Some Perspective on FATCA

I remember vividly the furor over the French rock star Johnny Hallyday's announcement that he was seeking Belgian citizenship.   While he insisted that he was sincere, prior public comments that he had made concerning the French tax system led most of the people I talked to about it to conclude that he was simply doing this to evade taxes.  I don't know the veracity of that since I try not to get into the habit of doing other people's thinking for them but I did note the reaction of my French friends:  anger, disgust, betrayal.

What one person calls "tax evasion" is another person's prudent "international tax planning."  Alternative citizenships, off-shore banking in discreet places (like Delaware, USA, for example) or literally picking up and moving one's self, family and assets to another locale are all strategies the wealthy use to protect and maximize their patrimoine.

FATCA (Foreign Account Tax Compliance Act) is an American law that aims to tighten the net on such people by requiring foreign entities to report on the accounts of American citizens, green card holders and immigrants.  It will go into effect in January of 2013.  The intent of the law is to catch (as Just Me put it) "Whales:" those millionaires/billionaires who sock their money away in places like Switzerland or the Cayman Islands or who pull out of their home countries to bestow their munificent presence and lavish good things (like jobs) on a grateful receiving state.  Of course a number of "Minnows" have also been caught in the net but that is another story.

FATCA may be an American law but it is not exclusively an American idea. Almost all countries watching that outbound capital flow have been trying, with the enthusiastic backing of their homeland citizens, to at least get something out of them but enforcement has been an on-going problem.  Costs money.  Takes effort. Means negotiating with those "damned foreigners."  But looking at the budget deficits of nation-states these days, it's not surprising that they are starting to be highly motivated to cooperate with other countries even if they have to relinquish some sovereignty.   Balancing the books is a high priority because the national engines of the U.S., France and other places are running on fumes (if not staring down a needle that is now firmly pointed at "Empty.")

In this grand endeavor (or desperate response to oceans of red ink) there are two strategies, two models, that are being proposed to "fish" for revenue outside of national borders:  anonymous withholding and information exchange.  Both are based on the idea that financial institutions like banks or investment companies can be used to track and collect such taxes across borders.  Not such a far-fetched idea when you consider that most banks already do this domestically.

Anonymous withholding is an arrangement between countries where country A's banks collect the foreign tax and sends the money off to country B without disclosing any account information.  No names, addresses, accounts numbers and the like are passed along.  Switzerland and Germany signed such an agreement in 2011 and you can read more about the particulars here.

Information exchange is more direct but dicey.  This involve entities sharing information across borders:  things like names, account numbers, balances.  This method can run afoul of national privacy laws but as the recent 6-nation FATCA agreement between the U.S. and France, Germany, Spain, Italy and the UK demonstrates, like-minded people can find ways around those pesky privacy laws if they just put their minds to it.

Asking which method is superior is an interesting intellectual exercise.  Asking what method will win out - now that, my friends, is the question.  Cited in this article at Isaac Brock called A Global #FATCA in the future,  one analyst at the Financial News argued that FATCA will probably become the template for a global information exchange system and, by extension, a global tax system.  This is not because the idea is original but rather because right now the U.S. (perhaps not so much in the future) still has the power to shape the direction in which everybody wanted to go in anyway.

For a second opinion along the same lines, and an every broader perspective on FATCA, I found this excellent draft article by Itai Grinber at the Georgetown University Law Center entitled Beyond FATCA: An Evolutionary Moment for the International Tax System.  In his abstract he says:

Four incongruent initiatives of the European Union, the OECD, Switzerland, and the United States together represent an emerging international regime in which financial institutions act to facilitate countries’ ability to tax their residents’ offshore accounts. The growing consensus that financial institutions should act as “tax intermediaries” cross-border represents a remarkable shift in international norms that has yet to be recognized in the literature. What remains is a contest as to how financial institutions should serve as tax intermediaries cross-border, and for which countries.

The article is fascinating.  Not only does he go into great detail about the merits of the two different methods described above, he also has an analysis of the impact of this proposed global financial information-sharing system on different regions.  According to Grinber's sources only 2% of North American wealth and less than 8% of European wealth is held off-shore.  That is nothing compared to Latin American and Middle Eastern/Africa offshore wealth (25% and 33% respectively).  He also points out that the areas where wealth is growing the fastest are not regions like North America or Europe, but places like Asia and South America.  In Argentina alone a whopping 47% of their national wealth is no longer managed within its borders.  It could be argued that the main beneficiaries of information exchange will be emerging countries.  As for the losers, they just might be places in developed countries like Florida, USA which has an estimated 14 billion USD in local banks from Latin America and the Caribbean.

This is going to be interesting to watch.  Once the information starts flowing I predict countries will be falling over themselves trying to get a piece of the pie that anyone with the most tenuous connection to their nation has parked or earned elsewhere:  French start-ups in California, Chinese millionaires in Canada, American owners of trust funds in the UK, African heads of state with investments in France, South American businessmen with savings in the southern U.S. and, of course, all those folks who had the temerity to think they could hold two passports, marry a foreign national or live outside their home country and not pay for the privilege.

Looking at the context it seems clear that FATCA is not a new idea that sprung out of nowhere - it's just one proposition (albeit one of the most ambitious) among others that are all designed to do the same thing:  force disclosure, trap tax evaders and expand tax bases.  FATCA implementation is already moving in the direction of compromise.  Grinber points out that, in spite of the unilateral tone of the original FATCA law, the recent agreement the US entered into with five EU countries brings FATCA into harmony with the EU Savings Tax Directive (EUSD).

So, folks, my reluctant conclusion is that FATCA (or something like it) is here to stay.  Which means that those of us who are negatively impacted by its implementation might do better to direct our efforts away from "Repeal FATCA" and toward "Mitigation for Minnows."