1.8 billion and they have loaned $4.5 billion.

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