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Gibraltar: Finance Centre Changes - What Will The Government Do?

Nigel Feetham, Hassans

20 December 2000


This story is reproduced by kind permission of Panorama at http://www.panorama.gi

The OECD Report

The OECD initiative, which developed in parallel with that of the EU, and its report ("Harmful Tax Competition, an emerging global issue"), extended the ambit of the EU Code of Conduct to cover tax havens (territories that impose no direct taxes at all) and not just preferential tax regimes. It is intended to apply to OECD members, their dependent territories and non-members. A forum on harmful tax practices was also established to consider how the OECD report's recommendations could be implemented and to identify tax havens. In order to familiarise itself with tax systems of a number of jurisdictions, the OECD also requested information of the tax regimes of over 35 jurisdictions, including Gibraltar.

This was followed by an invitation to the government of each jurisdiction from the OECD to make submissions to the forum before making a formal assessment in respect of them. The then Minister for Trade & Industry of Gibraltar, Peter Montegriffo, appeared before the forum in September last year and made representations on behalf of the Government of Gibraltar. The stated position of the Government of Gibraltar was that taxation was a matter for the local government and that, in any case, Gibraltar's preferential tax regime was not harmful within the meaning of the OECD Report.

There has been very extensive debate in the offshore world as to whether their tax regimes are, in reality, harmful to the global economy, and whether the OECD leading industrial nations have simply been adopting "bullying" tactics to coerce offshore centres into submission. Proof of this, critics point out, is the so-called "Black List" which the OECD has published of territories which fall foul of their stated criteria. Gibraltar is unfortunately on the list. A number of territories, on the other hand, gave certain commitments to the OECD to avoid being on the list, and the OECD have threatened "punitive action" against those territories that do not give similar undertakings.

The consensus seems to be that the principal objective of the OECD is not so much taxation, but transparency and exchange of information. The main focus of the OECD appears to be the British overseas territories of the UK in proximity to the US. It is not surprising that the OECD is therefore seen by many as a US led initiative.

The declared policy of the EU Commission is that harmful tax competition should be abolished, but there is still some way to go in reaching a consensus on how far to take this. In the OECD context, however, the OECD are more likely to advise its members to combat offshore tax regimes which fall foul of the stated criteria by applying special anti-abuse rules into their own domestic legislation (commonly known as controlled foreign company legislation or "CFC") and taking other punitive measures. There is an acceptance by all reputable offshore centres that pressure on them is likely to intensify over the coming years, unless remedial action is taken.

G7

The G7 initiative is aimed at combating the threat posed by money laundering to the international financial markets, not just in relation to the proceeds of drugs, but also in relation to fraud, white collar crime and tax evasion.

The UN initiative

The UN also published a paper a few years ago ("Financial Havens, Banking Secrecy and Money Laundering") that proposed radical action to tackle money laundering, including international agreements not to recognise international business companies and to limit shell banks, limit offshore asset protection trusts, changes to the laws surrounding lawyer-client privilege and re-evaluation of free trade zones.

A new attack on money laundering launched in Vienna last year also proposed for the first time to identify a list of internationally approved offshore centres with acceptable standards of control over their use by the financial industry. In this respect, it is of note that most British dependent territories have implemented money laundering legislation on an all-crimes basis over the last few years and Gibraltar was actually the first dependent territory to do so back in 1995. Gibraltar is therefore seen as complying with international acceptable standards of regulation against money laundering, and money laundering is not a legitimate concern in Gibraltar.

Exchange of Information

As indicated above, under the EU Code of Conduct and the OECD Guidelines, the exchange of information is an important criterion in determining whether a country can be considered a tax haven and whether another country should include such a country in its anti-abuse provisions.

In this respect it should be noted that the EU Mutual Assistance Directive (77/79/EC) which facilitates the exchange of information between Member States of the EU has actually been implemented into Gibraltar law. The implementation, however, is only of limited consequence. The exchange of information is linked to the Commissioner of Income Tax, who historically could obtain all information he considered necessary through statutory powers available to him. Shortly after the Mutual Assistance Directive was implemented, the information powers were removed from the Commissioner and put in the hands of an appellate body, the Income Tax Tribunal. Because the Tribunal is an appellate body, there is an implication that there has to be an assessment made before its information powers can come into play. Given the fact that the Commissioner of Income Tax has no authority to make assessments on Tax Exempt Companies or non residents who have no liability to tax in Gibraltar, such taxpayers, so it is argued, would never become subject to the Tribunal and therefore never fall under its power to compel the production of information. Consequently there is an acceptance that limited exchange of information can actually take place.

It is to be expected, however, that exchange of information will be one of the areas which the EU Commission will look at closely in the future. In fact, the Chancellor of the Exchequer announced earlier this year that exchange of information was an area under review in relation to its Overseas Territories, and it would seem that Gibraltar has been engaged in intensive discussions with the UK on this matter. It is an "open secret" that passporting for investment services seems to have been caught up in this debate.

Reform of Tax System in Gibraltar

The Government of Gibraltar has made it clear that it intends to reduce the rate of taxation across the board, and move towards low tax "Irish" style. This seems to be a political commitment from the Government that predates the "harmful tax competition" debate. Tax rates between 15% and 20% appear to be under consideration.

There are a number of suggestions as to how to achieve such reductions in direct taxation. One suggestion is that Gibraltar should shift the tax burden from direct to indirect taxation by the introduction of a goods and services tax or VAT and thereby take advantage of the tourist frontier flow into Gibraltar. (In this respect it should be noted that Gibraltar is outside the Customs Union and therefore any revenues derived from VAT would remain local revenue). Whatever the tax benefits of tapping into the tourist flow may be, the introduction of VAT would simply make public revenues vulnerable to pressure at the frontier and therefore politically sensitive locally. It is also thought that the lowering of existing tax rates for both corporate and personal taxation to such levels would require significant reductions in public expenditure (i.e. health, education and public sector). The suggestion is therefore that since Gibraltar revenues are derived principally from personal taxation, corporate tax rates could be significantly reduced whilst marginally reducing personal tax rates without substantially affecting current revenues. This is bound to be very controversial as it would effectively mean that the ordinary people would be expected to "subsidise tax cuts for the business community (which certainly does not mean small businesses since the rate of tax for small companies is already lower than the standard rate). If the Government of Gibraltar propose to embark on this policy, they will have to make not just the economic ease for lower business taxation, but also the political and moral one if they are unable to also deliver significant tax cuts for ordinary people. This will have to come down to figures.

Another suggestion is that Gibraltar should explore the possibility of switching from world-wide taxation to a source based tax system. The obvious models to follow are Hong Kong and Singapore. The issue was discussed in a paper I prepared entitled "Tax harmonization Proposals and Reform of the Tax System" (25th November 1997). This paper was prepared when the Code of Conduct was still in draft form and a copy was circulated to the Government of Gibraltar. Further research would be required to determine the technical aspects of this switch from world-wide taxation to a territorial tax system in relation to certain types of income. This is a subject which is beyond the scope of this article, although I firmly believes that this is possible. In my paper I also suggested that it was possible to provide equal tax treatment in certain areas of business
activity regardless of any residency requirement without falling foul of the EU Code of Conduct.

One of the crucial issues for the Gibraltar Finance Centre is to ensure that Tax Exempt Certificates that are currently in force are respected. There are a large number of Tax Exempt Companies that have entered into transactions in the expectation of "no tax" during the life of those transactions. There also many Tax Exempt Companies that have been structured in such a way as to carry on business with other Tax Exempt Companies in an "onshore" situation. Three years ago, the Government's stated position was that Tax Exempt Certificates were 'guaranteed' and the Gibraltar Finance Centre therefore found comfort in this position. There is now a legitimate expectation that this position will not change.

Summary of Position

The UK Government has committed itself to a number of international initiatives intended to ensure that the highest standards of regulations apply in its overseas territories and also intended to deal with harmful tax competition. There is, however, an acceptance on the part of the UK Government that it cannot legitimately legislate on tax matters for its overseas territories except that in the case of Gibraltar legislation may be necessary at some point as a result of the UK Government's obligations in the EU. It is clear that the UK's agenda in relation to its overseas territories is to ensure that they are not abused by international criminal elements and by those intent on tax evasion and unacceptable tax avoidance. In this context,
Gibraltar is generally perceived as a well regulated jurisdiction with standards of regulation above all other overseas territories and therefore not posing a serious money laundering concern for the international community.

The greatest immediate threat to Gibraltar, however, are the EU State Aid provisions should these result in legally binding obligations as far as taxation is concerned and the risk of international isolation if the OECD takes "punitive" action against the Gibraltar Finance Centre. To counteract this threat, the policy of the Government of Gibraltar is to move towards a low tax regime in a medium to long term, but this should also be accompanied by change from world-wide taxation to a territorial (or source based) tax system. The implementation of the Savings Directive, would obviously pose a more serious threat to the banking sector, although faced with the prospect of continuing to "hide" money away amid growing international pressure, it is believed that in private banking, many investors would choose to be taxed at the lower rate of taxation afforded by Directive. The Chief Minister is his address to the Federation of Small Businesses indicated that there was a serious difference of opinion between the UK and Gibraltar Government on whether Gibraltar should follow the UK implementation of the Savings Directive. I reserve judgment in this matter until more information is made public.

The Finance Centre industry, and Gibraltar taxpayers generally, now patiently await the Government's announcement of its tax reform proposals. Whatever is proposed must be considered carefully and with the best interest of Gibraltar. Any constructive criticism should be encouraged and not met with immediate hostility.

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