UBS Offshore Accounts Closed To US Clients

Having talked yesterday about Swiss banks needing to extricate themselves from 'unfriendly jurisdictions' and consolidate back here in the shadow of the Alps, UBS has announced that is to stop providing offshore banking services to American Citizens.

The offshore banking business has already been closed but they have gone a step further and have said that it will now not allow bankers from Switzerland or elsewhere in the world travel to the US to meet clients on banking matters or securities transactions

That decision follows an earlier ruling by a Florida judge to give the IRS permission to serve legal papers on the bank to attempt to force it to hand over the names of up to 20,000 US clients.

Mark Branson, UBS Global Wealth Management's chief financial officer, yesterday revealed the change of tack during a US Senate hearing on the issue of tax avoidance. He said that while UBS is winding down its offshore business for US citizens, there will be "no new accounts opened".

It looks like the writing is on the wall for Swiss banks in the US. If UBS cannot deal with the legal issues then who can?

It does bring up the interesting issue of others providing offshore services to the US. I did a Google on "Offshore Tax Shelters For US Clients" and the list came to 104,000 pages. Wouldn't want to own one of those businesses....

Another thing to consider is that the news coming from the US is that some of the rules on 'assisting US citizens to avoid tax' are looking to be retrospective. This holds up the frightening prospect of advisors in the US being hauled up to court for advising clients on tax avoidance, legally, but now, with the rule changes it will have been illegal.

Tell me how that will work?

I have made no secret on this blog of the fact that I am not particularly enamored by some of the under hand tactics being used by tax authorities all over the world, from the Germans bribing bankers to the US arresting them. I think it is becoming a sinister plot to castrate the tax efficient structures that people put in place to protect their assets.

Of course, I am aware of the need for citizens of a country to pay tax proportionate to their earnings, but is it any surprise when stealth taxes take their toll?

I posted on the blog some time ago a calculation on how much tax is paid on £100 spent on goods and services. This was when oil was at $60 per barrel. If you are a higher rate tax payer in the UK and you spend the £100 on a range of mundane weekly items you will be paying (with oil at $60 remember) £77 in direct and indirect taxes. That means for every £100 you spend you were only getting £23 in goods and services....

Can you blame people for seeking to protect some of their wealth from the tax man?

This issue of retrospection also throws up all sorts of problems for those seeking to structure their taxes efficiently. What you do today could be illegal tomorrow... surely that is against some fundamental principals of law?

I was going to go on to say that we can all do something about it at election time, but the thing is, with politicians spouting populist rhetoric it would be easy to put up a picture of a billionaire private equity fund guy and hoodwink the general public into voting for the most heinous of restrictions on protecting your wealth.

Come back Maggie and Ron, you knew the value of wealth creators and saved the world... this current crew are leading us down the path to oblivion.

Hedge Fund Advertising and the Nanny State

It's an odd scenario. Hedge fund managers are being increasingly pressured by regulators and politicians to be more open about the way in which funds are invested and how they are run, and yet they are not allowed to talk about their businesses publicly for fear of being accused of solicitation.

The stand off is quite bizarre, actually.

By raising money privately, rather than in the public markets, and from wealthy investors, hedge funds are able to avoid the stringent regulations set forth in the U.S. Securities Act of 1933. But as part of that deal, "issuers" — in this case, the hedge fund advisers — and those acting on behalf of the issuer cannot sell securities by any form of "general solicitation or general advertising, including but not limited to the following: any advertisement, article, notice or other communication published in any newspaper, magazine or similar media or broadcast over radio or television; any seminar or meeting whose attendees have been invited by any general solicitation or general advertising."

Hedge funds can raise private money in the form of a 3(c)1 funds, which require that there not be more than 100 investors and that they be moderately rich. In December, the SEC set a new standard of a net worth of $2.5 million. Or they can raise 3(c)7 funds with no limits on the number of investors but a higher wealth standard of "qualified" investors — a net worth of $5 million. Being private and raising money via 3(c)1 or 3(c)7 means not having to comply with the Investment Company Act of 1940.

So this begs the question. If only people that have a few million to invest can invest in the funds why would a general exclusion on advertising be in place?

Let's say the hedge fund advertises in the Wall Street Journal for investors in its new wizzo fund and they get applications from Mable Goldstein out in nowhere USA who has $5000 to invest... The hedge fund wouldn't be able to take that investment anyway, even if they were interested (which they wouldn't be) at the risk of being in big trouble with the SEC.

It really doesn't make any sense to me.

In a bizarre twist, the SEC seems to agree. In 2003 when it published "Implications in the Growth of Hedge Funds," it entertained the idea of lifting the prohibition on advertising and general solicitation on funds who market to the very wealthy. "There seems to be little compelling policy justification for prohibiting general solicitation or general advertising in private placement offerings of Section 3(c)7 funds that are sold only to qualified purchasers," the staff report said.

Nothing much has happened since. In the meantime, the commission passed a rule requiring hedge funds to register, and then saw that rule overturned by the courts. The Massachusetts State securities regulator, William Galvin, sued Philip Goldstein, the hedge fund manager who successfully challenged the SEC over the registration rule, over violating the solicitation rules and letting investors onto his Web site.

The lawsuit "is bizarre," Goldstein said. "If someone asks for info and you give it to them, isn't that First Amendment activity? I'm not selling anything, I'm just providing information."

In April 2006, Steven Jay Seidemann, general counsel to D.E. Shaw (a $20bn fund) wrote a letter to the commission arguing that the rule should be removed for funds that are marketed only to qualified buyers. The SEC, he noted, had summed it up best: "In all the private offerings since the beginning of regulatory time, no offeree has ever lost any money unless he or she became a purchaser,"

That to me seems extremely good logic. Maybe the powers that be fear a back lash from the public who are barred from investing in these magical investment vehicles, gripped by 'hedge fund envy'. Doubtful..

Personally I think it is a more obvious reason. Advertising in gambling in the UK had been banned for years, you could only become a member of a casino after waiting 48 hours (thus discouraging walk in traffic) all because the government wanted to protect its citizens from the evils of gambling. (UPDATE..01 Sept 07. TV advertising is now allowed for gambling after the 9pm watershed). I feel there is a similar issue going on here. Restrict advertising, restrict investment. However, it is not really working is it? How many billions of pound, Euros, Dollars or any other currency has been invested in hedge funds in the last 6 months?? My guess would be..a lot.. Would this increase if the ban was lifted? I don't think so. In fact I think other factors would come into play.

There are generally accepted standards of advertising around the world for financial adverts. In the UK the FSA say they must be "clear, fair and not misleading". This would seem the best way to discover what hedge funds are doing and how they are performing.

If advertising was allowed the adverts and information that would be out there for hedge funds would be regulated by these advertising laws. If a hedge fund says that it made 40% in the last few months a regulator would be able to ask for the information to back up that advert. In fact in the UK, this information must be filed along with the advert and signed off by a compliance manager..

If the regulatory industry really wants to unmask hedge funds they should let them advertise, as much as they like. This would bring the free market rocking and rolling into the hedge fund world. We would know that a hedge fund that advertised good returns must be doing so, otherwise they would be in serious trouble for false advertising, those that didn't advertise we would view as a little more suspicious, rightly or wrongly.

The whole issue does bring into light another situation which has galled me for years and that is the issue of the 'Nanny State'. Hardly a day goes by when the government do not issue a new warning about cholesterol, sugar, salt, the dangers of not getting enough sun, the dangers of getting too much sun, the dangers of exercise, the dangers of not exercising... I could go on, and on.

I am appreciative of a system that is in place to highlight areas in which I may be putting myself in danger but banning me from doing it is a step too far and this is what we are seeing in the financial industry. Restrictions on advertising, entry into hedge funds, classification of investors is, in effect, financial exclusionism.

A system such as this is also not really that affective. Are the regulators saying that just because you can afford to invest $5mn you are financially savvy? You and I both know that is not true. I have met plenty of people who have vast wealth but would not know one end of a derivative from another. I have met many people who would not have $5mn to invest who are extremely investment savvy.

To exclude people on the basis of wealth is, in my opinion, just as bad as excluding people on the basis of ethnicity. Imagine if the SEC said that only African Americans can invest in hedge funds, or only white people can invest in IPO's... There would be carnage.

The regulators argument is that people need protecting from themselves. I happen to (half) agree with this, but assuming wealthy people are intelligent enough to invest in hedge funds and less wealthy people are not, is an insult to the wider investment community and a disservice to people who have worked hard to create wealth.

When the hedge fund Armageddon comes (and we all know it will) there will be a law suit from Mr X in XVille USA who made millions from a trucking business and invested $5mn in the latest fund to explode. He will sue on the basis that, although he was wealthy, he was not sophisticated enough in financial markets to understand what he was investing in. He will name the SEC as co-conspirators in his downfall because they effectively 'certificated' him as sophisticated on the basis of his wealth.

A much better way would be to classify individuals on their knowledge of the markets and put the onus on hedge funds to make sure that their investors are sophisticated enough to understand the risks. This would then force the hedge funds to deliver material explaining, in layman's terms, the risks associated with investing and make proper enquiries into the sophistication of investors.

An investor who wants to invest without all this should, in our opinion, be able to take the risk if he wants to, signing away his rights to complain in the process.

Mark Twain said "Twenty years from now you will be more disappointed by the things that you didn't do than by the ones you did do. So throw off the bowlines. Sail away from the safe harbor. Catch the trade winds in your sails. Explore. Dream. Discover".

Mark Twain was obviously not thinking about the constraints of regulators and governments. A time adjusted quote should perhaps be:

"Twenty years from now you will be more disappointed by the things that you didn't do than by the ones you did do, however, you may be retiring around this time, and the government does not want to bail you out if you have risked and lost your money. So throw off the bowlines (but don't invest in anything risky). Sail away from the safe harbor (but read the 'Safe Harbor Statements' very, very carefully). Catch the trade winds in your sails (but make sure you pay your taxes while you are travelling - remember its on worldwide income.) . Explore (carefully). Dream (but don't reach too high). Discover (but if you discover anything too risky let the regulators know and they will protect you from it, unless of course you are wealthy enough then you can do what you want)".

Offshore Investment

Offshore investing is often portrayed in the media, as the practice of sending your hard earned money to some Caribbean Island in order to evade tax or to find a whole for your ill gotten gains. Of course there are some jurisdictions that may fit into this bracket and we know that there are those whose nefarious activities have to result in ill gotten gains, and these people have to bank too. However, offshore investing as a strategy for some investors has its place in any planned portfolio.

What Is Offshore Investing?

Offshore Investment is essentially the strategy of investing outside the investors home country for the purposes of tax planning, privacy or gaining higher returns from investment vehicles not available to the investor in his home country. There is no shortage of money-market, bond and equity assets offered by reputable offshore companies that are fiscally sound, time-tested and, most importantly, legal.

Advantages

There are several reasons why people invest offshore:

Tax Reduction -

When discussing investing offshore with your friends down the local watering hole this is the one area that comes up most frequently and, one would assume, would be the first reason that investors look offshore. Plenty of jurisdictions offer tax breaks of many kinds to encourage investments by foreigners. For small countries with little resources and not much tax income from its citizens there is an incentive to increase the countries economic activities by offering a safe, legal, tax efficient structure for companies to base themselves for investment purposes either as holdings companies or investment vehicles.

To put it in simple terms an individual or corporation can set up a company in an offshore jurisdiction where that corporation does not have any operational facilities or business (in fact most of these types of company are prohibited from operating in the host country) and as such it attracts little or no tax in that jurisdiction for investments made. This makes it very attractive as part of an investment strategy to route investments rather than doing this individually or corporately in the home state.

In recent years, however, the U.S. and UK governments has become increasingly aware of the tax revenue lost to offshore investing, and has created more defined and restrictive laws that close tax loopholes. Investment revenue earned through offshore investment is now a focus of regulators and the tax man alike. According to the U.S. Internal Revenue Service (IRS), U.S. citizens and residents are now taxed on their worldwide income. As a result, investors who use offshore entities to evade U.S. federal income tax on capital gains can be prosecuted for tax evasion. Therefore, although the lower corporate expenses of offshore companies can translate into better gains for investors, the IRS maintains that U.S. taxpayers are not to be allowed to evade taxes by shifting their individual tax liability to some foreign entity. In the UK the European Savings Directive was intended to be an anonymous way of a European country paying withholding tax on interest on foreign held accounts directly to the home state of the account holder. Unfortunately this has recently been usurped by the UK government to gather information on offshore accounts. They then gave an amnesty called 'The Offshore Disclosure Facility' which gave UK taxpayers until the 22nd of June 2007 to tell the tax man about their accounts, pay taxes due and a 10% fine. 50,000 people did so.

However, as the taxman becomes more sophisticated at finding ways to reel in the offshore loopholes, the practitioners will find ever more complicated ways of helping clients plan for their taxes in an efficient manner and investing in the right offshore jurisdiction is still the place to do this.

Asset Protection - Offshore centers are popular locations for restructuring ownership of assets. Through trusts, foundations or through an existing corporation, individual wealth ownership can be transferred from people to other legal entities. Many individuals who are concerned about lawsuits, or lenders foreclosing on outstanding debts elect to transfer a portion of their assets from their personal estates to an entity that holds it outside of their home country. By making these on paper ownership transfers, individuals are no longer susceptible to seizure or other domestic troubles. If the trustor is a U.S. resident, their trustor status allows them to make contributions to their offshore trust free of income tax. However, the trustor of an offshore asset-protection fund will still be taxed on the trust’s income (the revenue made from investments under the trust entity), even if that income has not been distributed.

The use of bearer shares, for example is a classic strategy of exchanging ownership of companies without a paper trail of transfer, and therefore tax. What is a bearer share? If you are in the UK pull out a bank note and you will see "promise to pay the bearer..." The very notes in your pocket are bearer notes meaning that whoever has the ten pound note in their hand owns it and it can be exchanged for goods and services. It is the same with bearer shares. Lets say you own a company that you have built up to be worth ten million Euros and you want to sell it. If it is a UK company, there would be capital gains and stamp duty on the transfer, evidence by a trail of paperwork. If it is an offshore company held with bearer shares, you could simply give the shares to whomever you are selling the company to and there is no trail to follow.

Of course it is not that simple, as there are other considerations, such as the fact that you should declare the sale, but you see where we are coming from.

Confidentiality - Many offshore jurisdictions, such as Switzerland, offer the complimentary benefit of secrecy legislation. These countries have enacted laws establishing strict corporate and banking confidentiality. If this confidentiality is breached, there are serious consequences for the offending party. An example of a breach of banking confidentiality is divulging customer identities; disclosing shareholders is a breach of corporate confidentiality in some jurisdictions. However, this secrecy doesn't mean that offshore investors are criminals with something to hide.

It’s also important to note that offshore laws will allow identity disclosure in clear instances of drug trafficking, money laundering or other illegal activities. From the point of view of a high-profile investor, however, keeping information, such as the investor’s identity, secret while accumulating shares of a public company can offer that investor a significant financial (and legal) advantage. High-profile investors don’t like the public at large knowing what stocks they’re investing in. Multi-millionaire investors don’t want a bunch of little fish buying the same stocks that they have targeted for large volume share purchases - the little guys run up the prices.

Because nations are not required to accept the laws of a foreign government, offshore jurisdictions are, in most cases, immune to the laws that may apply where the investor resides. U.S. courts can assert jurisdiction over any assets that are located within U.S. borders. Therefore, it is prudent to be sure that the assets an investor is attempting to protect not be held physically in the United States.

Diversification of Investment - In some countries, regulations restrict the international investment opportunities of citizens. Many investors feel that such restriction hinders the establishment of a truly diversified investment portfolio. Offshore accounts are much more flexible, giving investors unlimited access to international markets and to all major exchanges. On top of that, there are many opportunities in developing nations, especially in those that are beginning to privatize sectors that were formerly under government control. China’s willingness to privatize some industries has investors drooling over the world’s largest consumer market.

Disadvantages

Tax Laws are Tightening - The UK 'Offshore Disclosure Facility' is just the start of an assault on tax loopholes and the IRS already tax US citizens on their worldwide income. However, where there is a will from investors and fees for the offshore practitioners and jurisdictions, there will be armies of accounts and advisers working on structuring further strategies for clients.

Cost - Although the general myth is that offshore investing is for the very wealthy, this is not necessarily true. In years gone by this may have been the case but with the information age and specifically the Internet, services are becoming more freely available and cheaper. However, services do not come free and the old adage is true "pay peanuts, get monkeys". Many companies offer a quick fix... set up an offshore company for $300 and away you go. Offshore tax planning is simply not this easy, it requires thought and planning, and with that comes fees.

How Safe Is Offshore Investing?

More than half of the worlds assets are held in offshore jurisdictions. If you ever go down to Monaco, have a look at the flags hanging off the super yachts. Ask yourself the question as to why a country such as St Vincent and the Grenadines (with 120,000 population and a low average income) is represented very well by multi million dollar yachts being registered there. St Vincent just happens to be a very tax efficient jurisdiction for such assets.

The question of safety is relative to what you are investing and where. Registering your super yacth in St Vincent is safe, because someone there is hardly likely to steal it, Would you invest your multi million portfolio from there? Maybe not. Places such as the Bahamas, BVI and of course, the daddy of all jurisdictions, Switzerland, have first class reputations for safety, privacy and security.

Conclusion

Investing offshore is different for every investor, depending on their home country, their wealth, the assets that they are looking to protect or the kind of investments that are being made, so each person requires a selected strategy. Creating this strategy may take lawyers, accounts and investment advisers to create the right structure. In the end, however, if the correct structure is created the benefits can be very good indeed.

There is, after all, a reason that the wealthy have been doing it for years....