The Goalposts Have Legs: Beyond the Valley of TIEAs

By Andrew Bolton, Partner, Group Head, Litigation & Insolvency, Appleby, Cayman Islands (01/07/2014)

In recent years the governments of the main international financial centres have signed hundreds of Tax Information Exchange Agreements (TIEAs) with other countries.  For example, at the time of writing, The Cayman Islands now has agreements in place with 33 countries, including most of the EU member states and OECD countries, and has a further 17 under negotiation.  Bermuda has 39 and the BVI 25.  The Crown Dependencies of Jersey, Guernsey and the Isle of Man have similar numbers.  These agreements and the legislation implementing them, allow the revenue authorities of the jurisdictions with which they are in place to request information that they require for both civil and criminal tax investigations.  Importantly, they override any duties of confidentiality that might otherwise stand in the way of disclosure.

This process was all part of the commitment made by the IFCs to co-operation in tax matters.  But if the IFCs’ experience over the last several years teaches them anything, it is that goalposts have legs.  No sooner had the IFCs embarked on the establishment of a network of TIEAs than the focus shifted towards automatic exchange, whether under the US FATCA legislation, or more recently the Common Reporting Standard being put forward by the OECD, in close co-operation with the EU, G8 (now G7 following Russia’s expulsion) and G20 countries. 

Of course, automatic provision of information is not new: IFCs have been providing information on savings income to EU countries under the EU Savings Tax Directive for several years.  But the OECD’s proposals go much wider, leading some to ask whether the TIEAs that have already been put in place continue to serve a purpose: if the taxing countries are going to be given the information anyway, what is the purpose of a regime for them to request it?

The Limits of the ‘On Request’ System

In the view of many ‘tax justice’ advocates, TIEAs suffer from a fundamental flaw: the requesting country must identify the person under investigation, specify the information sought, and say why they believe someone in the relevant territory should have it. 

As a result the whole process can only be invoked where the requesting country already has enough information to know where it should look for more – and to justify seeking to do so.  It is also sometimes claimed that the threshold for granting assistance is too high.  This is debatable, but it certainly falls a very long way short of the ‘smoking gun’ that Richard Murphy claims to be necessary (‘Information Exchange: what would help developing countries now?’, Tax Research LLP, June 2009).  In fact, as some of the cases discussed below illustrate, the central authorities of IFCs have been willing, to a fault, to accept without question the word of foreign revenue authorities and have sometimes had to be reminded by the courts that taxpayers do still have some rights.  It may be an indication of the political need to be seen to be co-operative, but the posture of the central authorities of the UK Overseas Territories and Crown Dependencies has frequently been nothing less than supine.      

Nonetheless, it must be accepted that there is indeed an inherent limitation in the TIEA-based approach: if, say, HMRC is investigating a taxpayer and does not know that he owns a large stake in a company incorporated in the Cayman Islands, it will not know to make a request under the TIEA.  Of course, if they do get to the point of making a request, at least in Cayman the information will have been collected and verified by the (regulated) corporate services provider and will be available.  In many other jurisdictions, including in particular most US states, corporate services providers are not regulated and often do not hold beneficial owner information on entities they serve.

It is this ‘Catch-22’ feature of TIEAs that automatic exchange of information (rapidly becoming known by yet another set of initials, AEOI) is intended to address.  AEOI does not replace the existing ‘on request’ approach under the TIEA system, but is intended to complement it.

The Move Towards Automatic Exchange

In February 2014 the OECD released a proposed Common Reporting Standard for automatic exchange of information.  The report, according to its summary “calls on jurisdictions to obtain information from their financial institutions and automatically exchange that information with other jurisdictions on an annual basis. It sets out the financial account information to be exchanged, the financial institutions that need to report, the different types of accounts and taxpayers covered, as well as common due diligence procedures to be followed by financial institutions.” 

As recently as 19 March 2014, 44 countries, including all the major IFCs – Bermuda, BVI, Cayman, Jersey, Guernsey and the Isle of Man, announced an “ambitious but realistic” timetable for the introduction of the necessary procedures to implement the Common Reporting Standard.  Procedures to identify the tax residence of those in control of companies and other structures will need to be in place by January 2016 and the first exchange of information (relating to the 2016 calendar year) will occur in September 2017.   

Section 2 of the Common Reporting Standard sets out the information that will have to be supplied.  It covers, for example, the details of those in control of the account or entity, the balance at the end of the year and the total amounts of certain categories of credits paid into the account over the year.  It does not, however, require individual transactions to be reported or, for example, for details to be given of the source of payments into an account or the destination of transfers out of it.  If tax authorities need that level of information they will still need to make requests under the relevant TIEA.  Therefore, since TIEAs will continue alongside AEOI, the recent scrutiny of their operation by the courts will continue to have relevance, and indeed further judicial guidance as to their operation can be expected.

TIEAs in the Courts

Although the TIEAs signed by different IFCs follow an OECD model and are broadly similar, the legislation passed to give effect to them varies quite significantly.  For example, Bermuda’s International Co-operation (Tax Information Exchange Agreements) Act 2005 now requires the Bermudian competent authority to apply to the court for a production order whenever information is sought from a person in Bermuda, and provides for court review of that order on the application of the person to whom it is addressed.  The corresponding Cayman Islands legislation, the Tax Information Authority Law, contains no such mechanism other than for cases where testimony is sought, rather than documents.  Challenges to most decisions of the Tax Information Authority therefore have to be by way of judicial review.

That was how MH Investments and JA Investments v The Cayman Islands Tax Information Authority came before the Grand Court in 2013.  The case involved requests from the Australian Tax Office, by which the ATO was seeking information about the financial affairs of two Cayman companies. The court held that the Cayman Islands Tax Information Authority (CITIA), the statutory authority charged in Cayman with obtaining and transmitting tax information, had acted unlawfully. 

The most basic objection to the CITIA’s actions was that the requests related to tax years outside the scope of the TIEA between Cayman and Australia.  It was also alleged that the CITIA failed to properly assess whether it had the powers pursuant to the TIEA and the TIA Law to comply with each of the requests; made a fundamental error as to the ATO’s rights under the TIA law or the TIEA to request the information sought; failed to ensure that the Applicants were served with a notice pursuant to Section 17 of the TIA Law giving them certain information and allowing submissions (this was their entitlement at the time but it has since been confined to individuals rather than legal persons); and failed to make applications that it should have made to the Court as to the execution of the requests.

In light of this litany of breaches, the court quashed the CITIA’s decision to accede to the requests. Predictably, the decision has been received in some quarters as a case of Cayman helping suspected tax-dodgers and putting roadblocks in the way of the newly-introduced standards of transparency.  But on proper analysis it is just a reminder that there are rules that govern this process and they have to be followed.

The Court of Appeal for Bermuda has also considered a challenge to a production order under a TIEA, in this case with Argentina.  In Minister of Finance v Bunge Ltd [2013] Bda LR 83, the issue was whether Bunge, the recipient of the production order, was entitled to see the terms of Argentina’s request in order to confirm that it met the statutory requirements for it to be compelled to comply with it. 

The court ruled that on the true construction of the Bermuda Act the person on whom a notice is served is entitled to see, and the Minister is bound to produce, the terms of the request, so far as they are relevant to the notice, to enable that person to know whether the notice is valid.  There was also a ‘principle of justice and fairness’ which provides an independent ground for requiring production of the terms of the request in a particular case.

Similar considerations of justice and fairness were at issue in the Jersey case of Volaw Trust & Corporate Services and Larsen v Comptroller of Taxes [2013] JCA 239, which went to the Jersey Court of Appeal in November 2013.  The relevant Jersey regulations allowed for an appeal (subsequently limited to, in effect, judicial review) against the issue by the Comptroller of a production notice.  One of the questions before the court was how far beyond the request itself the Comptroller need go before issuing the notice. 

The Court of Appeal held that:

“Elementary fairness does seem to us, prima facie, to require the Comptroller to give the person the chance to make representations so as to avoid, it may be, entering into the terrain of notices and the possibility of penal sanctions for non-compliance therewith … However, it does not seem to us possible to read into the Comptroller’s decision making process a need to hold a mini-trial.  The Comptroller has neither the power nor the facility to provide one.  As long as he has reasonable grounds for his belief or opinion on the material before him, he is empowered to act on that belief or opinion.”

A feature in several jurisdictions, including Jersey, of the test for acceding to a TIEA request is that the information sought is ‘foreseeably relevant’ to an investigation.  That test was considered by Jersey’s Royal Court in APEF Management Company 5 Limited v Comptroller of Taxes [2013] JRC 262.  The court held that evidence provided by APEF “removes in its entirety the foundation upon which the French Tax Authorities had, on the face of their request, based their suspicion and given as the reason for the request.”  It therefore allowed the appeal against the issue of the production notice. 

A common theme of these decisions has been that whilst requesting authorities should be assisted to the greatest extent possible, this must be balanced with the need for justice and fairness.  Even though the implementing legislation varies from jurisdiction to jurisdiction, these basic requirements can be expected to apply across the board.  Accordingly, a competent authority cannot simply rely on what the requesting authority says.  It must, without going so far as to conduct a mini-trial, satisfy itself that the relevant test is met.  To do so, it will have to disclose at least the pertinent details of the request, allow representations to be made and take them into account.  Its task is not just a rubber-stamping exercise.

Even as we move to an environment of automatic exchange, TIEAs will remain relevant.  As is the case already, the vast majority of requests are likely to be processed quickly and without challenge.  But IFC authorities need to pay close attention to the guidance already received from the courts and bear in mind that, desirable as cooperation with other countries may be, the rules are there to be followed and basic principles of fairness still apply.