International developments

| 17/11/2008

Are there some more tealeaves to read? Last week produced some more clues for us as to where the economic powerhouses of the world would like to go in their relations with offshore financial centres. Cayman should take careful note.

First, the European Commission released its proposals for what may best be called “Son of the European Savings Directive” (or EUSD II). EUSD I (automatic reporting of interest income paid to EU taxpayers) did not, unsurprisingly, produce the golden goose some European governments had hoped for, i.e. huge inflows of money and information to enable them to restock their depleted treasuries. However, it got them the foot in the door in places like Cayman as the implementation of EUSD I required the establishment of the infrastructure for reporting. The Cayman Tax Information Authority (CTIA) is the relevant government agency that receives the reports from banks here and passes the information on to the tax authorities in the relevant EU member states. This agency also deals with requests for information from the US IRS under the Tax Information Exchange Agreement (TIEA) and any other TIEA’s or similar arrangements Cayman may enter into in the future.

There was much ill-advised public gloating in a number of offshore centres (not including Cayman I may say) over the ease with which EUSD I could be circumvented by the use of personal holding companies, trusts and the like and by converting interest income into something else outside the scope of the Directive. They had clearly ignored the fact that Brussels is not stupid and that Brussels has a very long term game plan. The eurocrats could sit and wait for the right moment to move again.

The recent outcry over cases of tax evasion using products and service providers in Liechtenstein and Switzerland together with the global financial crisis gave Brussels (and the French and Germans) the moment they were waiting for. Hey Presto, EUSD II is accelerated as part of the solution to these problems. EUSD II is not final yet and the devil will be in the detail, but it looks almost certain to include “cut through” and “substance over form” provisions to require paying agents to report where the underlying beneficial owner is a EU taxpayer and where the income is in reality interest income. It also appears that certain investment funds that are currently outside the Directive will be brought within it (this could have an impact for some Cayman funds).

Cayman has survived and indeed flourished under EUSD I. But Cayman should be thinking hard about EUSD II and how it may impact its competitive position.  There is no question that, under the current constitutional arrangements with the UK, implementation by Cayman of the EUSD II (once implemented by the EU) is a foregone conclusion. It is simply a question of “when” not “if ”. Competitors under the thumb of the UK such as Bermuda, the British Virgin Islands, the Channel Islands and the Isle of Man are likely to be in much the same position as Cayman. Competitors such the Bahamas, Barbados and Panama, that are sovereign nations, have more wiggle room. But the really serious long term competitors like Hong Kong, Singapore and Dubai that have shown polite refusal to sign up to EUSD I  will be even less likely to sign up to EUSD II any time soon.

The second development is the communiqué issued by the G-20 after the Summit in the USA last weekend. This is a masterly product of compromise and diplo-speak. Much of the document is sensible and non contentious (better communication and coordination amongst regulators etc). But there are some interesting code words buried deep within the text, included no doubt at the insistence of the French and the Germans as a quid pro quo for the grand words of commitment to free markets and the avoidance of overregulation demanded by the US and maybe the UK. The G-20 agreed to protect the integrity of the world’s financial markets by inter alia “protecting against illicit financial risks arising from non-cooperative jurisdictions”. Further, they agreed to “promote information sharing, including with respect to jurisdictions that have yet to commit to international standards with respect to bank secrecy and transparency”. And they urged national authorities to “strengthen their cross border cooperation to protect the international financial system from illicit actors” and “to implement measures that protect the global financial system from uncooperative and non-transparent jurisdictions that pose risks of illicit financial activity”. Finally, “lack of transparency and failure to exchange tax information should be vigorously addressed”. Pulling all that together and joining the dots, the G-20 agreed to go after jurisdictions that do not meet and implement what the G-20 perceives to be the right standards of transparency and cross border assistance and exchange of information. It is a brave person who would conclude that, however unfairly, Cayman is not likely to be one of jurisdictions in mind.

Thirdly, the indictment by a US grand jury of a very senior officer of the Swiss bank, UBS, for conspiring to assist US taxpayers to evade US taxes shows that the US has at long last decided to go after the offshore service providers in egregious circumstances. The message is chilling. Historically, the US authorities have been keener on simply obtaining the information from the service provider in order to successfully prosecute the US taxpayer. But increasing frustration has been building for some time in the US over the aggressive involvement of overseas service providers in developing and promoting tax evasion structures and products. So the thinking is to shut down these service providers or persuade them to get out of the business. Certainly, such suggestions have been made by US Senate committees during their investigations of the use of offshore vehicles (including Cayman based ones) by US taxpayers. Now we are seeing the results, and they should be concerning to anyone who has assisted or is thinking of assisting US taxpayers in anything approaching tax evasion or anything other than very conservative tax planning.

And by way of postscript…none of this has, as yet, anything much to do with President-elect Obama. We will have to wait and see what his contribution in this area will be. It may not be immediate, but it will come.

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