Is a constructive trust a trust for purposes of the CRS ?

A constructive trust according to Wikipedia is an equitable remedy resembling a trust (implied trust) imposed by a court to benefit a party that has been wrongfully deprived of its rights due to either a person obtaining or holding legal right to property which they should not possess due to unjust enrichment or interference.(That was a mouthful). More simply: Is a constructive trust a trust as this term is used in the common reporting standard ? Does the little attribute “constructive” make a big difference ?

The word constructive might mislead the unwary; the construction taking place here is that of lawyers who chip off blocks of the trust to make it fit a rather atypical set of circumstances. Many know this type of legal construction from employment law where a constructive dismissal is the interpretation that an employee who quits his job actually has been fired.How come to such a conclusion: the boss treated the employee badly so that the employee did not have a choice but leave.

That Wikipedia (which provided the introductory sentence) is not far off in regards to the interpretation of the law can be seen by recent decisions of US courts which define a constructive trust as “a relationship, with respect to property, subjecting the person who holds title to the property to an equitable duty to convey it to another on the ground that his or her acquisition or retention of the property would constitute unjust enrichment”.  Other jurisdictions will treat fact patterns as those described by the Nebraska court by applying concepts of unjust enrichment. Even though multiple natural persons might be involved in such a transaction, with potentially fiduciary duties running among them, the label “constructive“ indicates semantic lawyerly wrangling that leave the original word and its meaning in the dust. The view that constructive trusts are not trusts is supported by legislatures as e.g. the California Probate Code , which specifically excludes constructive trusts from the definition of a trust (see section 82). (See also MATTER OF HSBC BANK USA, NA, 96 AD 3d 1655 — NY: Appellate Div., 4th Dept. 2012).

The little lawyerly construction seems to indicate that constructive trusts are not trusts for purposes of the common reporting standard. The alternative would be rather ridiculous, since any claim for unjust enrichment needed to be reported under CRS.

 

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CRS, Grexit and the time it takes to adapt to new events

The CRS is a tax information exchange among countries who collect information from their financial institutions and pass them on to other countries who would check whether the person reported has paid their taxes. Greece is a signatory of the CRS and supposed to send and receive tax information starting 2017. However, if the Greek government exited the EURO it would be technically impossible to exchange data.

The CRS, unlike other conventions, does not only prescribe the legal obligations of the signatories, but also in great detail, how to exchange the account data. For that purpose, the OECD has developed an XML schema which clearly defines how and what to report. This schema however does not know the Drachma which the Greek government might introduce after a grexit. The information, the Greek finance ministry delivered to another government, would be rejected as not compliant with the XML schema.

Even without plans for a modification of the XML schema, eventually the OECD will need to update it. Similar needs to update might arise not only when a country introduces a new currency, but also when countries split up. Scotland comes to mind. Assuming that the Scots are taking over the task of reporting accounts according to the CRS, their reports equally would be rejected, since the country code for Scotland is not part of the XML schema. Taxpayers trying to avoid reporting under CRS might consider buying gold in the hope that gold is not a currency that could not be reported. Unfortunately the OECD has foreseen codes for the reporting of gold directly without conversion into dollars. If there is a third world country that holds accounts in livestock, CRS reporting might be challenging. Short of cows, the OECD has only excluded bitcoins from the list of available currencies. The OECD needs to adapt the XML schema at one point, the question is when.

At this point, if Greece introduced the Drachma or the Scots voted to become independent, technology as prescribed by the OECD prevented any reporting. Let’s see how many tax evaders are flocking to Scotland or the warmer climes of Greece.

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In CRS Reporting: Does a corrected Account Balance have to show a corrected FI ?

FIs are supposed to report their customers´ account balance. The Competent Authorities of the signatories collect this information and transmit it via an XML scheme as detailed in the CRS User Guide. This User Guide, even though basically a copy of the FATCA XML schema, has some shortcomings which are exemplified by the title question: When a bank wants to correct an account balance, does it have to resend the all the information pertaining to itself ?

The XML User Guide requires that each report must contain information pertaining to a FI. The field Reporting FI is mandatory (the requirement of this field is “validation” in the parlance of the CRS, which means that it has to exist or otherwise the message will fail validation). Even a correction hence needs to resend all the information previously transmitted. The CRS User Guide addresses this issue specifically for Account Reports:

“For a Correction, the whole AccountReport must be resent with all its information.“

This statement is slightly ambiguous since when explaining how to correct messages, the User Guide specifies:

”Since no data in AccountReport needs to be corrected, only the ReportingFI is sent as the correction.”

This seems to contradict another statement in the User Guide: AccountReport is mandatory under CRS. The reader is left puzzled as to whether the AccountReport is mandatory or not. An enigma wrapped in a riddle …

Once an AccountReport is being indicated as corrected, how should the information regarding the accompanying FI be labeled: New, Corrected, or Deleted? Other options are not available. None of the three available options truly captures the idea that previously submitted data is to be resent.

CRS has a mechanism to label  information as “Resend Data”, however, the current scheme provides that this field is “not used for CRS reporting”.

Maybe this discussion is overblown, since even if the information regarding the FI is labeled as “new”, the competent authority will use it and check the account holder’s tax information. The same applies to the label corrected or deleted data.

A tax payer wanting to avoid being reported should convince his financial institution to transmit the corrected information only after several corrections and some deletions. The CRS schema allows many interpretation which will lead to inconsistent implementations which in turn increase the chance that such information will simply be forgotten or discarded.

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What is an “entity” in the Common Reporting Standard

CRS defines the term “Entity” to mean

“a legal person or a legal arrangement, such as a corporation, partnership, trust, or foundation.”

At first view, a corporation seems to be considered a legal arrangement and not  a legal person. The examples “corporation, partnership, trust” however relate to both legal person and legal arrangement. CRS doest not distinguish between legal person and legal arrangement because  different jurisdictions will classify partnerships and trusts differently, i.e. sometimes an entity, sometimes a legal arrangement.

On the question of what is an entity, the commentary on the CRS enlightens as follows:

“This term is intended to cover any person other than an individual (i.e. a natural person), in addition to any legal arrangement. Thus, e.g. a corporation, partnership, trust, fideicomiso, foundation ( fondation, Stiftung), company, co-operative, association, or asociación en participación, falls within the meaning of the term “Entity”.”

This explanation leaves the reader with the sorry task of trying to find out what legal arrangements will be entities. A legal arrangement is broader than a contract, since trust deeds are typically not considered to be contracts. A legal arrangement hence encompasses contracts and unilateral declarations.

We will approach this topic by looking to the fideocomiso, a construct of nowadays Latin American law, although, previously known by Roman and German law. Wikipedia explains:

A trust or fidecomiso1 (Latin fideicommissum fides, “faith” and commissus, “commission”) is a contract under which one or more persons transmits goods, money or rights, present or future, of his property to another person (a natural or legal person) so that it administers or invests the assets for their own benefit or for the benefit of a third party called beneficiary.

Certainly all escrows would fall under that definition of fiedicomiso. However, it is not clear to me whether a retention of title, a lien or pledge that necessitates possession of the creditor would be considered an Entity for purposes of the CRS. In all those legal institutes one party has possession of property owned by another party. The possessing party has to manage the property in ways that honor the ownership of another.  Since the ambition of the CRS is so grand –catch all those tax evaders—it seems reasonable to assume that even a retention of title is a fidecomiso and hence an Entity.

The practical implications are enormous. Anyone granting credit against collateral, be it retention of title of pledge, may be deemed an entity, with the result that they have to report their customers. (No good time to be a pawnbroker.)

It is once again vexing that the law and the CRS do not operate with clarity so that presumably innocent bystanders to tax evasion are caught in a whirlwind of red tape.

One question remains: Are power of attorneys considered entities for CRS purposes. It seems far-fetched since the definition of fideicomisio talks about the transfer of property whereas a power of attorney typically does not comprise such transfer. However, the fideicomisio includes future transfers.

Lawyers who do not want to take a position on the question whether a power of attorney is an entity might say the classification depends on the facts and circumstances. The facts and circumstances to consider will be how close the power of attorney is to a staple fideicomiso. The criteria I can imagine are how clearly fiduciary duties are spelled out or discernible from the context. The more fiduciary duties are spelled out, the more likely the contract or legal arrangement will be classified as an entity for CRS purposes.

Overly broad definitions of the CRS render much of the standard absurd. That a retention of title or a power of attorney are deemed Entities is a view clearly based on the language of the CRS. How courts are going to fix this mess remains a mystery.

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Who should check the taxpayer ID under CRS

Millions of taxpayer records are going to be collected by banks and distributed across the globe by tax authorities to enforce tax laws. One question on everyone´s mind is how to ensure that the data collected by banks are useable for taxation. A bank account information that cannot be attributed to an individual however is useless. This problem is compounded by the fact that the tax payer identification number is an optional field.  Financial Institutions are not compelled to provide tax payer identification numbers.

Financial institutions do not have an incentive to provide usable data, except when faced with fines. When rejecting or admonishing financial institutions to deliver more and better data, the response simply might be that any efffort  beyond compliance with the CRS will be billed at an hourly rate of X.The interest of the sending competent authority is comparatively aligned with this attitude, since no additional revenue to the coffers can be expected by delivering squeaky clean data.

Hence, the entity that has the highest interest in the process is the receiving authority which is the only institution equipped to validate TINs.After all the Financial Institution provides information regarding taxpayers also resident in the jurisdiction of the receiving authority.

Valid Taxpayer ID and the OECD portal

Without a valid taxpayer ID (TIN) all account information is useless. To improve the understanding how a jurisdiction generates TINs, the OECD has established a web portal . I am highly doubtful that all of the OECD published TIN information will be usable for validation purposes. Among 80 signatories there will be several who can only describe in vague terms what the components of their domestic TINs are. Imagine a small country that randomly allocates a 15 digit number to its citizens; the only check being made is that it has not been previously issued. Maybe, in an attempt to confuse illegal immigrants, certain parts of the number are a check number; however, this information is not publicly disclosed as not to alert criminals. A check against such a validation rule would be rather meaningless. The issue might be complicated by introduction of new and improved TIN schemes (now your welfare benefit/health benefits and your tax ID are linked …).

Attempts to implement a validation scheme based on the OECD portal information is a major undertaking, since 80 schemes, one for each signatory, need to be maintained. Software engineers always have questions; in this case however, no one will be able to provide additional advice beyond what is published on the website.The OECD does not really know and further contact information is not provided.

Once a signatory has received information purportedly relating to a tax dodging individual it will attempt to ascertain who the individual is. Failing the TIN validation it now needs to go back to the sending Competent Authority to request additional information. If this is done in an automated fashion, which an automated exchange of data certainly suggests doing, the sending CA will be swamped with requests for administrative assistance. The ensuing red tape for the chain CA->FI->customer can only be hinted at.

The problem of TIN verification is by no means simple and I consider it one of the weaker points of CRS. Unfortunately, no easy fix is discernible which means that the TIN probably is going to be checked by the receiving competent authority. In case the receiving competent authority cannot validate the TIN, only under exceptional circumstances additional steps will be undertaken.

FATCA imposed order by the mere might of the US government. This advantage  is however lacking in a multilateral agreement like the CRS.

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Islamic law and the prohibition against interest: an impediment for CRS ?

Indonesia, a signatory of the CRS intending to start exchanging information in September 2018, is the world´s most populous Muslim-majority nation. As such it is somewhat bound by riba, the Muslim concept that interest payments are not allowed. The CRS not only reports account balances but also interest and dividend payments. Should intrests and dividends be reported to jurisdictions that consider these type of payment  as sin ?

The concept that interest is unethical is called riba and mentioned and condemned in several different verses in the Qur’an and in collections of reports purporting to quote what the Islamic prophet Muhammad said verbatim on any matter (so –called hadith).

The Mekkan verse in Surah Ar-Rum:
And whatever Riba you give so that it may increase in the wealth of the people, it does not increase with God (Quran 30:39)

And a little clearer:
And because of their charging Riba while they were prohibited from it (Quran 4:161)

While Muslims agree that Riba is prohibited, there is disagreement over which types of behavior fall under the prohibition. Many but not all scholars have come to consider riba as any interest charged on loans. Scholars further disagree over whether it is a major sin and against sharia(Islamic law), or simply discouraged (makruh). That this issue is not merely academic can be seen from a 2004 incident in the Pakistani parliament where an MP quoted an Egyptian Islamic scholar decreeing that bank interest was not un-Islamic. This innocuous statement caused an uproar and the response by an Islamist MP saying that since the Pakistan state Council of Islamic Ideology had decreed that interest in all its forms was haram in an Islamic society, no member of parliament had the right to negate this “settled issue”.

One of the leading Islamic banking theorists, Siddiqi, claims that “efforts of some pseudo jurists to distinguish between riba and bank interest have met with almost universal rejection and contempt” (Indonesia, Law and Society, Timothy Lindsey, Federation Press, 2008, page 317).

Under these circumstances it might seem a wise precaution not to endanger bank customers when reporting that they have received interest or dividend payments. The CRS announces which citizen violated Muslim laws even if the punishment is uncertain. Hopefully, lawmakers will grant financial institutions sufficient leeway not to endanger the well-being of their foreign customers.

On the other hand, I have not been to Indonesia and knowledge from books might not capture the practicalities on the ground.

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