- 1 Tax information exchange: how it developed
- 2 Legal bases for exchanging tax information
- 3 EU Savings Directive
- 4 EU Mutual Assistance Directive
- 5 Foreign Account Tax Compliance Act (FATCA)
- 6 OECD standard for the automatic exchange of financial account information
1 Tax information exchange: how it developed
In Germany – and in most other countries – people who are subject to income tax are required to submit personally signed annual income tax returns for the preceding year. In these tax returns, taxpayers must fully and truthfully disclose the facts that are relevant for assessing their tax liabilities, and they must submit such evidence as is known to them; this includes facts and evidence related to activities in foreign countries. However, practical experience has shown again and again that not all taxpayers comply fully with their obligations to cooperate with tax authorities, especially when it comes to cross-border activities. Tax evasion undermines the integrity of a country’s tax system. But the investigative powers of a country’s tax administration end at that country’s borders. So when tax cases have international dimensions, national administrations must request assistance from foreign tax authorities. This type of assistance is contingent upon intergovernmental agreements that lay down rules for exchanging information on tax matters. For this reason, since 1963, the OECD Model Tax Convention on Income and on Capital has included a legal basis for the exchange of information on tax matters, which is laid down in Article 26 of the Model Convention. Article 26 has been revised and expanded over the years, and the most recent version was approved by the OECD Council on 17 July 2012.
In order to streamline the technical procedures for providing mutual assistance, the OECD designed a standardised paper-based format for exchanging information in 1981, which was followed in 1992 by the Standard Magnetic Format (for information exchange using electronic media). In 2003, the Savings Directive was adopted at the EU level. This legislation, which has been in force since 2005, provides for the automatic exchange of information on interest income. Seven years later, in 2010, the United States enacted the Foreign Account Tax Compliance Act (FATCA), which takes another major step towards the comprehensive, automatic exchange of information. This legislation requires non-US financial institutions to provide US tax authorities with data on the financial accounts they maintain for specified persons who are US residents for tax purposes. These data are to be provided annually on the basis of agreements concluded with the US tax administration. The G5 states – Germany, France, Italy, Spain and the United Kingdom – conducted negotiations with the United States to ensure that this unilateral measure by the US could be implemented reciprocally on the basis of an international agreement. A FATCA model agreement was developed jointly with US authorities, and this agreement was then used by the OECD as the basis for a model convention that will serve as a global standard for the automatic exchange of financial account information.
At the EU level, officials are currently engaged in negotiations to incorporate this standard into the Mutual Assistance Directive. This would significantly expand the Directive’s scope of application, thereby reinforcing international efforts to combat tax evasion more effectively. Furthermore, high-level representatives from many countries will soon gather to sign the global standard for the automatic exchange of financial account information in the form of a multilateral agreement. The signing ceremony will take place in Berlin in October 2014, on the occasion of the annual meeting of the Global Forum on Transparency and Exchange of Information for Tax Purposes.
2 Legal bases for exchanging tax information
Governments can exchange tax information based on a variety of legal models and provisions. These include, for example, information exchange clauses in double taxation agreements, special instruments under international law, the EU Mutual Assistance Directive and EU regulations on administrative cooperation. The most important standards and legal provisions for tax information exchange can be outlined briefly as follows:
At the international level, information exchange on tax matters is regulated primarily by the provisions contained in Article 26 of the OECD Model Tax Convention, which have been steadily broadened and strengthened in recent years. On its website, the OECD states that Article 26 of the OECD Model Tax Convention is the “most widely accepted legal basis for bilateral exchange of information for tax purposes” and that more than 3,500 bilateral treaties are based on this model convention.1
Obligation to exchange information under Article 26 of the OECD Model Tax Convention
Article 26 of the OECD Model Tax Convention states that “the competent authorities of the Contracting States shall exchange such information as is foreseeably relevant for carrying out the provisions of the Convention or to the administration or enforcement of the domestic laws concerning taxes of every kind and description imposed on behalf of the Contracting States, or of their political subdivisions or local authorities”.2 In Germany, the competent authority is the Federal Ministry of Finance, which has delegated this task to the Federal Central Tax Office. The formulation “foreseeably relevant” also makes clear that Article 26 provides no legal basis for so-called “fishing expeditions”. This is especially important when it comes to group requests (that is, requests relating to a group of taxpayers), which are permissible only if – among other conditions – the requesting state provides a detailed description of the group in question.
In order for an information request to be permissible, it must be impossible for the requesting state’s authorities to obtain the desired information through their own investigations on their own national territory. At the same time, the requested state may furnish information even if it is not required to do so under an agreement. If it chooses to do so, however, such actions must of course comply with domestic law. Paragraph 1 of Article 26 obliges the competent authorities of the contracting states to act on the principle of reciprocity. This does not imply, however, that information must be provided on a quid pro quo basis. Rather, it must be possible in principle for both contracting states to furnish information in cases featuring comparable circumstances.
Scope of information
Information exchange under Article 26 of the OECD Model Tax Convention is not restricted to information relating to the taxpayer. Rather, the term “information” is broadly conceived and can encompass legal circumstances, economically relevant criteria, and risk analysis instruments, for example.
Automatic exchange of information
Article 26 does not stipulate the specific manner in which information is to be exchanged. This means that automatic information exchange is permissible as well. Over time, an extensive framework for implementing the automatic exchange of information has been created at the OECD level. At first, this included rules for exchanging information using paper forms. In the meantime, an extensive set of IT-based rules has been developed to enable the electronic exchange of information. Identification numbers (such as tax numbers) issued by many countries play a crucial role in this connection; when used consistently, these numbers enable automatically exchanged information to be organised and attributed swiftly in individual cases.
Broad exchange of information clause
At first, the exchange of information under Article 26 was restricted to information that was required for the application of double taxation agreements themselves (this is sometimes referred to as a “narrow” exchange of information clause). In the meantime, this interpretation has been replaced with a comprehensive (“broad”) approach to information exchange that covers all tax-related facts that are relevant for the enforcement of a country’s domestic tax legislation.
Secrecy of information
Paragraph 2 of Article 26 of the OECD Model Tax Convention stipulates that “any information received under paragraph 1 by a Contracting State shall be treated as secret in the same manner as information obtained under the domestic laws of that State”. Furthermore, such information “shall be disclosed only to persons or authorities (including courts and administrative bodies) concerned with the assessment or collection of, the enforcement or prosecution in respect of, the determination of appeals in relation to the taxes referred to in paragraph 1, or the oversight of the above. Such persons or authorities shall use the information only for such purposes. They may disclose the information in public court proceedings or in judicial decisions.” Paragraph 2 of Article 26 thus provides the basis for a self-contained provision under international law to ensure the secrecy and protection of shared information. This rule restricts the use of information received by a contracting state by stipulating that such information may be disclosed only to the above-named persons and authorities and may be used only for the above-cited purposes. Furthermore, there is no contractual obligation to disclose information to a requesting state if the disclosure of this information would violate the public policy of the state supplying the information.
Circumstances under which the obligation to provide information does not apply
Paragraph 3 of Article 26 of the OECD Model Tax Convention states that “[i]n no case shall the provisions of paragraphs 1 and 2 be construed so as to impose on a Contracting State the obligation:
a) to carry out administrative measures at variance with the laws and administrative practice of that or of the other Contracting State;
b) to supply information which is not obtainable under the laws or in the normal course of the administration of that or of the other Contracting State;
c) to supply information which would disclose any trade, business, industrial, commercial or professional secret or trade process, or information the disclosure of which would be contrary to public policy (ordre public).”
In the event that one of the above conditions applies, there is no obligation to provide information and therefore no obligation to gather the information.
Application of domestic law to the collecting of requested information
Under paragraph 4 of Article 26 of the OECD Model Tax Convention, a contracting state that receives an information request from another contracting state must use its investigative powers, as provided under domestic law, to obtain the requested information. This rule applies even if the requested state does not need such information for its own tax purposes. At the same time, however, this obligation is subject to the above-mentioned limitations laid down in paragraph 3. The requested state may not refuse to supply the requested information by arguing that it has no domestic interest in such information. This provision makes it clear that a requested state cannot limit its supply of information to the information that it already has on hand. This means that the requesting state has a right to expect the other state to gather the requested information.
The domestic legislation that Germany applies for this purpose is section 117(4) of the Fiscal Code, taking into account the exchange-of-information clauses it has agreed with other countries. This means that, when Germany provides legal and administrative assistance (which includes the exchange of tax information), the powers of revenue authorities and the rights and obligations of taxpayers and other participants are based on the provisions applying to taxes as defined in section 1(1) of the Fiscal Code. Consequently, as part of their investigative activities, German revenue authorities can obtain information in accordance with section 93 of the Fiscal Code, inspect objects, review procedures, and require the submission of documents. All of these activities must comply with procedural requirements, including observing the rights of taxpayers.
Rules on exceptions to exchange-of-information obligations
Paragraph 5 of Article 26 of the OECD Model Tax Convention limits the scope of the above-described exceptions under paragraph 3. Under subparagraph b) of paragraph 3, the requested state may decline to supply information if the requested information cannot be obtained under that state’s laws or normal administrative procedures. If applied in conjunction with strict banking secrecy, for example, these types of limitations on domestic information-gathering measures could lead to cases in which certain information could not be supplied. This could open up possibilities for certain taxpayers to avoid being taxed even once in their country of residence if they structure their finances creatively. As a result, such limitations could undermine the integrity of the affected country’s tax law. For this reason, paragraph 5 stipulates that a contracting state may not decline to supply information because the requested information is held, for example, by a bank.
3 EU Savings Directive
3.1 Objectives of the EU Savings Directive
In 2003, the European Council adopted the EU Savings Directive (Council Directive 2003/48/EC of 3 June 2003 on taxation of savings income in the form of interest payments). EU member states are required to apply this directive from 1 July 2005 onwards. The aim of the Directive is to enable savings income in the form of interest payments made in one member state to beneficial owners who are individuals resident for tax purposes in another member state to be made subject to effective taxation in accordance with the laws of the latter member state (Article 1(1) of the Directive). At the same time, the Directive stipulates that member states are to take the necessary measures to ensure that the tasks necessary for implementing the Directive are carried out by paying agents and other economic operators established or, where relevant, having their place of effective management within their territory, irrespective of the place of establishment of the debtor of the claim producing the interest payment (Article 1(2) of the Directive).
In cases where the beneficial owner is resident in a member state other than that in which the paying agent is established, the Directive stipulates that specific information pertaining to the beneficial owner must be reported by the paying agent to the competent authority of its member state of establishment, so that the competent authority can supply this information to the competent authority of the member state in which the beneficial owner is resident. It was also determined that, for a transitional period, Luxembourg and Austria would not have to apply the information exchange provisions stipulated in the Directive. Instead, they currently impose a withholding tax of 35% on interest payments and transfer 75% of this revenue to the member state where the beneficial owner is resident. The EU has also concluded savings taxation agreements with Andorra, San Marino, Liechtenstein and Switzerland; these agreements provide for measures equivalent to those laid down in the Savings Directive. The European Commission is currently engaged in negotiations with these four countries to bring the respective savings taxation agreements into line with the latest version of the Savings Directive, which was revised in March 2014. Under the Commission’s negotiating mandate, which was issued in May 2013, the global standard for the automatic exchange of financial account information is also set to be incorporated into the negotiating process.
3.2 Definition of terms in the Savings Directive
For the purposes of the Savings Directive, the term “beneficial owner” generally means any individual who receives an interest payment or any individual for whom such a payment is secured. The term “paying agent” refers to any economic operator established in a member state who, while acting in the exercise of his/her professional activity, regularly or occasionally makes an interest payment to or secures an interest payment for the immediate benefit of a beneficial owner. As defined in the Directive, “economic operators” can be credit or financial institutions, or any other legal person or natural person. Under the Directive, paying agents must (i) establish the identity of beneficial owners on the basis of minimum standards, following procedures set by each respective member state and then (ii) report this identity to the competent authority of its member state of establishment.
In Germany, the competent authority is the Federal Central Tax Office. The information to be reported includes the identity and residence of the beneficial owner. The paying agent’s report must include the name and address of the paying agent, the account number of the beneficial owner or, where there is none, identification of the debt claim giving rise to the interest payment or of the life insurance contract, security or share or unit giving rise to that payment. Where contractual relations have been entered into, or transactions have been carried out in the absence of contractual relations, on or after 1 January 2004, paying agents must also report the beneficial owner’s tax identification number or equivalent if these are available.
4 EU Mutual Assistance Directive
The EU’s Mutual Assistance Directive (Council Directive 2011/16/EU of 15 February 2011 on administrative cooperation in the field of taxation), together with Germany’s EU Mutual Assistance Act (EU-Amtshilfegesetz), form the main legal bases that German tax authorities follow when carrying out mutual assistance in tax matters with other EU member states. Accordingly, the EU Mutual Assistance Act governs the exchange of foreseeably relevant tax information between Germany and other member states. It applies to every type of tax that is levied by or for a member state or its territorial or administrative units, including local authorities. Section 1 of the EU Mutual Assistance Act stipulates that this Act does not apply to VAT, including import VAT and customs duties.
In accordance with section 4 of the EU Mutual Assistance Act, responses to information requests from other member states are sent to those member states via a central liaison office. In Germany, this central liaison office is the Federal Central Tax Office. Procedures for preparing and providing responses must comply in particular with section 117(4) of the Fiscal Code. If the revenue authorities do not have the requested information on hand, they carry out all information-gathering measures provided for under the Fiscal Code, using due discretion. The central liaison office does not supply information if (i) the necessary investigations or the collection of the requested information are not possible under German law or (ii) the other member state has not exhausted the usual sources at its disposal for obtaining the requested information. Furthermore, the central liaison office supplies no information that would disclose any trade, business, commercial or professional secret or trade process or that would violate public policy.3 The Act also contains additional grounds for declining to supply requested information in special cases. No ground for declining to supply information exists if the requested information is held by a bank, other financial institution, nominee or person acting in an agency or a fiduciary capacity or because it relates to ownership interests in a person. Both the EU’s Mutual Assistance Directive and Germany’s EU Mutual Assistance Act provide for the exchange of information on request, the automatic exchange of information and the spontaneous exchange of information.
5 Foreign Account Tax Compliance Act (FATCA)
The provisions of the US Foreign Account Tax Compliance Act (FATCA), which form part of the Hiring Incentives to Restore Employment Act that took effect on 18 March 2010, stipulate that US paying agents must impose a 30% withholding tax on investment income and certain other US source payments if such payments go to foreign financial institutions. US paying agents can refrain from withholding the tax if the foreign financial institution registers with the US Internal Revenue Service (IRS) and agrees to report information on its US accounts within the meaning of section 1471 of the US Internal Revenue Code.4
The G5 countries (France, Germany, Italy, Spain and the United Kingdom) have concluded a model agreement with the United States containing provisions under which the G5 national tax administrations and the IRS will engage in the automatic exchange of information required under FATCA. Under this agreement, foreign financial institutions will gather the required information and send it to their respective national tax administrations, which will then forward the information to the IRS. The key advantage of the model agreement is that, by following the agreed procedures, financial institutions will be regarded as compliant with FATCA, which in turn means that US paying agents will refrain from imposing the 30% withholding tax on US source payments to these financial institutions. Furthermore, the conclusion of intergovernmental agreements means that financial institutions will not have to enter into individual contractual agreements with the IRS to supply the information required under FATCA. On 31 May 2013, Germany concluded an intergovernmental agreement with the United States based on the G5 model agreement. It obliges the contracting parties to collect and exchange the information listed in Article 2 of the agreement.
After the agreement between the United States and Germany was concluded, Germany added section 117c to its Fiscal Code. On the basis of section 117c, an ordinance was issued that requires financial institutions to collect the necessary data in accordance with the procedures laid down in the agreement and to report these data to the Federal Central Tax Office. The Federal Central Tax Office then forwards these data to the IRS. Financial institutions as defined by the agreement include custodial institutions, depository institutions, investment entities and specified insurance companies. During their negotiations, Germany and the United States were also able to agree on simplified arrangements for small financial institutions.5 To be eligible for these simplified arrangements, a financial institution must fulfil certain conditions. In particular, it must not maintain a fixed place of business outside the Federal Republic of Germany. In addition, it must not solicit account holders outside the Federal Republic of Germany. In this connection, a financial institution is not considered to have solicited account holders outside of the Federal Republic of Germany merely because it operates a website, provided that the website does not specifically indicate that the financial institution provides accounts or services to nonresidents or otherwise target or solicit US customers.
Accounts that must be reported to the United States are financial accounts within the meaning of the US-German agreement. These include, for example, depository accounts and custodial accounts. Accounts that do not have to be reported to the United States under the agreement include, for example, retirement plans under the Occupational Pensions Act (Betriebsrentengesetz). The same is true for accounts held at building and loan associations, as long as the annual amount saved does not exceed €50,000. The first exchange of information with the IRS will take place on 30 September 2015. To this end, financial institutions must ensure that they have the necessary technical infrastructure – especially IT-related requirements – in place. At the same time, based on the above-cited ordinance in conjunction with Annex I of the US-German agreement, financial institutions are required to conduct an electronic review of electronically searchable data on individual accounts that are held at their institutions as of 30 June 2014, and that have a balance or value exceeding $50,000 but not exceeding $1,000,000, for specific indicia stipulated in the agreement. These indicia include in particular (i) a place of birth in the United States and (ii) the identification of an account holder as a US citizen or resident.
Under the agreement, new accounts opened on or after 1 June 2004 will be subject to review requirements that are much more far-reaching in nature. Depending on the case, these may include the requirement that financial institutions obtain self-certifications from account holders. Furthermore, financial institutions will be subject to additional, stricter review requirements in the case of high-value accounts (with balances exceeding $1,000,000). At present, the United States has concluded, or is in the process of negotiating, FATCA agreements with well over 50 countries. This means that, within a short period of time, FATCA has become a decisive catalyst in accelerating and intensifying international cooperation in tax-related matters on the basis of automatic information exchange. This is particularly true in the case of the new global standard for the automatic exchange of financial account information, which was developed by the OECD at the request of the G20 states.
6 OECD standard for the automatic exchange of financial account information
Over the past one and a half years, the OECD – working jointly with the G20 states – has developed a new global standard for the automatic exchange of financial account information (referred to as the Common Reporting Standard, or CRS).6 This new standard was also developed in close cooperation with the EU. Under this new standard, countries and other jurisdictions are to obtain specific information from their financial institutions and to exchange this information with other countries and jurisdictions on an annual basis. The standard is comprised of two main elements: (i) the common standard on reporting and due diligence for financial account information and (ii) the model agreement between the competent authorities of jurisdiction A and jurisdiction B on the automatic exchange of financial account information to improve international tax compliance.7 The financial information to be reported in connection with reportable accounts includes investment income such as interest, dividends, income from certain insurance contracts, account balances and sales proceeds from financial assets.8 The reporting requirements affect financial institutions, including banks, custodians, brokers and certain insurance companies. The CRS is very similar to the rules laid down under FATCA and includes extensive due diligence procedures that must be followed by financial institutions to identify reportable accounts and to report them to their national tax administrations.
The CRS will have to be transferred into national law by individual countries. To this end, Germany is in the process of preparing legislation (including the authorisation to issue more detailed statutory ordinances) that will establish rules for applying the CRS to certain states and jurisdictions. Additional rules for implementing associated audits of financial institutions will also have to be adopted. The model Competent Authority Agreement is designed so that it can be executed within existing legal frameworks such as Article 6 of the Multilateral Convention on Mutual Administrative Assistance in Tax Matters or Article 26 of an existing bilateral double taxation agreement. Germany has signed the Multilateral Convention on Mutual Administrative Assistance in Tax Matters and will soon begin the legislative process to ratify it.
The close similarity between CRS and FATCA means that all participating countries stand to benefit from key synergy effects in introducing the new standard. Compared to FATCA, the CRS offers the advantage that it does not rely on nationality for the determination of tax residence.
The automatic exchange of information under the CRS is highly standardised, but it is flexible enough to allow local particularities to be taken into account. Technical guidelines for transmitting data under the CRS were also developed at the OECD level. They define required data formats as well as transmission standards, thereby giving affected financial institutions and tax authorities the IT-related information they need in order to introduce the necessary procedures as swiftly and cost-effectively as possible.
In dealing with preexisting individual accounts, the due diligence rules under the CRS distinguish between lower value accounts and high value accounts. A high value account is a preexisting individual account with a balance or value exceeding $1,000,000 as of 31 December in any designated year.9 In the case of lower value accounts, reporting financial institutions may determine an account holder’s tax residence on the basis of a current residence address held in its records. If a reporting financial institution does not base its determination on a current residence address, it must review electronically searchable data to determine the account holder’s tax residence on the basis of such information as: a current mailing or residence address (including a post office box) in a reportable jurisdiction; one or more telephone numbers in a reportable jurisdiction and no telephone number in the jurisdiction of the reporting financial institution; or standing instructions (other than with respect to a depository account) to transfer funds to an account maintained in a reportable jurisdiction. If the electronic record search produces no information that would require an account to be reported, no further action is required on the part of the financial institution until there is a change in circumstances.
In the case of preexisting high value accounts, it may also be necessary to review current customer master files in addition to the requirement to review electronically searchable data. In addition to the electronic and paper record searches described above, reporting financial institutions must treat as reportable accounts any high value account assigned to a relationship manager (including any financial accounts aggregated with that high value account) if the relationship manager has actual knowledge that the account holder is a reportable person. If due diligence procedures produce indications that an account is reportable, financial institutions must obtain a self-certification from the account holder to determine the account holder’s tax residence.
This rough outline of due diligence procedures shows that the new standard will impose considerable obligations on financial institutions to cooperate with tax authorities in order to achieve the tax policy objective of fostering greater transparency in international tax matters. In this connection, it is crucial for all relevant rules, procedures and models to take the necessary data protection measures into account. As a central principle under the rule of law and a key feature of Germany’s legal system, data protection forms an integral aspect of everyday public administration, especially for public authorities –including tax authorities – that possess powers of intervention. It is therefore a very welcome development that a large number of countries and jurisdictions – currently 45 and counting – have picked up on the initiative of the G5 and committed themselves to adopting the OECD’s new global standard for the automatic exchange of financial account information, because this means, among other things, that the exchange of tax information between these jurisdictions will maintain a level of data protection that is consistent with German standards.
The international exchange of tax information has made major advances in recent years. Global cooperation among tax authorities is reaching a new level of intensity that is consistent with the challenges and demands of increasing globalisation. In particular, worldwide adoption of the new standard for automatic information exchange is certain to prove an effective instrument in the fight against tax evasion.
2 OECD Model Tax Convention: paragraph 1 of Article 26.
3 EU Mutual Assistance Act, section 4(3).
4 US Internal Revenue Code, section 1471a.
7 See above link to OECD website.
8 See above link to OECD website.