There is universal recognition that income-tax evasion starves governments of much-needed revenue and undermines the perceived fairness of tax systems. Evidence of tax evasion has spurred support for a common reporting standard to catch evaders no matter where they reside. The G20 asked the Organization for Economic Cooperation and Development (OECD) to develop a model; the Common Reporting Standard (CRS) would be automatic and could be rolled out globally. Establishing a global regime to exchange account information facilitates tax transparency, which, in turn, will lead to greater compliance with the income-tax laws across jurisdictions.
To that end, the CRS builds on the Model 1 Intergovernmental Agreement (IGA) under Foreign Account Tax Compliance Act (Fatca) to expand the Automatic Exchange of Information (AEOI) to include account information for all nonresident account holders, rather than just Americans.
Overcoming the challenges of AEOI
The scope of AEOI implementation cannot be overstated. For financial institutions that have not yet started to plan for CRS implementation, we recommend that they undertake an assessment to understand how the CRS will impact them. And, as the circumstances are different for each organization, assessing individual institutional needs is critical to determine the amount of effort necessary to become compliant with the CRS. Several issues can affect the tax administrations and financial institutions, as they undertake this Herculean task that will be a draw on resources. Understanding and working together to solve issues can help smooth implementation and create long-term stability for compliance. Forward-looking institutions have also seized on the opportunity the preparation for CRS presents in enhancing business models, improving customer service, streamlining operations and informing product development.
In developing their assessment, financial institutions need to watch out for:
The immense scale—The CRS eclipses Fatca and the IGAs in its scale. Under CRS, the Fatca year-end account balance threshold of $50,000 for collecting information from new individual account holders does not exist, nor does the CRS have exceptions for local banks and smaller institutions that were available in Fatca. Add to that the search for all nonresident account holders, rather than just Americans, and you can begin to get the sense of the multiple in terms of effort and annual reporting that will need to happen under the CRS.
The costs of compliance
With the short implementation time frame, financial institutions face the need for a systemic solution. In the UK KPMG estimates compliance will cost approximately $125 million for global banks to effectively implement the systemic technology solutions and the complex and costly customer outreach required under the CRS. Implementation and maintenance could be made even more costly by the creation of a third wave of CRS effective dates starting in 2018 for some countries in Asia, as well as the uncertainty regarding how governments will be enforcing compliance and how quickly they will ask for additional information after reporting.
Lack of legal certainty
There is a natural tension between transparency and data privacy. The information collection, storage and reporting required under the CRS would, in several jurisdictions, run afoul of data-privacy rules. Financial institutions in many of the CRS jurisdictions cannot move forward with implementing the CRS until those governments give them the legal authority to do so. Time is of the essence here, especially in CRS early adopter countries.
Governments and financial institutions should be working to enable:
A wider approach
Because people can have more than one tax residence, to only allow the collection of information from customers tax resident in a jurisdiction with which the domestic government exchanges would result in financial institutions having to remediate their entire customer population each time a new country or countries signed on to exchange with the domestic tax authority. Not only would the time and expense of this approach be prohibitive, but the quality of information with each successive remediation would suffer significantly. Governments and financial institutions should work together to ensure the wider approach to collecting all tax residencies from its customers at one time is possible. Ireland and the UK have adopted this approach; the hope is that other governments will be able to follow.
A smooth landing
Due to the scale and lack of legal certainty, financial institutions of all sectors and sizes are finding it close to impossible to embed automated solutions that they will need to sustainably provide quality information to their domestic tax authorities. As the penalties for noncompliance range from small financial fines to jail time, financial institutions are understandably worried that they cannot comply with the degree of accuracy that the rules require. It is critical that governments allow their tax authorities to abate penalties where reasonable efforts to comply have been undertaken, ideally for some transitional period that is clear to both financial institutions and tax authorities.
Higher customer response rates
The initial burden falls on financial institutions to identify the non-resident customers. Collecting this information will be challenging, as response rates are low, with some response rates in the 15 percent to 20 percent range. Governments are, therefore, considering, and in some cases enacting, penalties or fines for noncompliant customers. It is unclear how such customer penalties would be enforced, but one could see situations where the customer and the financial institution would be placed in an adversarial relationship regarding the information collection/accuracy failure.
The silver lining?
Instead of taking the view that AEOI is a cost without a benefit, some firms are taking advantage of the improved data quality and connection of account information to build analytics capabilities to deliver more targeted services and products to their clients. In some instances, they are combining this with their antimoney- laundering (AML) data to reap returns far beyond what they are spending on AEOI. Some are using machine learning programs to drive down the burden of remediation. Still, other financial institutions are reusing some of the hard work done for Fatca to meet other regulatory requirements, like country by country reporting. Like any large change program, AEOI should have management considering business model improvements that can be driven by or added onto the required implementation.
What should organizations be doing now?
FOR financial institutions in early adopter jurisdictions, a short-term tactical solution is required for onboarding from 1 January 2016, and to capture year-end information on their preexisting customers. Thereafter, they should take a measured approach to designing and implementing a systemic solution that can be flexible for future changes. In preparation, organizations should also be considering:
What can we reuse from Fatca?
How much greater is the scale of the CRS in our organization?
What are the level of resources we will need to implement and maintain compliant processes, systems and controls? How do we organize them?
What training is required for frontline staff working with customers who have questions? What customer communications should you develop and issue?
Is your existing system architecture up to the task?
How will you ensure accurate and timely reporting with a minimum of government requests for additional information?
Almost every function in a financial institution is impacted by the CRS: operations, compliance, internal audit, legal, sales and service, financial crime, tax and technology. Critical to running a CRS program and a smooth transition to business as usual is a well-thought out communication plan that brings together business units, functions and geographies that would not usually be connected.
The rise of ‘improvements’
Notwithstanding the current compliance challenges of implementing the CRS, governments are thinking about how they can get better quality information, both from the CRS and domestically, and increase their ability to match income to beneficial owners:
Domestic reporting: Some governments are thinking beyond AEOI to improve tax-resident information. Brazil, for example, collects less information about its nationals than is required by CRS, so it has passed laws to implement a new domestic reporting regime.
Tax ID Number (TIN) validation/matching: Several governments are considering extending the CRS requirements to validate the format of taxpayer ID numbers, and possibly, eventually, to something akin to the US TIN matching which requires matching names with ID numbers on an IRS database.
Additional schema fields: The European Union (EU) is planning to introduce additional CRS reporting fields with information that will help them match the reporting to the beneficial owner. These could be adopted by other CRS countries, as well.
Customer notification:
Some governments are considering requiring financial institutions not only to notify customers that they may be or are being reported, but also to provide customers with a statement of what was reported, so they would be sure to include it when submitting their tax returns. It is possible that under certain countries’ data privacy rules, those customer statements may need to be sent prior to filing to give customers the chance to correct any errors in their CRS classification.
Penalties on customers: A few governments are considering penalties on customers, not only for providing knowingly false information, but also for providing inaccurate or incomplete data. Spain, for example, recently enacted a penalty of $400 on customers providing false, inaccurate or incomplete CRS information to a financial institution.
The CRS and all these possible “improvements” will require some higher level of advanced data infrastructure, which is likely to be a challenge for all governments and financial institutions around the world.
Conclusion
For larger institutions, management should be prepared for a sustained effort to comply with these evolving rules as governments and financial institutions learn from implementation challenges over the years. For smaller firms, keeping up with the rules and understanding how they impact your business is key.
Compliance is anticipated to be complex and expensive, especially with the significant customer outreach efforts required and the expected customer annoyance that ensues. There are several technology tools in the market that can make compliance more effective and efficient, but they take time to deploy and integrate, so the time to start planning is now.
The article was taken from KPMG’s publication entitled Frontiers in Finance: For decision-makers in financial services written by Natalie Semmes of KPMG in the UK and Jennifer Sponzilli of KPMG in the US.
© 2016 R.G. Manabat & Co., a Philippine partnership and a member-firm of the KPMG network of independent firms affiliated with KPMG International Cooperative (KPMG International), a Swiss entity. All rights reserved.
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