In 2009, U.S. prosecutors achieved a staggering victory against UBS, forcing the largest Swiss bank to settle criminal and civil charges that it aided and abetted tax fraud by assisting Americans to hide funds from U.S. taxation. UBS was also compelled to disclose to the IRS the identities of thousands of Americans with formerly “secret” Swiss accounts. This was a stunning breach of hitherto ironclad Swiss banking secrecy. Yet, since then, the IRS has criminally prosecuted fewer than two dozen Americans for hiding offshore accounts to escape taxation.
Contrary to the perception of “calm” since the UBS settlement, recent events make clear that the IRS is still very active in ferreting out undisclosed offshore assets. The IRS is investigating additional banks and other jurisdictions, and prosecuting more Americans with undeclared foreign funds. The IRS’ continuing efforts are buttressed by further erosions of banking secrecy by Tax Information Exchange agreements between the U.S. and former “tax haven” jurisdictions, and by disclosures of offshore bank clients made by disgruntled bank employees. In addition, the new Foreign Account Tax Compliance Act (FATCA) creates new reporting requirements for U.S. taxpayers and foreign financial institutions, which will provide more information to IRS investigators.
However, notwithstanding this continuing offensive against non-compliant offshore banking, the IRS has offered a new opportunity for Americans to bring their foreign accounts into tax compliance via the 2011 Offshore Voluntary Disclosure Initiative.
Additional IRS Targets: HSBC, Deutsche Bank, Swiss Kantonal Banks . . . and Others
We’ve known for months that HSBC is the target of a criminal tax fraud investigation by the U.S. Department of Justice (DOJ), for facilitating non-compliant offshore accounts. In the summer of 2010, DOJ sent letters to HSBC foreign account holders, advising them that they are the subjects of criminal investigations relating to unreported accounts in India and Singapore. DOJ has prosecuted a Virginia surgeon and two Miami Beach real estate developers for undeclared foreign accounts with HSBC.
In early February 2011, these real estate developers, father Mauricio Cohen Assor and his son Leon Cohen-Levy, were each sentenced to ten years imprisonment for utilizing undeclared foreign HSBC accounts and foreign entities such as Panama and Bahamas corporations in order to avoid U.S. taxation. Whereas most of the earlier offshore tax fraud prosecutions resulted in plea bargains for more lenient punishment, such as probation and home detention, the Cohens’ ten year sentences resulted from the first court trial of the recent offshore account prosecutions. It should be noted that use of intermediary entities, such as foreign corporations, trusts or foundations, in order to obscure the true beneficial ownership of the underlying foreign bank account, seems to draw the ire of the IRS even more than a foreign account held personally, although both types of non-compliant foreign accounts could give rise to criminal tax fraud charges.
There are also reports that HSBC is implicated in the recent criminal prosecution of Vaibhav Dahake, an Indian-American with undeclared accounts in India and the British Virgin Islands. While the criminal indictment against Mr. Dahake does not mention HSBC by name, it alleges that an “unidentified bank” operated a division called NRI Services which specifically marketed foreign banking services to Americans of Indian decent. According to the allegations in the indictment, the bank advised that accounts be opened in India because of higher interest rates, no U.S. tax forms or social security numbers were required, and the accounts would not be taxed in India. Interestingly, the indictment details transactions with a total value of less than $200,000. This suggests that the government is sending a message that all noncompliant foreign accounts, large and small alike, are vulnerable to investigation and prosecution.
While the Cohen and Dahake prosecutions involve HSBC accounts, other banks are also targets. In December 2010, Deutsche Bank paid $553 million to settle tax fraud charges brought by the U.S. government. The charges related to tax shelters set up from 1996 through 2002 that were ultimately determined by the courts to be shams. Accounting firm KPMG was previously prosecuted for promoting these tax shelters. While sham tax shelters differ from unreported offshore bank accounts, the government’s efforts against Deutsche Bank indicate the government’s growing initiative against banks that facilitate tax fraud.
In addition, there have been reports that some clients of Swiss banks, when faced with the prospect of U.S. prosecution, disclosed to the IRS a portion of their funds at UBS, but moved other undisclosed funds to smaller banks that were supposedly “off the radar”. The recent criminal prosecution of UBS banker Renzo Gadola, accused of advising and assisting Americans to evade taxes, now places those smaller Kantonal (regional) Swiss banks firmly “on the radar”. The allegations are that Mr. Gadola utilized a small bank, Basler Kantonalbank, rather than UBS, in order to avoid detection. We can now add Basler Kantonalbank (and presumably other regional Swiss banks like Zurich Kantonalbank) to the list of banks being investigated. Banks large and small, and accounts of all sizes are vulnerable. Taxpayers should not believe that an account under a certain size is “safe” from discovery, nor is any bank, regardless of its size, “off the radar”.
It should be noted that that the Kantonal banks do not have a U.S. presence. It was the substantial U.S. presence of UBS, and now HSBC, that made such banks vulnerable to U.S. prosecution. With U.S. banking licenses, multiple branches within the U.S., thousands of employees in the U.S., and billions of dollars in assets in the U.S., these banks are clearly within the jurisdiction of a U.S. court and susceptible to an adverse court judgment or order. UBS had to settle the tax fraud charges against it because the alternatives — seizure of its U.S. assets and revocation of its lucrative U.S. banking license – – would have been catastrophic.
While the smaller Kantonal banks do not have a U.S. presence, they are still subject to Swiss law, which now requires cooperation with the IRS. Following generations of Swiss banking secrecy, in 2010 Switzerland’s Parliament changed long standing Swiss banking secrecy laws to allow for cooperation and exchange of information with the IRS in both criminal and civil tax investigations. In 2009, Switzerland and the U.S. signed a new Tax Information Exchange Agreement (TIA), which further eroded Swiss banking secrecy. The new agreement allows the U.S. greater access to Swiss banking records of American taxpayers, including records at the smaller Kantonal banks.
Whistle Blowers, Snitches and Thieves
Bank employees handing over supposed “secret” banking data is not new. Back in 1999, John Mathewson, the former owner of Guardian Bank and Trust, a defunct Cayman Islands Bank, was charged in the U.S. with money laundering. When Mr. Mathewson was arrested, he gave Federal investigators bank records that contained information about American depositors at the bank who had evaded U.S. tax obligations. Mathewson gave up the banking data in return for leniency in his criminal sentencing.
In 2008, a renegade employee of LGT Bank in Liechtenstein stole data about client accounts and sold the data to the German intelligence service in return for millions of Euros. With that data, the German government prosecuted many prominent Germans for tax fraud. The German government also shared the data with other governments around the world. In 2009, an employee of HSBC provided bank account data to the French government. In 2010, Germany again purchased banking data, stolen by an employee of a Swiss bank. The DOJ was able to successfully prosecute UBS, and then UBS clients, because of information that had been disclosed by UBS banker Bradley Birkenfeld to the U.S. government.
Further Erosion of Banking Secrecy: WikiLeaks and Bank Julius Baer
The next bank appears to be Julius Baer, and this disclosure will apparently be made via WikiLeaks. The banking data to be revealed comes, like the Guardian, LGT, UBS and HSBC cases mentioned above, from internal bank sources; specifically, a disgruntled former employee of Julius Baer.
Julius Baer is already “on the radar” because many Americans accepted into the IRS Voluntary Disclosure Program have disclosed their Julius Baer accounts. For Americans who did not disclose their Julius Baer accounts, immediate disclosure is strongly advised. Once the IRS gets the name of an account holder from WikiLeaks or any other source (audit, whistleblower, investigation or otherwise) a voluntary disclosure is too late and criminal prosecution is likely.
Targets Beyond Switzerland
There are reports that IRS and DOJ investigators are also focusing on banks in Asia and the Middle East. Following the erosion of Swiss banking secrecy, large amounts of funds were reported to have been moved from Switzerland to Singapore. However, Singapore has taken steps to be removed from the OECD (Organization for Economic Co-Operation and Development) “grey list” of foreign tax havens and has discussed entering into a double-taxation treaty with the U.S. and other countries. In order to preserve its status as a major financial hub, Singapore has taken steps toward greater financial transparency. In addition, as the HSBC investigation discussed above illustrates, Singapore is very much under the watch of the IRS.
Following its success against UBS, the IRS has expanded beyond undeclared Swiss accounts to undeclared funds in other foreign jurisdictions. The IRS has opened or will soon open field offices in Panama, Australia and China. Tax Information Exchange Agreements have been signed by all the former “tax havens”, including Liechtenstein and Monaco. While the IRS is intensifying its presence and its available tools around the world, it appears that it is concentrating on India and Israel more particularly.
New IRS Target: India
As noted above, HSBC is reported to have specifically targeted Indian-American clients and offered offshore banking services in India and Singapore. The HSBC-India connection represents a particular tangent of offshore banking that will surely warrant scrutiny. Whereas UBS advised American clients that their accounts may be subject to exposure to the IRS, and therefore suggested pre-emptive disclosure, Americans with accounts at HSBC in India received letters from DOJ in 2010, making it clear that DOJ already had their names. In such a case, pre-emptive disclosure is impossible; the IRS will reject a voluntary disclosure if the taxpayer is already under investigation or if the IRS already has the taxpayer’s name (regardless of the source, e.g., audit, whistle blower, etc.).
On this point, it appears that the stolen LGT bank data purchased by the German government (discussed above) was also shared with the government of India. At home, the Indian authorities have launched prosecutions of its citizens who had undeclared accounts outside of India. In 2010, India signed a tax information exchange treaty with Switzerland, and India is in the process of negotiating tax treaties with 65 countries. While there is currently no tax treaty between India and Liechtenstein, Liechtenstein has shown its new transparency by promulgating multiple tax treaties with other countries, including the U.S., and a future treaty with India is likely. But even in the absence of such a treaty, India already has names, thanks to the LGT affair. The LGT information is almost certainly in the possession of the IRS as well.
Another IRS Target: Israel
Some Americans feel mistakenly comfortable not disclosing their Israeli bank accounts to the IRS because of Israel’s close ties with the U.S. They mistakenly believe the IRS is reluctant to investigate Israeli banks. However, owners of accounts in Israel may soon feel the brunt of the next wave of IRS crackdown into offshore banking.
Israel is in a unique situation vis-a-vis the IRS because of ties between Israel and Jews around the world, including Jews who have inherited “Holocaust accounts”. One example of a “Holocaust account” is an account established in Switzerland by European Jews prior to the Holocaust, in an attempt to safeguard their assets from the rise of Nazi Germany. Another example is an account established after World War II by a Holocaust survivor in order to receive German reparation payments. In either case, tax avoidance was not the motivation behind the establishment of the accounts. (The same can be said of Greeks fleeing persecution in Turkey, who put their funds in Switzerland for reasons of safety and stability, or Egyptian Jews fleeing the military coup and dictatorship of Gamal Nasser, or various other refugees who put their money is Swiss banks to preserve and protect their assets in the face of persecution and upheaval.) Now, many decades later, their descendants who have inherited these accounts are in a position of unintended tax non-compliance because they were not aware of their obligation to annually report these accounts to the Treasury Department on Form TD 90-22.1, the Report of Foreign Bank and Financial Accounts, or “FBAR”, even if no tax was due.
Whereas Swiss bank secrecy laws presented a formidable challenge to the IRS prior to the UBS case, pursuing undisclosed accounts in Israel will not require nearly as much effort. The tax treaty between the U.S. and Israel enables the two countries to “exchange such information as is pertinent to . . . fraud or fiscal evasion in relation to the taxes which are the subject of this Convention.” Cooperation between the U.S. and Israel is routine in many matters, tax and otherwise. According to the Israeli Ministry of Justice, “the [Israeli Government] has cooperated with requests from U.S. law enforcement in matters of financial crime . . . .” Although this statement refers to Israel’s fight against money laundering, it is not a stretch to conclude that the Ministry would cooperate with requests from the IRS in matters specifically pertaining to undisclosed bank accounts.
In addition, the U.S. and Israel currently grant legal assistance to each other in criminal matters via a Mutual Legal Assistance Treaty (MLAT). The MLAT states that the U.S. and Israel “express their understanding that this treaty applies to . . . criminal tax offenses . . . .” It is particularly noteworthy from an offshore banking perspective that for “serious [fiscal] offenses involving willful, fraudulent conduct,” the treaty even provides for the exchange of bank records.
It is not our conclusion that the IRS is specifically targeting “Holocaust accounts”. Indeed, whereas the Voluntary Disclosure penalty for offshore accounts was 20%, a specially reduced 5% penalty applied to Holocaust accounts. We believe that the presence of undeclared assets in Israel (whatever their source, including the cash-heavy jewelry trade) presents a specific target to the IRS. Along these lines, in 2010, Israel’s Bank Leumi took the extraordinary step of sending letters to its U.S. customers, strongly advising them to disclose their accounts to the IRS.
A Glimmer of Relief: A New Voluntary Disclosure Program
In February 2011, the IRS announced the Offshore Voluntary Disclosure Initiative (OVDI), which closely mirrors the 2009 Offshore Voluntary Disclosure Program (OVDP), with a few refinements. The new penalties are 25%, greater than the 20% penalty under the prior OVDP, yet less than the 50% penalty that the IRS has been imposing in recent criminal tax fraud prosecutions.
The new OVDI presents an opportunity for Americans with foreign accounts who did not come forward under the former OVDP, but still want to avoid criminal prosecution and bring their foreign accounts into compliance. As we’ve noted repeatedly, the IRS continues to target foreign accounts. We strongly advise taxpayers to bring non compliant foreign accounts into tax compliance, in order to avoid discovery by the IRS, higher penalties and criminal prosecution. In this new era of international transparency, decreased banking secrecy and stronger enforcement efforts, offshore banking compliance is very highly recommended.