Evidence submitted by International Financial Centres Forum (tav0031)

The International Financial Centres Forum (‘IFC Forum’) is a not-for-profit membership organisation composed of professional service firms based in Bermuda, the British Virgin Islands, the Cayman Islands, Gibraltar, Guernsey, the Isle of Man, and Jersey.[1]  IFC Forum advocates responsible cross-border financial intermediation in support of trade and investment as a means of promoting economic growth and enhancing development prospects.

IFC Forum welcomes the opportunity to respond to the Sub-Committee’s inquiry into tax avoidance and evasion.  We note that the Sub-Committee’s terms of reference ask what part the Crown Dependencies (‘CDs’) and Overseas Territories (‘OTs’) play in the avoidance and evasion of tax, and we confine our response to that matter.  We further confine our evidence to the three Crown Dependencies and the four Overseas Territories with the largest financial sectors – Bermuda, BVI, Cayman, and Gibraltar – and we use the term ‘OTs’ to refer solely to those four.

We understand that some information may also be subject of comment by CD and OT governments.  To the extent that the content or presentation differs, we – of course – defer to the government information on their own jurisdictions as definitive.

1.                   Background

1.1.             The Crown Dependencies (CDs) comprise three independent territories – Guernsey, Isle of Man, and Jersey – situated near to the United Kingdom.  Due to their size, they have opted to make international relations and defence the responsibility of the UK, but they are otherwise fully independent of the UK.  International financial services, primarily provided to institutional investors in the UK and the rest of the EU, are the largest component of each CD’s economies.

1.2.             The Overseas Territories (OTs) have near-full autonomy, granted by Parliament under successive constitutions.  Despite the explicit devolution of powers, the UK is responsible for their international relations, and so the UK is committed to legislating for the OTs only to prevent the OTs failing to abide by international obligations.  Indeed, the UK’s 2012 White Paper on the Overseas Territories states that the UK would “strongly support those Territories that meet international standards” and “will work in the international arena to ensure that there is no discrimination against well-regulated offshore financial centres and that the same international standards are applicable to all jurisdictions.”[2]    International financial services are also the largest components of each OT’s economy and they are also primarily provided to institutional investors, albeit with a greater emphasis on the U.S. and Chinese markets (except in the case of Gibraltar).

2.                   Regulatory overview

2.1.             The CDs and OTs are committed to maintaining well-regulated financial centres, with well-resourced and strong regulators.  They participate proactively in international fora, including the Financial Action Task Force (FATF) and its regional organisations, the OECD Global Forum, the International Organisation of Securities Commissions (IOSCO), and the International Association of Insurance Supervisors (IAIS).

2.2.             The CDs and OTs have committed to be early adopters of all international standards.  Such mechanisms include:

2.2.1.        OECD Common Reporting Standard (CRS): The CDs and OTs were all among the first jurisdictions to adopt CRS, under which they automatically provide information on all financial accounts held or controlled by residents of other countries to the governments of those persons’ respective home jurisdictions.  As such, HMRC automatically receives each year the name, address, Taxpayer Identification Number, account details, and account balance of any financial accounts controlled by persons or entities tax-resident in the UK.  This means that HMRC will receive automatic updates on almost all financial assets held by UK taxpayers in or through the CDs or OTs.

2.2.2.        UK FATCA: Before CRS came into effect multilaterally, the CDs and OTs signed bilateral agreements under which they provided this information to the UK.  This shows the benefits of the CDs’ and OTs’ close working relationships with the UK.

2.2.3.        Convention on Mutual Administrative Assistance in Tax Matters: The CDs and OTs were among the first jurisdictions to commit to the OECD Multilateral Convention: ahead of most EU Member States.  The Convention compels signatories to exchange information on request, assist in recovering assets, and assist in serving documents related to tax collection by other signatory parties.

2.2.4.        2016 Exchange of Notes on beneficial ownership: The CDs and OTs have introduced government-maintained central registers of beneficial ownership information, and give access to them to the UK on request.  To access this information, the UK does not need to offer explanation or prima facie evidence, as is ordinarily required under the Tax Information Exchange Agreements that the UK has signed with other jurisdictions.  This is the most access that the UK has to beneficial ownership information held in any jurisdiction in the world.

2.2.5.        G5 beneficial ownership information exchange: In addition, all CDs and OTs promptly committed to automatic exchange of beneficial ownership information on tax residents with 54 jurisdictions around the world.  This would automatically give beneficial ownership information on UK tax residents to HMRC when this project comes into effect.

2.2.6.        EU Code of Conduct for Business Taxation: The CDs and OTs are the only financial centres outside the EU that adhere to the EU Code of Conduct and their tax policies have been scrutinised by the Code of Conduct Group since the Primarolo Report in 1999.  The Code of Conduct is a political commitment that prohibits harmful tax practices that use certain tax regimes to attract internationally-mobile business.  All the CDs and OTs have been found to abide by the Code of Conduct, with BVI, Guernsey, Isle of Man, and Jersey having amended their tax systems to ensure they do.

2.3.             The CDs and OTs have well-resourced and highly-regarded financial regulatory regimes to implement and enforce these obligations.  Below are the employee headcounts for each of the CD and OTs’ financial services regulators:

These staff counts are large for territories of their size, with each regulator being among the largest individual employers in each jurisdiction.  This allows them to examine and scrutinise company incorporations very effectively.  Over 1,000 companies are incorporated each day in the UK, and its authorities have far fewer resources pro rata.

2.4.             The CDs and OTs are primarily used by investors because of their world-leading and specialised legal institutions.  They have robust legal frameworks, using common law based on English law and benefiting from judges and legal professionals that are ordinarily trained in and dual-qualified in England & Wales.  The highest court of appeal in each of the CDs and OTs is the Judicial Committee of the UK’s Privy Council.  This ensures that each jurisdiction has the highest standards of enforcement, and clients can rely on high-quality legal services and reliable and consistent application of the law.

2.5.             Overleaf is a table of regulatory compliance for each CD and OT, alongside G7 members.

Regulatory standards in the Crown Dependencies, Overseas Territories, and the G7

Numeric cells colour-coded (green/yellow/orange/red) by their quartiles in the overall rankings, including jurisdictions not considered here.

3.                   Beneficial ownership information collection and exchange

3.1.             Much of the political interest in the CDs and OTs has related to information on the ultimate beneficial owners (‘UBOs’) of companies registered in the respective jurisdictions.  We believe the Committee would benefit from explanation of this area.  The standard definition of the UBO is given by FATF, and includes any person that exercises a controlling interest in a company or other legal entity or that exerts control of the entity through other means:[14] that is, the person that ultimately controls a company, rather than the person that directly holds its shares.

3.2.             There has been significant confusion between public registers and government registers of UBO information.  The UK has introduced a public UBO register, but it is the only G20 member to have done so.  Instead, the G20 has endorsed government registers of beneficial ownership information.[15]  This involves the creation of a central database or platform that is held by the jurisdiction’s government, updated in real-time, and accessible to law enforcement and tax authorities.

3.3.             All CDs and OTs maintain central UBO registers in accordance with their Exchanges of Notes with the UK in 2016, although some introduced registers far earlier; Bermuda’s register was introduced in 1947 and Jersey’s in 1989.  All have been upgraded to reflect world-leading standards.  Despite this being the best policy to assist tax authorities, even central registers have been implemented only by a minority of G20 members.

3.4.             FATF and OECD Global Forum, the international standard-setters for combatting money laundering and ensuring tax transparency respectively, require corporate service providers that register legal entities on clients’ behalf to record the UBO of the entity, and make this information available to their local tax and law enforcement authorities.

3.4.1.        FATF Recommendation 24 states:[16]

“Countries should ensure that there is adequate, accurate and timely information on the beneficial ownership and control of legal persons that can be obtained or accessed in a timely fashion by competent authorities. … Countries should consider measures to facilitate access to beneficial ownership and control information by financial institutions and DNFBPs undertaking the requirements set out in Recommendations 10 and 22.”

3.4.2.        OECD Global Forum Element A1 states:[17]

“Jurisdictions should ensure that ownership and identity information, including information on legal and beneficial owners, for all relevant entities and arrangements is available to their competent authorities.”

3.5.             To ensure that the information is accurate, as required by FATF Recommendation 24, FATF requires under Recommendation 10 that the information be verified by the corporate service provider establishing the company requesting photographic ID of the UBO.  This allows the information to be relied upon as accurate.[18]  This approach has been used in the CDs and OTs to gather and verify client data for more than 15 years and has also been recommended as the most effective means of collecting accurate information that can be used by law enforcement, tax authorities, and courts by the World Bank, which cited Jersey as the archetype of good practice.[19]

3.6.             Academic research, published by Cambridge University Press, shows that this is done unevenly around the world, with the CDs and OTs all far more compliant with this requirement than large onshore jurisdictions or other major financial centres.[20]  See the chart below for comparative rates of verification of UBO information.

3.7.             This collection and verification of UBO information by regulated corporate service providers means the CDs and OTs have the most accurate UBO databases in the world.  These government registers are made available to HMRC and UK law enforcement under the Exchange of Notes between each CD and OT and the UK (see 2.2.4).

4.                   Tax neutrality and transparency

4.1.             Institutional investors, such as pension or insurance funds, reduce risk and thus increase returns by spreading investments across different asset classes and geographic markets.  In addition, multinational enterprises earn income in multiple jurisdictions, either by exporting through subsidiaries or branches.  This geographic diversification can lead to double taxation if governments tax all income earned domestically in addition to worldwide incomes of their residents – as almost all developed economies do – or where governments adopt differing definitions of where income is earned.  Double taxation of income earned internationally would make investment internationally uneconomical and thus reduce returns.  Almost all governments have a policy of preventing double taxation.

4.2.             To avoid the double taxation of income, institutional investors pool their resources in tax-neutral environments, where zero corporate income tax is imposed on income from their activities.  This does not reduce the tax paid in the UK or another counterparty jurisdiction, as they will still impose taxation on earnings when it is repatriated to the home jurisdiction.  As such, the non-imposition of corporate income tax by the CDs and OTs does not reduce tax revenues in the UK.

4.3.             Indeed, the CDs and OTs’ non-imposition of corporate income tax increases returns to UK investors and allows the UK to levy more tax.  By not imposing direct tax, the CDs and OTs cede their tax bases to the UK, which issues no deductions and grants no Foreign Tax Credit Relief for income earned in the CDs and OTs, as it would with other jurisdictions under the terms of its Double Taxation Agreements.  As a result, the income is taxed in full, with no deductions, when it is distributed to UK or other investors.

4.4.             This works in conjunction with corporate transparency and exchange of information, including via the mechanisms listed above.  These allow HMRC and other national tax authorities to see earnings by entities incorporated or based in the CDs or OTs, and thus scrutinise whether structures there enable the evasion or avoidance of taxation.

4.5.             This is backed up by the imposition of criminal sanctions for evasion of foreign taxation.  It is a criminal offence to facilitate or engage in the evasion of taxation, either foreign or domestic, in all CDs and OTs.  The CDs and OTs also have a ‘single criminality’ approach to money-laundering, under which it is a criminal offence to handle in the CDs or OTs the proceeds from any criminal activity, without having to prove that such an activity would be a criminal offence in the CD or OT in question.  As such, the evasion of UK taxation in the CDs and OTs is a crime there, as is the handling of the proceeds of it.  This gives the authorities significant powers to prevent evasion.

5.                   Optimal taxation in small open economies

5.1.             The CDs and OTs now maintain tax neutrality to facilitate international financial services, which are integral to the global economy, but the origin of their tax-neutral environments is due to the size of the economies.  There is a large body of economic literature demonstrating that small open economies, such as the CDs and OTs, maximise the welfare of their inhabitants by not imposing corporate income tax.  The European Commission’s paper The Corporate Income Tax, written by Professor Michael Devereux – Director of Oxford University’s Centre for Business Taxation – states that ‘an important result in the theory of optimal taxation says that a small open economy maximising its national welfare should not levy a source-based capital income tax’.[21]

5.2.             The ‘effective incidence’ of a tax falls on the party that ultimately bears the reduced welfare from its imposition.  This will often be different to the legal incidence – which is on the party that is legally responsible for paying the tax – as taxes may be passed on to consumers through higher prices, workers through lower wages, or investors through lower returns.

5.3.             Smaller and more open economies depend on world prices, which they are too small to affect, for their exports and for capital.  This means that businesses in small open economies cannot pass the cost of a corporate income tax onto consumers or investors.  It thus falls on domestic workers.  Indeed, due to knock-on effects, more than 100% of the cost of a corporate income tax in small open economies falls on local workers.[22]  As such, the CDs and OTs refrain from imposing corporate income taxation, which would be more harmful and less equitable than for larger economies.

6.                   Analysis of the tax gap

6.1.             We note that the UK is one of the few countries to conduct thorough tax gap analysis.  The HMRC Measuring Tax Gaps series estimates total avoidance amounts to £1.7bn.[23]  Of this, a small minority will be attributable to the CDs and OTs.

6.2.             This has been corroborated by a number of other sources:

6.2.1.        The Foot Review, published in 2009, estimated that corporate tax avoidance and evasion amounted to a maximum of £2bn, but that leakage through the CDs and OTs would necessarily be a small proportion of that.[24]

6.2.2.        Capital Economics estimated that the maximum amount of UK tax evasion that Jersey could facilitate is £95m a year, or just 2% of the extra revenue generated for the UK by Jersey (see below).[25]

6.2.3.        Capital Economics separately estimated that the maximum amount of tax evasion that BVI could facilitate globally is £750m a year, a small fraction of which would be in the UK: while generating 21 times as much extra revenue for governments worldwide.[26]

7.                   Contribution to the UK’s economy

7.1.             Any tax leakage due to the CDs and OTs must also be considered in the context of the contribution that they make to the UK economy due to their international financial centres.  There have been a number of analyses of the extent to which they provide jobs and government revenue to the UK.

7.1.1.        Capital Economics found that Jersey contributes a net £14bn to the UK economy, supporting 250,000 jobs: 190,000 of which are supported by investment due to Jersey’s international financial centre.  This adds £4.5bn of additional tax revenue to HM Treasury’s receipts.[27]

7.1.2.        Capital Economics separately found that BVI supports £127bn ($169bn) of investment in the UK, which provides 150,000 jobs.  This adds £2.9bn ($3.9bn) of additional tax revenue to HM Treasury’s receipts.[28]

7.1.3.        KPMG found that Guernsey is a conduit for £25bn of investment into the UK.  The report also found that Guernsey funds earn UK investment managers £1.1bn: 63% of the total fees earned by Guernsey-domiciled funds, despite just 22% of investment in Guernsey funds coming from the UK.[29]

7.1.4.        Transnational Analytics found that Bermuda supports 69,000 UK jobs.  This is four times as many jobs as Bermuda created in Germany: demonstrating the benefits of the UK’s close ties to the CDs and OTs.[30]

7.1.5.        EY found that Isle of Man supports £29bn ($39bn) of investment in the UK,[31] and is of particular importance to the economy of the north-west of England.[32]

7.2.             The CDs and OTs’ financial centres offer significant benefits to the UK’s financial services sectors, including by:

7.2.1.        Increasing pension returns by reduce the cost and administrative burden of diversifying investments internationally;

7.2.2.        Reducing the cost of insurance, as Lloyd’s of London globalises its business through Bermuda: increasing its insurance capacity by over a third;

7.2.3.        Increasing lending to business by providing access to international capital markets.  Jersey alone provides £120bn of funding to UK financial institutions: five times larger than the estimated funding gap for SMEs;

7.2.4.        Providing much needed liquidity to the UK banking sector.  UK clearing banks account for approximately 55% of Jersey’s banking sector employment, with the banks in Jersey providing liquidity to their upstream parent banks in the UK.

7.3.             The use of CDs and OTs for international institutional and commercial transactions also ensures English common law is exported globally and is held in even higher regard by international investors, benefiting the UK’s legal services sector.  For example, as a consequence of investing via BVI, Chinese investors and advisers are far more familiar with English legal institutions than they otherwise would be, making it more likely that they invest in the UK itself.

8.                   Conclusion

In recent years, the CDs and OTs have become global regulatory leaders, matching the high legal and enforcement standards in their jurisdictions.  This has significantly reduced the scope for tax avoidance and evasion in the jurisdictions, which is now estimated to be a small fraction of the economic benefits and additional government revenue that the CD and OTs’ financial centres give the UK.  In the context of transparency and information exchange, their tax neutrality – a consequence of them being small open economies – has become a boon to UK tax revenues.

We hope that this submission is helpful and would be happy to provide additional written evidence on any of these points.  Please do not hesitate to contact IFC Forum’s chairman Jack Marriott at jack.marriott@maplesandcalder.com or IFC Forum’s legal counsel Richard Hay at rhay@stikeman.com

May 2018