The Indonesian Journal of International & Comparative LawISSN: 2338-7602; E-ISSN: 2338-770Xhttp://www.ijil.org© 2014 The Institute for Migrant Rights Press

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There are Many Ways To CaTCh FaTCaTs

WhaT IMpaCT WIll The ForeIgn aCCounT Tax CoMplIanCe aCT (FaTCa) have on CarIbbean naTIons’ prIvaCy laWs and CosTs

assoCIaTed WITh non-CoMplIanCe

Charles s. Bowen Jr.Attrney at Law

E-mail: bowenc@alumni.charlottelaw.edu

The growing concept of financial institutions operating as active cross-border “tax intermediaries” is one of the underlying principles for more aggressive and multinational legislation; however, there is the potential for substantial ramifications and externalities, both in the legal and economic arenas, that may derive from FATCA and subsequent legislation. Pursuant to this determination that FFIs are being utilized and called upon to implement more effective automated tax information exchanges with domestic and international tax authorities, the issue for underdeveloped Caribbean nations is finding a method to operate in the most cost effective manner without violating domestic laws and existing treaties. This can also be beneficial towards maintaining some form of economic sovereignty. The most optimal method in doing so is identifying the extent that existing treaties and/or agreements provide guidance as to how FFIs can operate in an automated information exchange because of the colossal implementation and operational information technology costs that are associated with complex compliance reporting of private data. Once potential problems are identified, the most logical step is to determine how to enter an IGA that promotes economic stability, privacy considerations, compliance cost avoidance, and mitigating any business disruptions that can potentially exceed any penalty or fine under FATCA. The Caribbean nations have demonstrated a more sophisticated and effective cross-jurisdictional compliance platform than prevailing perspective of their financial services regulatory scheme; however, the implementation of FATCA

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is the most pervasive and imposing legislative act yet for tax evasion and the ability to utilize the IGA system for preventive measures in all facets of compliance is most practical in considering this emerging and early phase of FATCA’s unilateral rather than bilateral approach.

Keywords: Accounting Law, Banking and Finance, Bankruptcy Law, Corporation and Enterprise Law, Securities Law, Tax Law.

One of the great mistakes is to judge policies and programs by their intentions rather than their results. . . . Many people want the

government to protect the consumer. A much more urgent problem is to protect the consumer from the government.―Milton Friedman1

I. INTRODUCTION

In 2009, in the wake of a financial crisis with accompanying scrutiny of the banking industry, and in the midst of a re-election campaign, President Barack Obama stated: “I did not run for office to be helping out a bunch of, you know, fat-cat bankers on Wall Street.”2 With an aim towards preventing tax evasion, money laundering, and terrorist financing, extraterritorial legislation has become the rule, rather than the exception in recent years. With various tax evasion, anti-money laundering, and financial disclosure pieces of legislation coming into effect as of late, the most imposing and impactful law is the Foreign Account Tax Compliance Act (FATCA).

FATCA is a recently enacted law that is a part of the Hiring Incentives to Restore Employment (HIRE) Act of 2010 and created four new

1. Interview with Richard Heffner on The Open Mind (Dec. 7, 1975), available at http://www.youtube.com/watch?v=vOr668rBpIE. Milton Friedman was an American economist, statistician, and author who taught at the University of Chicago for more than three decades. He was a recipient of the Nobel Memorial Prize in Economic Sciences, and is known for his research on consumption analysis, monetary history and theory, and the complexity of stabilization policy. The Economist described him as “the most influential economist of the second half of the 20th century...possibly of all of it.”

2. David Jackson, Obama: ‘Fat-cat’ bankers owe help to U.S. taxpayers, U.S.A. Today, Dec. 18, 2009, 10:12 AM, http://usatoday30.usatoday.com/money/industries/banking/2009-12-13-obama-bankers-small-business_N.htm.

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sections of the Internal Revenue Code.3 It requires financial institutions to use enhanced due diligence procedures to identify United States (U.S.) persons who have invested in either non-U.S. financial accounts or non-U.S. entities.4 The intent behind FATCA is to keep U.S. persons from hiding income and assets exceeding $50,000 overseas by requiring foreign financial institutions (FFIs)5 of broad scope—banks, stock brokers, hedge funds, pension funds, insurance companies, trusts—to report directly to the IRS all clients’ accounts owned by U.S. Citizens and U.S. persons, including Green Card holders.6

An FFI could face significant consequences if it fails to enter into an agreement—Inter-Governmental Agreements (IGAs) Tax Information Exchange Acts (TEIAs), Double Taxation Agreements—with the Internal Revenue Service (IRS) in order to provide the U.S. and tax authorities with requested information related to an investor or banking customer with the FFI. In order to successfully adapt to this stringent and complex compliance scheme, the FFI’s will need to have the ability to align all the key stakeholders, including operations, technology, risk, legal, and tax. This will be paramount to successfully comply with FATCA. The institution would be subject to a 30% withholding tax on any “withholdable payment” made to its proprietary account for failing to comply with FATCA.7 As a result, all payments of U.S. source income—interest and dividends—will be taxed along with U.S. source capital gains.8 Additionally, accountholders who don’t provide the FFI with FATCA required documentation will be deemed recalcitrant, resulting in the FFI then being obligated to deduct a 30% withholding tax on any

3. 26 U.S.C. §§1471-1474; I.R.C. §§1471-1474.4. Id.5. 26 U.S.C. § 1473(d)(4). A Foreign Financial Institution has been defined as any

foreign entity that meets at least one of the following: (1) Accepts deposits in the ordinary course of a banking or similar business; (2) is in the business of holding financial assets for the account of others; or (3) is primarily engaged in the business of investing, reinvesting, or trading in securities, partnership interests (including futures or forward contracts or options), certain commodities, or any interest in such instruments.

6. 26 U.S.C. § 1471.7. Id.8. Id.

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withholdable9 payment credited to their accounts.10 The IRS has identified two main areas in which it has sought to enforce tax compliance: first, in the voluntary nature of the payment of taxes, by withholding at the source of certain payments to eliminate the possibility of nonpayment; and second, by ensuring that the government has another source of information to compare against the taxpayer’s filings.11

Despite FATCA being economic in nature and deriving from the U.S., its reach will far exceed the economic realm and impact the legal domain within the Caribbean.12 From the beginning of FATCA’s enactment, members of the Caribbean Association of Banks13 (CAB) expressed their concerns to the regional ministers of finance regarding the impact FATCA will have on financial services institutions, corporations, individuals and the industry as a whole.14 In 2012, a session was held in St. Lucia to inform public sector representatives and members of the financial and legal sectors, of several concerns.15 Among many other concerns, those

9. Id. Withholdable payments are income derived from interests, dividends, trading of securities,

10. 26 U.S.C. § 147111. Melissa A. Dizdarevic, The Fatca Provisions of the Hire Act: Boldly Going Where No

Withholding Has Gone Before, 79 Fordham L. Rev. 2967, 2972 (2011).12. Throughout this article, when stating “Caribbean” I am indentifying

principal participants in the financial services industry and am referencing nations within CARICOM (Antigua and Barbuda,  Barbados, Dominica, Grenada, Guyana, Jamaica, St. Kitts and Nevis, St. Lucia, St. Vincent and the Grenadines, Trinidad and Tobago).

13. The Caribbean Association of Banks, Inc is a community of banks and other financial institutions in the Caribbean/CARICOM region, whose mission is to advance the interest of member institutions through advocacy, networking, provision of training and other solutions to strengthen the Caribbean financial sector. Caribbean Bankers List FATCA Concerns for CARICOM, Carribean 360, June 28, 2012, http://www.caribbean360.com/index.php/business/592605.html#axzz2n7JNKD6y

14. Id.15. Id. Coming out of this session, participants raised a number of concerns about

FATCA’s impact including potential conflict with local privacy laws; impact of tax information exchange agreements and double taxation laws which may not exist in some countries; questions about governments’ roles given there have been few public announcements or statements by regional governments or regulators; the huge cost of compliance; the changes required to systems, technology and processes before January 2013; individual expense that may be incurred to prove an individual is not a US citizen, should they fall within any of the US person indicators; and the responsibilities of support professionals such as auditors and lawyers.

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raised were how FATCA will impact local Caribbean privacy laws, what the impact of tax information exchange agreements, governments’ roles, the colossal cost of compliance, individual expenses, and technological changes will be.16 The externalities of FATCA extend to the political arena as well.17 Commentators have speculated that FATCA will conflict with privacy and data protection laws in addition to conflicts with local laws—causing Caribbean nations to alter and repeal existing local laws.18 The Trinidad & Tobago Finance and Economy Minister, Larry Howai, has even described the pervasive and extraterritorial legislation as “onerous”19; the Governor of the Central Bank of Trinidad & Tobago has labeled it as “an attempt to convert foreigners into unpaid IRS agents . . . a kind of U.S. backward imperialism.”20 In addition to Caribbean leaders conveying the notion that FATCA is pervasive in nature, there are telling statistics to support their speculation towards financial compliance issues. One of which is that, regarding the effectiveness of complying with United States tax laws is that the United States is sixty second (62nd) out of one hundred eighty three (183) in the time that it takes to comply with tax laws.21

FATCA derived from good intentions, but the implementation of it will have a substantial impact on various nations—not all of which are beneficial—especially those with both unstable economic and legal, climates such as the Commonwealth Caribbean. Section II will comprise of the background FATCA, the landscape preceding FATCA and the various different tax information exchange agreements utilized during such time, the pertinent FATCA provisions that may impact local Caribbean

16. Id.17. David Jessop, Caricom Punts On FATCA: Summit Ignores U.S. Push As World

Tax Police, Jamaica-Gleaner, July 15, 2012, http://jamaica-gleaner.com/gleaner/20120715/business/business9.html. Externalities are when the legal system is costly and cumbersome and unpredictable, mutually beneficial trades may often not take place because of potentially high transactions costs involved in protecting and enforcing complex property rights and contracts once made.

18. Id.19. Trinidad Finance Minister: Requirements of US FATCA Law “Onerous”, Caribbean

Journal, Oct, 31, 2012, 1:43 p.m., http://www.caribjournal.com/2012/10/31/trinidad-finance-minister-requirements-of-us-fatca-law-onerous/.

20. Jwala Rambarran, Remarks at the Meeting of the Council of Securities Regulators of the Americas (COSRA) (Oct. 29, 2012), http://www.bis.org/review/r121105c.pdf.

21. http://www.pwc.com/us/en/financial-services/what-is-fatca.jhtml.

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laws and the arguments by critics against FATCA and its pervasive and imposing nature. Section III contains a discussion and analysis as to how despite FATCA’s imposing and extraterritorial reach, Caribbean nations will need to enter into IGAs in order to avoid dying in the U.S. and Global financial markets. Additionally, this section provides arguments likely presented by critics to this proposed solution. Lastly, section IV will bring together the presented arguments, proposed solutions, and critiques in a cumulative conclusion that explains why entering into a Model II IGA would be most optimal for a Caribbean nation in avoidance of violating domestic laws and incurring non-compliance costs that can cause a business disruption.

As with any discussion regarding the fusion of legal and economic matters involving tax, there are a plethora of issues and dilemmas that can be addressed; however, it should be born in mind that despite this paper encompassing components of analysis as to the effectiveness and style of tax compliance programs associated with FATCA and tax evasion in general, this paper solely focuses on the impact FATCA will have on Caribbean nations22 utilizing these analytical components rather than joining in the discussion as to how foreign financial institutions in other nations will be impacted or should react. Lastly, this article does not assess the impact of the United Kingdom (U.K.) or European financial markets despite the high level involvement of United Kingdom “Crown” dependencies because of the vast majority of Caribbean nations collectively approaching FATCA.

II. BACKGROUND

According to a 2011 study conducted by the Tax Justice Network, it’s estimated that, on average, governments worldwide lose $3 trillion to offshore tax evasion; the United States loses $377 billion a year; European nations—U.K., Italy, Spain, and France—each lose approximately $100

22. Throughout this article, when stating “Caribbean” I am indentifying principal participants in the financial services industry and am referencing nations within CARICOM (Antigua and Barbuda,  Barbados, Dominica, Grenada, Guyana, Jamaica, St. Kitts and Nevis, St. Lucia, St. Vincent and the Grenadines, Trinidad and Tobago).

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billion in revenue a year.23 A progression towards enhancing the monitoring of transactional financial asset activity has been readily apparent since 1970 with the enactment and implementation of the Bank Secrecy Act (31 U.S.C. 310) (BSA) which, among other things, required individuals to report identities and relationships of parties involved in transactions with foreign financial entities.24 Despite the BSA being in place for approximately forty years (40) years, the aforementioned statistics illustrate that tax evasion continues to be problematic worldwide, particularly in the U.S., and previous attempts have been insufficient at combating it using bilateral and multilateral information exchange agreements between financial institutions and governmental tax authorities.

As previously mentioned, the U.S. has and continues to utilize various bilateral tax information exchange agreements (TIEAs), double tax conventions, and treaties to ascertain information regarding what individuals or firms need to be investigated for tax evasion and which require legal sanctioning or action.25 All of these agreements encompass some form of informational reporting, whether it is by taxpayers or third party organizations such as an FFI that relay tax information to tax authorizes. A prime example of an unsuccessful usage of a treatise has been the U.S. utilizing Mutual Legal Assistance Treaties (MLATs) to identify individuals related to criminal transactions involving securities or investment instruments; these are ineffective with Caribbean nations

23. Rambarran, supra note 20 (utilizing statistical support from a Tax Justice Network study to illustrate his argument as to the reasoning why large, developed nations want to impose strict compliance laws; see also Org. for Econ. Co-operation and Dev., Promoting Transparency and Exchange of Information for Tax Purposes: A Background Information Brief 2 (2010), available at http://www.oecd.org/dataoecd/26/28/44431965.pdf; See also Dizdarevic, supra note 11, at 2994.

24. 31 U.S.C.A. § 5311-30 (West). The Bank Secrecy Act has been the primary piece of legislation directed towards anti-money laundering efforts prior to the enactment of the FATCA provisions within the Hiring Incentives to Restore Employment Act. Provisions within Title III of the Patriot Act (31  U.S.C.  5311–5330 and 31 CFR Chapter X) reflect the amended provisions pertaining to the Bank Secrecy Act.

25. See generally Chad P. Ralston, Going It Alone: A Pragmatic Approach to Combating Foreign-Effected Tax Evasion, 24 Emory Int’l L. Rev. 873 (2010). Prior to the enactment of FATCA, Ralston provided a detailed synthesis of the issues surrounding tax flight and tax evasion, while also providing suggestions as to future strategies to use against foreign-effected tax evasion. Such strategies included

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because such treaties do not cover U.S. tax evasion.26 Despite this, there have been instances in which Caribbean nations have been enticed to enter other information exchange agreements via incentivized provisions within legislation—a prime example is when provisions were enacted to “liberaliz[e] foreign convention expense allowances for Bermuda and Caribbean countries if the country had in effect a tax information exchange agreement with the United States, Bermuda, the Bahamas, and several other Caribbean countries entered into such agreements with the United States.”27 There has been a call for the U.K. to adopt and enforce more stringent tax evasion laws to enforce upon dependent Caribbean nations28; such an assertion caused one Caribbean dependency to contemplate seeking independence.29 Caribbean nations have taken a holistic approach towards complying with FATCA and negotiating with the U.S; it has appointed a task force, headed by the Jamaican Central Bank, to speak on its behalf on matters of legal obligations, compliance, and assessing costs associated with maintaining a sufficient information and technology system.30

The United States has approached the tax evasion quandary by utilizing multilateral and bilateral treaties for information exchange agreements, Qualified Intermediary (QIs) systems, and criminal activity assistance treaties. This background section will provide a snapshot of the landscape preceding the enactment of FATCA regarding tax evasion monitoring systems; the pertinent provisions within FATCA that are related to issues of confliction with local privacy and data retention laws, along with overall compliance costs; and an overview of existing

26. Mutual Legal Assistance Treatises are used in the criminal context to provide a shared exchange of information between foreign governments to assist in the prosecution of crimes. The CARICOM version is available at http://www.caricom.org/jsp/secretariat/legal_instruments/mutual_legal_assistance.pdf.

27. William L. Burke, Tax Information Reporting and Compliance in the Cross-Border Context, 27 Va. Tax Rev. 399, 429 (2007).

28. See, e.g., Editors, Crown Dependencies: The Loophole Islands, The Guardian, June 28, 2012, http://www.theguardian.com/commentisfree/2012/jun/28/crown-dependencies-loophole-islands-editorial.

29. Simon Bowers, Jersey Threatens to Break with UK over Tax Backlash, The Guardian, June 26, 2012, http://www.theguardian.com/uk/2012/jun/26/jersey-threatens-independence-tax-backlash.

30. Zena Henry, FATCA 2013…Guyana Forging Ahead for Compliance, Kaieteur News Online, Dec. 28, 2012, available at http://www.kaieteurnewsonline.com/2012/12/28/fatca-2013-guyana-forging-ahead-for-compliance/.

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and emerging issues the Caribbean Community (CARICOM) may face following the full implementation of FATCA.31

A. Landscape for Mechanisms to Combat Tax Evasion Preceding FATCA

The ever evolving world of money laundering, fraud, and tax evasion resulted in various different investment vehicles and platforms for individuals ranging from single investors to hedge fund managers to be able to avoid detection and obscure fraudulent activity. Prior to FATCA, treaties and both bilateral and multilateral information exchange agreements between the U.S. and other nations stipulated that the IRS would need to request specific tax information about specific individuals and/or accounts within a foreign bank or FFI operating within that bank’s respective nation.32 Common characteristics of U.S. tax evasion agreements and treaties have been identified as follows:

(1) a reduction in, or exemption from, tax on a reciprocal basis; the country of source will usually cede jurisdiction (in whole or in part) to the country of residence; (2) treaties seek to remove the possibility of double taxation in order to reduce barriers to investment in the United States by foreign country residents; and (3) the treaties make procedures to improve the administration of tax laws, to settle tax issues, and to provide for the exchange of information.33

The Qualified Intermediary (QI) system came into effect in 2001 and has been the primary tax compliance system utilized by the U.S. pursuant to complexities surrounding cross-border transactions by large and small investment portfolios in the 1990’s.34 A QI is a foreign intermediary,

31. The subsequent section will only focus on the manners in which these tax evasion systems have been implemented in relation to developing countries and the Caribbean; the effectiveness of multilateral agreements versus bilateral or automated information systems versus anonymous reporting are outside the scope of this article.

32. See generally Richard E. Andersen, Analysis of U.S. Income Tax Treaties (RIA) P24.01[1]; see also Dizdarevic, supra note 11, at 2982.

33. Dizdarevic, supra note 11, at 2994 (citing Paul R. McDaniel et al., Introduction to United States International Taxation 178 (5th ed. 2005).

34. Itai Grinberg, Beyond FATCA: An Evolutionary Moment for the International Tax System, (Georgetown U. L. Ctr., Working Draft of Paper, Jan. 27, 2012), http://scholarship.law.georgetown.edu/cgi/viewcontent.cgi?article=1162&context=fwps_papers.; see also William L. Burke, Tax Information Reporting and Compliance in the Cross-

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usually a foreign financial institution, that has entered into a withholding and reporting agreement with the IRS.35 In order to adhere to existing laws, a QI, typically an FFI, would have to determine the kind and amount of income, apply treaty benefits, and then calculate, withhold, and report these amounts to the IRS.36 Because of the dichotomy and direct relationship with account holders, “QIs were seen as being in the unique position to collect the appropriate information and help the government achieve [financial account transparency].”37

Prior to 2001, FFIs had little interaction or correspondence with the IRS or any other tax authoritative in which they would have to collect, document, and file U.S. tax information, withhold U.S. tax allocated to U.S. investors, or adhere to IRS oversight.38 As a result, two primary problems arose: (1) a U.S. taxpayer could invest in U.S. source assets with a FFI, but the FFI was not required to report anything to the IRS; (2) U.S. withholding agents (e.g., U.S. banks) were not obtaining adequate documentation from FFIs to document a reduced U.S. withholding tax rate on payments to foreign customers of such FFIs. 39 This result was expected considering “the FFI had the customer relationship, and the U.S. withholding agent did not.”40 The QI program appeared to be effective, “incentivizing banks to withhold and report accurate amounts by allowing them to retain the privacy their clients so desired.”41 Despite this, identified issues “were not adequately repaired in the [following years], and abuses of the privacy incentive and the persistence of the information gap paved the way for the current ‘crackdown’ on offshore tax evasion.42

Border Context, 27 Va. Tav Rev. 399, 403 (2007).35. (T.R. §1.1441-1(e)(5)(ii)); see also Dizdarevic, supra note 11, at 2978.36. Dizdarevic, supra note 11, at 2979 (citing U.S. Gov’t Accountability Office,

GAO-08-99, Tax Compliance: Qualified Intermediary Program Provides Some Assurance That Taxes on Foreign Investors Are Withheld and Reported, but Can Be Improved 3, 10 (2007).

37. Id.38. J. Richard (Dick) Harvey, Jr., Offshore Accounts: Insider’s Summary of Fatca and Its

Potential Future, 57 Vill. L. Rev. 471, 474 (2012).39. Id.40. Id.41. Dizdarevic, supra note 11, at 2979-80.42. Id.

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B. FATCA Programs FATCA has three core elements to it: enhanced due diligence, information reporting, and potential withholding on U.S. source payments.43 Because a primary downfall of pre-FATCA enforcement was the insufficient ways in detecting tax evasion, Congress chose to utilize “increased reporting requirements that are designed to achieve a more integrated system of information so evasion can be more readily ascertained.”44 Without adequate knowledge or a basis of information as to what is pertinent information to each prospective tax evader, the U.S. tax authorities cannot know what information to specifically request.45 Accordingly, one of FATCA’s primary goals is to aid in early detection of offshore tax evasion.46 In doing so, along with aspirations towards providing more financial transparency, the U.S. has implemented FATCA through “bold, unilateral action.”47 Such action really only affects the nation in which the FFI is unless there is an IGA that stipulates to reciprocity and exchange of tax information with U.S. in order to avoid being deemed non-compliant and being penalized.

The relevant issue with FATCA impacting Caribbean privacy and data retention laws is the concept of Inter-Government Agreements (IGAs) between FFIs and the U.S. that provide a government-to-government framework utilizing an automatic information exchange system that has a FFI report its FATCA information to its domestic government, who in turn reports this information to the relevant tax authority—in the context of this paper, this would be the IRS receiving tax reporting for an FFI from the Cayman Islands.48 An IGA is not expressly legislated within

43. 26 U.S.C. §§1471-1474; see also FATCA Gaining Global Acceptance in Combatting Tax Evasion (September 2013),CCH Federal Securities Law Reporter, Oct. 30, 2013, 2013 WL 6195564

44. U.S. Gov’t Accountability Office, GAO-08-99, Tax Compliance: Qualified Intermediary Program Provides Some Assurance That Taxes on Foreign Investors Are Withheld and Reported, but Can Be Improved 3 (2007); Gary S. Wolfe, FATCA: Qualified Intermediary Reporting Requirements, IRS Tax Audit News, July 23, 2010, http://gswlaw.com/irsblog/category/fatca/.

45. Id.46. Dizdarevic, supra note 11, at 2984-85. 47. J. Richard (Dick) Harvey, Jr., supra note 38, at 472.48. David Cohen, FATCA’s Impact on Caribbean Financial Businesses, KPMG IFC

Caribbean Rev. (2012), at 17, available at http://www.kpmg.com/KY/en/services/Tax/Documents/FATCA-impact-on-the-caribbean-oct-2012.pdf.

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FATCA, but the interpretation of Title 26 of the United States Code Section 1471 allows for an FFI to avoid penalization for non-compliance by entering into an agreement to have intergovernmental reporting of its FATCA information.49 Although in the infancy phase, IGAs have been characterized as “facilitat[ing] the effective and efficient implementation of FATCA by eliminating legal barriers to participation, reducing administrative burdens, and ensuring the participation of all non-exempt financial institutions in a partner jurisdiction.”50 Aside from the various intricacies with classifying FFIs and whether they are compliant, IGAs are in effect to avoid confliction with local privacy laws, and lessen the burden of having smaller FFIs completely bear the excessive cost associated with complying with FATCA in addition to existing treatises and qualified intermediary agreements. In theory, by reporting FATCA information to your home government, FFIs will be more proficient in complying with its complex and intricate requirements.51

Two forms of IGAs have developed since 2012: Model I IGA and Model II IGA. It is imperative to understand the key differences and how they may affect a Caribbean nation. Within the context of this article, the pertinent characteristics are as follows: the primary differences are found within the reporting requirements and withholding concerns related to account holders that are deemed recalcitrant. In terms of reporting requirements, Model I IGA provides that an FFI will report to their respective government, followed by an automatic exchange of this information to the IRS.52 Conversely, Model II provides that an FFI will report directly to the IRS and an exchange of this information will only commence when there is a request by either partner country.53 Additionally, Model (I) will eliminate withholding tax on payments and remove the necessity for an FFI to dissolve the relationship with an account holder that is deemed recalcitrant.54 Similarly, Model II will have neither a withholding tax on payments, nor a requirement to close accounts that

49. 26 U.S.C. § 1471(b).50. See FATCA, supra note 43.51. Id.52. David Cohen, FATCA’s Impact on Caribbean Financial Businesses, KPMG IFC

Caribbean Review (2012), at 17, available at http://www.kpmg.com/KY/en/services/Tax/Documents/FATCA-impact-on-the-caribbean-oct-2012.pdf.

53. Id.54. Id.

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are deemed recalcitrant.55 Under FATCA, FFIs are required to receive waivers of confidentiality from investors, but if local or national privacy laws prevent an FFI from obtaining a waiver, the FFI must dissolve the business relationship with the investor if they have not entered into an IGA.56 Under Model I, in order to not violate local privacy laws, FFIs must receive an account holder’s U.S. tax identification number, along with written consent to send the information directly to the IRS no matter what.57

It is well established that FATCA will adversely affect a broad scope of individuals and entities as a result of the enforcement and factors associated with implementation of the provisions stated above and previously mentioned in terms of compliance requirements and subsequent penalties. Another troublesome component in complying with FATCA and its automatic information exchange system is the concept of routing. Georgetown Law professor and legal commentator, Itai Grinberg, astutely points out that:

FATCA’s routing system for reporting directly from financial institutions to foreign sovereigns violates the local law of many jurisdictions. It is therefore inappropriate for countries that are cooperating with one another. However, requiring information reporting directly from would-be-compliant financial institutions located in nonparticipating jurisdictions pressures those jurisdictions to cooperate. It also allows financial institutions that wish to cooperate with new global norms to do so regardless of their government’s policy decisions. Thus, FATCA’s routing system provides a useful tool to elicit compliance from cooperative financial institutions in jurisdictions that resist cooperating with a multilateral information reporting regime, and to pressure those governments to cooperate.58

The principle derived from Grinberg’s observations and the aforemen-tioned provisions of FATCA is the coercion and pervasive pressure that FATCA and the U.S. imposes on foreign nations, particularly those who have to violate locals norms and laws in order to cooperate or enter into IGAs just to be able to avoid the 30% non-compliance penalization.

Finally, an additional problem arises when there are resident and

55. Id.56. 26 U.S.C. § 1471(b)(1)(F); see also Cohen, supra note 48. 57. Id.58. Grinberg supra note, at 58.

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non-resident investors within this portfolios and the proper tax treatment that is to be allocated to certain taxpayers with distinct and specific tax characteristics, such as whether the non-U.S. investor is entitled to a reduced withholding tax rate when it is difficult to ascertain their identity or other financial activity, thereby, creating pressure to succumb to an IGA or strictly comply with FATCA on your own accord. Scholars have commented on the practicality and costliness of FATCA’s identification system concluding that it is highly prescriptive; resulting in a customer identification system that entails a costly implementation, particularly for existing account holders, with little benefit being attributed to the local government.59 Such concerns are supported by a comprehensive study done on forty-six (46) benchmark-multinational organizations, research was conducted to determine the cost of compliance and the statistical implications that may result from compliance versus noncompliance in the realm of data breach and privacy law.60 While the study found that the cost of compliance is affected by organizational size, it is also affected by the number of regulations and the amount of sensitive or confidential information an organization is required to safeguard.61 Moreover, business disruption and productivity losses are the most expensive consequences of non-compliance; the least expensive consequences are fines, penalties and other settlement costs.62

C. Critics of FATCA’s Compliance Costs and the Potential Impact It May have on Caribbean Privacy Laws

and Data Protection ComplianceThe collective cost associated with FATCA compliance to financial institutions has been estimated at $8 billion a year, approximately ten

59. Grinberg supra note, at 59 (citing U.S. Treasury Notice 2010-60; Notice 2011-34); see also Navigant report supra note, an existing account holder must be informed that (1) aggregate information will be reported to the IRS; (2) such information may give rise to a request of information on the account; (3) such information will be going to the home country’s tax authority; and (4) the account holder’s FFI home country may exchange this information with the IRS.

60. Ponemon Inst., LLP, The True Cost of Compliance: A Benchmark Study of Multinational Organizations (2011), available at http://www.tripwire.com/tripwire/assets/File/ponemon/True_Cost_of_Compliance_Report.pdf

61. Id. at 3-6.62. Id.

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times the amount of estimated revenue raised.63 This statistic is only the tip of the iceberg in the critique of FATCA and its imposing nature upon foreign nations. Caribbean leaders have expressed mixed sentiments regarding the pervasive nature of FATCA and whether they will be able to sufficiently comply, either with or without an IGA. In 2012, Governor of the Central Bank of Trinidad & Tobago, Jwala Rambarran, articulated growing concerns in his speech to the Council of Securities Regulators of the Americas (COSRA) regarding privacy laws and the necessity to align with powerful nations such as China to amplify such concerns through an influential member of global financial committees in order to avoid the adverse effects that will culminate upon Caribbean nations when FATCA is in full swing.64 Substantive implications are that FFIs are not relieved of the burden of reporting and due diligence process when having no U.S. stakeholders; they will likely have the inability to operate profitably without claiming FFI status and satisfying requirements of implementing internal policies, procedures and controls around U.S. accounts; the burden to identify and classify each and every business within a large network of FFIs; and the potential of deteriorating the relationship between investors and banks due to increased concerns regarding privacy and confidentiality.65 The holistic feared effects are the deprivation of sovereignty through American financial imperialism, the forced incorporation of foreign law via treaty or agreement, and minimal power to contest and/or reject FATCA. Despite these concerns, Rambarran recognized the benefits associated with entering into an IGA and concluded that Trinidad & Tobago was equipped with the resources and tools to comply with FATCA.66

There are active discussions as to what tax-evasion detection programs and systems are most effective and pragmatic, however, the lack of financial support and confliction of local privacy laws impede a developing nation’s ability to create and maintain an adequate FATCA compliance

63. Robert W. Wood, FATCA Carries Fat Price Tag, Forbes.com, (Nov. 30, 2011), http://www.forbes.com/sites/robertwood/2011/11/30/fatca-carries-fat-price-tag/.

64. Rambarran, supra note 20.65. Cohen, supra note 48; see also H. Wayne Lovell, Overview of FATCA and Its

Implications on Caribbean States (Oct. 30, 2012), http://www.carib-export.com/login/wp-content/uploads/2012/11/Overview-of-FATCA-and-its-Implications-on-Caribbean-States-H.-Wayne-Lovell.pdf.

66. Id.

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program.67 This tension between utilizing an automated information reporting system versus an anonymous reporting system takes center stage in underdeveloped nations, such as those in the Caribbean because of the excessive operational cost associated with privacy and data retention compliance. Within the financial services community, there have been strong assertions by the onshore jurisdictions, such as the U.S., U.K., and France, that offshore financial centers (OFCs) have lenient and ineffective regulatory oversight that perpetuates fraud, tax evasion and criminal activity.68 Despite these largely held beliefs, there are misconceptions associated with such financial regulatory critiques of OFCs, particularly those within the Commonwealth Caribbean.69 A recent 2013 fully comprehensive study conducted by Andrew Morriss and Clifford Henson strongly argue, with sufficient evidence, that “based on both quantitative input measures and a qualitative assessment, the [critiques by onshore jurisdictions] of OFCs as bastions of laxity” is an inaccurate assertion.70 Moriss and Henson utilized a multitude of variables to measure effectiveness of financial services regulation for cross-jurisdictional systems and concluded that the majority of Caribbean nations have effective regulation programs when assessing the qualitative output of programs, rather than just quantitative inputs (number of staff, amount of money allocated to resources, amount of regulators in comparison to population of financial institutions).71 This study will be further elaborated upon in the subsequent section to support the component of my solution to allow offshore jurisdictions more autonomy as long as it is practical for the offshore center to do so under the legal landscape.

III. DISCUSSION & ANALYSIS

As noted by Professor Itai Grinberg, it is readily apparent that developed nations, such as the U.S., are addressing the tax evasion dilemma by asserting that financial institutions, both domestic and foreign, act as tax

67. Grinberg, supra note 34.68. Andrew P. Morriss & Clifford C. Henson, Regulatory Effectiveness & Offshore

Financial Centers, 53 Va. J. Int’l L. 417, 430 (2013).69. Id. at 417, 418-20. 70. Id.71. Id.

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intermediaries with respect to offshore accounts.72 Whether countries enact and enforce qualified intermediary systems, bilateral or multilateral information exchange agreements, unilateral information exchange agreements, or tax information exchange agreements, Caribbean nations will have to combat the assertion that they are tax havens to which foreign investors are fraudulently using the financial services system and there needs to be legislation to compel Caribbean FFIs to adhere to outside laws. Both dependent and independent Caribbean nations face substantive and holistic concerns by the implementation and enforcement of FATCA and the accompanying non-compliance penalties, costs and resources allocated towards reporting, and the imperialistic approach imposed by the United States. As of August 2013, the Caribbean region has elected to take a regional approach in evaluating FATCA.73 It was determined at a meeting of the Council for Finance and Planning (COFAP) of the CARICOM, however, it was not disclosed as to what this approach will entail, but recent IGA agreements by Costa Rica and the Cayman Islands may reflect the direction for the near future.

My proposed solution is not universal for all Caribbean nations, as each territory has distinct norms and philosophies, along with different economic concerns. Because of FATCA being in the infancy phase, my solution is more preventive in nature considering the harsh non-compliance penalties with FATCA being, among other penalties, a 30% deduction and withholding of payments against the FFI. Initially, I propose for CARICOM and remaining Caribbean nations to identify the strength of their exiting tax information exchange agreements, double taxation agreements, and qualified intermediary agreements to ascertain whether they are sufficient in protecting their local privacy laws to further enable their place in the financial services market by protecting the sought after confidentiality for two reasons: 1. avoid violating domestic privacy rights; and 2. avoid creating risk averse clients that will withdraw substantial assets due to an unstable compliance landscape. Following this, it is difficult to argue against the usage of an IGA because the benefits associated with entering one in theory are the avoidance of legal

72. Grinberg, supra note 34, at 4.73. Jim Calvin, CARICOM Announces Agreement on a Regional Approach to FATC,

FSI Tax Post, Aug. 7, 2013, http://www.fsitaxposts.com/2013/08/12/caricom-announces-agreement-regional-approach-fatca/.

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impediments to compliance, simplifying practical implementation, and reducing compliance costs.74 If it is inevitable that you will succumb to pressure and coercion, you will want to mitigate your costs and maintain a level of economic sovereignty considering the financial services sector has been a primary source of income for Caribbean nations since the latter half of the Twentieth Century. Accordingly, a Model II would be most optimal for many Caribbean nations because of the avoidance of substantial compliance costs associated with Model I considering Model I imposes a heavy burden upon governments to maintain an information technology system in order to initially gather, store, and relay tax information from all FFIs within the country. Additionally, despite adherence to reporting requirements, Model II would help preserve some allotment of client privacy to mitigate the incentive for client-investors to remove their U.S. assets and violation of local privacy laws—all of which are in conjunction with Caribbean nations having effective cross-jurisdictional compliance programs.75 The IGA was introduced to combat conflicts with local privacy laws by allowing for the tax information exchange to go through a domestic governmental tax authority that will subsequently send this information to the IRS, rather than having the FFI or individual send their confidential information directly to the IRS. This plays into the notion that the most expensive non-compliance costs are those in which there is a business disruption arising from unstable markets or high risk banking activity and it is most beneficial to avoid such costs through the most cost effective compliance program. By utilizing a Model II IGA, FFIs can mitigate compliance costs associated with complex reporting by directly sending the FATCA information to the IRS.

Although there is a need to maintain a degree of sovereignty, the contemplation and threat to seek independence, as the dependent nation of Jersey had in 2012, is not an effective way to combat egregious and pervasive laws like FATCA from being imposed considering the recent movement by well established Caribbean nations towards signing IGAs with the U.S. In November of 2013, the Cayman Islands and Costa

74. Paul Eldridge, The FATCA Challenge Facing Caribbean Banks, May 18, 2012, available at http://www.pwc.com/jm/en/fatca/pdf/TheFATCAChallengeFacingCaribbeanBanksv8.1.pdf.

75. See supra Section II Morris and Henson study.

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Rica became two (2) of twelve (12) nations to sign an IGA.76 Costa Rica signed a Model IA IGA, meaning the exchange of tax information will be reciprocal and the U.S. will also provide tax information to the Costa Rican government regarding Costa Rican individuals with accounts in the United States.77 The Cayman Islands signed a Model I (B) IGA, meaning FFIs in the Cayman Islands are required to report the tax authority in the Cayman Islands, who will then relay the tax information to the IRS.78 It is apparent that the Caribbean is slowly succumbing to the pressure, as illustrated by one of its most powerful financial services provider, the Cayman Islands, entering into an IGA before FACTA became effective; because of this, it can be inferred that either many Caribbean nations do not have the resources or power to either comply with FATCA without entering an agreement of some sort or afford the colossal costs enforced for non-compliance or the aforementioned benefits in entering an IGA exceed the privacy rights and economic sovereignty.

A. Incorporation of Foreign Laws through Agreements and Treaties

When Caribbean nations enter into an international treaty with a foreign country or entity, it implements the pertinent law(s) and may ensure that it is enforceable under local law to harmonize the international law within the legal framework of domestic law.79 Some treaties and agreements require this integration in order to be enforceable.80 The process by which a statue is enacted to do so is called “incorporation.”81 Despite incorporation existing in the Caribbean, there are challenges to the incorporation and acceptance of international law that conflicts, undermines, or impedes the functioning of existing law. A prime example of this and the concerns expressed by Caribbean financial ministers in 2012 is illustrated in Chile

76. Robert Wood, Caymans & Costa Rica Sign U.S. Tax Evasion Pact: FATCA Gets Even Fatter, Forbes, Nov. 29, 2013, http://www.forbes.com/sites/robertwood/2013/11/29/caymans-costa-rica-sign-u-s-tax-evasion-pact-fatca-gets-even-fatter/.

77. Id.78. Id.79. Rose-Marie Belle Antoine, Commonwealth Caribbean: Law and Legal

Systems 232 ( 2nd ed. 2008)80. Id.81. Id.

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recently contesting that they have to enter into an IGA.82 Chile refuses to do so based on the premise that not only does FATCA and an IGA violate their local privacy laws, but in order for them to alter the domestic law to adhere to FATCA, it would have to have Congress approve and authorize it.83 Additionally, neither regulation nor a tax treaty with another country can authorize such a change in domestic law regarding privacy rights.84

Professor Grinberg asserted that in arguing a violation of privacy laws, it must be unsuccessfully argued that: “(1) that bank secrecy vis-à-vis tax administrations is part and parcel of a basic right to privacy, and that the information reporting/information availability model for tax enforcement in almost every major developed economy is thus unjust; (2) that individuals who have the wherewithal and sophistication to bank internationally should have access to elective bank secrecy, or (3) that bank secrecy needs to be preserved vis-à-vis authoritarian and corrupt regimes.”85 I do not contest her rationale for defeating such arguments; however, the notion that a nation has existing law relating to the repeal, incorporation, or conflict of international law with domestic law is a valid concern that arises from conflict with local privacy law or any law for that matter. Although no legal action has commenced and Chile is not a Caribbean nation, its situation illustrates the dichotomy between the processes of amending or creating domestic law that is in violation

82. Dan Macy, FATCA Backlash from Abroad over Privacy Concerns, Competitiveness, Thompson News Service, June 28, 2013, http://www.thompson.com/public/newsbrief.jsp?id=3998.

83. Id.84. Id.85. Grinberg, supra note 34, at fn. 103. Grinberg explained why each argument

would fail in stating:

the first of these arguments rejects long-standing legal and policy notions in every major developed economy that tax administration access to resident taxpayer financial information is consistent with a taxpayer’s reasonable expectations of privacy; the second argument is entirely untenable; there is no credible basis for arguing that having sufficient wealth or sophistication to access offshore banking should give an individual the right to bank secrecy; The third argument conflates the idea that the benefits of a multilateral information exchange system should not be extended to all governments with the proposition that any individual, regardless of whether they reside in a just or unjust, democratic or undemocratic, or morally legitimate or illegitimate state, should have the option to individually elect to securely evade their taxes.

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of existing privacy rights, and the dilemma created when a treaty is not incorporated. If it were a Caribbean nation, my preventive approach within my solution in this context would be to utilize the IGA Model II despite contention against incorporating international law because if domestic law requires proper amending or repealing of vested privacy rights, you can insulate yourself with IGA from penalties while contesting the issue.

B. Statistical Data Reflects Effective Regulation Approaches in Caribbean

As illustrated by the effectiveness of regulatory schemes study conducted by Moriss and Henson, there are misconceptions as to the regulatory landscape and enforcement within the Caribbean. Pertinent conclusions derived from statistical findings reflected in the study included: (1) a key factor in OFCs’ ability to provide effective competition is their ability to regulate their financial industries by using methods that differ from those used by onshore jurisdictions. . . . This mere difference in approach does not justify a conclusion that the difference reflects laxness toward criminal activity, money laundering . . . or tax evasion;86 (2) high level Caribbean financial sector regulators were vastly more impressive from an experience and sophistication standpoint compared to the highly populated financial sector states such as Delaware;87 and (3) although every jurisdiction is free to set their tax policy and serve their own objectives and agenda, this “freedom is limited by the reciprocal freedom of other jurisdictions to set their own policies as well.”88

Moriss and Henson determined that the appropriate measure to address the question of whether a government can participate in the global market, but also use indirect means to serve their own tax policy objectives, “is through the normal interactions among jurisdictions in international fora where all are represented, or through bilateral negotiations in the context of settled international law principles, not by pretending the issue is something other than what it is.”89 Given the

86. Morriss & Henson, supra note 68, at 427.87. Id. at 448.88. Id. at 457.89. Id.

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empirical data is not effectively refuted, offshore jurisdictions, particularly those within the Caribbean, have support for maintaining their existing regulatory practices regarding tax evasion. Additionally, the notion of utilizing behavioral aspects of compliance in determining an effective policy is a strong argument in contesting the Because the proposed solution encompasses embracing the concept of entering an IGA, with or without existing tax information exchange agreements, this bilateral IGA agreement provides the platform for benefitting from likely avoiding violating local privacy concerns for the time being, while conducting business in a efficient business manner considering studies have shown that multinational companies incur the largest losses in business disruption based on non-compliance, whereas the least expensive consequences were from penalties, sanctions and fines.90

C. Critics of Caribbean Nations Utilizing Intergovernmental Agreements

Critics of a solution that is passive-aggressive in adhering to pervasive international laws relating to financial penalties for non-compliance entailing the distribution of private financial information may contend that if FATCA were applied too broadly or severely, investors may leave the market out of fear that their privacy will be violated and that financial institutions may have to withhold up to 30% of their assets if they are found to be recalcitrant accounts under the law, therefore, why invest my money into a country or FFI that is at risk of an excessive penalty. As noted throughout this paper, there is an established trend towards using FFIs as cross-border intermediaries for tax evasion purposes and statistics illustrate that Caribbean nations are not at more risk for financial sanctioning. Moreover, by cooperating with FATCA, emerging markets may be positioning themselves to benefit more from bilateral and multilateral free trade agreements that may result in benefits including higher performing markets and more effective and reliable channels for identifying tax evasion. Another very identifiable concern a critic may argue is the concept of reciprocity with the U.S. and implications arising from this dynamic.

90. See supra Section II for Comprehensive Study on the Cost of Compliance of Multinational Companies enaged in privacy and data retention.

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A follow up to the implications of FATCA, my solution resulting in insulation of privacy rights while retaining the ability contest violations of domestic law, would be the overall benefit derived from entering an IGA, avoiding non-compliance costs and violation of privacy rights when Caribbean nations would rather unify to contest the incorporation of laws that violate domestic privacy issues. In furtherance, how would the violation of privacy rights impede further tax evasion legislation that imposes coercion tactics through strict penalization for non-compliance.

IV. CONCLUSION

The growing concept of financial institutions operating as active cross-border “tax intermediaries” is one of the underlying principles for more aggressive and multinational legislation; however, there is the potential for substantial ramifications and externalities, both in the legal and economic arenas, that may derive from FATCA and subsequent legislation.91 Pursuant to this determination that FFIs are being utilized and called upon to implement more effective automated tax information exchanges with domestic and international tax authorities, the issue for underdeveloped Caribbean nations is finding a method to operate in the most cost effective manner without violating domestic laws and existing treaties. This can also be beneficial towards maintaining some form of economic sovereignty. The most optimal method in doing so is identifying the extent that existing treaties and/or agreements provide guidance as to how FFIs can operate in an automated information exchange because of the colossal implementation and operational information technology costs that are associated with complex compliance reporting of private data. Once potential problems are identified, the most logical step is to determine how to enter an IGA that promotes economic stability, privacy considerations, compliance cost avoidance, and mitigating any business disruptions that can potentially exceed any penalty or fine under FATCA. The Caribbean nations have demonstrated a more sophisticated and effective cross-jurisdictional compliance platform than prevailing perspective of their financial services regulatory scheme; however,

91. Grinberg, supra note 34; see also supra Sections II and III.

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the implementation of FATCA is the most pervasive and imposing legislative act yet for tax evasion and the ability to utilize the IGA system for preventive measures in all facets of compliance is most practical in considering this emerging and early phase of FATCA’s unilateral rather than bilateral approach.