BEPS, tax haven blacklisting and AML/CFT with Sean Hagan of the IMF

The IFC Economic Report discusses BEPS, tax haven blacklisting and AML/CFT with Sean Hagan, General Counsel and Director of the Legal Department at the International Monetary Fund (IMF). Moreover, we inquire about the IMF’s role in protecting the interests of small specialist financial centres and invite Mr. Hagan’s view on the place he believes offshore jurisdictions have within the larger global economy.

IFC: Do you believe OFCs have a place in the global financial system?

There is no doubt that Offshore Financial Centres (OFCs) are part of the global financial system. We recognise that well-regulated international financial services can contribute to economic growth and diversification. But where financial supervision is inadequate and risk analysis is hampered by a lack of reliable data, there can be risks for financial stability and integrity. We believe that OFCs can enhance their position by implementing robust anti-money laundering and combating the financing of terrorism (AML/CFT) regimes, as well as by engaging in effective international cooperation and transparency, through exchange of information frameworks. This would preserve their role as financial intermediaries and help diminish their image of being sources of secrecy, tax evasion and money laundering. Where this is the case, OFCs could continue to capture significant amounts of global financial flows.

IFC: What impact will BEPS have on OFCs going forward and do you feel it is a one-size-fits-all piece of legislation?

The G20/OECD Base Erosion and Profit Shifting (BEPS) project was intended to help governments close the gaps in international tax rules that allow corporate tax bases to be eroded or artificially shifted to low or no-tax jurisdictions, where typically little or no economic activity takes place. The BEPS project also specifically revamped the work on harmful tax practices, prioritizing improved transparency, including compulsory spontaneous exchange of information on certain tax rulings, as well as requiring substantial activity for any preferential regime. The implementation of a number of the BEPS minimum standards, including country-by-country reporting – a tool intended to allow tax administrations to perform high-level transfer pricing risk assessments, or evaluate other BEPS-related risks – are likely to affect OFCs going forward, particularly as they and other countries take steps to comply with the BEPS minimum standards together with other international transparency standards. But even where BEPS is effective to require OFCs to compete on a more level playing field regarding taxation, it should still be possible for them to rely on their various other comparative advantages – such as ease of doing business, or good infrastructure, geography and living standards.

The implementation of the BEPS measures will generally require tax law reforms that will have to be adapted to each country’s circumstances. The changes will need, either amendments to domestic law or amendments or modifications to other legal instruments, like tax treaties. Even where implementation is confined to domestic law, those amendments will still need to be carefully designed to be consistent with a country’s international legal obligations. Legal instruments will need to be determined with regard to that individual country’s legal framework and tradition. In most cases, legislative amendments are expected to be required. But the use of other legal instruments, such as regulations or decrees, would also be possible.

IFC: What more can the IMF do to support the economies of the small specialist financial centres?

Where appropriate, the IMF can advise small, specialised financial centres on the importance of strong governance, financial supervision, due diligence and AML/CFT systems, as well as the need to strengthen frameworks for international cooperation and transparency through exchange of information. Through its regular surveillance and program support, the IMF can also help with strategies aimed at the diversification of countries’ economies that are now highly specialised in offshore financial intermediation.

IFC: International tax competition seems to be at an all-time high with corporate tax rates around the world undergoing a rapid decline – what is your view on this?

International tax competition is a key concern globally and is particularly acute for developing countries. The central issue is that by competing with one another and eroding each other’s revenues, countries end up having to rely on other sources of financing, which are typically more distortive, or reduce much-needed public spending – or both. This has serious implications for developing countries, because they are especially reliant on corporate income tax for revenues. The risk that tax competition will pressure them into tax policies that endanger this key revenue source is therefore a central concern. It is even possible that recent developments, such as the BEPS project, could make tax competition more intense. For example, if BEPS reduces opportunities for tax avoidance, it is possible for tax competition to increase through other means. International coordination should therefore play a major role in stopping, or at least limiting, the race to the bottom.

IFC: Many jurisdictions branded as ‘tax havens’ by the media would say that this is a form of misrepresentation – many of these jurisdictions are, for example, early adopters of BEPS. How can these states protect their reputations?

Jurisdictions often protect their reputations by implementing strong governance, financial supervision, due diligence and AML/CFT systems, as well as strengthening frameworks for international cooperation and transparency through exchange of information. For those taxpayers who intend to commit tax fraud or evasion, OFCs offer one possible avenue to do so. This is clearly illegal and would again underscore the importance of strengthening standards. For example, all financial centres have joined the multilateral Convention on Mutual Administrative Assistance in Tax Matters. In addition to all major financial centres, all OECD and G20 countries and many developing countries have taken steps to benefit from it as well, which have created over 7,000 relationships aimed at exchange of information. From an AML/CFT perspective, these states are encouraged to make tax crimes a predicate offense to money laundering.

IFC: The IMF has been engaged in working toward the improvement of AML/CFT standards for almost two decades – be it through analysis and policy advice, country assessments, or building institutional and operational capacity. How successful has this work been so far?

AML/CFT standards have evolved over the years, as we have recognised the importance of financial integrity issues. We have conducted more than 70 comprehensive AML/CFT assessments and produced AML/CFT-related input to many Financial Sector Assessment Programs (FSAPs). We have provided policy advice on financial integrity issues through numerous surveillance discussions with our member countries, and advised on the design and implementation of financial integrity-related measures in IMF-supported programs. Finally, we have been delivering technical assistance, training and research projects in this field.

Although there was a major improvement in legislative and institutional frameworks and in countries’ technical compliance with the standard, the consensus is that effectiveness of AML/CFT systems around the world is still weak. The IMF continues to highlight different threats and vulnerabilities related to money laundering and terrorism financing and offer policy advice and capacity development through its various engagements.

IFC: Christine Lagarde has been clear about her intentions to tackle international tax evasion. How is the IMF strategy to tackle tax evasion progressing in the wake of the Panama Papers and other information leaks over the last few years?

For over 50 years, the IMF has supported member countries with extensive technical assistance in strengthening their tax policy frameworks, laws and administrations, in order to achieve compliance with legal and international standards, and to combat tax evasion. Since the Panama Papers, countries have begun using automatic exchange of information to promote inter-governmental transparency and to help further tackle international tax evasion. Steps such as the Common Reporting Standard (CRS), which calls on jurisdictions to obtain information from their financial institutions and automatically exchange that information with other jurisdictions on an annual basis, will be critical to these efforts. All requested financial centres have now committed to the CRS, starting at the latest in September 2018.

We also use our extensive technical assistance program to assist member countries to design and implement compliance strategies and tools to detect cases of tax evasion (see Figure 1).

Figure 1: Tools to tackle tax evasion

  •           International information sharing, joint operations and mutual assistance (for instance, intelligence gathering, investigations and audits with international tax administrations using bilateral tax treaties, and multilateral conventions, etc.).
  •          Developing stronger capacity to administer the tax system generally – through the longer process of improving basic structure and functions.
  •          Inter-departmental or inter-agency cooperation, for example, through domestic exchange of information or intelligence sharing, such as with a Financial Intelligence Unit (FIU) and tax administration and the use of anti-money laundering tools to pursue tax evasion.
  •          Analytical detection models, for example, by identifying outliers or anomalies with respect to information disclosed in tax returns, or information supplied to other regulators.
  •          Data matching, for example, by comparing taxpayer data against information reported by investment entities, financial institutions etc., or to other regulators.
  •          Risk profiling, for example, by focusing on areas that present a higher risk to revenue, including offshore secrecy arrangements, refund fraud, identity crime and organized crime.
  •          Random audits/tax verifications.
  •          Community reporting (such as whistle-blowers, and tip-offs).
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