By Ian Brooks, Chairman, Mutual Trust
This version of a familiar saying sums up the present situation for many around the world. In this article, Ian Brooks examines current taxation systems and argues that, whilst it may not be a clear and present danger, total transparency is the ultimate destination of our present journey.
A Developing World
The world has become more international in its dealings. Technology has rendered the previous ties to one’s country of birth less significant. Both businesses and individuals have crossed borders to the extent that their impact has largely been lost. However, the governments and taxmen that affect businesses and individuals have concerns of their own. And the worldwide wealth of their citizens is something that they believe should, in large part, be taxed at home.
The Internet, which has emancipated many, has also allowed crime to flourish and thus the challenge to this freedom has come with censorship and monitoring, to an extent not previously endured in “free societies”. The parallels with George Orwell’s 1984 are uncanny, though the technology is much smaller and more far-reaching than even a visionary such as Orwell could have imagined.
Politicians are removing one form of economic advantage via taxation and since this onslaught began, seismic shifts have been seen in the alignment of currencies. Of course, the world’s currencies are developing into currency blocks rather than having a currency for each nation state. Europe has already seen how inflexible this new regime is. It should be no surprise that alternatives to the major currencies have developed: Bitcoin, amongst other alternative currencies, barter agreements and the re-emergence of the use of gold.
The world has moved:
• from accepting tax havens, to demanding that they report almost everything;
• from little or sporadic financial reporting to standardised and detailed requirements;
• from acceptance of an international footprint to demanding a local one;
• to a higher tax burden for those with more than a modicum of wealth.
There will probably be cries of objection at that last point but one should reflect on the following:
• The creeping of tax bands where pay has managed to increase;
• The removal or restriction of much that previously could have been rolled up tax free;
• The retroactive application of certain legislation.
The list is longer, but in this new age of transparency the greatest need is to understand what the new rules are, how these affect you and what you can do to minimize and/or delay their negative impact on your particular situation.
Importantly, when making any changes to structures or reorganising your personal affairs, you need to be aware of the trends rather than simply complying with the immediate demands of each piece of legislation (or regulation) in isolation.
Through the collective might of the IRS (Internal Revenue Service), OECD (the Organisation for Economic Co-operation and Development), G20 and the Global Forum, the now well known FATCA (Foreign Account Tax Compliance Act), BEPS (Base Erosion and Profit Shifting) and CRS (Common Reporting Standard) are either already upon us or are on a fast trajectory towards us. And while you may be forgiven for thinking that the IRS and FATCA do not, or should not, impact your life if you are not a US citizen, you would be wrong. A brief reminder to those that hold a Green Card: having one can be one of many indicia that suggest you are obliged to report.
FATCA requires that all foreign entities register, should they wish to use the banking system and the US$. They need to do so either as a FFI (Foreign Financial Institution) or as a NFFE (Non-Financial Foreign Entity). If you are an FFI, you may need to consider whether those with whom you do business, i.e. clients, are properly registered – compliant – or not. An alternative may be that you can sponsor your clients, rather than their needing to register directly. Failure to obtain the GIIN (Global Intermediary Identification Number) and/or provide the FATCA classification for an entity would mean the entity could be reported as being non-compliant once the law is fully in effect. The consequence of being non-compliant would be that a withholding is imputed on bank transfers and so forth. As an individual you would be upset to have this deduction made and as an institution you would have some expensive or extensive explaining to do to your irate client.
FATCA reporting means that a significant amount of data is accumulated on both individuals and companies. It may not mean that either is suddenly due to pay tax but it does mean that the amount of information out there is significantly increased, especially when this is added to the Inter-Governmental Agreements (IGAs) in place. This means that essentially all tax-collecting agencies and governments will have the ability to share this information. Previously enshrined banking secrecy and other professional codes of conduct from the recent past have been totally set aside. It is not quite as public as having your own Facebook page on the subject but it has moved a long way in that direction.
FATCA looks to the “warm body”, the Ultimate Beneficial Owner (UBO) or significant owners in a structure. In line with the transparency theme, it looks through corporate veils (and probably all seven!) to focus on the individual(s).
This gives a taste of FATCA but be aware that the deadlines are already agreed and most of the business world will be complying with them, and now CRS, before the end of 2015, with a smaller number of countries opting in by the end of 2016. The list of countries stood at 93 towards the end of 2014, but this number is increasing.
Having an established network that gathers, stores and shares information is a concern for many. The CRS takes this a stage further by standardising the way this information needs to be reported and also increases the extent of the reporting. Many jurisdictions did not have any public register of financial information before. In respect of the Crown Dependencies, certain moves by individual governments, such as the UK, have meant that information from each has begun to be amassed. In the majority of cases there may be no tax impact but information that may have been kept private, for perfectly legitimate reasons, is likely to be known to many more than before, if not made directly public.
This legislation means that Financial Institutions in participating countries will have to report on an annual basis about Financial Accounts and Tax Residents. The local tax authorities of the country in which the UBO is a tax resident will match exchanged information.
Importantly, CRS applies to all nationalities, rather than just US citizens.
There are also no thresholds. The CRS started quietly in 2014 and has been steadily growing in its reach. The G20 adopted global CRS and automatic Exchange of Information (EOI) by 2018. The process seems to be much like a surgical corset, but with no benefits to one’s financial health.
In case you thought you had managed to stay out of reach of the tentacles already legislated and touched upon, behold BEPS! (Base Erosion Profit Sharing) Think of it as a cancerous cousin of Transfer Pricing (TP). Add in treaty shopping and those other legal, but now unpopular “tax structures”, and you have the thinking behind BEPS. The Relevant Tax Authority (RTA) is empowered to make adjustments for any perceived abuse.
What this really means is that a low body count, or lack of substance, where much of the economic value is accumulated, is likely to be recalibrated by the tax authorities. It doesn’t take a super-sleuth, looking at financial companies with a few employees in countries like The Netherlands, to realise that there is likely to continue to be battles waged in this aspect of International Operations.
“Good Housekeeping Prevents Accidents!”
However, defense is possible and should be considered, along with the actual strategy, in any new international organisation. There can be perfectly good reasons for being in Managua (chosen at random, by the way) but they need to be explained. There are significant tax breaks offered in “home” countries and it is probably easier to exhaust these than have to justify why those two suntanned people on the beach in the British Virgin Islands (again, chosen at random) are accumulating a significant percentage of the profits in the group company they happen to be running.
This whole new age of transparency impacts the individual, the professional, the corporation and their relationships with the authorities. The legal under-pinning of most of the acronyms above is yet to be tested but I do not believe one should rely too much on that.
For the individual, it means a greater amount of reporting, a lot less privacy and a real need to put one’s house in good order. It may well mean that certain parts of your financial arrangements need to be either modified or reconstructed. In simple terms, it may mean that the cost of the way you have organised your affairs in the past is no longer worthwhile because of the increased costs of maintaining it in the new economic and reporting environment.
For the professional it means more form-filling, a greater need for understanding your client’s business or perhaps even deciding that they can no longer be a client. The scale of the burden means that smaller firms are effectively forced to quit, at least this aspect of their business, because the knowledge and compliance demanded is too high.
For the corporates, the depth of review of existing and any new structure is going to have to be much more disciplined, evidenced and defensible. And let us not forget that the burden of the cost and the squeezing of margins will have to be passed on to customers.
Not to be left out of the party in the West, Russia has also issued its own Controlled Foreign Corporation (CFC) legislation, which fits well alongside the other regulatory and reporting planks above. This legislation also looks at substance similarly to BEPS. One of the few moves to mitigate the reach of this legislation is to change one’s residence: something that many are not rushing to do.
“Trust, but Verify”
Trusts are now looked through with settlors and/or banks are demanding beneficiary information. However, there are some crumbs under the table:
• There is still the ability to properly organise, so as to defer at least some of the taxation burden;
• Insurance can still be used as an investment wrapper to keep some fragments of decency in an otherwise cruelly exposed world.
FATCA has a possible tax collection target which is significantly less than one percent of the current US debt. Other governments around the world have significant debt burdens. The legislation already announced is not going to fill the deep holes in their balance sheets, so do not plan your affairs around the possibility that this will be a passing phase. This, like the war on terror, is not a quick or soft option. You will need to deploy the right resources and develop an effective strategy.
Talking to a professional adviser might just be the place to start. Talking to one that can provide expertise on an international basis is an even better choice. Otherwise that yacht sailing off into the sunset will no longer be waving a Liberian flag, but a very different one for other interested parties.
About The Author
Ian Brooks is the Chief Executive Officer of Highworth and is now Chairman of Mutual Trust where he has been the Managing Director since 1996. Prior to this he held various Senior Financial and Finance Director positions in UK, Cyprus and internationally. His professional experience was gained with Grant Thornton and Deloitte. He has spent almost twenty years in the Trust and Corporate sector, and has over twenty-five years in service industries in the Middle East, Far East and Europe. His has extensive experience in banking, finance and investment and is a Chartered Accountant (FCA), a member of the Society of Trust and Estate Practitioners (STEP) and a member of The Institute of Certified Public Accountants of Cyprus (ICPAC).