Mahatma Gandhi said, “Earth provides enough to satisfy every man’s need but not every man’s greed”. These words of the leader for India’s independence from the British express what is going on with corrupt politicians and greedy corporations when committing financial crimes with the aid of tax haven jurisdictions. Tax haven jurisdictions offer foreign individuals and businesses little or no tax liability and do not require residency or business presence to benefit from their tax policies. Financial crime involving tax haven jurisdictions, like the Cayman Islands, Hong Kong, or Luxembourg, is a global phenomenon.
Globalization of Crime Involving Tax Haven Jurisdictions
Transnational financial crimes involving tax haven jurisdictions would have not blossomed but for globalization. Globalization causes inefficient regulatory competition. Financial institutions dissatisfied with one jurisdiction’s rules can increasingly move to another with weaker and potentially suboptimal oversight to raise capital or engage in complex financial transactions. Nations want foreign investment to flow into their territories, putting pressure on regulators to compete with one another to attract capital. Still, this contest can take on a deleterious quality where regulators dismantle even efficient regulations in hopes of attracting certain kinds of firms to their borders. Further, the integrity of the market can be undermined by offshore arbitrage by savvy, mobile firms.
Money laundering, corruption, and securities fraud are examples of transnational financial crime activity occurring in tax haven jurisdictions. Money laundering reached 3.6% of global GDP in 2009, with USD 1.6 trillion laundered, according to the United Nations Office on Drugs and Crime. What is more, the advent of transnational criminal networks is one of the offspring of globalization. The new millennium brought with it the Odebrecht case, the largest foreign bribery case in history. Odebrecht, a Brazilian corporation, paid more than $780 million in bribes to politically exposed persons (PEPs) of countries across the globe. Odebrecht used off-book transactions, offshore accounts, and shell companies established in the British Virgin Islands, Belize, and Antigua to facilitate its criminal enterprise.
Bank secrecy laws protect the identity and transactions of financial institutions’ clientele from disclosure. A PEP involved in corruption activity or wealthy individuals involved in tax evasion schemes choose tax haven jurisdictions to conceal the proceeds from their crimes. Under secrecy laws, banks refuse to disclose information about their customers to third parties, including tax authorities. For instance, the Panama Papers scandal exposed the offshore accounts that were used to hide funds and account holder’s identities via bank secrecy protections in tax haven countries. Likewise, transnational financial crime activity is detrimental for poor nations. Corruption, bribery, theft and tax evasion, and other illicit financial flows cost developing countries $1.26 trillion per year. Experts say that these figures may represent the combined size of the economies of Switzerland, South Africa, and Belgium.
United Nations (UN), the Financial Task Force (FATF), and the Basil Committee have tackled money laundering, corruption, and terrorist financing through international conventions (hard law) and cross-border financial standards (soft law). Nevertheless, international organizations have not been able to provoke secrecy law reform within tax haven jurisdictions. Therefore, law enforcement agencies across the globe still face all sorts of political and legal challenges while prosecuting transnational financial crimes involving tax haven jurisdictions. Can diplomacy by states become the tool to accomplish secrecy law reform for tax haven jurisdictions? The answer is yes.
States remain the protagonists in international politics. States have relevant interests in this area, like the protection of a state’s financial systems against tax crime, money laundering, and terrorist financing. The FBI has found millions of dollars in taxable income hidden in offshore accounts opened in tax haven jurisdictions. Data in the U.S. suggests that the federal government can lose $458 billion in revenue per year due to tax evasion. Money laundering and terrorist financing can endanger international peace and security. For FATF, criminal and terrorist use of major financial centers, tax haven, and offshore banking centres is enabled by the large volume of legal transactions that take place in these locations, which make it difficult to spot illegal transactions. No doubt, states bear powerful interests to pursue bank secrecy law reform within tax haven jurisdictions, because they want to protect their financial systems from transnational financial crime.
Moreover, powerful states have the power, via diplomacy, to shape the course of international politics and the content of the international legal order. Powerful states can coerce tax haven jurisdictions to accept bank secrecy law reforms they have not wanted to undertake so far. Diplomacy is a tool that states can utilize to induce secrecy law reform for tax haven jurisdictions. Particularly, states can resort to cooperation and sanctions to crack down on the veil of bank secrecy laws of tax haven jurisdictions. Hence, rules requiring tax haven jurisdictions’ financial institutions to disclose the identities and transactions of their clientele (upon request of a foreign authority) can be included in their bank secrecy laws.
Would Cooperation Work?
It would, as long as cooperation could be an essential component of the foreign policy of a state prosecuting transnational financial crime involving tax haven jurisdictions. A state or a block of states within a specific geographic location may want to negotiate bilateral or multilateral cooperation agreements with tax haven countries. Mandatory disclosure provisions should be set forth in such agreements. With the passage of time, the process of negotiation, signature, and ratification of the agreements and their mandatory disclosure provisions can turn into a general and consistent practice of states accepted as law (Opinio Juris). Therefore, the mandatory disclosure provisions would merge into the bank secrecy laws of tax haven jurisdictions; and eventually become part of the corpus of customary international law—although such an obligation would take a while to crystallize under international custom—if that practice is accepted by powerful states and by developing countries affected by it.
In addition, the prosecuting state should request tax haven jurisdictions’ mutual legal assistance in transnational financial crime investigations. Mutual legal assistance allows the exchange of evidence (bank and financial records), and the confiscation of criminal proceeds. Cooperation should also involve agreements between foreign authorities and financial institutions operating within tax haven jurisdictions. On December 10, 2019, the U.S. Department of Justice announced a deferred prosecution agreement with HSBC Private Bank (Suisse) SA, because the headquartered Geneva bank admitted to helping U.S. taxpayers conceal income and assets of US$ 1.26 billion. According to the U.S. Department of Justice, HSBC Switzerland employed a variety of methods, including relying on Swiss bank secrecy to prevent disclosure to U.S. authorities, using code-name and numbered accounts in the names of nominee entities established in tax haven jurisdictions, such as the British Virgin Islands, Liechtenstein, and Panama, that concealed the client’s beneficial ownership of the accounts.
For cooperation policy to be successful, there should be compliance mechanisms in place. Scholars define compliance as the degree to which state behavior conforms to what an agreement prescribes or proscribes. Would tax haven jurisdictions comply with cooperation agreements under which mandatory disclosure provisions are set forth? Tax haven jurisdictions would abide if they had a strong interest to conform to what such agreements would prescribe. Additionally, there are international inducement instruments that powerful states can use to provoke secrecy law reform in tax haven jurisdictions. On one hand, inducement mechanisms include financial assistance and concessions in tariff rates and quotas in foreign trade negotiations. On the other hand, Inducement tools also involve the use of force and sanctions.
Putting the Canine Teeth of Diplomacy to Work
Sanctions are foreign policy tools that have largely displaced military interventions in international politics. Sanctions aim to force a target to change behavior. The UN Security Council has applied sanctions to support peaceful transitions, deter non-constitutional changes, constrain terrorism, protect human rights and promote non-proliferation. However, the UN Security Council has not imposed sanctions upon tax haven jurisdictions to force reforms of their bank secrecy laws. This is a failure for the UN Security Council because money launderers and terrorist financers operating through tax haven jurisdictions can furnish international terrorists with the means to threaten peace everywhere in the world. For example, the September 11 hijackers used foreign financial institutions to hold, move and retrieve their money. Thus, and with the goal to maintain international peace and security, powerful states in international politics should encourage the UN Security Council to issue sanctions upon tax haven jurisdictions to provoke the reform of their bank secrecy laws.
Sanctions target terrorists, drug traffickers, economic sectors, and regimes associated with violations of fundamental human rights. Yet, tax haven jurisdictions have not been targeted for sanctions with respect to transnational financial crime; and they should. States may also need to accelerate the use of sanctions against them and their financial institutions involved in transnational financial crime. The International Monetary Fund (IMF) listed as world-leading tax haven jurisdictions in countries like the Netherlands, Luxembourg, and Ireland together with Hong Kong, Singapore, and Switzerland, as well as a number of British overseas jurisdictions. Nonetheless, no sanctions for transnational financial crime have been imposed upon them.
In conclusion, bank secrecy laws of tax haven countries provide transnational criminal networks with protection from disclosing their identities and transactions. This is a global problem requiring a global solution. Yet, international organizations have not achieved secrecy law reform within tax haven jurisdictions via hard or soft law. Therefore, diplomacy by states can be the holy grail to reform secrecy laws of tax haven jurisdictions.
Juan Carlos Portilla is an International Law Professor at Sabana University School of Law, Colombia. He is a lawyer and holds a LL.M. in International Law from the Fletcher School of Law and Diplomacy. Juan Carlos holds prestigious professional licenses, including the Anti-Money Laundering and the Anti-Fraud Examiner certifications. He has worked for global financial institutions and has been a Visiting Scholar at the Boston College Law School, a diplomat, and a Colombian government official.