The historical decision by EU finance ministers to agree the savings tax directive will change the face of offshore tax planning forever.
The agreement may have some private investors quaking in their boots but the radical changes in banking secrecy offer a huge planning opportunity for IFAs.
By agreeing to the savings tax directive, all EU member states, with the exception of Austria, Luxemburg and Belgium, will automatically exchange information about cross-border EU interest payments originating in their territories which are paid after the directive comes into effect. It is expected to be implemented on January 1, 2004.
For the moment, Austria, Luxemburg and Belgium have been allowed to levy a withholding tax on such payments in lieu of exchanging information. The rate of withholding tax is 15 per cent initially, rising to 20 per cent in 2007 and it is expected to be as high as 35 per cent in 2010.
Blevin Franks International managing director Bill Blevin says: “In simple terms, this agreement means that the conventional understanding of banking secrecy is dead. The whole of the EU and Switzerland will not have banking secrecy, as we know it, by 2010. This compulsory exchanging of information will lead to a marked increase in cases of tax invasion brought to light. Switzerland has already said it will cooperate in matters of fraud and tax invasion, as will the member states.”
Aurora Financial Group chief executive Robert Rackcliffe says: “The EU will now push to block tax evasion as the banks will have to exchange financial information about their investors.
“It is not necessarily people with drug money or arms money or money launderers that fear they will no longer have the secrecy in the current system. The exchange of information will affect any cash that people are not paying tax on. For example, this applies to people with family money who do not want others to know how wealthy they are.”
In practical terms, all information on interest payments made during a year needs to be exchanged within six months of the end of the tax year for the member state where the paying agent is located. This puts the deadline for countries whose tax year is based on a calendar year to June 30, 2005.
The situation is slightly different in the UK as the tax year ends in April. So the deadline for the exchange of information would be October 5, 2004, which is nine months earlier than other member states.
Given the complexity of the directive, accountants such as Pricewaterhouse Coopers feel that this is an ambitious deadline and warn that any parts of the industry that have not already prepared for this must start immediately.
Most industry experts agree that the directive should not cause too much trouble for IFAs and some think that it is a good opportunity to make clever changes in clients' portfolios.
It is the responsibility of the banks to provide the information, not the IFAs involved in the transaction. The directive will not mean more paperwork for IFAs but it is important to be aware of the situation as clients need to know that if they invest offshore, then their details will be disclosed to the UK. They also need to be advised of the withholding tax set up in Austria, Luxembourg and Belgium.
For many investors, this should not be a stumbling block but IFAs must advise their clients of the exchange of information rules. If someone wants secrecy for money being invested for beneficiaries, IFAs must be sure they know it is not going to be kept secret in the UK any longer.
Scottish Equitable International technical manager Margaret Jago says: “The likely impact on UK IFAs will be minimal. IFAs with overseas clients who do not have a UK domicile may want to look at the withholding tax implications for those with deposit accounts. But other than that, it will be business as usual for IFAs writing offshore bond business.
“With more and more UK residents caught in the inheritance tax net, due to rising property prices, IFAs are increasingly recommending offshore bonds and trusts as a means of reducing IHT liability and this looks set to continue.”
The key factor to consider is that the directive refers to deposit accounts only. It does not apply to offshore insurance companies. This increases the need for IFAs to highlight to clients the differences between offshore bank accounts and offshore bonds. The offshore bond industry will be unaffected.
For UK residents, it is a legal requirement to declare details of all offshore bank or building society accounts to the Inland Revenue using self-assessment. However, this is not a requirement for offshore bonds unless the bond is cashed in or a withdrawal of more than 5 per cent is taken.
Blevin says: “This is where the real opportunity for IFAs lies. Insurance was specifically excluded from the minister's speech so it is a chance for IFAs to plan their clients' portfolios. For example, a client may want to take £2m in cash deposits from an account they hold in Switzerland – because the secrecy is now going – and put the cash into an offshore investment bond, invested within a cash fund, or a fixed-interest fund, as those items are not subject to reporting within the EU agreement.
“And there is no withholding tax. So an investor might as well change over now, as Switzerland will have to co-operate with matters of tax invasion and increase its disclosure in the end.”
Another fact to take into account is that the agreement does not necessarily oblige Austria, Luxembourg and Belgium to move to an automatic exchange of information system after 2010. Instead, it makes this move reliant on the EU reaching unanimous agreement on acceptable information exchange arrangements with the US, Switzerland and other territories.
The industry will watch with interest to see how the US responds over the coming months. The US has not offered to comply with the directive but it has agreed to exchange information in relation to alleged non-disclosure of income or tax fraud, further clamping down on tax evasion.
The future situation is uncertain but the full exchange of information between banks depends on each country's commitment to it.