Why Offshore Financial Centres Need to Mind Their Own Business

Here is the dilemma.

The total value of assets booked offshore in a country where the investor has neither legal residence nor tax domicile has risen to US$8.5 trillion, and is expected to reach US$11.2 trillion in four years’ time.

To date, 800 tax information exchange agreements (TIEAs) have been concluded by members of the OECD Global Forum on Transparency and Tax Information Exchange. Touted as the principal and only politically expedient way to demonstrate compliance with new global rules on the exchange of confidential tax payer information, while staving off certain sanction by the G20; the top three recipients of this US$8.5 trillion, among themselves can boast of only one TIEA.

Switzerland, Singapore and Hong Kong together account for 40 per cent of the total wealth sitting offshore. If this market share does not look much different than it was before the re-launch of the OECD’s TIEA negotiating programme, that’s because it isn’t. In fact the growth in the number of High Net Worth (HNW) and Ultra High Net Worth (UHNW) individuals is not expected to come from Europe, but from China; Singapore, Hong Kong and other Offshore Finance Centres (OFCs) in the region that may soon command the lion’s share of these assets. It is true, however, that Switzerland, with its well-publicised antecedents in private banking and lack of proximity to the Chinese mainland is expected to maintain its standing in the top-tier.

A question, however for the OECD Global Forum (GF), whose membership is now almost coextensive with that of the United Nations, is how is it that sanctions threatened by the G20 to be applied against countries who do not meet global benchmarks[1] have yet to materialise with respect to these offshore wealth destinations? Moreover, why have all three countries secured a passing grade in their Phase 1 peer review assessments, which is a determination of their commitment to the ‘letter’ of tax information exchange and evidenced by the number of agreements through which the standard can be enforced?

One reason is that these countries, already significant international business and financial services centres, could not be bullied into signing a plethora of TIEAs to justify their inclusion, and in the case of Singapore retention, in the 2009 ‘whitelist’ of ‘compliant’ jurisdictions put out by the G20 soon after their London Summit. Instead, they insisted on the recognition and consistent application by the OECD of the other but equally valid approach to the meeting the new standard, namely tax agreements. More appropriate for countries with a comprehensive tax system, Singapore, Hong Kong and Switzerland have been able to use their already dense and geographically diverse network of tax treaties to show compliance.

These countries were able to follow their own schedule of renegotiating their existing tax treaties to include the 2008 model provision on exchange of tax information, while concluding new ones in order to satisfy the Phase 1 assessment criteria. Others, for whom the absence of income tax distinguishes them from others in the world of offshore finance, were hardly able to interest other GF members in concluding ‘limited’ tax arrangements reflecting the standard. Moreover, because of the truncated timelines applied to these primarily UK dependencies, they were compelled to fast-track their compliance using TIEAs.

More unfortunate perhaps was the fact that the urgency, which was attached to the acceptance of the standard, reinforced as it was, and probably still is, by threat of economic and reputation injunction, meant that GF members with an already established tradition of successfully negotiating tax treaties with tax information exchange provisions, were unable to fully exploit the ‘mutuality of need’ by all GF members to illustrate compliance, occasioned by the nature of the assessment exercise, based as it is on a ‘peer review’ mechanism.

It has been the case that for some countries, the diplomatic exchanges supported by technical engagement that are necessary preliminaries to confirming tax treaty talks were not admitted in the OECD timetable for information exchange. Even where the traditional trading partners, for whom a facility for exchanging taxpayer information would be most relevant, expressed satisfaction with the mechanisms already in place for exchange, unfettered by domestic interest, practiced over several decades and intended to be quickly updated by protocol, this was considered insufficient to forestall the enforcement of the TIEA as the singular means of demonstrating compliance.

This set of circumstances has served to increase the competitive advantage of some GF members over others who have not been allowed to pursue the expansion of their own network of tax treaties on merit. Instead they have been cautioned that the non-compliance is inferred when on receipt of a TIEA request from any member of the GF (who themselves may be trying to satisfy the standard) an immediate response in the affirmative is not forthcoming.

Sometimes, as is the case with less talented teachers, where in order to discipline one child the entire class is made to suffer a penalty for something in which they had no part, so too has this approach been the main driver of the transparency and information exchange agenda. Clearly, the OECD TIEA programme is about the grab for and access to offshore wealth and it, like the OECD multilateral convention on mutual assistance in the collection of tax, languished in the corridors of this Parisian club for almost a decade. It is well known that Switzerland has always been the target of the OECD and G20 activity in this regard. The international credit crunch has been a convenient and effective way of masking this clearly obvious agenda.

What has happened in the last five years to apply international disciplines to Switzerland? Frankly, not much. At least nothing that has affected their market; and that would cause any perceptible shift in global investment patterns. Switzerland, still, as it was before the financial crisis, remains the preferred domicile for offshore wealth. Switzerland remains one of only a very few jurisdictions that have not concluded TIEAs and has in fact given rise to the application of an entirely different transparency ethos premised not on the exchange of any information at all, but the levying of a ‘withholding tax’ on some foreign account holders.

What has Switzerland been doing that other OFCs besides Singapore and Hong Kong have not over the last five years? They have been minding, or rather been allowed to mind, their own business. Why? Despite the fallout from the sub-prime bubble and the rhetoric about securing increased transparency in banking and other financial dealings, what has happened is that the work programme of the OECD in matters of international tax has been resurrected and its exercise protected by the collective power of the G20.

Worse still, is the fact that while attention has focussed on how many TIEAs GF members, not proximate, by a county mile, to the epicentre of the economic crisis, have concluded between G20 summits since 2009, Switzerland, Singapore and Hong Kong have continued to build and expand their business brand on the strength of their tax treaties, unencumbered by the ‘background noise’ that attends each announcement of a TIEA signing.

Is there a correlation between the paucity of TIEAs concluded by these countries and their increasing popularity among High Net Worth and Ultra High Net Worth Individuals?

Absolutely!

Besides the fact that they, along with their competitors in the rest of the offshore world offer discretion; and a broad, specialised and diversified suite of private banking services and expertise; these countries have a large and growing network of double taxation agreements. They know that tax treaties are integral to providing asset solutions to the rich and highly mobile.

TIEAs, on the other hand, add nothing to the profile of these destination countries for offshore wealth. Instead, they know that in the marketplace TIEAs serve only to dilute their business brand. This is especially so since the global standard on tax information exchange, contained TIEAs, is reflected in their tax treaties, most of which, over the past five years, have been systematically updated in line with the OECD standards.

What does this mean for OFCs, especially those with developing tax treaty networks? It means that they need to stop diverting their national wealth, which is after all the collective wealth of their people, on TIEAs that were never expected to provide the definitive solution to lack of access to confidential taxpayer information.

They to need arrest the collective amnesia that seems to engulf them whenever the OECD entreats them to support a new international standard, especially when acceptance of the norm only seems to gain momentum, even among its own membership, under threat of sanction by the G20.

OFCs ought to recognise the fact that in the past five years since the TIEA programme was re-launched precious little has changed; and what was before has only been reinforced. Indeed the OECD itself has said it is still too early to gauge the success or otherwise of these agreements and now has its eyes firmly fixed on populating its own multilateral convention on information exchange and the global FATCA plus agenda. 

Most importantly, however, OFCs need to note that with the rise in HNW and UHNW individuals projected to come from the Asia-Pacific region and not the West, it is unlikely that they will gain any part of this new market if they continue to focus their attention and resources on trying to measure up to shifting OECD standards instead of minding their own business.

[1] Variously set at 10 information exchange agreements, then 12, then agreements with relevant partners, and now agreements with requesting members.

Francoise Hendy
Françoise Hendy is an international treaty negotiator and attorney-at-law specialising in international economic law and foreign investment law. Schooled at the University of London and in the Caribbean, she was appointed Barbados’ chief tax and investment treaty negotiator in 2003 and since then Françoise has led a multi-disciplinary team that has concluded over 20 tax treaties and several investment agreements. Currently based in London at the Barbados High Commission, Françoise continues to negotiate treaties while lending her considerable experience and expertise to the government in the policy and regulatory issues affecting Offshore Business and Financial Centres gained during her eight years as Director of International Business and Financial Services in the Barbados Ministry of International Business and International Transport.