CRS to deliver new age of tax transparency

January 2018  |  FEATURE  |  CORPORATE TAX

Financier Worldwide Magazine

January 2018 Issue

Tax evasion is a corrosive crime which affects the finances of virtually every country in the world. Massive in scope, it is believed to amount to around 5 percent of global GDP and cost the US economy an estimated $337bn each year in tax revenue.

As a consequence, a number of schemes have been introduced to crack down on the tax evaders, with one high-profile example being the Common Reporting Standard (CRS). Developed by the Organisation for Economic Co-operation and Development (OECD) in response to a request by the G20, the CRS is a global information standard designed to combat tax evasion – legislation described as a “game-changer” by the Alliott Group. 

OECD guidelines state that the CRS requires countries to obtain information from their financial institutions (FIs) and automatically exchange that information with other jurisdictions on an annual basis. Also set out is the financial account information to be exchanged, the FIs required to report, the different types of accounts and taxpayers covered, as well as common due diligence procedures that FIs need to follow.

“Tax authorities having insufficient access to information from foreign jurisdictions has always been an important factor in businesses going offshore,” says Pawel Falkowski, a partner at FL Tax. “The CRS has been introduced to curb the use of foreign jurisdictions for the purpose of hiding some assets or operations. With the CRS, tax authorities have obtained a new and very powerful tool to track and fight tax evasion.” Indeed, in the months prior to the CRS coming into force, many international businesses reviewed their offshore structures and closed a number of them down.

To date, 103 countries have committed to the CRS. From these commitments, 49 early-adopter jurisdictions were scheduled to undertake first exchanges by the end of 2017, while the balance is expected to do so by the close of next year. In terms of US involvement, the OECD understands the US is undertaking automatic information exchanges pursuant to the Foreign Account Tax Compliance Act (FATCA) and has entered into intergovernmental agreements (IGAs) with other jurisdictions. These IGAs acknowledge the need for the US to achieve equivalent levels of reciprocal automatic information exchange with partner jurisdictions.

So with many of the countries participating in the CRS having already begun to exchange financial account information, now would seem an opportune time to review the standard’s early impacts and consider the factors likely to determine its future effectiveness.

Effective collaboration

With the successful implementation of the CRS hinged upon collaboration, the need for participating jurisdictions to exchange tax information in a complete and efficient manner is crucial.

“While many countries have a well-established practice of collaboration with other countries’ authorities, it is not a rule,” affirms Mr Falkowski. “My experience is that some countries, such as Poland, need more time to accommodate these new possibilities and to make best use of them. However, progress in this area is already visible.”

Certainly, with more than 100 jurisdictions already committed to CRS and over 2000 bilateral exchange agreements in place, collaboration between governments has been effective so far. “That such coordination and collaboration occurred so quickly in an age of rising protectionism on many fronts is an incredible accomplishment,” says Mike Drinkwater, head of FATCA and CRS for the tax & accounting business of Thomson Reuters. “It is yet to be seen to what degree such multilateral or multi-bilateral collaboration will continue. This is crucial to the long-term success of CRS.”

Impacts so far

In the months since the first exchanges of tax information under the CRS, the true practicalities of the OECD’s new world of tax transparency have been emerging. Many practitioners, it would appear, are taking a cautious approach to the new standard.

“The success of the CRS is predicated on how strictly it is implemented to procure the correct data from FIs,” says Pankaj Dave, a partner at B.M. Chatrath & Co. “Its impact will be seen over a period of time, once more revenue and tax collection is generated by respective governments. At the same time, multinationals are using the opportunity afforded by the CRS to enhance their business models, and improve their data quality and analytics capabilities.”

Yet despite all the forward-looking intent, practitioners have their concerns. “Governments across the world are still not clear about the different rules of the CRS standard, as it still needs to be adapted in accordance with local requirements set out by local regulators,” adds Mr Dave.

The sheer scope of rolling out the CRS across this many jurisdictions will continue to present challenges. “Getting 103 jurisdictions and counting signed up is an incredible success, but this regime is not airtight and implementation is complex, varying slightly between countries,” says Mr Drinkwater. “The US, despite launching FATCA to combat tax evasion, has not committed to CRS, ironically making the country more attractive for investment. Furthermore, not all asset classes are equally transparent. It is a possibility that as a result, more money could simply now flow to the likes of real estate and cryptocurrencies.”

According to Jamie Towers, a tax partner at Hanrick Curran, the early impact of the CRS is the amount of review and planning work required by potentially affected financial institutions, and the increased compliance for any business or investor trying to open an account or make an investment. “Clients with international connections have been curious as to what exactly will be disclosed to governments in other countries, so the CRS is having an effect on how businesses perceive international disclosure,” he says.

Compliance challenges

Collecting the tax-related information from reportable entities presents myriad data management and compliance challenges for FIs. Furthermore, with FIs facing significant penalties in the event of non-compliance (penalty systems are likely to differ across jurisdictions), motivation to comply is high.

“For many FIs, depending on their size and footprint, the CRS creates a massive data and compliance headache,” suggests Mr Drinkwater. “Ensuring up-to-date documentation from reportable entities and persons is challenging, requiring many FIs to initiate large data remediation efforts. Unlike FATCA, there is no withholding ‘stick’ to use in cases of non-responsive clients. Another major challenge FIs face is sourcing, aggregating, cleaning up and filtering various levels of data from across the many source systems to ensure timely and complete information for reporting.”

In Australia, where the CRS has applied since 1 July 2017, FIs are particularly vigilant in asking additional questions in order to gather appropriate tax data. Much of this diligence is due to the impact of FATCA (in force since 1 July 2014), as well as the country’s participation in extant international tax exchange agreements. “As the CRS was preceded by FATCA, an exchange of information has already begun,” explains Mr Towers. “That said, the additional sharing required by the CRS has not yet begun and is unlikely until after 31 July 2018.”

One aspect likely to prove contentious under the CRS concerns the use of self-certification by account holders as a means of providing the requisite tax information for FIs. Although OCED guidelines do state that an FI “may not reply on a self-certification or documentary evidence if said institution knows or has reason to believe that it is incorrect or unreliable”, many tax practitioners remain unclear as to how the CRS and self-certification can coexist.

“Self-certification does present a challenge, although its extent is still unknown at present,” says Aaron Fitchett, a tax partner at Baumgartners. “The Australian tax authority’s relatively open and proactive relationship with the financial industry has meant there is an avenue to seek guidance where any uncertainty exists.”

Another big challenge posed by the CRS is to find effective ways to adapt existing procedures to extract appropriate data from the many, often independent systems used by FIs. “The risk of account holders providing insufficient information cannot be eliminated,” says Mr Falkowski. “Thus, proper procedures, instructions and disclaimers need to be applied to reduce the risk of non-compliance.”

Best practice

Traditionally, when tax evasion had been detected by authorities, many lacked the resources to prosecute offenders. Today though, technology is increasingly easing the resource burden and allowing governments to more easily review the CRS information provided by foreign counterparts and match it to the taxpayers in their countries.

“FIs that are proactive and which think and act holistically about tax, onboarding, data and using technology to automate manual processes are at an advantage,” believes Mr Drinkwater. “More accurate data and information technologies will act as powerful enablers for governments to more effectively pinpoint and reduce tax evasion.”

Clearly, in jurisdictions where a stance is taken early on and guidance is released on how FIs can best manage their reporting obligations under the CRS, the chances of success are greatly enhanced. “As businesses and investors become more aware of disclosures, it will become increasingly difficult to hide assets in other jurisdictions,” says Mr Towers. “It is possible though that this will encourage investors to seek jurisdictions and financial products which do not participate in the CRS.”

For practitioners such as Jackie Hendley, head of tax at Smith Cooper, the key to success is to focus on those individuals who are deliberately evading tax, as opposed to those who are undertaking their affairs in a tax efficient manner. The danger, however, is that should the CRS become too much of a burden, there may be insufficient time and resource available to catch those who are undertaking tax evasion.

“The risk of too much burdensome compliance is that taxpayers will kick back through relocating, shutting down businesses and thereby impacting jobs, or in some extreme instances, seeking other ways to avoid the taxman,” warns Ms Hendley. “If the authorities manage to balance the right level of compliance with the required risk of tax leakage, the CRS could become a very useful tool.”

Current trajectory

For many of the parties pursuing the eradication of global tax evasion, the CRS represents nothing less than the emergence of a new age of transparency – a tool for creating a world in which tax evaders have no place to hide. For that to happen, the standard needs to be strictly applied and rigorously enforced.

“The CRS will become an accepted way of doing business,” suggests John Nelson, managing director of Dixcart Trust Corporation. “However, unless it becomes truly international, with all jurisdictions participating, the glaring omission in the exchange of information being the US, arguably the hub of all international commerce, its benefit in the fight against tax evasion is going to be severely compromised.”

That said, with 100-plus countries committed to achieving greater tax transparency, on its current trajectory the CRS is set to make headway in reducing tax evasion across the globe. How aggressively non-compliance is pursued by authorities going forward is going to be the acid test – the key to the ultimate success of the CRS.

© Financier Worldwide

BY

Fraser Tennant