The Common Reporting Standard (CRS)

The Common Reporting Standard

In 2014, the Organisation for Economic Co-operation and Development (OECD) proposed a global initiative that focused on the exchange of information concerning tax matters. The premise being, the automatic exchange of information between governments should theoretically allow for more thorough scrutiny of information presented on taxpayer returns. Increased scrutiny would then act as a deterrent to tax avoidance.

To date, more than 90 countries have agreed to automatically exchange information provided to them by financial institutions operating within their borders. The Bahamas is on schedule to begin its CRS participation in 2018.

As a follow on from the Foreign Account Tax Compliance Act (FATCA), the Common Reporting Standard or CRS is a definite game changer for the offshore financial services industry due to 3 main reasons:

• The cost of implementation.

• The attrition associated with implementation; and

• Offshore compliance fatigue by both clients and service providers.

Implementation costs:

After the mammoth FATCA review exercise that most offshore financial service providers conducted last year, it became very apparent that the cost associated with these types of reviews placed significant strain on the resources of some firms. Expenses were mostly associated with software upgrades, communication fees and temporary labour costs. It has been suggested that the cost of implementing FATCA, turned out to be ten times more than the revenue it generated due to compliance.

The fact of the matter is that financially, firms are not prepared to sustain yet another costly review of their client base and this has caused a paradigm shift in the way we expect to manage the introduction of the CRS.

There will always be inherent risks associated with any solution. However, in an attempt to minimize the expenses associated with a paper review, some firms have resorted to the terms and conditions by which they provide fiduciary services. Essentially, the “the devil is in the detail”. The principal contractual agreement between the client and the fiduciary service provider should allow for the disclosure of critical information to avoid noncompliance with the standard and at the same time, compel the client to self-certify that he or she has complied with all local tax regulations in their home country.

Attrition:

The CRS will no doubt reduce the volume of clients that maintain offshore trusts because the practical attributes usually associated with being offshore. I.e. Confidentiality, will no longer be available. Practitioners estimate that firms may lose up to 40% of business, with attrition focused on the directed, smaller, less sophisticated structures. Nonetheless, we will come out on the other end of the CRS with an industry that is smaller, more specialized, transparent and more costly for the client.

Compliance Fatigue:

Clients receive a copious amount of correspondence concerning regulatory changes. At some point it begs the question, why maintain the structure? The first quarter volatility in the markets, coupled with administration expenses, erode the value of having an offshore structure especially if the assets under management are relatively small. With the “Base Erosion and Profit Sharing” or (BEPS) initiative on the horizon, it has now become debatable as to whether preferential treatment will continue for offshore holding companies that use W8-BEN Forms to defer withholding; All of which support good arguments for the repatriation of offshore funds and has spurned a resurgence in the insurance industry as an alternative to offshore investment wealth planning.

Ultimately, once the CRS is fully implemented, at the very least, you know that your local tax authority will seek to verify the accuracy and completeness of your tax returns. Whilst the current tax season is underway, now is a good time to have a discussion with your planner.

On International Business Companies or IBCs as Split Share Companies

The Split Share International Business Company (IBC)

A Bahamian International Business Company or IBC can be used as a split share company that is both effective and affordable to administer.

The process for creating a split share company involves amending the Articles and Memorandums of the IBC so that the Ordinary shares of the company represents the future income and/ or any type of future gain of the structure and the Preferred shares represent the existing assets and liabilities that are treated as capital.

The IBC can also be split into the same class of shares as indicated above but instead of income and capital, the shares are used to delineate between a charitable purpose (ordinary shares) and a directed purpose (preferred shares).

In both examples, the setup of the IBC represents a form of planning that can shelter clients against tax exposure as well as provide succession planning. A revocable, fully directed trust owns the redeemable, preferred shares corresponding to the capital of the company, and a second irrevocable, discretionary trust is used to hold the ordinary shares corresponding to the income.

The “Split” between the income and capital of the company via issuance of different classes of shares, theoretically allows the client to segregate himself from the income generated by the holding company.

Provided that the client has fully relinquished control and benefit of such income (due to the irrevocable trust), neither the settlor or beneficiaries are subject to tax reporting obligations in their home country. I.e. No income tax reporting obligation until receipt of an income distribution.

In summary, as long as the Trustee retains full discretion on the income trust, there are no tax or reporting obligations in most jurisdictions.

On the Role of the Trust Investment Advisor

The “Settlor” Appointed Investment Advisor

Direct investments by appointing an IA

The Trust Investment Advisor or IA is by far the most challenging of all roles to have in a fiduciary relationship. The IA of an Asset Protection Trust (APT), is tasked with the very important function of growing and perpetuating the trust fund on behalf of the beneficiaries. Once the investment suitability has been determined, the IA has the meticulous task of formulating an Investment Objective Setting and Bench Mark for the trust.

As referred to in the APT post, the investment component of an APT is usually part of the discretionary mandate of the trustee. However, due to the dynamic benefits of an APT, the investment component can be removed from the trustee and placed in the hands of a trust IA. This person has the ability to direct the trustee in regard to investments. With that being said, the other discretionary features of the APT still remain in tact. I.e. Distributions of income and capital as well as the trust period.

In most cases, the IA is located in a jurisdiction which is NOT the same as the settlor. This feature protects the integrity of the trust by eliminating any uncertainty as to the mind and management of the trust.

Last but not least, the IA should be qualified. Once an IA is appointed, the trustee will typically rely on language that fully indemnifies them against loss.

Is control of the investment piece crucial to your decision to go discretionary or directed? Have you considered the cost of appointing a professional IA as an alternative to a discretionary manager or fund?

“The Trust Protector”

“Captain Trust Protector” Illustration by M. Collins

The words “Trust Protector” conjures images of a person who swoops in to rescue a beneficiary in distress from an om onus trustee. However in reality, it’s the trustee that relies most frequently on the protector.

The protector is usually a close friend or associate of the settlor who has an intimate understanding of the family’s dynamics. More importantly, the protector provides a means by which the trustee can add further value to the administration of the trust. E.g. If a protector has not been appointed, the trustee is significantly deprived due to its inability to vary the trust so that it mirrors the current objectives of the beneficiaries.

In the absence of a protector, the trustee is usually compelled to seek direction from the courts. This process is not only time consuming but expensive and provides no guarantee that a decision will be made in favour of the beneficiaries.

The discretionary powers that are frequently subject to the protector’s consent are as follows:

Trusts of Income & Capital
Power of Appointment
Power to Transfer to Other Trusts
Power to Vary the Terms of the Trust
Addition to the Class of Beneficiaries
Exclusion from the Class of Beneficiaries
Power to Change Governing Law
Power to Vary the Trust Period
Removal and Appointment of the Trustee

For settlors domiciled in civil law jurisdictions, the notion of an irrevocable trust proves difficult to conceptualize. The ability to appoint a close family friend as protector is frequently the compelling feature that closes “the deal” on an Asset Protection Trust (APT).

With a protector appointed, the settlor receives the tax and succession benefits of a discretionary trust, as well as the flexibility of a directed trust. These attributes make the trust protector a fundamental component of the modern trust instrument.

Have you appointed a protector for your directed trust in the event of disability or death? Has your asset protection trust been difficult to administer because a protector has not been appointed?

On Letters of Wishes vs Trustees Notes or is it all a direction?

Precatory Words or Direction?

“ I should emphasize that I am in no way limiting your discretion or in anyway creating any binding trusts or obligation upon you but merely making you aware of how I would prefer the Trust Fund to be dealt with subject to the powers and discretion conferred upon you under the Trust “.

Can the precatory words above provide protection or is it actually a direction which could determine the mind and management of a trust? (“Garron” decision April 12 2012)

If a trustee is inclined to follow a Letters of Wishes (LOW), its imperative that the decision making process is documented to illustrate that discretion was exercised. If not, is it possible that the LOW can be construed as a direction?

LOWs are most often more definitive than the trust instrument. Whilst the trust is considered a core document that contains the terms and conditions of the fiduciary relationship, the LOW is non binding and will usually contain the specifics of the settlor’s intent. This means that in most cases, trustees rarely disclose the LOW unless requested by the settlor. (Londonderry’s Settlement).

Trust practitioners recommend the use of notes as a means to document the intent of the settlor. A well written memorandum marked “without prejudice” will not only capture the settlor’s intent but also ensure that his wishes are kept completely private and confidential.

Do you have a reason to question whether your trust is discretionary or directed? Perhaps your trust is discretionary but your LOW is not. Does your LOW provide sufficient information to assist the trustee without crossing the proverbial line of no return.

On the Asset Protection Trust of the first part…

“The Asset Protection Trust”

The Irrevocable Protection Trust

Asset Protection Trusts have long been upheld as the gold standard for succession planning. To this day, this form of instrument remains the preferred choice among modern wealth planners.Consequently, copious amounts of jurisprudence exists in support of every conceivable client concern. The key features of this robust and dynamic form of trust include: its flexibility, its discretionary nature and its capacity to endure perpetually. The asset protection trust is always the best place to start when discerning succession planning needs.

More on this soon, in particular the use of an APT with an I.B.C.

The FidPro Blog

Tag Archives: Asset Protection Trust