Transparency of trusts

Despite this recent focus, there is not yet an accepted international standard when it comes to the disclosure of beneficial ownership of trusts. As a result, individuals, trustees and service providers such as banks and family offices have had to get to grips with an array of international and domestic rules designed to combat financial crime, money laundering, corruption and tax evasion. These new rules are also backed by political pressure to curb tax avoidance with tax authorities gaining greater powers to tackle perceived non-compliance, particularly with offshore tax matters.

Meanwhile, concerns have been raised about the level of disclosure now required under various transparency regimes on the basis of the fundamental right to respect for private and family life and the protection of personal data. It remains to be seen whether a balance can be struck.

This note outlines the various regimes, considers how they affect trust structures in practice and looks ahead to what developments we might expect in 2018 and beyond. It does not set out the technical details of each regime, which are covered in separate notes that are referred to below.

A move towards greater transparency of trusts

International transparency initiatives are not entirely new. Before looking at how the current regimes apply to trust structures, a summary of the key transparency initiatives and how they have built on each other over time is set out below.

Tax Information Exchange Agreements

For many years, the Organisation for Economic Co-operation and Development (OECD) has been pushing for greater tax transparency, in particular by tax “havens”. The OECD launched the Global Forum on Transparency and Exchange of Information for Tax Purposes (the Global Forum) in 2000, which developed a mechanism for greater exchange of information through the implementation of a model form of Tax Information Exchange Agreements (TIEAs). A TIEA is an agreement between countries under which they commit to share information on taxes, usually in response to a civil or criminal tax investigation.

The EU Savings Directive

The EU created the first multi-jurisdictional programme with automatic exchange of information. In 2003, the EU Savings Directive was launched to counter cross-border tax evasion within the EU. It allowed tax administrations better access to information on individuals who were resident in one EU country with savings accounts in another EU country. This was repealed on 10 November 2015 following the adoption of a global standard of automatic exchange of information (see below).

FATCA

Arguably, the US has had the greatest impact as far as automatic exchange of information is concerned. In 2010, the US enacted the Foreign Account Tax Compliance Act (FATCA). What was new and effective about FATCA was that it ensured that responsibility for compliance rested with financial institutions. Financial institutions must now report either directly or via their local revenue authority to the Internal Revenue Service certain information relating to financial accounts, which are held by or for US taxpayers, and that information must be provided automatically. For further information in relation to FATCA, see our separate note.

UK FATCA

The UK launched its own localised version of FATCA in 2013, covering the UK Dependencies and the British Overseas Territories. This regime is no longer in force as a global standard has since been adopted (see below).

The Common Reporting Standard

Momentum grew towards a global standard of automatic exchange of information. In response to the G20 request in 2013, the OECD developed the Common Reporting Standard (CRS). CRS is a global initiative for countries to obtain information from their financial institutions and to automatically exchange that information with other jurisdictions on an annual basis. CRS draws heavily on the FATCA methodology. At the time of writing, over 100 jurisdictions have committed to implementing CRS. Tax authorities in “early adopter” countries received the first exchange of information in September 2017 (in respect of the 2016 calendar year) and will now be processing the data accordingly.

The Persons with Significant Control regime

We have also seen developments on improving the availability of beneficial ownership information. In 2015, the UK enacted new rules relating to corporate transparency. In particular, this required companies to have a public register of people with significant control (the PSC Regime). The UK was the first country to roll out a public beneficial ownership register, and as such entered into unchartered waters with regards to the thresholds imposed on beneficial owners and the level of disclosure required. For further information in relation to the PSC Regime, see our separate notes here and here.

Registers of beneficial ownership

In line with the theme of increased transparency, the EU adopted the fourth anti-money laundering directive (the 4th EU AMLD) with effect from 27 June 2017. The 4th EU AMLD obliges member states to keep a central register of information of the ultimate beneficial owners of corporate and other entities such as trusts and foundations. Similar rules have been replicated in non-EU jurisdictions, such as the Crown Dependencies and Overseas Territories who have created centralised (rather than public) registers of beneficial ownership.

The UK Trust Register

To enact the 4th EU AMLD, the UK introduced the Money Laundering, Terrorist Financing and Transfer of Funds (Information on the Payer) Regulations 2017 (the Regulations). The Regulations create additional record keeping obligations for both UK and non-UK trustees and require them to register “relevant taxable trusts” with HM Revenue and Customs (HMRC) (the Trust Register). For further information in relation to the Trust Register, see our separate note.

Legal Entity Identifier

Trustees have also been busy registering with the London Stock Exchange to obtain a Legal Entity Identifier (LEI) to enable them to trade on financial markets in the UK. The LEI initiative is designed to create a global reference data system that uniquely identifies every legal entity or structure, in any jurisdiction, that is party to a financial transaction.

Country by country reporting

Trustees holding corporate groups will also be affected by new disclosure requirements for companies with an international footprint. The OECD has recommended country-by-country reporting as part of its Base Erosion and Profit Shifting (BEPS) initiatives. This initiative was taken up by the EU and will provide for automatic exchange of country-by-country tax reports. In the UK, this will require certain companies to report to HMRC prescribed information for each tax jurisdiction in which they do business.

How do these regimes apply in practice?

Compliance with these overlapping international and domestic regimes continues to cause many challenges for trustees, settlors and beneficiaries, both from an administrative and privacy perspective. These regimes were not created with trust structures in mind and so can often lead to surprising results. This is best explained by way of an example:

• Mr A (a US citizen who is now resident in the UK) created a discretionary trust many years ago for succession planning purposes (the Trust). The trustee of the Trust is a professional trust company resident in Jersey (the Trustee).
• The Trustee wholly owns: (1) significant financial investments (including UK investments) that are managed by a professional bank on a discretionary basis; and (2) a Jersey holding company (JerseyCo), the sole asset of which is a UK incorporated trading business (UKCo).
• The beneficiaries of the trust are Mr A, his wife (who is also resident in the UK) and their adult son (who is resident in France). No distributions have been made to any of the beneficiaries, although they all expect to receive a distribution during the 2018 calendar year.
• The protector of the trust is a partner at Macfarlanes who Mr A has known for many years. Although the protector has never had to exercise the powers conferred on him by the trust deed, he has the power to hire and fire the Trustee.

What information will be disclosed?

In one way or another, the following information will need be disclosed in relation to this structure:

• Financial data relating to the Trustee, Mr A (as the settlor), the partner at Macfarlanes (as the protector) and Mr A’s family members (as beneficiaries). This will be the total value of their respective “account” (which broadly will be the value or balance of the trust fund and any funds they have extracted from the Trust).
• Identifying personal data for those individuals, such as their name, account number, service address, usual residential address, jurisdiction of residence, nationality, tax identification number, and date and place of birth.
• The nature of control over the Trust (such as the power to appoint and remove the Trustee) and details of the Trust assets (including their value) and the Trustee’s advisers.

How will this information be disclosed?

The way in which the relevant information will be disclosed depends on the transparency regime in question. Some information will become publicly available whilst other information will be available to law enforcement agencies only on request. Other information will be exchanged automatically on a global basis. For example:

• CRS and FATCA requires the Trustee to report certain details to the Jersey tax authorities for onwards exchange to the tax authorities in the UK, France and the US.
• The UK Trust Register requires the Trustee to maintain internal up-to-date records of beneficial owners, and to register certain details with HMRC’s Trust Registration Service.
• The PSC regime requires any PSC to notify UKCo of their influence and control, and UKCo must maintain a publically available PSC Register and to submit details to Companies House.
• The LEI regime requires the Trustee to provide the London Stock Exchange with details in relation to the Trust.

What will happen with this data?

Although the confidentiality of the information disclosed is said to be safeguarded, this is an area that is giving rise to significant concerns, particularly in light of recent large scale hacks and leaks, which appear to be the new norm. There is a clear tension between the move towards greater transparency and the far reaching privacy and data protection implications. It remains to be seen whether legal action will be brought against organisations which exchange sensitive financial account information under CRS and the associated beneficial ownership registers.

Tax authorities will have access to unprecedented volumes of data. In practice, this data will be cross checked with information filed on local tax returns and any mismatches may trigger tax enquiries. For example, in the UK, HMRC has been investing significantly in technology which draws information from a myriad of sources in order to create a profile of each taxpayer and to identify those who may have paid too little tax.

What next?

This is a fast moving area of law and 2018 is likely to be far from quiet. Just as trustees are getting to grips with the current array of international and domestic regulations, there are a number of additional proposals in the pipeline. Those known at the time of writing are considered below:

Foreign ownership of UK real estate

In the UK, the Department for Business, Energy and Industrial Strategy (BEIS) has announced that the proposed new public overseas entity beneficial ownership (OEBO) regime will go live by early 2021. Under the new OEBO regime, which is likely to be similar to the UK’s existing PSC Regime, overseas entities (such as companies and trusts) will need to register details of their beneficial ownership in certain circumstances. These include where the entities wish to acquire or continue to hold real estate in the UK or enter into a public procurement process in the UK. The Government intends to publish draft legislation this summer and introduce it into Parliament by next summer. BEIS recently responded to its November 2016 call for evidence, which confirmed that the OEBO regime will be closely aligned with the PSC Regime and importantly that beneficiaries of trusts will not be included in the public register. For more information on the OEBO regime generally, see our separate note.

HMRC offshore structure notification requirements

The UK Government had been consulting back in 2016 on a proposed requirement to notify HMRC of the creation of offshore tax structures and complex financial arrangements. The proposals would require advisers to provide HMRC with the names of clients using structures even where they are used for perfectly legitimate reasons. One of the recommendations arising from this consultation process was that the Government should work with international partners and external stakeholders on the development of appropriate multinational rules (see below).

OECD Mandatory Disclosure Rules for Addressing CRS Avoidance Arrangements and Offshore Structures

At the request of the G7 Finance Ministers, and following a short consultation issued in December 2017, on 9 March 2018 the OECD issued new model mandatory disclosure rules (the Model Rules), which have now been submitted to the G7 presidency for formal approval. These Model Rules are designed to implement one of the action points arising out of the BEPS initiative, namely Action Point 12 relating to the Introduction of Mandatory Disclosure Rules.

The Model Rules require intermediaries (including fiduciaries, advisers and service providers and, in some cases, taxpayers) to report the use of CRS avoidance arrangements and opaque offshore structures designed to conceal beneficial ownership. If a jurisdiction chooses to implement the Model Rules, intermediaries in that jurisdiction will be required to make a report (including the name of any taxpayer who benefits from the arrangement) to their national tax authority for onward global exchange with the taxpayer’s jurisdiction.

The rules are very widely cast - for example, any arrangement which “has the effect of circumventing” the CRS is caught, regardless of the parties’ intentions. The exemptions from reporting are also unclear in their scope and application. Importantly, the rules are also retrospective in effect and will apply equally to all arrangements entered on or after 29 October 2014.

The EU DAC6

A wider EU initiative that would implement the BEPS Action Point 12 more broadly was adopted by the European Commission in June 2017, which will require intermediaries (and in some cases, taxpayers) to disclose information about cross-border tax planning arrangements that exhibit certain “hallmarks” to local tax authorities. The tax authorities would then exchange that information with other EU authorities.

More recently, on 9 March 2018, at the ECOFIN Council meeting, a revised text was tabled, and on 13 March 2018, the Council reached political agreement on the revised proposal. The Council now plans to adopt this directive (known as EU DAC6) without further discussion once the text is finalised in all official languages.

Member states will have until 31 December 2019 to transpose EU DAC6 into national laws and regulations and must apply them from 1 July 2020. Arrangements implemented after the entry into force of EU DAC6, and before 1 July 2020, must be disclosed by 31 August 2020. Member states must make the first information exchange by 31 October 2020.

EU Fifth Anti-Money Laundering Directive

Amendments to the 4th EU AMLD were first tabled back in 2016, but were superseded by the implementation of the 4th EU AMLD itself. However, political agreement on these proposed changes was reached by the European Parliament and Commission at the end of 2017. The proposed amendments to the 4th EU AMLD are known as the fifth EU anti-money laundering directive (the 5th EU AMLD).

The 5th EU AMLD includes a number of proposals, such as: making the Trust Register public subject to a “legitimate interests” test; granting access to the Trust Register to any member of the public in relation to a trust which holds or owns a controlling interest in a company that is not incorporated in the EU (and therefore not included in any Member State’s register of beneficial ownership of companies); ensuring the interconnection between each other’s respective registers of companies and trusts via a central platform; and creating a central register or retrieval mechanism for the ownership of bank accounts.

The UK Treasury Secretary has since confirmed that the UK’s implementation of the 4th EU AMLD will remain unchanged by the UK’s exit from the EU. It is also likely that most, if not all, of the 5th EU AMLD will have to be incorporated into UK domestic law during the post-Brexit transition period. The Treasury has, however, also indicated that the Government will not allow access to the new register of trusts, and will not require trustees to register UK trusts on the national registers of other EU countries.

Public access to Trust Register information will no doubt continue to be a hugely contested topic. This follows a successful challenge to the French public trust register, which was declared unconstitutional in the French courts on the basis that public access to such information disproportionately interfered with the right to private life.

Before it can be formally adopted, the European Parliament has indicated it will debate and vote on the 5th EU AMLD between 16 and 19 April 2018. It is currently unclear when the Council intends to formally adopt the 5th EU AMLD.

EU tax haven blacklist

At the end of 2017, the EU created a blacklist of countries to encourage them to adhere to transparency measures such as CRS. Other than being named, countries currently face few consequences from being blacklisted. However, specific counter-measures will be discussed later this year by the EU with a view to encouraging blacklisted countries to participate in these transparency measures. These counter-measures may include withholding taxes, new Controlled Foreign Corporation rules, elimination of deductible costs, and participation exemption limitations.

Differences in local anti-money laundering (AML) concepts

Slight differences in domestic AML regulations have historically led to inconsistencies in the way the CRS rules apply in different jurisdictions. For example, some jurisdictions determine the “Controlling Persons” of a company by reference to a 25 per cent ownership interest, while others apply a lower 10 per cent threshold. This is because the rules require that certain defined CRS terms are interpreted consistently with the Financial Action Task Force (FATF) Recommendations. However, the FATF Recommendations are only guidelines (and in certain cases, particularly in relation to who qualifies as a “controlling person”, can be unclear) and different jurisdictions have implemented them in different ways.

Several jurisdictions are now adopting new AML regulations as part of the 4th EU AMLD and in particular the introduction of central beneficial ownership registers. In the UK, this means that the same AML regulations which implement the UK Trust Register now also inform the interpretation of key CRS terms such as the definition of “Controlling Person” and “ultimate effective control” in relation to trusts. If this trend continues across other jurisdictions, we may see a partial merger and some welcome consistency between some of the key regimes outlined above.

However, given that both the CRS and the 4th EU AMLD have been implemented differently in different jurisdictions – and not to mention the fact that only EU member states are obliged to implement the 4th EU AMLD, while other jurisdictions may pick and choose in accordance with what they consider to be best practice – ultimately, it is unlikely that the many jurisdictional inconsistencies in the way the regimes outlined above are implemented internationally, and in particular the CRS, will disappear any time soon.

What should trustees and private clients do?

Increasing transparency of private wealth holding structures will remain high on the political agenda. This will likely result in further changes. It is therefore important for individuals, trustees and other service providers to understand the existing regulatory framework and to consider how future proposals may affect them and their structures.

Whilst the debate about the accepted level of transparency continues to evolve, private clients and trustees may also wish to undertake an independent audit of their structures to ensure that information is being disclosed correctly, consistently and on time, and which will also assist to pick up on errors and omissions that should be reported to any relevant tax authority. In many cases, this has helped to avoid errors and inadvertent disclosures that would otherwise need to be clarified with tax authorities or law enforcement agencies in the future.