The Savings Tax Directive is a compromised, easily-avoided and expensive piece of legislation and the final impact on investors will not be that great, says Martyn Samphier of Standard Bank
When Council Directive 2003/48/EC, covering taxation of savings income in the form of interest payments, was adopted on 3 June 2003, there was much to celebrate within the European Union (EU) Commission. After all they had been trying for 20 or more years to put in place a mechanism that would prevent EU citizens evading the payment of tax on their savings income by depositing money outside their country of residence.
At last they were going to put a stop to it, were they not? No longer would it be possible for enterprising tax evaders to travel to places like Luxembourg with suitcases full of cash to deposit in numbered accounts (a practice which had actually petered out years earlier due to anti-money laundering regulations). What is more, the directive required that external countries within the EU sphere of influence (such as Switzerland, Liechtenstein etc) would be "leaned upon" to adopt equivalent measures, as would the offshore territories of EU member states, including the Crown Dependencies.
It might be argued, of course, that the directive is so full of holes that anyone who really wants to evade tax will continue to do so. A compromise had to be made on eurobonds (many of which will be out of scope until 2011), in order to ensure that the UK would not veto the concession made to Luxembourg, Austria and Belgium, who wanted to apply a withholding tax instead of exchanging information, thus retaining banking secrecy. (Does anyone really believe that the 'transitional period' before universal adoption of exchange of information will end this side of the 22nd century)?
A stepping stone
The directive would only apply to individuals, so it might be suggested that anyone wishing to remain unaffected by it could simply set up a company and carry on as before. Even easier, depositors could just move their savings to a country where the directive did not apply. Among such countries are prominent finance centres like Hong Kong and Singapore, which the EU has ambitions to bring on board in the future. Some hope.
Nevertheless, the passing of the directive has to be regarded as an achievement by those involved. Loopholes there may be, but without the horse-trading and concessions there could have been another 20 years of debate and the optimists will no doubt look upon it as a stepping stone on the road to full transparency in the future. It will make a difference. While some people may have chosen to hide their savings in the past, the directive makes it harder. Not everyone has the wherewithal to incorporate a company - nor for most people would it be economic. And one might question how many would really want to place their money in far away places, where the legal system is less familiar? More EU citizens will pay tax on their savings as a result of this initiative, so that must be a positive result, even if the measures are far from foolproof.
Once the directive had been passed, the biggest challenge was to 'persuade' the non-EU countries and offshore territories of member states to come to the party. The US, which many have forgotten was one of the so-called 'third' countries, rejected the idea early on and realistically this was only to be expected. What muscle power could the EU possibly have to bring on board the mighty US? The other European countries, which are reliant on the EU as a trading partner, were a different matter, however, and Switzerland, while not being too forthcoming at the outset, cannily saw the directive as a negotiating tool to extract other concessions from the EU.
With Switzerland ready to engage in negotiations, the Crown Dependencies really had no basis to give the directive the cold shoulder and it would not have been in our interests to bring about a constitutional crisis with the UK, which would almost certainly have legislated for us as a last resort, had we not agreed to comply. Perhaps there was a trade-off, however?
Code of conduct
The EU Savings Tax Directive was only one of the measures that the EU was introducing under the loose heading of 'harmful tax competition'. The one which the islands feared most was the Code of Conduct on business taxation, which threatened the future of several key components of our offshore industry, for example, exempt companies, IBC's and captive insurance. The strategy in Jersey, which has been completely vindicated, was that signing up to the Savings Tax Directive was a sacrifice that could be made, if it ensured that our response to the Code of Conduct, principally the introduction of zero corporate taxation across the board (or 0/10 as it has become known), was given the tick-up.
At the end of the day the islands promote themselves as offshore finance centres, not tax havens, and there should be nothing to fear in terms of legitimate business being tempted to go elsewhere as a result of the directive, so long as the perception of the outside world was properly managed. Of course there had to be safeguards, such as a 'level-playing field' for all participants, and these have been built into our agreements with the EU member states.
Although the islands flirted initially with the idea of exchange of information, once Switzerland had opted for a withholding tax, in line with Luxembourg, it was inevitable that we would follow the same route, although most institutions give their clients the option of choosing exchange of information, so as to avoid paying retention tax, as permitted within the regulations.
Logically one could hypothesise that everyone should elect for exchange of information, because surely nobody would want to pay retention tax at source and then declare the same income to be taxed by their home tax authority. However, there is no doubt that confidentiality still figures highly in a lot of minds. People are happy to declare their income but they want to be in control of the passing of information.
Standard Bank will automatically provide all of its EU resident clients with written details of the tax that has been deducted each year, so that they can apply for a tax credit at home. We are quite fortunate in that the EU, other than the 'res/non-dom' sector of the UK, is not a target market for us. Our centre of gravity is Africa and other emerging economies, so we are not concerned like other banks with creating new ESD-friendly products to protect our market position. But that is not to say we do not have such products in our armoury.
A soft landing
In the run up to implementation on 1 July 2005 and in the period since, our experience has been mainly one of apathy among our EU resident clients, all of whom were notified in advance of the changes, but only around 15% replied to our communication. Those who responded either elected for exchange of information or, in the case of some UK clients, provided evidence of non-domicile status, thus obtaining exemption from the measures. Few clients have closed their accounts and it is believed that our experience is fairly typical within the islands, although the attrition in those institutions with a heavy EU client bias may have been higher. At this juncture it would be reasonable to conclude that there is a broad feeling of relief within our banks and indeed within our governments that the mass exodus of business that some had predicted, or at least feared, has not materialised.
That is in no small way due to the meticulous foresight of the islands' authorities and their well-informed understanding of the implications for their finance industries of acceding to these measures. The ESD Guidance Notes have been skilfully drafted to provide rules covering residency and domicile, which are much simpler than in the directive itself, but still thoroughly coherent, and a light touch for our fund industries. We should express considerable gratitude to those involved, including our trade associations and promotional bodies. The exercise has also provided an excellent insight into how much can be achieved by the three islands working together.
Granted, it has not all been plain sailing. There has been a financial cost in terms of IT development and yet more compliance. There are anomalies, such as the laughable exclusion of Bermuda from the directive, because the EU draftsman did not realise that Bermuda was not in the Caribbean. Then there is the current debate over Gibraltar. But these issues will no doubt be corrected. The important accomplishment is that the islands have gained huge credibility and, hopefully, goodwill by their spirit of cooperation, while at the same time delivering the best result possible for their most important industry. The verdict must be that we have made the best of an unwelcome situation and that it is now time to move on.
The STD is so compromised that anyone who wants to evade it can reasonably easily do so.
For the Crown dependencies signing up to the STD was a worthwhile sacrifice if the 0/10 tax system would be left un-harassed by the international community.
The process of integrating the STD with the offshore centres has been remarkably pain-free.
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