Because when it is up to the OECD, the ability for governments to retrieve formally confidential financial information will be drastically expanded. In May, 47 countries signed up to implement a mechanism for automatic exchange of tax information between participating countries. The common standard for information exchange is laid out in a new G20/OECD report with the obvious name: Standard for Automatic Exchange of Financial Account Information [1].

The aim?

The aim is for treaty countries to collect data on foreign residents, and send it in bulk to their respective tax authorities.

Where previously a tax authority had to file an official request for exchange of information and needed a reasonable case in order to do so, the next goal is to have all this information provided automatically. Or as the OECD puts it:

“The automatic exchange of information is understood to involve the systematic and periodic transmission of “bulk” taxpayer information by the source country to the residence country concerning various categories of income (e.g. dividends, interest, royalties, salaries, pensions, etc.)” [2]
 

So How Is Automatic Exchange Of Information Envisioned To Work?

Financial institutions or (FI’s) like custodial institutions, depository institutions, investment entities and specified insurance companies will need to identify “Reportable Accounts”. [3]

Now “the term reportable account means accounts held by individuals and entities (which includes trusts and foundations)”, and includes a “requirement to look though passive entities to report on the relevant controlling persons”. [4]

Next is for the FI to determine where a Person (Individual OR Entity) [5] is resident for tax purposes.

For new Individual accounts the account holder has to present self certification as part of the KYC procedure. If the proof of residence is based on a reportable jurisdiction the FI is required to also collect the individual’s Tax Identification Number (TIN) and date of birth. (This makes it easier to match data in the database).

When an Entity wants to open a new account, it needs to present a valid proof of residence. If such proof is not provided the FI can rely on the address of the principal office of the entity to determine if it is a Reportable Account.
And once this exchange of information framework is in place, there will also be looked at accounts currently in existence.

Once it is determined that a Reportable Person is resident for tax purposes the FI will have to report the data on the Reportable Person. The aim is to do this annually.

The basic process of automatic exchange of information can be divided into seven steps [6]:

1. Payer or paying agent collects information from the taxpayer and/or generates information itself
2. Payer or paying agent reports information to the tax authorities.
3. Tax authorities consolidate information by country of residence.
4. Information is encrypted and bundles are sent to residence country tax authorities.
5. Information is received and decrypted.
6. Residence country feeds relevant information into an automatic or manual matching process.
7. Residence country analyses the results and takes compliance action as appropriate.

Once the information is received by the jurisdiction of residence it is matched with the existing data in the database.
 

Will Collected Date Be Kept Confidential?

The OECD relies on the confidentiality provisions in tax treaties, Tax Information Exchange Agreements (TIEA) and multilateral instruments on mutual administrative assistance to determine how the data exactly can be used.

The questions arising are: how data is going to be stored, who has access to it and what exactly it will be used for. Yes, the data is going to be encrypted when it is send. But what happens with it before and after that?

Since the OECD only provides a framework, their report “Keeping It Safe” [7] only provides vague terms like: information exchanged “may only be used for certain specified purposes” and “may only be disclosed to certain specified persons” [8].

In short: financial data will be stored in a database of which it is yet unsure who can access it.
 
So what is exactly the legal framework based on which the automatic exchange of information will be based?
First of all bi-lateral treaties will have to be concluded and as in tax treaties the terms can differ.

In order for two jurisdictions to implement automatic exchange of information they will need to sign a Competent Authority Agreement (CAA) [9]. This agreement can easily be executed within one of these three already existing legal frameworks [10]:

1. The exchange of information provision of a double taxation convention based on Article 26 of the OECD or UN Model Convention.
2. Article 6 of the Convention on Mutual Administrative Assistance in Tax Matters.
3. for EU member countries, domestic laws implementing EU directives which provide for automatic exchange (like the European Savings Directive).

What is left is for the countries to have the common Reporting and Due Diligence Standard (CRS) translated into domestic law [9].
 

Conclusion

The OECD has provided an extensive legal framework that is to be the foundation to provide extensive tax transparency. The details will have to be agreed in bi-lateral treaties between the countries. The countries that signed up aim to have the treaties in place in time in order to start exchanging information as of 2017. They hope of course the whole world will sign up.

As a result there will be a database filled with private transaction details that can be accessed by governments at their discretion. How the access to this database or the database itself is going to kept secure is not clear yet. But there have been enough security breaches in recent history that this is an accident waiting to happen.

Will the OECD succeed in its quest to create a global network of automatic exchange of information? As long as there is not a world government in place, it looks like a reasonable assumption that there will always be a few independent countries that are not willing to tow the line and to impose a burden on their businesses to act as unpaid tax collectors for the bankrupt governments in the West.

That said, more than ever tax compliant structuring of international business operations and asset holding is important as is full disclosure.

 
UPDATE: more and updated information on the implications of Automatic Exchange Of Financial Information In Practice.

 
[1] Standard for Automatic Exchange of Financial Account Information – Common Reporting Standards, OECD, February 2014,
[3] page 10, [4] page 9, [5] page 13, [9] page 3.
Automatic Exchange of Information – what it is, how it works, benefits, what remains to be done, OECD, 23 July 2012,
[2] page 7, [6] page 9, [10] page 13.
[7] Keeping it Safe, Joint OECD/Global Forum Guide On the Protection Of Confidentiality Of Information Exchanged For Tax Purposes, OECD, 23 July 2012,
[8] page 11
 
 
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