International Cooperation: The Way Forward with Automatic Exchange

As the world becomes increasingly globalised it is easier for taxpayers of all incomes to make, hold and manage investments through foreign financial institutions; something that not long ago was accessible only to wealthy taxpayers. Vast amounts of money are kept offshore and go untaxed when taxpayers fail to comply with their tax obligations in their home jurisdiction. Offshore tax evasion is a serious problem for countries all over the world, not just developed countries. In fact, it can pose a significant threat to the government revenues of developing and emerging economies as they typically have fewer resources, both financial and legal, to attack the problem.

While tax rules and tax rates will inevitably vary from jurisdiction to jurisdiction, secrecy and a lack of cooperation should not be allowed to impede a jurisdiction’s right to collect their legitimate tax revenues. International cooperation is essential to ensure that governments have the information required to enforce their own domestic taxation laws.

Countering offshore tax evasion has featured prominently on the political agenda of the past couple of years, in general focusing on transparency and exchange of information on request. In this respect a great deal of progress has been made with well over 100 jurisdictions having committed to the international standard of transparency and exchange of information on request, something that was unthinkable just three years ago. The Global Forum on Transparency and Exchange of Information for Tax Purposes, which was substantially restructured in 2009, plays a key role in ensuring that jurisdictions implement the standards through a rigorous peer review process.

Tax administrations use a range of tools to ensure that taxpayers pay the right amount of tax to the right jurisdiction including: strictly domestic rules requiring taxpayers to report their income and assets from abroad; exchange of information on request; spontaneous exchange of information; tax examinations abroad; and the automatic exchange of information. In many ways all of these tools complement each other. In fact, the most successful use may be when two or more of them are used in combination.

The following provides a brief overview on the work of the OECD on automatic exchange of information and how recent developments around FATCA[2] may facilitate the use of automatic exchange and help to provide a platform for multilateral cooperation.

Automatic Exchange of Information

Automatic exchange of information involves the systematic and periodic transmission of ‘bulk’ taxpayer information by the source country to the residence country concerning various categories of income (eg, dividends, interest, royalties, salaries, pensions, etc).

Interest by governments in automatic exchange of information is growing and this is demonstrated at the international level, including at the EU, the OECD and the G20 where automatic exchange is high on the agenda[3].   In addition NGOs have argued for many years that automatic exchange is required to effectively combat tax evasion, especially if developing countries are going to be in a position to benefit from the new transparent environment.

The OECD has been active in facilitating automatic exchange for many years to support those interested in this form of exchange. The work has ranged from creating the legal framework for such exchanges[4] to developing technical standards and seeking to improve automatic exchange at a practical level. From a technical perspective the standardisation of formats is crucial so that information can be captured, exchanged and processed quickly and efficiently in a cost effective manner by the receiving country. OECD work on standardisation has taken advantage of technological developments starting with a paper standard format, then moving to the standard magnetic format (‘SMF’), and finally to a more advanced standard using XML language (‘STF’[5]). Investment by governments in IT and related back office functions is critical to enable them to enjoy the maximum benefits of automatic exchange.

The European Union (EU) Council has adopted standard formats for the implementation of the EU Savings Directive which are largely based on the OECD STF (into FISC 153 format). In addition to the adaptation of the STF format, the EU has also developed specifications to ensure a good quality of data and monitors the functioning of the format. To develop the formats the EU works in close collaboration with the OECD with the common objective to have one technical standard for the automatic exchange of information with schemas being released as much as possible at the same time by both the OECD and the EU.

Results of a recent survey on automatic exchange conducted by the OECD show widespread use of automatic exchange of information regarding country coverage and income types, transaction values and records exchanged. Automatic exchange as a tool to counter offshore non-compliance has a number of benefits. It can provide timely information on non-compliance where tax has been evaded either on investment return or the underlying capital sum. It can help detect cases of non-compliance even where tax administrations have had no previous indications of non-compliance. Other benefits include its deterrent effect, increasing voluntary compliance and encouraging taxpayers to report all relevant information[6]. While the survey on automatic exchange of information demonstrated the widespread use of automatic exchange and highlighted many of its benefits it also showed that work needs to be done to improve automatic exchange on a practical level, including the development of common standards on capturing information.

Work on automatic exchange is also being done by other organisations. The EU is engaged in revising its Savings Directive and recently adopted its Mutual Assistance Directive which also contains provisions on automatic exchange. The OECD and the Council of Europe recently revised the Convention on Mutual Administrative Assistance in Tax Matters (Multilateral Convention) which provides a basis for automatic exchange. It is now open to all countries and the Multilateral Convention will soon have over 50 countries that have either signed the Convention or signed a letter of intention to sign the Convention. As the number of signatories to the Multilateral Convention increases this instrument provides a platform for widespread adoption and use of automatic exchange for those countries that wish to take advantage of automatic exchange. Further, the Multilateral Convention provides a good opportunity for developing countries to benefit from the new transparent environment without having to incur the significant costs of negotiating bilateral agreements with many countries.

FATCA and Other Residence Reporting Regimes

While the most well known residence country reporting regime is probably FATCA, other regional residence reporting regimes exist. The FATCA rules were enacted by the US Congress in 2010, with the objective of combating the use of offshore accounts and entities to evade US tax. On 26 July 2012, the US Treasury Department released a ‘Model Agreement for Improving Tax Compliance and Implementing FATCA”’, developed in consultation with five other OECD member countries[7]. The FATCA Model Agreement provides for the implementation of FATCA through reporting by financial institutions to their local tax authorities, which would exchange the information on an automatic basis with the IRS.

In Europe there is the EU Savings Directive, which is an agreement among the member states of the EU to automatically exchange information with each other about customers who earn savings income in one EU member State but reside in another. Other regional agreements exist, for example, among the Nordic countries where a large amount of information is required to be exchanged automatically with the country of residence.

Common Model for Residence Country Reporting

The trend of requiring residence country reporting is likely to continue as governments continue to seek to improve existing tools to ensure compliance with their domestic taxation laws. Financial institutions seem to have generally accepted their role as cross-border tax intermediaries but have a strong interest in the standardisation of approaches to avoid unnecessary costs. As a result, the development of a common model for automatic exchange, including the development of reporting and due diligence standards for financial institutions, is supported by governments and business alike. A common approach will avoid a proliferation of different models and reduce the costs for both governments and business.

To develop a common model governments need to engage with financial institutions around the globe to develop a model that is both effective, capturing the information required by governments to ensure compliance with their domestic legislation, while at the same time not being overly burdensome and costly. To achieve these objectives, it is important to leverage off work being done by other organisations. Important and relevant work is being done by FATF[8], which has strict requirements for identifying customers and beneficial owners. The OECD’s work in connection with the ‘Oslo Dialogue’ is also relevant as it supports a ‘whole of government’ approach in combating tax crimes and other crimes.

The OECD acknowledges the importance of common standards and stands ready to support the efforts of governments wishing to develop a common model of reporting and due diligence standards. Improving tax compliance is in the best interests of governments, businesses, and taxpayers and supports fairness and equity for everyone by working towards ensuring that no one is able to hide their income and assets and avoid their responsibility to pay the taxes that are legitimately due.

Conclusion

Much is happening in the area of international tax co-operation, and especially automatic exchange of information, as this brief overview has shown. These developments will benefit not only governments but also business and will help promote equity and fairness ensuring that all taxpayers pay their fair share of taxes. Governments will better be able to enforce their own domestic tax laws and the standardisation of formats, common reporting and due diligence standards will reduce the cost of compliance for both business and governments.

As work in this area continues governments and tax administrations will continue to focus on protecting the confidentiality of taxpayer information both in law and in practice[9]. While confidentiality has always been of upmost importance to tax administrations it is especially pronounced in automatic exchange. In times of austerity, and with governments determined as ever to crack down on offshore tax evasion, work in this area is bound to continue as the potential for domestic reporting coupled with automatic exchange continues to develop along with the potential offered by multilateral cooperation in this area.

[1]   The views expressed in this article are those of the author and do not necessarily reflect those of the OECD or its member countries.

[2]   Foreign Account Tax Compliance Act.

[3]   The June 2012 Los Cabos G20 Communiqué stated: “We welcome the OECD report on the practice of automatic exchange, where we will continue to lead by example in implementing this practice. We call on countries to join this practice as appropriate and strongly encourage all jurisdictions to sign the Multilateral Convention on Mutual Administrative Assistance.”

[4]   Article 26 of the OECD Model Tax Convention is commonly relied on as the basis for the automatic exchange of information. The OECD has also developed a model memorandum of understanding regarding the automatic exchange of information.

[5]   Standard Transmission Format.

[6]   See the OECD Report “Automatic Exchange of Information: What it is, How it Works, Benefits, What Remains to be Done”.

^[7]    France, Germany, Italy, Spain and the United Kingdom.

[8]   Financial Action Task Force.

[9]   See the guide recently published by the OECD, “Keeping it Safe: The OECD Guide on the Protection of Confidentiality of Information Exchanged for Tax Purposes.