Bermuda and the Push Towards Automatic Exchange of Information

By Charles Thresh, Managing Director, KPMG Advisory Bermuda and David Harper, Senior Manager, KPMG Advisory Bermuda (01/01/2015)

Global communications and business relationships have made it easier for individuals and entities to evade tax by investing assets outside of their country of residence.  However, increasing regulatory scrutiny and intergovernmental exchanging of tax related financial information is evolving to fight tax evasion. 

United States (US) FATCA and the ‘son of FATCA’ introduced by the United Kingdom (UK) has resulted in most offshore jurisdictions entering into inter-governmental agreements (IGAs) with both the US and the UK, to exchange tax related information on account holders within their jurisdiction.  These developments have seen many other countries, facilitated by the Organization for Economic Co-operation and Development (OECD), wish to participate in government to government exchange of information.

On 13 February 2014, the OECD released a framework document for the Automatic Exchange of Information (AEoI), commonly referred to as the Common Reporting Standard (CRS).  The CRS is intended to become the new global standard for automatic exchange of tax related financial information (covering bank accounts and other financial assets held outside the persons or entities country or countries of tax residence).  The CRS is intended to be a ‘common’ global standard on tax information collection and reporting across jurisdictions, to maximize efficiency and reduce costs of compliance for financial institutions.

Bermuda announced as part of the CRS Early Adopters Group on March 19, 2014 a timetable for the implement the CRS. The CRS Early Adopters Group also includes Ireland, Liechtenstein, Malta, the United Kingdom (UK), the UK’s Crown Dependencies of Isle of Man, Guernsey and Jersey; and the UK’s Overseas Territories of Anguilla, the British Virgin Islands, the Cayman Islands, Gibraltar, Montserrat, and the Turks & Caicos Islands. As such, CRS developments are something businesses in Bermuda have been following closely this year.

Many aspects of the CRS are consistent with the US Model 1 IGA approach, including each government committing obtain financial information from their financial institutions and to automatically exchange that information with other jurisdictions on an annual basis. As a Model 2 IGA jurisdiction, the Bermuda Government now faces the burden of building a reporting system and processes to collect tax information reporting from Bermuda Financial Institutions under CRS, as other Model 1 IGA jurisdictions are already anticipating.  

There are a number of areas where the CRS deviates from the Model 1 IGA FATCA agreement— such as the removal of minimum threshold limits and new account opening definitions.  This will considerably increase the scope of CRS over FATCA and therefore the amount of work required to be performed by affected businesses.  Further, the CRS does not have carve outs for low risk non-financial entities and therefore imposes increased obligations on financial institutions to collect information on such entities.  Unlike FATCA, the following are not excluded from the CRS: financial institutions with a local client base, local banks, certain retirement funds, financial institutions with only low-value accounts, some investment advisors and investment managers, and certain investment trusts.

On October 29, 2014, over 50 jurisdictions including Bermuda signed a multilateral competent authority agreement to automatically exchange information as ‘early adopters’ under the CRS, with the first exchange of information by September 2017.

Unfortunately, the US has not committed to adopting the CRS, so US FATCA is currently here to stay. We understand the CRS is will replace the son of FATCA introduced by the UK.  So, most entities will in the near future be focused on compliance with US FATCA and the CRS, meaning at least two parallel regimes for each jurisdiction to adhere to.  Further, each CRS jurisdiction will need to enact local enabling law, which may result in many small but significant variations across jurisdictions.

The development of the CRS is something businesses in international financial centres need to be following, as it has far reaching impacts on both the financial institutions and non-financial institutions. As with FATCA, the scope of the CRS is broad, to reduce the risk of circumvention.  Thus, it will apply not just to banks, but also funds, investment managers, corporate administrators, trusts, trustees, investment firms and certain insurance companies.

FATCA and the CRS affect most areas of a financial institution’s business. Therefore, it is more important than ever to plan for the impact of these regulatory requirements and design an efficient a response as possible.

Challenges That the US Might Face While Not Adopting CRS

While the United States is not currently a signatory to the multilateral competent authority agreement, any branch or subsidiary of a US financial institution in an implementing jurisdiction will need to comply with the CRS in that jurisdiction. The fact that the US has not implemented the CRS may actually create additional challenges for US-based financial institutions in coordinating implementation across the various jurisdictions in which they do business.

Core Elements of the CRS and AEoI
The CRS is designed to capture and trace the following parties’ tax and financial information:

Financial information to be reported with respect to reportable accounts includes all types of investment income (including interest, dividends, income from certain insurance contracts and other similar types of income,) but also account balances and sales proceeds from financial assets.

Financial institutions that are required to report under the CRS include not only traditional banks and custodians, but also other financial institutions such as brokers, certain collective investment vehicles and certain insurance companies.

Reportable accounts include accounts held by individuals and entities (which includes trusts and foundations).  The CRS includes the requirement to look through passive entities to report on the individuals (beneficial owners) that ultimately control these entities.  Further, the standard captures a broad scope of financial account information on those customers, such as account balances and investment income.

To classify the reportable accounts, financial institutions must follow due diligence procedures.  Pre-existing accounts will need to be remediated in accordance with the new standards.  Financial institutions will have to be well-equipped operationally with internal controls, system flags and reports to monitor the changes, additional information to alleviate any identified issues.

Information exchange under the CRS is envisaged to be reciprocal, but the same framework could in principle be used when there is no desire for reciprocity.  In addition to the multilateral competent authority agreements implementing the exchange of information between jurisdictions, the OECD document provides common reporting and due diligence rules that will need to be introduced into domestic law of participating countries.

Implementing the Common Reporting Standard

CRS relies on automatic exchange of information by building a rigorous framework and platform around the following:

1)      Common standard of information reporting - Building legal framework and domestic laws to replicate the reporting and due diligence requirement as stated by the CRS.  It will be a significant development for financial institutions, which will face complex new customer due-diligence and reporting obligations under the CRS.

2)     Legal and operational challenges - All Financial Institutions must also build a framework, administrative capacity and processes in place to ensure adequate data protection and that confidential data is only used for the purpose as listed in the agreement.

Existing systems designed to comply with FATCA will require adjustment to comply with the CRS. Financial institutions will have to adopt or build a common and flexible technical architecture to exchange information and report to other countries in a standard automatic exchange plan, while dealing with differences between FATCA and CRS (including any territorial variations under CRS).

Financial institutions must consider the impact on the overall customer experience of CRS, and keep requests for information to a minimum.  Account holders must receive accurate and timely tax reporting information as required under the domestic rules of each country, and be made fully aware of the impact of the new regulatory landscape.  There could be nothing more embarrassing or damaging than giving clients tax reporting information that does not match up to the information that has been exchanged between governments.

Is There Any Good News?

FATCA and the CRS leverages off the customer due diligence financial institutions have become accustom to collecting to comply with local Anti-Money Laundering (AML) regulatory requirements. As such, if you organization has been through a robust process of improving you AML regulatory compliance framework, your business should only require incremental changes to your existing framework to comply with FATCA and the CRS.

The UK has stated that with respect to the ‘son of FATCA’ it introduced, the related Intergovernmental Agreements in place will be terminated in 2016, with notices to terminate expected to be issued in 2015. So Bermuda and all those countries currently subject to ‘son of FATCA’ will have one less IGA to comply with. It is anticipated that Bermuda will continue to have a Model 2 with the USA for the foreseeable future, and CRS reporting obligations with all countries that adopt the CRS.

The development of the CRS was on the back of demand from international financial instructions for a common standard to reduce the cost and improve the effectiveness of compliance with these new information collection and reporting requirements.  Over 100 countries have now made a commitment to, sooner or later, adopt the CRS, as such it should help ensure there is greater consistency and reduce the need for individual countries developing their own frameworks.  We can only hope that individual countries do not feel the need to expand of the minimum standards set under the CRS.

About the Authors:

Charles Thresh is Head of Forensic for the KPMG Islands Group, and a Managing Director for KPMG Advisory Limited, a Bermuda Limited Liability Company.

David Harper is a Senior Manager for KPMG Advisory Limited.