Ethics and governance in the European Financial centers

The Permanent Subcommittee on Investigations had scheduled a hearing, "Dividend Tax Abuse: How Offshore Entities Dodge Taxes On U.S. Stock Dividends," on Thursday, September 11, 2008, at 9:30 a.m., in Room 106 of the Dirksen Senate Office Building. The Subcommittee examined how some financial institutions have designed, marketed, and implemented transactions to enable foreign taxpayers, including offshore hedge funds, to dodge millions of dollars of taxes on U.S. stock dividends.

In the report, the Luxembourg financial center is quoted several times.

It is the center where officials feel protected enough to
- state it is not there duty to control if the taxpayer was honest ,
- be willing to protect the interest of the financial center instead of focusing on the relevant issue which is what is to be done to correct the dysfunctions which definitely harm the reputation of the financial center,
- etc.

Extract of the report :

Page 13

In the transactions reviewed by the Subcommittee, U.S. financial institutions engaged in
dividend-related swap and loan transactions with a variety of sophisticated non-U.S. investors,
including offshore hedge funds, foreign financial institutions, certain Luxembourg mutual funds, and large institutional investors such as pension funds, insurance companies, and private equity funds

Page 59

An employee in Merrill’s Global Tax group in New York responded with several ideas
for financial transactions to enable clients to dodge payment of U.S. dividend taxes on the
Microsoft dividend, including transactions involving stock loans, total return swaps, and options.
He observed:
“We had in place a 97-66 structure out of our SNCFE-Hong Kong entity, as it related to
our Luxembourg SICAV funds. This structure was put on hold because the systems
infrastructure supporting the trade did not work as anticipated. We also know that
Morgan Stanley had a 97-66 facility for a couple of years, and our 97-66 thing was an
internal response to that. … I also heard that the IRS is looking into this issue as part of
the single stock futures project and there is some concern that whatever rules they devise
as part of that could adversely impact the 97-66 trades. Other thoughts - …[t]ypical total
return swaps or collars to avoid [withholding] tax.”

Page 63

Project Gemini initially provided “dividend enhancements” to a Luxembourg mutual
fund controlled by Merrill called Merrill Lynch International Investment Fund (MLIIF), whi
was already executing the proposed stock loan transaction “with several of Merrill Lynch’s
competitors

In its presentation, Merrill described MLIIF as a SICAV fund incorporated in Luxembourg, having only non-
U.S. investors, and whose investments were managed by Merrill Lynch. SICAV stands for Societe d’Investissement à Capital Variable, “a Luxembourg based public limited liability company whose capital is at any time equal to the net value of its assets.” Merrill wrote that, in 2005, MLIIF had “approximately $28 billion of assets, with roughly 25% invested in US equities.” It indicated that these U.S. securities were subject to a 30% dividend tax

Two years ago Luxembourg was required to abolish the H29 legislation.
The European Commission had decided that the preferential tax regime in favour of Luxembourg’s Exempt, Milliardaire and Financial Holdings of 1929 violated EC Treaty state aid rules (Article 87). The scheme was granted under a Luxembourg law from 1929, predating the EC Treaty, and therefore constituting existing aid. The Commission had concluded that the scheme grants unjustified tax advantages to providers of certain financial services who set up holding structures in Luxembourg. It distorts competition and trade by altering the level playing field between financial undertakings and induces them to create dedicated structures in Luxembourg to reduce their current tax liabilities.
Competition Commissioner Neelie Kroes said that the “decision to eliminate a scheme providing sizable tax advantages to Luxembourg’s financial holdings will help to restore a level playing field in the EU’s financial services industry”.
The consequence was that the OECD granted Luxembourg for the evolution in the legislation.

Nevertheless if a chartered accounting firm in Luxembourg writes on its website that “Following an investigation of the regime by the EU Commission started in 1999, the Ecofin council recommended in June 2003 that harmful tax measures such as 1929 Exempt Holding companies come to an end by 2010” it adds that “Alternative solutions are already available to investors or families in order to enjoy similar tax benefits”
In other words, the firm admits that the background of harmful tax practices has not changed as investors may “enjoy similar tax benefits”.

Both The European Commission and the OECD are considered as idiots.


What is amazing as well is that a misleading wording is used for the presentation of one of the partners of the firm : the professional is said to be a "certified public auditor in Luxembourg" , with no capitals. Such title does not seem to exist. The problem is that the title can make believe that the professional is a registered auditor at the IRE, the Institute of registered auditors, which is not the case. The acronym CPA actually means “Certified Public Accountant”. Being presented as a “certified public auditor in Luxembourg" may be a way to gain credibility.

When looking the Corporate Registration, the professional is involved in the set up of companies linked to jurisdictions like the Seychelles, the BVI, Jersey and other similar jurisdiction, with a noticeable turnover of administrators and of statutory auditors including, legal persons located the exotic jurisdictions that are controlled neither by the IRE (Institute of Registered Auditors) nor the OEC (Institute of Chartered Accountants).



If I were a responsible leader in Luxembourg I would keep in mind what Senator Levin said:

“If the United States were to enact legislation to curb tax haven abuses, it would not be acting alone. For the first time, we are seeing a worldwide rejection of offshore business as usual. Tax authorities in Germany, Australia, the United Kingdom, France, and other countries are lining up to work in concert to shut down tax havens that have, for too long, carried on an economic war against honest taxpayers. The United States ought to be batting cleanup in that lineup.”

"For the first time, we are seeing a worldwide rejection of offshore business as usual" : This is what I called already almost two years ago the paradigm shift.

I went through the "Mémorial C" in Luxembourg to see to what extend exotic jurisdictions are connected to Luxembourg-registered companies, with the view to determine whether situations met may be a scam involving a number of economic entities including legal persons located in risky far jurisdictions like the Seychelles, the BVI..., or simply are the creation of a company that optimise tax at an international level. One may criticize tax optimisation but that was not my concern in the assessment.

To determine dubious situations for the reputation of the Luxembourg jurisdiction, a couple of "red flags" should be taken into account :

I. ABOUT THE LUXEMBOURG-BASED COMPANY

Is it a sector of money laundering?
Is there a twin company: same or similar object, same individuals?
Does the object allow the company to act at an international level?
Is the managing director non compliant with the requirement of every guaranty of irreproachable conduct as stated by the legislation (especially an individual that was proved to have used without shame for private expanses the money of a previous company he worked for cannot be appointed managing director and/or administrator as he/she may start again what may be called "unauthorized use of corporate property")?
Is there a turnover of administrators?
Is there a turnover of statutory auditors?
Is the statutory auditor not a chartered auditor member of the IRE or or chartered accountant member of the OEC i.e. not controlled by these organisations?
Is the company only quoted in the corporate registration with no visible economic reality (an office mentioned in the yellow pages, a website, employees, brochures, Ads...)?

These items are not exhaustive. Each answer "yes" is a red flag.

II. ABOUT THE EXOTIC-BASED COMPANY

Is the company acting as the statutory auditor of the Luxembourg-based company?
Does the company appear recently in the Corporate Registration in Luxembourg?
Is the company only quoted in the corporate registration with no visible economic reality (an office mentioned in the yellow pages of its jurisdiction, a website, employees, brochures, Ads...)

These items are not exhaustive. Each answer "yes" is a red flag.


The more "yes" are observed, the more the fraudulent situation is built.

Many dubious situations are visible in the "Mémorial C" and are a risk for the reputation of Luxembourg because we are no longer in a question tax optimisation that may be defended. Dubious companies should not be accepted anymore. Time is up to separate the wheat from the chaff, and to not forget hearing before the US Senate a couple of weeks ago with the new state of mind that can be summarized in a couple of words: "Billions and billions of dollars worth of U.S. assets find their way into these secrecy tax havens, aided by banks, trust companies, accountants, lawyers, and others. (...) Tax havens are engaged in economic warfare against the United States ".