1. Background:
There is a surge in Jurisdictions offering residency by investment and citizenship schemes (“RBI/ CBI” schemes) that allow foreign individuals to obtain citizenship or temporary or permanent residence rights in exchange for in-bound financial investments or against a flat fee.
These schemes are acquired for various reasons for acquiring of residency or citizenship certificates (e.g. visa-free traveling, better education, job opportunities or political stability in a different country). But, on the other hand, these schemes are being misused by individuals trying to escape criminal prosecutions, to engage in money laundering or to violate international sanctions and to avoid OECD’s Common Reporting Standard (“CRS”) for automatic exchange of financial account information reporting, thus facilitating a backdoor to money-launderers and tax evaders. The present article concentrates on the issue surrounding the abuse of RBI and CBI schemes to circumvent reporting under the CRS from a Financial institutions (“FIs”) perspective.
2. How CRS reporting is circumvented under RBI/CBI scheme?
Reporting under the CRS is based on tax residence, not on citizenship or the legal right to reside in a jurisdiction. Many of these schemes present a risk of being used to circumvent the CRS which is intentionally designed to permit investors remain tax-resident in their home jurisdiction whilst benefitting the tax advantages of paid-for-residency. Thus by not invoking tax residence it is easy to escape reporting under CRS.
3. OECD on CBI/RBI scheme: Actions taken so far
Over the last months, the OECD has been taking a set of actions to ensure that all taxpayers maintaining financial assets abroad are effectively reported under the CRS.
On 11 December 2017, the OECD released a consultation document seeking stakeholder input on model mandatory disclosure rules (“MDRs”) requiring disclosure of CRS avoidance arrangements and offshore structures. These rules require promoters and other intermediaries to disclose arrangements for which it is reasonable to conclude that they will have the effect of circumventing CRS reporting.
However the recently announced Mandatory Disclosure Rules was also criticised for being ineffective in preventing misuse of RBI / CBI schemes to avoid the CRS because it does not guide Financial Institutions (FIs) on how to determine if an account holder is tax resident elsewhere. This is likely the jurisdiction the account holder was resident before obtaining RbI / CbI residence.1
On 19 February 2018, the OECD issued a consultation document, outlining potential situations where the misuse of CBI/RBI schemes poses a high risk to accurate CRS reporting and seeking public input both to obtain evidence on the misuse of CBI/RBI schemes and on effective ways for preventing such abuse.
It contains a wide range of proposals for further addressing the misuse of RBI/CBI schemes, including:
1) comprehensive due diligence checks to be carried out as part of the RBI/CBI application process,
2) the spontaneous exchange of information about individuals that have obtained residence/ citizenship through such a CBI/RBI scheme with their original jurisdiction(s) of tax residence; and
3) strengthened CRS due diligence procedures on financial institutions with respect to high risk accounts. 2
4. Financial Institution’s role on combatting CRS circumvention
OECD also invited interested parties to provide comments on the consultation document which was published on 17 April 2018. The comments highlighted the issues from different stakeholder’s perspectives on combatting CBI/RBI scheme abuse.
The present article summarises the general remarks made for enhanced due diligence procedure on 3 Financial institutions (“FIs”) . The FIs constitutes one of the key players who can mitigate abuse of CRS rules by properly applying due diligence procedures to all taxpayers. But majority of the stakeholder felt that the current CRS due diligence procedures possess some inherent weaknesses in terms of combatting RBI/CBS scheme which are as follows:
• Limits on Due Diligence process:
From the Financial institution’s perspective, if an account holder presents government issued evidence that meets regulatory standards and requirements to support an asserted tax residence status, there are limits as to what further due diligence they can do.The tightened due diligence procedures for financial institutions located in CRS compliant jurisdictions could be difficult to look through the abusive features of RBI/CBI scheme. In particular, it could be extremely difficult for financial institutions to carry out additional factual investigation and legal analysis which would be necessary to determine if a person is in fact tax resident in the country issuing such certificate or in another country.
• Insufficient proof of tax residency:
The CRS depends on financial institutions for determining the (tax) residency of their account holders to know which foreign authority should receive the relevant information. On the other hand the CRS requires taxpayers to self-certify to the reporting financial institution. Such a scenario could arise where an individual does not actually reside in the relevant jurisdiction, but claims to be resident for tax purposes only in such jurisdiction. As such, the obligation falls on the taxpayer to self-certify all their jurisdictions of residence for tax purposes.
A self-certification process is accompanied by supporting Documentary Evidence which may simply include a valid government issued ID card or certificate of residence, which need not be a certificate of tax residence. Many countries have no income taxes and thereby no concept of “tax” residency. Thus some jurisdictions may not issue a TIN while others may issue a TIN without the requirement of tax residence.
The financial institution cannot make assumptions or detect misrepresentation as it looks into the whole situation from a binary angle, without making presumption that citizenship and tax residency are not inter-related. The Financial institution thus seemingly assumes the account holder is (i) tax resident where he has a place of abode, regardless of how many days physically present, and (ii) is not tax resident elsewhere. This could lead to ineffective ways of combatting misuse and targeting the prosecution of wrong individuals involved in legitimate CBI/RBI scheme subscription.
• Unreliable objective anti-abuse test:
Although current CRS due diligence procedures require Financial Institutions to reject a self certificate or Documentary Evidence if the Financial Institution “knows” or has “reason to know” (objective standard of a reasonably prudent person) the self-certificate or Documentary
Evidence is incorrect or unreliable.The primary issue that has to be addressed is when there is misrepresentation by the taxpayer. Relying on such objective test in absence of guidelines may be insufficient to effectively counter a case where an account holder uses recently acquired Documentary Evidence to mislead a Financial Institution to under-report the account.
Further, para 10, pg. 151 of the CRS Commentary (2nd Edition), provides guidance to Financial Institutions that a self-certificate or Documentary Evidence is not rendered unreliable or
incorrect where contradictory indicia are later discovered, this is purported not of itself to affect
the standard of knowledge applied to a Financial Institution. Therefore the standard of ongoing due diligence is further eroded and weakened.
4.1. Alternatives to Strengthening CRS due diligence procedures on FIs:
The public comments also highlighted the possible alternative solutions which could be taken into consideration by the OECD for strengthening CRS due diligence procedure for FIs. The following are some of the key highlights of the general remarks made which seems to be in alignment with the broad common categories, as follows:
• Adoption of Risk based approach:
The stakeholders accept that the CBI/RBI programmes are deemed to be high risk by financial institutions and therefore more reporting and compliance must be required to ensure quality control. In accordance with that the current CRS provisions should be supplemented with a positive duty to monitor, targeted at high risk accounts where recently issued Documentary Evidence has been relied upon to establish tax residence status.
The current due diligence procedures should be amended to introduce a risk based approach to the process of verifying tax residence status. The OECD should focus first on “high risk” RBI and CBI schemes. More specifically, the OECD and the Global Forum, through its peer review process, to examine potentially problematic RBI and CBI schemes based upon the characteristics identified in the discussion draft. Once a published list of targeted jurisdictions is established, FIs would be positioned to assist in preventing misuse of these schemes.
When FIs shall assist the jurisdictions during high risk RBI/CBI schemes?
First, when a new customer claiming tax residency in a “targeted” jurisdiction seeks to open an account, FIs should follow their normal CRS-related obligations. The only additional obligation, perhaps, would be a requirement to request proof of effective taxation; this proof, for example, could be a tax notice from a “targeted” jurisdiction.
Second, when an FI becomes aware that an existing customer has a tax residence change of circumstances—and the new tax residence is in a “targeted” jurisdiction—the FI could be required for some period to report the client to both the former and the “targeted” tax residence jurisdiction.
This dual reporting would provide the first jurisdiction with the opportunity to inquire about the circumstances of the claimed new tax residence.
This approach places the appropriate level of responsibility for preventing the misuse of RBI and CBI schemes on: (1) Governments to identify jurisdictions with insufficiently robust CBI and RBI schemes; (2) the targeted jurisdictions; and (3) the targeted jurisdictions’ purported residents/ citizens. In such a case FIs’ responsibilities will be strictly restricted to compliance with their CRS obligations without any undue burden.
• Ongoing Monitoring
Ongoing due diligence process must be inserted under the CRS in order to render documentary evidence unreliable, in situations of discovery of contradictory indicia at later stage.
• No Undue burden on FIs:
Requiring all FIs to carry out additional investigations with respect to residents of such jurisdictions will place an additional burden upon FIs (particularly those based in the relevant jurisdiction)and should inevitably weaken the process of exchange of financial information.
The role of FIs must be limited to the effective exchange of information and not challenging the tax residency delivered by a specific country which comes under its sole sovereignty. Any requirements therefore must be proportionate to the risk.
The main efforts to prevent circumvention of the CRS should be on the beneficial owners and jurisdiction offering these kinds of schemes themselves rather than on reporting financial institutions since they already bear a compliance heavy burden by implementing CRS.
The anti-abuse test of the “reasonably expected to know” standard should be applied by reference to a Service Provider’s actual knowledge based on readily available information and the degree of expertise and understanding required to provide the Relevant Service. In that respect FIs complying fully with their CRS obligations should not be unduly burdened when engaging in routine commercial transactions with customers.
• Alternatives for enhanced due-diligence requirement
Allocation of Regulatory Presumption: A regulatory presumption regarding no correlation between tax residency and other forms of residency must be delineated for Financial institutions during the following two full calendar years after the year in which the individual obtained citizenship or resident status in a given country by any means. Such training and knowledge to financial institutions can act as a way to cross-check self certifications, thereby leading to accurate implementation of CRS rules.
Allocation of specific Regulatory Requirements: Then a regulatory requirement must be established in which an individual that obtained CBI or RBI or by any other means, includes his original tax residence as a current tax residence in the corresponding CRS self certification submitted to the financial institution that maintains the account, when two full calendar years have not passed after the year in which such individual obtained CBI or RBI or by any other means.
If the FI as part of its enquiries carried out pursuant to the Standard is aware that the Reportable Person is only tax resident in a CBI/RBI country or is resident in a CBI/RBI jurisdiction but is also resident in another jurisdiction which is not a Participating Jurisdiction (a ‘Relevant Reportable Person’) and the FI does not have a self-certification for such Relevant Reportable Person they should obtain a self-certification from such Relevant Reportable Person to confirm that he is not tax resident in any other jurisdiction.
If the FI as part of its enquiries carried out pursuant to the Standard is aware that the Relevant Reportable Person previously was tax resident in another jurisdiction on or after [2014 but within 6 years [suggested as most jurisdictions require tax payers to keep records for a maximum period of 6 years] of the year in which the enquiry is made] the Relevant Reportable Person could be required to provide satisfactory evidence to the FI to demonstrate that he has ceased to be tax resident in that other jurisdiction, failing which the FI should provide a report to that other jurisdiction. Evidence could be provided by a letter from an independent lawyer or accountant or FI carrying on business in that other jurisdiction or confirmation from the tax authorities of that other jurisdiction.
If on the opening of a Reportable Account, the Relevant Reportable Person provides evidence that (1) he is only tax resident in a CBI/RBI jurisdiction (or, in addition, he is resident in a Non- Participating Jurisdiction); and (2) he became tax resident in that jurisdiction after [2014] and within [six] years of opening the account, the Relevant Reportable Person could be asked to provide satisfactory evidence to the FI that he is only tax resident in that CBI/RBI jurisdiction (or in that CBI/RBI jurisdiction and Non-Participating Jurisdiction). Evidence could be provided by a letter from an independent lawyer or accountant carrying on business in the CBI/RBI jurisdiction (provided that the CBI/RFI jurisdiction is a Participating Jurisdiction). Similar requirements could apply where the Relevant Reportable Person provides evidence that he is only tax resident in a NonParticipating Jurisdiction, excluding the US which is subject to FATCA4.5
Revised definition of documentary evidence: As noted above, countries could require account holders to indicate on any certificate of residence (or government issued ID) if that residence or citizenship was obtained under a CBI/RBI scheme. However this would require clear rules on how financial institutions are expected to deal with this information. Thus the OECD would need to make clear if such a certificate would be excluded/ included from the definition of “documentary evidence”.
• Request specific information from clients:
Financial institutions could request that their clients provide more specific information to help them determine the risk profile of their clients. These can include, but not limited to:
- To list the country(ies) for which they currently hold a temporary or permanent residence visa;
- To list the country(ies) for which they hold citizenship/a passport;
- To list the country(ies) where they were physically present for more than 89 days (at midnight) over the preceding 12 months; and
- To list the country(ies) for which they declare being a Tax Resident.
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By adding these additional verifications, the financial institutions can risk weight the client in terms of CRS due diligence and then decide if they need to request further information.
Once it is determined that the account holder or controlling person is resident in a risky jurisdiction, then the financial institutions located in such territories could request the following documents including:
- Requiring information regarding all previous residencies and citizenships;
- Requiring a copy of the birth certificate (to see if the declared residency/citizenship matches that of the place of birth), and citizenship of parents;
- Requiring proof of stay in the country of the declared residency, e.g. passport stamps showing presence in the country, attendance by children to a local school, etc.
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Marking the account holder as a high-risk person.6
Making account holders accountable: This will be more effective if the obligation on financial institutions to collect information via a self-certificate is supported by measures to educate the account holders on the differences between tax residence, tax liability and citizenship and to impose a direct obligation on account holders to provide full and accurate information in self-certificates.
No Retrospective application: The changes should not apply retrospectively or require a review of due diligence carried out prior to such a change given the manual effort and likely substantial financial cost this would entail. Any rules which apply retrospectively could impose significant costs on industry and be extremely difficult to implement (e.g. if it was necessary to re-document existing customers). Thus any new CRS measures should apply prospectively7.
Conclusion:
This article presented the major highlights of the public comments received by some of the prominent institutions for enhanced due diligence requirements by FIs, in order to combat CRS circumvention by CBI/RBI schemes. The issues focuses on the weaknesses under the present CRS regime on due diligence which renders the whole outcome ineffective in absence of specific guidance for FIs.Also there is a need to create a balance in compliance requirements which must not be excessive and burdensome for FIs, as the jurisdictions involved and beneficial owners are equally responsible. Thus the OECD must review the current CRS due diligence procedures, taking into account the weaknesses and possible alternatives which were broadly identified by the stakeholders.
Further, there must be an internal review of the uses of RBI/CBI programs, the OECD must monitor the effectiveness of the Mandatory disclosure rules (“MDRs”), CRS Anti-Avoidance provisions, and actions taken by the local jurisdiction Regulators to deter the use of RBI/CBI schemes to circumvent the CRS, before coming to a firm policy decision, particularly involving further regulatory controls for FIs.
References:
2 http://www.oecd.org/ctp/oecd-addresses-the-misuse-of-residence-citizenship-byinvestment-schemes.htm
3 The comments from the following organisations have been taken into account:Association for Financial Markets in Europe (AFME) / UK Finance,Antigua and Barbuda, BDO Panama, Business and Industry Advisory Committee (BIAC), Citizenship By Investment Association (CIPA), CS Global Partners, Commonwealth of Domica – Ministry of Finance, European Fund and Asset Management Association (EFAMA), Fédération Bancaire Française (FBF), Financial Transparency Coalition, Global Investor Immigration Council, Grenada Citizenship by Investment Committee, Henley & Partners Holdings Ltd, Investment Migration Council (IMC), KPMG International, Lexhack, Italy – Pier Paolo Franco, Mark Morris, Pirola Pennuto Zei & Associati, Italy, S-RM Intelligence and Risk Consulting Limited, United Kingdom Society of Trust and Estate Practicioners, (STEP) Transparency International
4 The specific regulatory requirements comments were made by Society of Trust and Estate Practicioners (STEP)
7 The non application of retrospective due diligence remark was made by the Association for Financial Markets in Europe (AFME) / UK Finance.
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