9/18/2011

By Courtney Cardin, J.D. Candidate

Since the inception of the income tax system in 1913, the government has relied on taxpayer honesty in reporting their income and assets.[1] Unfortunately, the U.S. Government’s “trust the taxpayer” policy and Switzerland’s highly secure banking system based on a century-old commitment to protecting individual privacy created a perfect tax haven opportunity for wealthy U.S. taxpayers to hide their assets from the federal government.[2] Following the Obama Administration’s pledge to “crackdown” on tax evasion, the United States Government began investigating UBS and other foreign banks seeking information about undisclosed “offshore” accounts held by U.S. taxpayers.[3] However, the Government soon realized that foreign bank settlements would yield only a fraction of its annual tax revenue losses.[4] It became clear that the tax evasion crackdown would be better served by prevention rather than prosecution, and thus, the Foreign Account Tax Compliance Act (FATCA) was born.[5]

UBS and Switzerland’s Commitment to Privacy Protection

For over a century Switzerland has developed its secure banking system around its commitment to privacy protection.[6]When the Nazis began executing citizens for failing to disclose foreign assets, Switzerland criminalized disclosure of bank information.[7] As a result, the Swiss consider protection of the individual as a “defining characteristic of Swiss culture.”[8] Swiss banks are estimated to be responsible for as much as one-third of all cross-border private banking with relatively minor scrutiny.[9]In the last decade, Switzerland began facing pressure to reform its banking laws amid growing global concerns of terrorism, money-laundering, and tax fraud and evasion.[10] Yet, it was not until UBS agreed to disclose details of U.S. accounts that the Swiss banking secrecy laws faced an uncertain future.  In exchange for suspending all legal action against UBS for conspiring to defraud the U.S. Government, UBS agreed to pay a $780 million dollar fine and disclose details of 255 U.S. accounts.[11] While the UBS agreement to disclose the names and account information of U.S. clients marked a significant step in the U.S. government’s attempt to uncover illegal offshore accounts, the $780 million settlement from Switzerland’s largest bank represents only a fraction of the estimated $100 billion loss in tax revenue sustained by the U.S. government each year.[12]Once it became clear to U.S. officials that prosecutorial efforts would result in settlements that amounted to a fraction of annual U.S. revenue tax losses, legislation designed to address “offshore” tax evasion emerged in the form of FATCA. 

FATCA

The FATCA was incorporated into the Hiring Incentives to Restore Employment (HIRE) Act, which was signed into law by President Obama on March 18, 2010.[13] The new legislation requires “foreign financial institutions” (FFIs) trading in U.S. securities to sign an agreement with the Internal Revenue Service (IRS) which requires the FFIs to obtain personal information of all account holders in order to determine which of the accounts are U.S. accounts.[14] The FFI is then responsible for identifying the U.S. account and reporting identifying information including the name address, account balance and value of any U.S. account or U.S. owned “foreign entity” accounts.[15] Essentially, FATCA is forcing Swiss banks to choose between (a) disclosing clients’ personal information to the IRS; (b) imposing a 30% withholding tax on all U.S. and certain non-U.S. payments; or (c) exit from U.S. business.[16] The FFIs have until June 2003 to sign an agreement with the IRS that will allow the institutions to continue trading in U.S. Securities.[17] That means that FFIs have less than twenty-two months to put the oversight and compliance measures in place required by FATCA, or face exclusion from U.S. business.[18]

FATCA and the Future of Swiss Banking Secrecy Laws

The primary goal of FATCA is simple: raise revenue.[19] Investigating foreign banks is a time consuming endeavor often revealing limited relevant information and recovering only a fraction of lost tax revenue.[20]FATCA’s implementation will serve two purposes: (1) help U.S. officials identify illegal undisclosed offshore accounts owned by U.S. taxpayers and (2) deter future tax evasion with a significant 30 percent withholding fee for FFIs who fail to report their U.S. accounts.[21]  FATCA legislation is likely to have a significant impact on international banking secrecy laws. While the mandatory disclosure requirements will hinder Swiss banks ability to help clients evade their tax responsibilities, it likely does not spell the end for Swiss banking generally. In addition to its commitment to privacy, the Swiss banking sector boasts significant strengths including experienced managers, stable currency and low taxes.[22] While individual clients seeking to avoid tax obligations may find it harder to hide their assets with Swiss banks, international corporations may continue base their operations in Switzerland to take advantage of favorable legal and tax benefits.[23] While FATCA may in fact spell the end of Switzerland’s banking secrecy laws, it by no means spells the end of Swiss banking in general.