The final rules on enforcing Fatca have now been published, but hopes for an international automatic exchange of tax information are likely to be stymied by political disputes. Alexander Campbell reports The last few weeks have seen three important and highly publicised steps forward in the prevention of international tax evasion. A proposed agreement on automatic sharing of tax data between governments, released by the Organisation for Economic Co-operation and Development (OECD), promises to extend the data exchanges included in the US anti-tax-evasion law Fatca to all participating governments – but the full details of how the process will work will not be decided until later this year. The US Treasury has now published final amendments to the set of rules implementing Fatca, which is due to start enforcing punitive withholding requirements on non-compliant US and foreign financial institutions from July 1 this year. While there are few substantial changes from what the industry expected to be the final compliance picture, many of the latest rules amend the final regulations (published in January 2013) to reduce the compliance burden on US banks by allowing some non-financial foreign companies to report on their US owners directly to the US Internal Revenue Service (IRS) rather than through withholding agents. And, in a third step forward for the anti-tax-evasion law, Canada in February became the latest nation to sign an intergovernmental agreement (IGA) with the US implementing Fatca's requirements. Canadian tax lawyers believe that the agreement should not conflict with existing Canadian laws such as the Personal Information Protection and Electronic Documents Act, as the data will be collected by the Canada Revenue Service and passed on to the IRS, rather than by the IRS directly (a pattern known as Model 1, followed by several other existing IGAs including those with Germany, the UK, France, Italy and Spain). The bigger picture here is that Fatca and its spinoffs – including the OECD's model agreement, which closely follows, word for word in some places, the Fatca Model 1 IGAs – are part of a global effort to advance tax information exchange on potential cross-border tax evaders from an on-request to an automatic model. Previous efforts by the OECD, notably the Model Tax Convention, depended on voluntary information exchange: country A would request information on the assets of one of its citizens living in country B; country B, under the terms of an agreement, would investigate and respond. But the new OECD standard envisions the exchange happening automatically between signatory governments, on every foreign citizen within a country's borders. While the sample agreement contains bilateral exchanges, the OECD is hoping that it will be taken up as the basis for a multilateral exchange of tax information – a plan which 86 nations, including all G-20 members, have already committed to in principle, it noted. The commitment is repeated in existing Fatca IGAs – the UK and the US commit to "a common model for automatic exchange of information" with the OECD and the European Union in their own IGA, for example. Previous moves in this direction have been hampered by some countries' desire to protect their own banking industries; an EU directive calling for automatic tax information sharing within the EU was not taken up universally, with Austria, Luxembourg and Belgium preferring to pay a withholding tax rather than force their banks to reveal customer names. Other progress has been partial at best – Liechtenstein agreed to disclose customer names and assets only after the embarrassing leakage of customer information on hundreds of depositors in 2008. And the OECD proposal is unlikely to clear the way by itself. Nick Matthews, a senior member of the forensic and corporate recovery practice at London regulatory consultancy Kinetic Partners, says: "On balance, [this is] slightly less than hoped but it is a step forward." Points of difference The OECD has based its template closely on the Model 1 Fatca IGAs, but there are still important differences that Matthews says need to be addressed, such as "the lack of a de minimis threshold for existing individual accounts. These will mean that firms cannot simply assume a ‘read-across' and will need to get into the detail to ensure compliance." The UK-US IGA, for example, exempts individual accounts holding less than $50,000, and insurance and annuity contracts worth less than $250,000 from the reporting requirement; no such de minimis exception exists in the OECD template. The OECD hopes to create a process of data exchange not through the existing web of bilateral agreements (such as IGAs, or the UK's similar agreements with its dependent territories) but through a multilateral agreement based on its common standard. But, Matthews adds, it is still unclear how this will happen: "Even the existing Model 1s do not sit perfectly with each other, and there are also differences between the US IGAs and the UK IGAs, adding to the complexity." Some of the differences are relatively minor: the de minimis exception in the IGA can be dealt with, and is in any case probably a sensible way of phasing in the automatic exchange of information requirement, Ryan Dudley, a partner in the accounting firm Friedman in New York, believes. "Part of the reason that there are exclusions of what are in fact reasonably large account balances is that the US Treasury is focused on the very largest balances. They are allowing some of the smaller accounts not to be captured or reviewed because they don't have the resources and they would struggle to capture all that information and feed it through in a cost-effective manner. I think that the OECD common reporting standard is something that a lot of governments would look forward to having in place, but it may need to be implemented in multiple stages over an extended period of time where there may be some thresholds introduced – for example, accounts smaller than a certain level, such as $50,000, are initially excluded for a period of time." Similarly, the OECD proposal specifies the format of data exchange – using the XML markup language, an open standard – but it, and the IGAs, leave the details of how the exchange should happen to be decided at a later date. Proper data security, interoperability and encryption are not unimportant issues, but national governments can prudently leave it to be resolved by technical experts rather than setting it in stone in the agreement itself. But some issues with the IGAs and the OECD standard are more serious. Michael Edwards, chief counsel at the World Council of Credit Unions in Madison, Wisconsin, believes that privacy concerns may be a major stumbling block. "Information sharing through a central hub is logical but it raises questions under various countries' privacy laws. One of the reasons it took Canada so long to sign a Fatca IGA was because of concerns about the Canadian Charter of Rights. Hopefully the IGA addresses the Canadian issues but with all the data breaches we have been having, any centralised hub will raise privacy concerns even if it is totally lawful." The lack of reciprocity in Fatca will make not only an OECD-type agreement, but any existing IGA, hard for US banks to implement. Fatca does not require US institutions to collect data on their non-US customers, but this collection is fundamental to IGAs, under which individual countries agree to mutual sharing of data with the US on the bank details of their citizens in the other's jurisdiction. Part of the reason for this absence, explains Dudley, is the structure of existing US law. The OECD draft agreement envisions countries reporting to each other not only on assets held by foreign citizens directly, but also on assets held by local financial entities controlled by foreign citizens. The US-UK agreement echoes this – in part. It requires the UK to extract the names of ultimate beneficial owners for UK financial entities, and pass on the details of any US citizens among them to the US authorities, and such requirements are common in other Model 1 IGAs, but they only go one way. There is no requirement for the IRS to look into the ownership of US financial entities and report any owned by Britons to the UK government. The same is true of the US-Canada IGA and the other Model 1 IGAs. In fact, such an investigation would be practically impossible, Dudley believes: "One issue the US has with entering IGAs or any common reporting standard is that the way corporations are owned does not necessarily allow the government to know who the members are or who the limited liability shareholders are. Most corporations and limited liability corporations (LLCs) are formed under state law and for most states there is no need for any publicly held shareholder register or member register. So, for example, the state of Delaware doesn't know who the members are of the millions of LLCs that it has formed. The members could be anyone – they could be foreign persons, they could be US persons, there is no way of tracking that." These state laws have made Delaware in particular an attractive destination for US companies seeking to incorporate, and it's unlikely that any federal government would be able to enforce a radical change in state laws in the direction of greater transparency. Prove your ID There are other barriers too. The US has committed to providing reciprocal information to the UK in the IGA, but collecting this kind of information for foreign account holders in the US will require new legislation – which was blocked when the Obama administration tried to introduce it as part of the 2014 budget. Also, IGA compliance will require US banks to start collecting evidence of nationality from their new depositors, in order to determine whether or not they need to be reported to the IRS as foreign depositors: this information is not collected by all US banks at present, analysts say, and collecting it would be a significant new cost, especially if it includes indicia of possible foreign status as well as simple proof of citizenship such as a passport. It would be possible, Edwards says, to introduce the requirements as administrative regulations – but without legal backing they would be open to challenge. Existing tax treaties have the force of law in the US, but they lack information-sharing requirements – and attempts to amend them to include these requirements have also been blocked by Republican senator Rand Paul, a vehement opponent of Fatca who argues that it breaches US expatriates' constitutional right to privacy and will impose "hundreds of billions of dollars in compliance costs". Other Republicans are likely to line up with Paul, with a ‘repeal Fatca' promise set to appear in the party's 2014 election manifesto. Dudley comments: "I think that many countries are going to expect the US to provide the same level of information that they are going to provide, and that will create certain tensions. I don't know that you could expect any of the states to voluntarily implement these rules at a state level, so it would have to be done at a federal level, and if that required a change of law to be passed by Congress, which I imagine it would, then given the way that Congress works there would be a significant number of politicians who would show resistance to sharing information with other countries. Anything where the US appears to be giving up or sharing its sovereignty will be a significant political issue in Washington." In reality, the lack of effective reciprocity in Fatca doesn't make much difference to the law's prospects. It was initially designed as a unilateral law, using the threat of exclusion from the US financial market – and, effectively, from the rest of the global financial market – to compel compliance, and it has succeeded very well. It also benefitted from the fact that the costs of compliance were designed to fall entirely on banks and other financial institutions outside the US. Dudley summarises the terrain that gave Fatca such an advantage: "Everyone who is compliant with Fatca would in turn not be able to do business with those that are not compliant, and that is a very large stick in relation to Fatca compliance. And of course foreign banks don't really get to vote in the US so they don't have a whole lot of influence over stopping the introduction of rules like this." US banks – and credit unions – have since, however, become aware of the compliance requirements they may face under Fatca IGAs, which have met significant resistance from smaller institutions in particular – further shrinking the chance that the US will implement the domestic laws it needs to keep up its end of the IGAs. Tensions over the US failure to hold up its end of the IGAs may not doom Fatca, but it will create additional problems for efforts to extend the network of automatic information exchange, and will make the OECD's vision of a truly multilateral data exchange still harder to achieve. OECD endorsement, and support from the G-20, have made Fatca the closest thing available to an operational standard on automatic information exchange – as the OECD itself recognises – but putting a general solution in place will depend on the G-20 governments, including the US, being prepared to introduce substantial and costly new disclosure requirements for their native banking industries. Dudley sees this as the main obstacle to the OECD solution: "This is where it becomes more difficult – local regulators are going to be subject to political pressure from local banks via local politicians."...
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