What is the Common Reporting Standard?As part of the international battle against tax avoidance, the Organisation for Economic Co-operation and Development has developed the Common Reporting Standard (CRS) as the global standard for the exchange of financial account information between revenue authorities. It went live on 1 January 2016 in a total of 54 countries, including the UK and 26 of the other 27 European Union (EU) nations. A further 25 jurisdictions are also committed to joining next year and, overall, a total of 98 jurisdictions have currently indicated their agreement to join. It will cover almost all of the world’s major financial centres and traditional ‘tax havens’.
It obliges financial institutions (FIs) to identify the tax residence of the beneficial owners of financial accounts. They will then need to report this information to their domestic revenue authority. Reportable persons will include the underlying individual controlling persons of passive investment companies and other similar structures. It will, therefore, pierce the corporate veil far more effectively than other previous attempts at international account information exchange, such as the EU’s Savings Directive.
While it is heavily based on the Foreign Account Tax Compliance Act (FATCA) in the US, there are a number of significant differences. For example, it is based on identifying the tax residence of account holders, rather than their citizenship, which is often more fluid.
Who will it affect?The definition of FI is very widely drawn. As well as banks, it also covers funds, private equity structures, life companies and even certain trusts. Similarly, the definition of a financial account is open, ensuring it is difficult to avoid the scope. While it captures traditional depositary and custodial accounts, there is a generic concept of a “debt or equity interest” in certain types of investment entity which is widely defined.
How can I ensure compliance?There is a four-stage process to determining the extent of compliance:
- classification – the nature of each entity within the group will be reviewed to determine whether it meets the definition of an FI or, alternatively, a non-financial entity (NFE)
- product base – for FIs, each business line and product will need to be reviewed to establish whether any meet the definition of a financial account
- residence of each beneficial owner of a financial account will need to be considered. For new accounts, a self-certification will normally be obtained (for example, the British Bankers’ Association has published a draft). However, any accounts opened on or before 31 December 2015 will also need to be reviewed in order to identify whether there is any indication of residence overseas, when further enquiries will need to be made
- reporting – the first return is due with HM Revenue & Customs (HMRC) by 31 May 2017 and annually thereafter.
The original version of this article was published in the March 2016 print edition of the Securities & Investment Review.
What are some of the potential pitfalls?Compliance with the new regime will be monitored by HMRC and built into its risk-assessment model. Accordingly, non-compliance is not an option.
It should be recognised that information will be passed to overseas revenue authorities which will use the information as the basis for their enquiries. If incorrect information is reported, they may seek restitution of the costs of defending any subsequent tax enquiries.
Any changes to business lines or products may bring an entity into or out of scope of the definition of FI. Alternatively, any new products launched by an FI will also need to be considered to ascertain if they are financial accounts. There will also need to be processes in place to identify any potential changes in the tax residence of beneficial owners or, indeed, changes in the beneficial owners themselves. This will be a particular issue for listed funds, which will need to run periodic sweeps of their customer base.
Customers whose financial accounts are identified as potentially reportablewill need to be notified of this. They will need to be advised by 31 January immediately following the identification. However, FIs may also wish to consider providing full details of the information that will need to be exchanged, as there is no ‘tipping-off’ offence.
HMRC will monitor compliance, building it into their risk assessment modelIt should also be noted that, even though the legislation is now live, there are a number of potential legal conflicts that have yet to be resolved. In particular, given the future expansion plans of the CRS, it may be logical to capture the necessary information from all customers. However, there is still an ongoing debate to ascertain whether retention of such information could be in breach of the Data Protection Act 1998 where the account holder’s jurisdiction has yet to join the CRS.
It is, therefore, essential to ensure that suitable governance procedures are in place, documented and adhered to. This area will be monitored by HMRC.
In the meantime, the US remains outside the CRS, believing that FATCA serves its purpose. Accordingly, FIs will need to run both systems for the foreseeable future.