The world’s new tax haven
In the aftermath of the 2008 financial crisis, there was a sense that the systemic failures it revealed would spark a radical overhaul of the global financial architecture. Eight years on, that has not happened: an exception is perhaps offshore finance. The US led the way with its Foreign Account Tax Compliance Act (FATCA), which targets US citizens with footloose money. A more ambitious initiative was launched in 2009 by the G20; it aimed for full disclosure of financial transactions undertaken by residents of one signatory country living in another. Today, the Common Reporting Standard (CRS) has 101 signatory nations, and from next year information will start to cascade between national tax authorities. The process is set to transform the way that global capital is managed and taxed. Ironically, a big winner may be the US dollar.
It is ironic because the US, which started the war on offshore financial centers, is not part of this multilateral framework, and as a result is emerging as the preferred location for wealthy (non-US) individuals capital beyond the prying eyes national tax inspectors.
The CRS promises to change behavior as it compels financial institutions to report information on both personal and corporate accounts held by non-residents. Tax havens such as the British Virgin Islands, the Isle of Man and Singapore must exchange information on account holders, with the main responsibility for identifying beneficial ownership resting with banks. Ahead of these mechanisms going live from next year, the likes of Australia, the UK and India have made it a criminal offence not to disclose offshore income. As a sop, some countries are offering tax amnesty schemes. The hope is that money gets pulled away from tax havens, which contain wealth estimated at between US$7trn and US$32trn. On the face of it, such measures should bolster saving in local currency and diminish the rootless offshore market in US dollars.
Governments have sought to sweeten the pill by offering immunity to individuals who fess up to having illicit offshore wealth. Indonesia’s amnesty scheme, which runs until March 2017 and offers penalty rates in to of stash their the single digits, has seen declarations of about US$280bn, or 90% of the government’s target. The problem is that 70% of the declarations made so far have involved onshore assets, while only US$10bn was repatriated. Similarly, India which recently ran amnesty schemes for overseas and domestic income, with penalty rates averaging 45%, saw just US$1bn of offshore assets declared, compared to US$10bn domestically. Residents of Indonesia and India are estimated to have a combined US$1trn of wealth squired in Singapore and Mauritius, yet both of these offshore centers are signed up to CRS, meaning that they will soon be passing along account holders details to tax authorities in Jakarta and New Delhi. Hence, the presumption must be that much of this money is in the process of moving to other jurisdictions not covered by CRS disclosure.
Exhibit A is the US, as it in effect operates as a tax management island with its own FATCA mechanism focused purely on chasing down the financial holdings of US citizens. While enforcement relies on bilateral agreements with “partner” governments, the irony is that the US does not reciprocate by offering similar disclosure as it relates to the financial holdings of foreign citizens within the US.
To be sure, it can be argued that high US tax rates would more than offset the lure of confidentiality that US “secrecy” offers. In addition, the US government has told FATCA partner countries that it ultimately plans to adopt legislative changes which will allow reciprocal information sharing. Perhaps, but the complex US tax code offers plenty of scope for minimizing tax—just ask Donald Trump—while there is little evidence that a more nativist-inclined US Congress will anytime soon sign the US up to a multilateral framework that harmonizes tax treatment, to the potential detriment of US financial institutions.
For this reason, the shift in CRS reporting is likely to force a flow of US dollars away from offshore financial centers and into the mainland US. Such a trend should guarantee a consistent bid for the US dollar, even while it threatens the outlook for those centers which for decades thrived by managing offshore dollars, largely for the purpose of tax evasion.