Reformation of two tax havens:How Liechtenstein and Switzerland changed their banking regulations

OECD’s Position on Tax Havens• The OECD defines a tax haven as “a jurisdiction which has no or

nominal taxation and lacks transparency, effective exchange of information and ‘real activities.’”

• “[Tax havens] have been at the heart of the shadow banking system which in turn has been at the heart of the high levels of leverage and risk-taking at the root of the [current financial] crisis.”

• “The tax neutral environment of offshore financial centres means they can facilitate the conversion of income to capital or the deferral of income which will generate higher after-tax yields or lower after-tax costs of capital through tax arbitrage, increasing incentives to leverage and distorting allocation of resources.”

Liechtenstein

Vaduz Castle, home of His Serene Highness, Hans-Adam II, Prince of Liechtenstein

non-EU nation

Liechtenstein Profile• One of six European microstates

– 160 km2 (61 square miles)– ¼ the size of Singapore; same size as Washington, D.C.; slightly larger than Aquidneck Island

• Hereditary, semi-constitutional monarchy– Established in 1719; gained independence from Holy Roman Empire in 1806– Head of State: Durchlaucht Hans-Adam II von und zu Liechtenstein– Salve Regina connection: Prince Hans-Adam II was awarded an honorary degree, Doctor of Humane

Letters, honorus causa, on 18 May 2003 for “promoting the peaceful self-determination of peoples throughout the world” and following “a policy of peace based on Christian principles.”

– Prime Minister: Otmar Hasler

• Mountainous alpine terrain; landlocked, Rhine River defines western border• Population: 35,000 (about the same as Newport, RI)• Language: German• Very prosperous nation, high standard of living, long life expectancy• Defense and customs enforcement both administered by Switzerland

Economy• GDP: CHF 4.28 billion (2004) – Industry represented 44% of GDP; Financial services

represented 26% of GDP• Imports: CHF 2.2 billion (2006)

– Major partners: EU27 & Switzerland– Machinery, textiles, food, automobiles

• Exports: CHF 3.6 billion (2006)– Major partners: EU27 (especially Germany), Switzerland, US– Specialty machinery/tools, dental products, stamps

• Currency: Swiss franc (CHF)• Exchange rate: USD 1.00 ~ CHF 1.00, stable (2009)• Maximum business tax rate: 20%• 30% of government revenue is from 75,000 “letter box” companies established in

Liechtenstein by non-Liechtensteiners to take advantage of low taxes• Placed on OECD’s “uncooperative tax haven” blacklist in 2000, continued in 2002

Major Employers• Hilti

– Manufacturers construction tools and materials– Employs 1,800 in Liechtenstein / 20,000 worldwide– CHF 4.7 billion revenue (2008)

• Ivoclar Vivadent– Manufactuers false teeth and dental products– Employs 700 in Liechtenstein / 2,250 worldwide– CHF 631 million revenue (2008)

• LGT Group (see next slide)

LGT Group• Wealth & Asset Management Group / Private Bank• Privately-owned by the Princely House of Liechtenstein• Employs 1,350 in Liechtenstein / 1,870 people worldwide• Assets:

– Bank-owned: CHF 23 billion– Administered client assets: CHF 78 billion

• Operating Income: CHF 788 million• Profits: CHF 163 million• Rating: Moody’s A+ / S&P Aa3 (2009)

LGT Tax Scandal• June 2007: Heinrich Kieber (right), an LGT employee from 2001-2003,

sold a set of DVDs to the Bundesnachrichtendienst (BND), German Federal Intelligence Service, for €5 million

• DVDs contained incriminating evidence against 1,400 German LGT Group clients who hid money in Liechtenstein to avoid German taxation

• February 2008: German police raid home and office of Klaus Zumwinkel, CEO of Deutsche Post; Zumwinkel charged with evading €1.5 million in taxes

• Kibber and 2 other LGT Group employees testify that LGT…– Bankers would communicate with clients only on Austrian or Swiss mobile

phones so clients would not send/receive calls containing the Liechtenstein country code

– Bankers would provide explicit “recommendations” to clients on how to keep their LGT accounts secret from authorities in other nations

– Used code words and code names were used to protect identities– Accounts were often distinguished by number only, with no names associated– Aided clients from 12 countries evade taxation on assets worth billions of

francs

Immediate fallout• Heinrich Kieber

– Given new name & identity by Germany; witness protection– Wanted by Interpol & Liechtenstein government

• Klaus Zumwinkel– Resigned as CEO of Deutsche Post– Pled guilty to tax evasion; paid amount owing to Germany– Received 2-year suspended jail sentence

• Information on other tax evaders with assets at LGT Group given to UK & US by Germany• Hundreds of tax evasion investigations proceed• US President Obama proposes new international tax enforcement powers for IRS• US Treasury Department requires all non-US banks with US offices to register as “Qualified

Intermediaries”• July 2008: G8 conference renewed emphasis on the need to eliminate tax havens, instructing:

“all countries that have not yet fully implemented the OECD standards of transparency and effective exchange of information in tax matters to do so without further delay”

Liechtenstein’s Changes• Under immense US, German, and UK pressure, Liechtenstein agrees to meet

OECD standards– March 2009: Official government statement agreeing to follow OECD

standards regarding taxation– Prince Alois (heir apparent) states: “We are aware that we must cooperate

on tax matters”– Dec. 2008-Nov. 2009: Liechtenstein signs 11 Tax Information Exchange

Agreements– November 11, 2009: Liechtenstein delisted as a uncooperative tax haven

by OECD• LGT Group develops Liechtenstein Disclosure Facility, a division that helps

clients reconcile assets held by LGT Group with tax authorities in home countries without criminal penalty; all numbered accounts discontinued

• LGT Group profit fell 36%

Switzerland

Zurich; Switzerland’s largest city and commercial and banking centre

non-EU nation

Switzerland Profile• Longstanding history of independence, neutrality, and mediation

– Confederation formed in 1291; independence from Holy Roman empire in 1499– Neutral in all wars since 1815– Not an official UN member until 2002– Founding member of EFTA, but voted against EU & EEA membership in 1992

• Confederation government, collectively led by 7-member federal council• Presidents of the confederation, currently Hans-Rudolf Merz, serve 1-year rotating terms • Size: 39,775 km2 (about 1/3 the size of Pennsylvania)

• Mountainous alpine terrain, landlocked, with inland port of Basel in north• Population: 7.55 million (July 2007 est.)• Languages: German (75%), French (20%), Italian (4%), Romansh (1%) all official; 50%+

English bilingualism in major cities and tourist areas• Highly educated population; highly urbanized and industrialized socity• High standard of living, long life spans, very low population growth, stable society

Economy• GDP: CHF 424 billion (2007)• GDP Growth: 3.1% for 2006-7; 1.8% for 2007-8; expected 0% for 2008-9• Imports: CHF 165 billion (2007); 80% from EU27• Exports: CHF 173 billion (2007); 60% to EU27• Foreign Direct Investment: $39 billion (into Switzerland)• Currency: Swiss franc (CHF 1.00 ~ USD 1.00, Nov. 2009); unofficially, EU euro widely

accepted (EUR 1.00 ~ USD or CHF 1.49)• Inflation averaged 0.8% over 1998-2007 period• Economy considered to be one of the world’s most competitive and Europe’s most

capitalistic• Corporate tax rates range from 10.8% - 24%, inclusive of local + federal taxes.• McDonald’s, Kraft Foods, Yahoo!, and Nissan each have their European HQ in Switzerland• German Finance Minister & French Budget Minister suggests that Switzerland be placed on

OECD list of uncooperative tax havens

Swiss Banking• Dominated by two private giants: UBS & Credit Suisse• Tax evasion is a civil, not criminal offence in Switzerland• Banks can only turn over financial records if criminal fraud can be proved

first• Swiss tradition of banking and financial secrecy is widely known and

popularized in media; serves as a competitive advantage for Swiss banks• Banking law of 1934 codified banking secrecy rules and criminalized their

violation• Global financial troubles are causing EU27 and US to put pressure on

Switzerland to provide greater transparency in banking matters• Switzerland was placed on the OECD “greylist” of uncooperative tax havens

in 2007

UBS• Switzerland’s largest bank• World’s largest manager of private wealth accounts• Operating Income: CHF 32 billion (2007)• Manages CHF 2.3 trillion in assets• Received CHF 6 billion “bailout” from Swiss government in October 2008

– Financial troubles resulted from the US sub-prime mortgage crisis– Transferred CHF 60 billion of “toxic” assets to an external fund– Repaid Swiss government in August 2009

• Holds approximately 2 million declared accounts for Americans worth $700 billion

• Holds 19,000 undeclared accounts for Americans worth $18 billion• Employs approximately 80,000 people worldwide

UBS’ Secrecy Cracked Open• June 2006: Igor Olenicoff (right, top), facing charges of evading $50

million in US taxes agreed to implicate those who assisted his tax evasion. Olenicoff named his UBS banker, Bradley Birkenfeld (right, bottom)

• July 2008: Bradley Birkenfeld, right, a former UBS senior banker from 2001-2006, signed a deposition that detailed UBS efforts to hide assets of American UBS clients to avoid taxation

• Birkenfeld stated that UBS:– “Defrauded the IRS and evaded US income taxes” by creating “sham”

offshore trusts for wealthy clients– Routinely prepared false documentation– Earned $200 million per year through these actions

• 2008: Olenicoff paid $52 million in back taxes and penalties, sentenced to 2 years probation

• 2009: Birkenfeld sentenced to 40 months in prision

UBS vs. US Justice Department• July 2008: As a result of Birkenfeld’s information, UBS was served a “John Doe” warrant

by the US Justice Department, demanding information on 19,000 individuals with 50,000 undeclared accounts

• February 2009:– UBS agrees to provide names of 250 accountholders to US and pay $780 million settlement for

“participating in a scheme to defraud the US Internal Revenue Service”– US government files second suit against UBS demanding release of more names; UBS vows to

“vigorously contest” the case, citing Swiss privacy laws & 1934 banking law

• March 2009:– UBS declares loss of CHF 21 billion for FY2008; largest ever for Swiss bank– UBS operating income drops 97% from FY2007 levels (resulting from debt write-downs)

• August 2009:– UBS settles second US suit, 4,450 accounts held by US residents will be examined by the Swiss

Federal Tax Administration (SFTA), SFTA will decide which accounts to disclose to the US IRS– 150 criminal investigations resulting from February disclosures underway in the US

Swiss Reformation• March 2009: Switzerland agrees to reformulate its tax treaties to comply with

OECD standards. However, Switzerland still prohibits:– Automatic exchange of information– “Fishing expeditions”

• In the process of re-negotiating bilateral Tax Information Exchange Agreements (TIEAs) and/or Double-Taxation Agreements (DTAs) to comply with OECD standards

– Priority is given to Germany, Italy, France, and UK– TIEAs will be negotiated with all EU27 nations, eventually all OECD nations as well

• September 2009:– US & Switzerland sign DTA and TIEA– UK & Switzerland sign DTA

• November 2009: Switzerland removed from OECD “greylist” of tax havens

Conclusion• Switzerland & Liechtenstein responded to international calls for

reformation• However, responses came only after:

– Global financial calamity– Two major international tax evasion lawsuits

• Reform was necessary to:– Maintain open relationships with trade partners– Prevent sanctions– Preserve each nation’s ability to generate income from banking

• Other tax havens may develop, but at the risk of exclusion from the global community.

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The End

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