• Global Tax Transparency
    FATCA, CRS, European FATCA

    By Dirk De Wolf


    Understanding FATCA and having a comprehensive FATCA compliance program is essential for financial firms to limit non-compliance risk and meet obligations with relevant IGA's. The US has made inroads on the Exchange of Information front and tax havens like Switzerland have declared a willingness to meet or even exceed OECD standards in this area. The Common Reporting Standard is the latest building block of regulation in the march towards a global automatic exchange of information. In the meanwhile, it is clear that the EU is keen to develop its own version of FATCA. Its chosen way of doing this is to extend the Administrative Co-operation Directive.

    1. Background of FATCA

    The US Foreign Account Tax Compliance Act (FATCA) was enacted on 18 March 2010 and will be effective as from 1 July 2014. FATCA requires Foreign Financial Institutions (FFI) to enter into legal agreements with the IRS according to which they would have to comply with due-diligence, information reporting and tax withholding obligations with respect to their US accounts.

    1.1 Reasons for FATCA

    • Financial Scandals
    • Curb US Tax Abuse: US investors using offshore accounts to evade US taxation
      • Evasion of US withholding tax system
      • Failure to pay tax on income/gains
      • Failure to comply with US tax/reporting disclosure rules
    • Enactment occurred at same time as:
      • G20 promoting tax transparency and exchange of information
      • Financial crisis
      • Need for revenues

    1.2 What does FATCA require?

    FATCA requires Foreign Financial Institutions (FFIs) and Non-Financial Foreign Entities (NFFEs) to report information with respect to US account holders or members or suffer or suffer a 30% US withholding tax on US on certain payments relating to US investments.

    FFI obligations under IRS agreement: Enter into IRS agreement to: identify US accounts, report certain information to IRS regarding US accounts, verify its compliance with its obligations pursuant to agreement and US withholding on certain payments.

    NFFE obligations: Provide information with respect to US members or certify no US members.

    1.3 EU Dimension

    Since the adoption of FATCA many EU financial institutions and their representatives have been in contact with the European Commission and the tax administrations of the Member States to express their concerns about the high compliance costs that the FATCA legislation would involve for them. FATCA is a US centric law that imposes expansive obligations on FFIs and NFFEs. A number of these US obligations may conflict with local law prohibitions with respect to privacy, disclosure, anti- discrimination, consumer protection and withholding 'foreign' taxes if the local law doesn't permit an FFI or NFFE to undertake the required FATCA obligation or if the account holder or member doesn't otherwise consent to the actions. It will be necessary to resolve these conflicts prior to the effective implementation of FATCA.

    Therefore the US has considered an alternative intergovernmental approach to implement FATCA and improve international tax compliance. The US has developed a 'model agreement' to be used by countries which are interested in adopting such an intergovernmental approach. The intergovernmental approach would simplify practical implementation of FATCA and reduce FFI costs. Note also the willingness of the US to reciprocate in collecting and exchanging on automatic basis information on accounts held in the US financial institutions by residents of FATCA partners.

    1.4 Intergovernmental Agreement (IGA)

    The IGA approach to implement FATCA will be structured to avoid local law conflicts with FATCA. The US and a partner country (FATCA partner) would enter into an agreement pursuant to which, which subject to certain terms and conditions, the FATCA partner would agree:

    1) To pursue necessary implementing legislation to require FFIs in its jurisdiction to collect and report FATCA required information to the authorities of the FATCA partner.

    2) The FATCA partner, in turn, would transfer to the US, on an automatic basis, the information received by the FFIs.

    3) FFIs in a FATCA partnership wouldn't be required to enter into an FFI Agreement with the IRS but rather would be subject to an IRS registration requirement. FFIs in a FATCA partnership would be treated as compliant with FATCA.

    IGAs are intended to establish a partnership between the US and foreign countries to:

    • counter offshore tax evasion;
    • improve international tax compliance;
    • establish uniform reporting standards and an automatic information exchange;
    • eliminate local legal obstacles to FATCA compliance; and
    • implement FATCA in a manner that will reduce compliance burdens and costs on FFIs.

    Model 1

    In July 2012, the US Treasury Department issued the first model for an IGA which makes it easier for partner countries to comply with the provisions of FATCA. Under this agreement, FFIs in partner jurisdictions will be able to report information on US account holders directly to their national tax authorities, who in turn will report to the IRS.

    Model 2

    In November 2012, the US Treasury Department issued the second model of the IGA for complying with the FATCA provisions. Model 2 IGA was designed to address potential conflicts of national and local laws that would make it difficult, for Financial Institutions in some jurisdictions, to comply with FATCA.

    1.5 FATCA type provisions

    Any country that has some sort of power can implement FATCA type provisions. For example: a large country with a growing economy and a fast growing market (such as for example India) could consider imposing FATCA type requirements, and permits foreign individuals or companies access to the Indian market only if the governments in which those foreign individuals and companies are resident/incorporated comply with a FATCA type provision. It is merely a question of power. Power reflected by the importance of a financial market (such as the US) or power reflected by a large consumer market.

    1.6 Implications of FATCA on Switzerland

    For over a century Switzerland has developed its secure banking system around its commitment to privacy protection. In the recent years, this commitment has come under serious international pressure.

    There was for example the purchase by the German tax authorities of bank data stolen by an employee from Credit Suisse and disclosures to US authorities by former UBS banker Bradley Birkenfeld about the bank's efforts to target US citizens. The US has made inroads on the Exchange of Information front and Switzerland has declared a willingness to meet or even exceed OECD standards in this area.

    Swiss banking secrecy

    Swiss banking secrecy is the legal principle under which Swiss banks are allowed to protect personal information about their customers. Swiss law (Banking Act of 1934) strictly limiting any information shared with third parties, including tax authorities, foreign governments or even Swiss authorities, except when requested by a Swiss judge's subpoena.

    Key issues:

    • Covers all business relations with the bank
    • Not limited in time
    • Concerns all the people who work for the bank

    Key provisions:

    • Regulated by both civil law and criminal law
    • Privacy is statutorily enforced
    • Reveal equals imprisonment of 6 months or 50,000 francs
    • Negligence equals 30,000 francs

    Due to banking secrecy and lack of information exchange, Swiss banks have acted as tax havens and allowed for US firms and individuals to commit tax evasion. This was clearly proved by SwissLeaks. The leaked files reveal how HSBC Swiss private bank colluded with some clients to conceal undeclared accounts from domestic tax authorities across the world and provided services to international criminals and other individuals. This leak sheds some light on some 30,000 accounts holding almost $120bn of assets. Of those, around 2,900 clients were connected to the US.

    Some political parties, like the SP, have always been warning that the Swiss institute of 'banking secrecy' which protects the black money of tax evaders and other criminals and potentates is not a sustainable business model. International acceptance of Swiss laws is crucial for a sustainable development of the Swiss financial market place. In view of the actual international crisis of the public finances, the Swiss policy of tax dumping and protection of tax evaders is not rational but stupid. Swiss economic depends highly on European and world economic. Worldwide sound public finances are the base for a sound world economy. Therefore it isn't astonishing that the international community has increased the pressure on Switzerland to stop harmful tax practices. What is needs is a coordinated international policy to eliminate harmful tax practices worldwide.

    US Strategy

    - Unilateral pressure

    US is imposing unilateral laws on the entire World, such as FATCA, which seeks to coerce Foreign Financial Institutions into acting as deputies for the IRS. The primary goal of FATCA is simple: raise revenue. Investigating foreign banks is a time consuming task often revealing limited relevant information and recovering only a fraction of lost tax revenue.

    - Bilateral pressure

    US has initiated actions that specifically target Switzerland, such as legal attacks on individual institutions and pressure for tax agreements.

    US - Swiss Tax Treaty: revised existing treaty based on the rules set out by the OECD Model Tax Convention (art. 26). It allows for greater information exchange. But there is still room for more improvements (automatic exchange of information). When making a request under the new treaty, requesting state must still provide 'information sufficient to identify the person under examination or investigation'.

    - Multilateral pressure

    • US is actively supporting the anti-tax competition project of the OECD.
    • ModelTaxConvention
    • Global Forum on Taxation

    The Global Forum brings together jurisdictions, both OECD and non-OECD, that have made commitments to transparency and exchange of information and have worked together to develop the international standards for transparency and exchange of information in tax matters. The Global Forum is mandated to ensure that all jurisdictions adhere to the same high standard of international cooperation in tax matters.

    1.7 Conclusion

    When FATCA was being designed it was clearly understood that a US tax evader could avoid FATCA reporting by investing with a non-US bank that is not part of the FATCA regime. However, the hope was that such banks would not be that well respected within the international community and therefore US tax cheats would be hesitant to risk their money with such banks. Nevertheless, it is safe to assume some tax evaders will be prepared to take such a risk. However, the amount of capital at risk is extraordinarily small when one views US capital flows in total. In theory, the EU could take unilateral measures (such as FATCA) as well, but because the EU is composed of many different countries, the risk of a watered down approach is significant.

    The two IGA models differ significantly in their approaches to FATCA implementation. Choosing between the two will require a potential FATCA partner to consider its own priorities with the benefits and burdens of each model.

    FATCA legislation is likely to have a significant impact on international banking secrecy laws. While the mandatory disclosure requirements will hinder Swiss banks ability to help clients evade their tax responsibilities. By 2018, Switzerland has committed to automatic exchange of information about individual accounts, taxes, assets and income along with 50 other nations. This information exchange has been announced as the end of banking secrecy.

    2. How does the CRS Regulation interact with FATCA?

    The Common Reporting Standard (CRS) is a standard developed by the Organisation for Economic Co- operation and Development (OECD) for the automatic exchange of information. It is an effort to make the automatic exchange of information between tax authorities the global standard, effectively replacing the exchange of information on request as the usual way of doing business. Like FATCA, the CRS will require financial institutions (FI's) around the globe to play a central role in providing tax authorities with greater access and insight into taxpayer financial account data including the income earned in these accounts.

    2.1 FATCA versus CRS

    The CRS will require financial institutions to report information to their own jurisdiction and this information will in turn be passed on to other relevant countries automatically each year. It is not designed to replace any existing basis or any other means of information exchange, but instead intends to supplement current measures. The CRS, although closely modeled on FATCA, is not simply a straightforward extension of FATCA. The CRS is based upon tax residence and, unlike FATCA, does not refer to citizenship. Not only do FI's have to report on far more than only US persons, but on far more accounts than they would under FATCA. Unlike FATCA, which forgives tax liability on smaller accounts (less than $50,000), all individual accounts and new accounts opened by financial entities are considered reportable.

    The CRS is wider reaching and, as a multilateral agreement, multiplies the reporting obligations of FI's. The CRS represents another global compliance burden for financial institutions and increases the risks and costs of servicing globally wealthy customers. The good news for FI's is that this standards follows in the footsteps of FATCA and is explicitly modeled on the approach taken in FATCA's Model 1 IGA. However, there is no withholding option under the CRS so those who think that, because they have the systems in place to deal with FATCA reporting, they have no work to do, will have to think again. The data required is different and the volumes are likely to be significantly greater under the CRS. Unlike FATCA, which allows fund managers to report on their underlying funds, the CRS requires each individual fund to file on its own, reporting directly to the tax authorities in other nations. The result will be greater compliance burden for global funds.

    2.2 What are the implications for Financial Institutions?

    FI's have two main tasks under the CRS. Their initial task is to identify 'reportable accounts'. Reportable accounts are financial accounts held by tax residents in relevant CRS reportable countries.

    This include accounts held by individuals and entities (which includes trusts and foundations), and the requirements to look through passive entities to provide information on reportable persons.

    The CRS sets out in detail the robust Due Diligence procedures FI's must follow. These procedures are necessary to enable the identification of reportable accounts and obtain the accountholder identifying information that is required to be reported for such accounts.

    Having identified 'reportable accounts' FI's then have an obligation to report the financial information (balances, interest, dividends and sales proceeds from financial assets) on an annual basis to their local taxation authorities which will, in turn, pass that information on to the tax authorities where the account holder is resident.

    2.3 Reflection

    An issue that already exists under FATCA and will be expanded exponentially under the CRS is that reciprocity means every government bears the cost of incorporating expansive financial surveillance. Each participating country must work to put in place administrative procedures and IT systems to safely exchange information with other participating countries while ensuring that the information received is kept confidential only used for the purposes specified in the Competent Authority Agreement (CAA). This is a particular issue for developing countries, as the Tax Justice Network (TJN) points out, this formal equality in fact introduces substantive inequality and potentially great harm to poorer countries. Hence the plans to assist them to achieve the standards.

    2.4 When is it happening?

    Approximately 51 jurisdictions are 'Early Adopters' of the CRS. FI's based in those participating jurisdiction must have their due diligence processes in place by the end of 2015 as the first reports will be in respect of the 2016 calendar year. The first exchange of information will take place in September 2017, but this will require FI's to report to their local tax authorities some time in advance of this date. A further 34 countries, including Hong Kong, Switzerland, Singapore and United Arab Emirates will start reporting in 2018, one year later than the early adopters.

    3. Towards a European FATCA?

    Inspired by the CRS and following recent agreement at the Economic and Financial Affairs Council of the EU (ECOFIN) on the revision of the Directive on Administrative Cooperation (DAC), September 2017 will also see the first automatic exchanges of information within the European Union.

    3.1 DAC

    The original draft contained provisions for a switch to automatic exchange, but was limited in terms of income and was conditional on the information being 'available'. This was revised at a meeting of ECOFIN last October. The European Union Council adopted on 9 December 2014 a new Directive 2014/107/EU amending the Directive 2011/16/EU regarding mandatory automatic exchange of information in the field of taxation, in order to solve the problem posed by cross-border tax fraud and tax evasion, one of the major concerns in the EU and globally. The revised directive expands the scope of the automatic exchange of tax information to include interest, dividends, and other income as well as account balances and sales proceeds from financial assets. The deadline for Member States to adopt local legislation consistent with the revised Directive is 31 December 2015. Under the revised DAC, information related to fiscal years as from 1 January 2016 will be exchanged on an automatic basis between EU Member States as from 1 January 2017.

    It should be noted that in respect of the following five categories of income: - employment income;

    • directors' fees;
    • life insurance products not covered by other Directives;
    • pensions;
    • ownership of and income from immovable property,

    the EU Member States start the automatic exchange of information, if available, regarding the taxable periods from 1 January 2014 onwards (i.e. the first intended automatic exchange should take place in 2015). Additionally, DAC provides for the EU Commission to be the sole negotiator for any automatic information exchange of an EU Member State with non-EU countries. In the meantime, the EU Commission is working to bring third countries on board. The underlying idea is to skip the second version of the EU Savings Directive (which will be phased out) and conclude agreements on the basis of the new standards.

    3.2 Similarities between DAC and CRS

    As is the case under CRS, DAC envisages that financial institutions (FI's) - including depository institutions, custodial institutions, investment entities and specified insurance companies - will report to their local tax authorities, which in turn will report this information to the tax authorities in the countries of residence of the account holders.

    For the moment, neither the CRS nor DAC are fully finalised in terms of detail and reporting methodology, which leaves FI's that need to prepare for the increased reporting burden knowing that they need to take certain actions to be able to comply but enable to move forward with complete certainty on the parameters within they will be reporting.

    Both under DAC and CRS, it will be necessary to carry out due diligence and reporting for all account holders resident in the different participating jurisdictions. A greater number of accounts are likely to fall within the scope of the exchange of information as there is no minimis threshold for pre-existing individual accounts under either CRS or DAC.

    3.3 Conclusion

    The similarities between the CRS and DAC should minimize costs and administrative burdens both for tax administrations and for economic operators. A key issue for FI's is ensuring the consistency of global implementation for the CRS and DAC, aligned as far as possible to existing FATCA implementations.

    I don't question the necessity for EU Member States to ensure that they collect all the tax revenues that are due to them. However, DAC raises some concerns for investors such as privacy and data protection and still unresolved issues like double taxation of financial income (dividend in particular) within the EU.

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  • The information provided in this article is for general information purposes only. The information is not intended to be comprehensive or to include advice on which you may rely. You should always consult a suitably qualified professional on any specific matter.

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