Tax Information Exchange Agreements Are Not Always Working

Recently, due to pressure from the G20 to render active campaign against tax evasion, a lot of low-tax countries and territories, also called tax havens and secrecy jurisdictions, are taking practical steps towards the OECD’s standards of transparency. The disclosure of customer information may impair relations with the customer, but fear to impair relations with the leading world powers appears to be stronger. Existing bilateral tax treaties are being revised and new tax information exchange agreements are being signed and negotiated. How badly it affects the practical confidentiality of tax havens?

Scope of International Instruments for Information Exchange

As of today, several types of agreements between states govern procedures of information exchange: double tax treaties (DTT, or double tax conventions, DTC), tax information exchange agreements (TIEA), mutual legal assistance treaties (MLAT) and some multilateral agreements.
Treaties for mutual legal assistance (MLAT) deal with criminal matters but not necessarily cover tax matters. MLATs that cover tax matters provide for efficient exchange of information for these purposes.

With double tax treaties, Article 26 of the OECD Model Tax Convention on Income and on Capital provides the most widely accepted legal basis for bilateral exchange of information. Parties to the treaty are obliged to share information relevant to application of the treaty as well as to enforcement of domestic tax laws of the parties. There’s no way for the requesting party to go for fishing expeditions or make inquiries irrelevant to the tax affairs of a given taxpayer. However, domestic tax interest principle and bank secrecy provisions are no longer the ground for the requested party to refuse sharing information.

Bank secrecy appears to be incompatible with the Article 26 provisions. Consequently, countries with traditionally strong bank secrecy position have to review their existing agreements to withdraw the according reservation to this article. The list includes Austria, Belgium, Luxembourg, Singapore, and Switzerland.

Tax information exchange agreements (TIEA) are designed for cases, where DTT is considered inappropriate due to the fact that other party has different taxation base or no tax at all, or where the DTT contains certain reservations to the Article 26 and does not provide for efficient exchange of information.

TIEAs are based on the OECD Model Agreement on Exchange of Information on Tax Matters and allow for exchange of information between tax authorities on request, lifting bank secrecy, domestic tax interest and dual incrimination principles that might be exercised by the requested party in other situation. Herewith, each contracting party shall ensure that its competent authorities have the authority to obtain and provide upon request:

  • information held by banks, other financial institutions, and any person acting in an agency or fiduciary capacity including nominees and trustees, as well as
  • full information regarding the ownership of companies, partnerships, trusts, foundations and other entities and all persons in an ownership chain, including settlers, trustees, beneficiaries, founders, members of foundation council and so on, as the case may be.

Under Tax Examinations Abroad provision, the requested party may even allow representatives of the competent authority of the applicant party to enter the territory of the requested party to interview individuals and examine records.

Nevertheless, such seemingly well-elaborated instruments are not really efficient in practice, running into a number of problems.

Practical Difficulties of Tax Information Exchange

No interest. Obviously, secrecy jurisdictions are hardly interested in exchange of information on their customers. Model OECD treaties only serve as templates for the countries wishing to sign an agreement. The parties can amend the recommended provisions and still introduce certain reservations to supplying the information.

About 3,000 of existing DTTs are based on the Model Convention. At the same time, many existing DTTs are based on older redactions, which allow interpreting the information exchange provision to serve strictly for the purposes of double tax avoidance, rather than with a view of tax evasion or avoidance in general. The newest version of the Model Convention appears to support mostly the investor’s interests, rather than of the accepting country. So far, many developing nations generally contest it and gravitate to original redactions, including the older Article 26.

Domestic barriers and practical unfitness. All tax havens have committed to the OECD principles of transparency, but to be able to conclude information exchange agreements following the OECD template, they might need to firstly make substantial changes to their current domestic legislation and practices. Some changes are that serious that they need political approval, involving such procedures as referendums. Besides the domestic barriers, negotiation and signing of the agreements is a very time- and resource-consuming process.

No automatic exchange of information. Finally, the necessary agreements are signed. Now, both Article 26 of DTT and TIEA provide for exchange of information only on request. Herewith, both are very well protected against fishing expeditions – the form and contents of the information request are strictly specified. For example, the TIEA requires the applicant party to demonstrate the relevance of the request, providing the following information from its side:

  • “(a) the identity of the person under examination or investigation;
  • (b) a statement of the information sought including its nature and the form in which the applicant Party wishes to receive the information from the requested Party;
  • (c) the tax purpose for which the information is sought;
  • (d) grounds for believing that the information requested is held in the requested Party or is in the possession or control of a person within the jurisdiction of the requested Party;
  • (e) to the extent known, the name and address of any person believed to be in possession of the requested information;
  • (f) a statement that the request is in conformity with the law and administrative practices of the applicant Party, that if the requested information was within the jurisdiction of the applicant Party then the competent authority of the applicant Party would be able to obtain the information under the laws of the applicant Party or in the normal course of administrative practice and that it is in conformity with this Agreement;
  • (g) a statement that the applicant Party has pursued all means available in its own territory to obtain the information, except those that would give rise to disproportionate difficulties.”

In practice, it turns out that the inquiring party is already to have a case with significant evidence on a taxpayer in question before making the inquiry, rather than to count on information to be obtained from the requested secrecy jurisdiction basing on a mere suspicion.

No information to share. The above mentioned instruments rely on the obligation of each party to provide information, which is held by its authorities or in the possession or control of persons who are within its territorial jurisdiction, as well as to use all relevant information gathering measures to provide the information requested, notwithstanding that the requested party may not need such information for its own tax purposes. However, not every secrecy jurisdiction has proper domestic mechanisms in place to gather and keep the necessary information on customers. Consequently, it may appear that there is simply no information to exchange. And there are no efficient legal mechanisms for the applicant party to deal with this problem.

Multilateral Automatic Information Exchange

Experts suggest that a solution is in reaching multilateral automatic information exchange agreements between countries. EU Savings Directive, in conjunction with the automatic exchange policy of the Isle of Man, may serve a good example of what might work better, if to extend the jurisdiction of such multilateral agreements to other taxes and countries. There are no certain prognoses though, if and how soon that might happen.