Global crackdown on tax evasion signals the end of bank secrecy era

Unknown to many Kenyans, Parliament’s passing of Finance Bill, 2016 that granted amnesty to Kenyan residents who have offshore incomes and assets in foreign banks had a very global agenda.

The foreign income that is subject to amnesty is for the year ended December 31, 2016 and offers a waiver of penalties on any Kenyan who reports his or her foreign sourced income for that period.

Kenya is not the first country to offer such an amnesty. Other countries have been doing it with a great degree of success. Citizens with off-shore bank accounts are declaring their foreign wealth. High-profile leaks like Panama Papers have contributed to increased voluntary disclosures.

New global coordinated automatic tax information exchange regulations have created a hostile environment for tax evaders. Government revenue agencies like the Kenya Revenue Authority (KRA) are taking advantage of such regulations to encourage high net worth citizens with offshore assets to come forth and report. 

The truth of the matter is that the era of bank secrecy is gradually ending. As the world moves toward adoption of global and coordinated banking regulations, information exchange on income for tax purposes has taken centre stage.

Improving transparency

There have been numerous efforts by regulators in multiple jurisdictions to exchange tax-related information. This is aimed at improving transparency in global income reporting and to reduce tax evasion as well as aggressive tax avoidance.

This in effect is geared toward increased tax collection as the undisclosed foreign income and assets will be reported to the taxman.

It is worth noting that automatic tax information exchange initiatives have been evolving. The two main tax regimes that are already having great impact on financial institutions globally are US legislation Foreign Account and Taxation Compliant (FATCA) and the Common Reporting Standards (CRS).

Most of the financial institutions in the Eastern Africa region, especially banks, are already FATCA compliant partly due to pressure from US banks.

FATCA was introduced by the US tax authority to fight tax evasion by requiring foreign financial institutions to report incomes of US citizens to the US Department of Treasury.

The US banks have been strict and unwilling to do business with local banks that are non-compliant. This is partly due to huge fines that the US regulators are slapping non-compliant banks with.

CRS are new global rules that are aimed at allowing automatic exchange of financial information between countries that are signatories. They were developed by the Organisation for Economic Co-operation and Development (OECD) in partnership with the G20 club of big economies.

CRS have been dubbed as Global-FATCA or ‘GATCA’ (Global Accounts Taxation Compliance Act) because of their wider scope compared to FATCA.

While FATCA requires foreign financial institutions to only report Americans’ foreign assets to the US tax authority, GATCA  requires financial institutions to report all assets owned by all foreigners from participating countries to the local tax authorities.

In this region, the participating tax authorities will include the KRA, the Uganda Revenue Authority (URA), the Tanzania Revenue Authority and the Rwanda Tax Authority.

Countries that have adopted and implemented these standards will start exchanging tax information in 2017. Kenya became the 94th country to commit itself to these global standards by signing Multilateral Convention on Mutual Administrative Assistance in Tax Matters.

To be fully compliant and start receiving financial information of Kenyans with assets outside the country, Kenya will be required to draft the necessary legislation and guidance notes.

Financial institutions in the region will be greatly impacted once their respective tax authorities become fully compliant with CRS and start exchanging the tax information.

They will be required to provide the local tax authorities with financial information of non-residents. The tax authorities will in turn hand over that information to foreign tax authorities that are signatories to CRS.

In return, local tax authorities will receive similar tax information relating to their citizens with bank accounts and assets held overseas. This tax information will be provided by foreign tax collection agencies.

This will promote transparency and self-reporting of global income to the local tax authorities by citizens with offshore bank accounts and other assets. 

It will make sense for taxpayers to voluntary disclose this information to home tax authorities before it is handed over by other countries that are signatories to CRS.

Most of the offshore tax-neutral jurisdictions are already signatories to CRS. For instance, Bermuda, the Cayman Islands, and the British Virgin Islands were early adopters.

This has motivated other countries to become signatories since they will have access to financial information of their citizens who have wealth in those jurisdictions.

Currently, it is problematic trying to obtain financial information from such jurisdictions due to the strict secrecy legislation.

Unlike FATCA that requires banks to report any income that is above $50,000 per annum, CRS reporting is more striker because it requires all the incomes regardless of the amount to be reported.

CRS also has a broader definition of the reporting entities. Entities that will be required to report under CRS include banks, insurance companies, saccos, fund managers and brokers. 

FATCA had few exceptions of the reporting financial institutions. For instance, insurance companies that do not make annuity payments were excluded from FATCA. Under CRS, all insurance companies will become reporting entities.

Once CRS rules comes into force, Kenyan financial institutions will face heightened reporting pressure. They will be required to gather more data from all their customers to correctly determine their tax residence status. This will increase cost of compliance.

To avoid intricate FATCA reporting burden, some banks had started closing bank accounts owned by American citizens.

Some stopped opening any new bank accounts for Americans. These banks must go back to the drawing board and change their strategy to start accepting all clients regardless of nationality.

This is because, in the long run they will be required to report all the customers who are dual citizens or non-residents to revenue authorities once CRS comes to force.

Successful implementation of CRS by the financial institutions will largely depend on the quality of data gathered during the client onboarding process.

Financial institutions will be required to enhance their onboarding processes to ensure they gather as much relevant clients’ data at this stage as possible.

Forward-looking financial institutions have already appreciated the mounting data and reporting demands on customers’ due diligence when implementing regulatory anti-money laundering programmes. They are proactive.

Client data

As such, they have been preparing for the regulations that are in the pipeline by putting in place the necessary technological infrastructure and systems to support implementation. These companies are also acquiring the precise client data.

These companies will find it easier to implement CRS since they will use the clients’ data that was gathered during the KYC (Know Your Customer) process to determine the tax residence status of their clients.

The Eastern African governments have a big role in supporting financial institutions in their efforts to becoming compliant with these global tax regulations. The governments will need to fast track the signing of Model 1 Inter-Governmental Agreement (IGA) with the US government.

This will ensure the regional banks have a single point to report under both CRS and FATCA. Currently, banks are reporting directly to US government since regional governments are still under Model 2 IGA.

If the governments sign Model 1 IGA, the banks will be reporting directly to the local revenue authorities for FATCA purposes.

This will make it easier for banks since they will be reporting both for FATCA and CRS purposes at the same time to the same institution — the revenue authority.

Mr Kiragu is a financial services a compliance professional based in Canada. He also conducts training programmes at Strathmore University Business School in summer.