CRS: the end of tax evasion?
Tax evasion and tax fraud have been affecting governments finances all over the world over the decades. It occurs within a country and across countries. Thus, a single country cannot solve the problem on its own. Countries need to work more together and internationally to combat the problem home and abroad.
As per Boston Consulting Group’s Global Wealth 2016 report, around $10 trillion of private wealth was booked in offshore centers in 2015. Hence, governments all over the world are losing hundreds of billions of dollars every year in lost tax revenue.
The Panama papers leak in May last year demonstrated how a complex corporate structure, often set up offshore, can be used to hide millions of dollars from tax authorities.
Over the past few years, governments all over the world and organisations like Organisation for Economic Cooperation and Development (OECD) have been promoting the global tax transparency agenda to minimise tax evasion and tax frauds. The financial crisis of 2008 strained government finances all over the world. It also provided spurred support for a global tax framework, resulting in new regulatory initiatives like Common Reporting Standard (CRS) and Foreign Account Tax Compliance Act (Fatca), to improve global tax compliance.
What is Fatca?
Tax evasion is one of the BIG problems for the US. Fatca was introduced by the US Department of Treasury and Internal Revenue Service (IRS) in 2010 to encourage better tax compliance by obtaining detailed account information for US taxpayers located anywhere in the world, on an annual basis. Thus, IRS will know if any US citizen has invested or earned income through non-US institutions.
Under Fatca, 100+ jurisdictions and 75,000+ banks worldwide have agreed to share tax information with the US. A number of studies have revealed that US-based multinational corporations including Apple and Microsoft have $ 2.1 trillion saved cumulatively overseas to avoid taxes.
What is CRS?
CRS is the framework issued by OECD to collect, report and automate the exchange of taxpayer information among regulators across the countries. Automatic exchange of information (AEOI) will facilitate the transmission of taxpayer information from the source jurisdictions to the taxpayer’s residence jurisdictions. It will help regulators to have tax information of non-resident account holders and thus ease catching hold of where tax has been evaded.
Governments were losing much needed revenue from tax evasions. And always looking for global regime to facilitate tax transparency which, in turn, will lead to greater compliance with the income-tax across jurisdictions. G8/G20 introduced CRS for cross border exchange of information on financial accounts and to catch tax evaders no matter where they reside.
It immediately got global recognition. More than 101 countries (still counting) globally has already signed up with CRS which is commencing from 2017/2018. Because the CRS shares a lot of similarities with Fatca, it is also referred to as Gatca (the global version of Fatca).
Is CRS the same as Fatca?
Fatca and CRS both have same principle of cracking down on tax evasion. Thus, they look similar but have different characteristics.
Let’s use the analogy of cats and dogs. Both of them have four legs, a tail, and make great pets, but the two are not same. Cats can sleep for up to 16 hours a day, while dogs require much more attention, including daily walks. Fatca and CRS look alike but by no means are the same. The real differences are in their implementation. For example, Fatca is only applicable for US citizens and CRS is applicable for all the country residents which have signed the treaty. Also, unlike Fatca, CRS does not have a year-end account balance threshold of $50,000.
Implementation challenges for CRS
New regulations like CRS will help government to collect evidence of tax evasion, no matter where they reside. And thus, regulatory bodies are pushing financial institution all over the world to implement them on the immediate basis. Hence, timelines to implement for it are tight.
In addition, guidelines of regulations are still evolving. Therefore, financial institutions need to take a measured approach to look for a system that offers flexibility for future changes. Also, try to see if some of the earlier work for other regulations like Fatca can be re-used. The below can be some of the challenges they might be facing:
- Large scope
Unlike Fatca, all major accounts will now be impacted under CRS. For example: if an Indian bank has 15 overseas branches, then every branch needs to do CRS and comply as per the intergovernmental agreement (IGA) model of the country where that branch is located. Meanwhile, under Fatca, only branches which have US residents as customers need to be included.
- Ambiguous rules
Governments all over the world are still not clear about different rules of the CRS framework, since it still need adapting in accordance with local requirements from local regulators. The process is ongoing.
For example, in Singapore as of 31 December 2016, the Inland Revenue Authority of Singapore (IRAS) has mandated financial institutions to monitor their customers from 1 January 2017, but the regulator is processing the feedback received from the financial institutions.
- Complicated processes
The process of identification, capturing and analysing customer data varies at entity level. Financial institutions can have many such entities. Thus, the CRS rule engines need to monitor each customer across entities/touch points as either reportable or non-reportable on a regular basis.
For example, the CRS framework mandates client remediation under which a financial institution must validate KYC information on a regular basis, which can vary for each entity. It was estimated in one of the surveys that client remediation process for 3,000 clients at a global investment bank took 81,000 interactive hours to complete.
- Increasing compliance costs
Financial institutions are already burdened with tsunami of new regulations after the financial crisis which they need to oblige. With the shorter AEOI implementation timeframe, financial institutions face the need for systemic technology solutions and complex and costly customer outreach.
In the UK, KPMG estimates compliance will cost approximately $125 million for global banks to effectively implement these solutions.
- Data protection
Financial institutions are required to share tax information of local residents with local government agencies. Thus, it means they need to follow local data protection/privacy issues and procedures of a local country which may or may not be same of a home country.
- Data readiness
CRS compliance requires to have the information like place of birth, classifying of entities and other data of tax payers. Financial institutions may or may not have this information in its entirety in their current systems. Hence, they need to enrich existing systems and find ways to gather, process and validate the data.
Also, financial institutions need to avoid running afoul of data privacy rules, and many will require governments/regulators to give them legal authority to gather the data.
- Higher customer response rates
The initial burden falls on financial institutions to identify the non-resident customers and overcome low response rates when collecting this information. Governments are considering penalties or fines for non-compliant customers.
Rise of improvements
Backed by an unprecedented political will across the globe, tax transparency is here to stay and financial institutions have to deal with it.
Financial institutions might need to take extra steps during the course of implementation of CRS/Fatca to improve the quality of data and increase their ability to match income to beneficial owners:
- Domestic reporting
Some governments are thinking beyond AEOI to improve tax resident information.
For example, India’s Central Bureau of Direct Taxes (CBDT) is working on a project that will help the department to identify high-value transactions and profile offenders.
- Taxpayer identification number (TIN) validation/matching
Several governments are considering extending the CRS requirements to validate the format of taxpayers’ ID/social security numbers.
- Additional schema fields
The European Union (EU) is planning to introduce additional CRS reporting fields with information that will help them match the reporting to the beneficial owner.
- Customer notification
Some governments are considering requiring financial institutions to notify customers that they may be or are being reported.
- Penalties on customers
Some governments are considering penalties on customers, not only for providing knowingly false information, but also for providing inaccurate or incomplete data.
- New provisions
Many governments might be taking extra steps to increase tax transparency.
For example, last November, the Indian government took a bold step to ban the INR 500 and INR 1,000 banknotes (86% of currency in rotation) to remove black money from the economy. Other governments are now following suit, including Pakistan and Australia.
Anyone know of any tax information exchange agreements with Mars or the Moon? Maybe moving is an option.
In the new world of tax transparency, tax evaders will soon not have any place to hide. CRS has arrived at a time when financial institutions are already facing uncertain economic environment and related regulatory challenges. It will test financial institutions’ capability and capacity to deliver.
From a government perspective, CRS will generate more revenue, if correct data is obtained from financial institutions around the world.
Also, forward-looking organisations will be using this opportunity to enhance business models, improve data quality and analytics capabilities – resulting in better customer service and better operations.
And hopefully it will bring greater transparency among governments around the world.
By Amit Agrawal, VP at a Singapore-based regtech company