UK: Kiss Confidentiality Goodbye

A nasty little employee of one of the major Lichtenstein banks recently sold details of all their account holders to the German and UK tax authorities. Employees of various Swiss banks have done something similar. I can imagine its very lucrative work. The US and the UK have persuaded the Swiss authorities to roll back their banking secrecy and allow details of account holders to be passed to them. The offshore financial centres (OFC's) have signed Tax Information Exchange Agreements (TIEAs) with many onshore countries. Those OFCs controlled by any European Union country now automatically exchange details of accounts earning income with the home country of the account holder. So what is going on? What has happened to the right to privacy and banking secrecy?

The onshore countries now have a legal means to obtain information about any offshore account or offshore trust or company structure. If they do not have a legal means than it seems they are quite prepared to purchase the information from a thief. What happened to reach this situation?

In 1996 the OECD commissioned a report which was delivered in 1998 and listed all "tax havens" who engaged in "harmful tax competition". The OECD threatened these tax havens (now called OFCs) with all sorts of nasty stuff because their low tax rates attracted investment away from the OECD member states. The implication was that anybody who had a tax rate lower than the OECD norm were being unfair. Boo hoo! Another source of irritation was that the OFCs wouldn't reveal who was doing what in their jurisdiction.

Many argued that nations shouldn't be trying to dictate tax rates to others and in 2001 Paul O'Neil the then US treasury secretary of all people put a big dent in the project by stating "The United States does not support efforts to dictate to any country what its own tax rates or tax system should be, and will not participate in any initiative to harmonise world tax systems. The US simply has no interest in stifling the competition that forces governments - like businesses - to create efficiencies. .............The work .........must be refocused on the core element that is our common goal: the need for countries to be able to obtain specific information from other countries upon request in order to prevent the illegal evasion of their tax laws by the dishonest few."

The illegal tax evasion he was referring to doesn't take place offshore. There is nothing to stop someone setting up an offshore company or trust. That person may well have an obligation to report the existence of that company or trust on their home tax form and their home laws may well attribute the undistributed profits within that structure to them and trigger a tax charge. If so a simple offshore structure will not achieve any tax advantage provided the correct reporting is made.

The OECD's main complaint was that some of their tax payers were "forgetting" to submit the required information on their tax forms. The secrecy found offshore encouraged them to think they could get away with this. Even now some offshore practitioners still rather irresponsibly promote this idea of hide it and don't declare. How will they find out is still a common question. Some suggest that you should keep all records hidden in a bank vault, not make phone calls to your offshore service provider and other such nonsense. It's this type of stuff which gives offshore practitioners a bad name. What these numpties should be advising on is how to achieve the desired tax saving with a structure which legitimately and legally avoids or defer taxes onshore. It is nearly always possible.

The OECD threatened sanctions against any jurisdiction which did not agree to sign up to an exchange of information programme. Hong Kong was left off of the list of tax havens– not because it didn't correspond to the OECD's definition but probably because the OECD didn't feel that it could bully China. Those funny little offshore islands were a different matter. They were easy to take down. All OFCs have now committed to signing TIEAs under which information about ownership of offshore structures could be exchanged on request. Quietly over the last few years Cayman, BVI and all the other recognised OFCs have signed TIEAs with most onshore countries. The OFCs haven't exactly advertised they have been doing this but the TIEAs are there and in place.

Next came the EU savings directive under which EU member states agreed that they would force banks within their jurisdictions, or jurisdictions under their control (so that included most OFCs ) to automatically pass information back to the home tax authority of any other EU resident who banked within their borders and earned income on the account. Switzerland reluctantly signed up. The result is that many EU residents have switched their banking to Hong Kong or Singapore en masse and the private banks in both have flourished as a result.

But how does this exchange of information work in practice?

Anyone who has set up an offshore company or trust will be familiar with the amount of "due diligence" paperwork required by the service provider. As a matter of law the Corporate Service Provider (CSP) must confirm your identity, residential address, source of funds and fully understand the intended business of the structure. Normally that requires you to provide a certified copy of your passport, an original utility bill or bank statement, documentation proving the source of funds injected into the structure and a detailed explanation of the business to be undertaken.

Service companies can provide you with nominee shareholders and professional directors, trustees, dummy settlors or whatever but they must still correctly identify the beneficial owners of a company and the "client" and beneficiaries of any trust. This information must either be lodged with the offshore agent who forms the structure or under certain circumstances the Hong Kong firm can instead undertake to provide the information upon request. For example, if you instruct an Hong Kong firm to form a Cayman Island company (Cayco), they must obtain the due diligence and pass it to the Cayman firm or undertake to give it to them upon request. There is no way round this. The Cayman firm risks losing their licence if they fail to get the information or the undertaking.

Now presume Cayco purchases a property in the UK which it later sells for a profit. If Cayco was owned by an UK domiciled tax resident the gain would normally be attributed to the owner and be taxable on him-even if he doesn't receive the profit so the UK Revenue may be very interested to know who owns Cayco. If any UK resident has been involved in the property purchase or sale by, for example, instructing estate agents, lawyers or arranging finance the UK can ask Cayman to confirm if that person owns Cayco. The "Competent Authority" in Cayman will ask the Cayman service provider if Joe Sixpack from the UK owns Cayco and they must tell and Cayman then tells the UK.

If the owner happened to be an UK tax resident they would cross reference the gain made by Cayco to that individual's UK tax return and ensure that he has correctly declared. If he hasn't then they would investigate, audit, fine, imprison or generally be quite unpleasant to him.

So that's the way it is or will be very shortly. There is no confidentiality offshore any more. If you have made arrangements offshore which you wouldn't want revealed or wouldn't stand up to scrutiny, think again and seek advice.

Now Hong Kong is being asked to sign up for similar exchange of information. In Hong Kong's case this would be achieved by relevant clauses in tax treaties. Various commentators have suggested that Hong Kong can increase it's competitiveness by having a range of tax treaties and that we are losing business to Singapore who have 50 treaties whereas we only have 5 comprehensive ones. If an Hong Kong resident invests abroad then he is likely to be faced with withholding taxes which could be eliminated or reduced by a treaty but it is normally possible to obtain that same reduction by routeing the investment via a suitable treaty jurisdiction. I can see little advantage to Hong Kong in negotiating further treaties apart from appeasing the OECD and G20 members who are putting increasing pressure on Hong Kong to accede to their desire for information.

Do you need to worry about this? The answer is probably not if you live in Hong Kong and intend to stay here. It is unlikely that you are using offshore accounts to avoid or evade taxes as the profits on these accounts would not be taxable in Hong Kong. If, however, you intend moving back home then this will all become very relevant and you had better make sure you're planning works, is compliant and legal. Hoping your new home tax authority will not find out would be rash in the extreme. They can. They are doing.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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