The European Union has not added the Cayman Islands to an expanded EU tax blacklist, but the council of EU finance ministers said in March that Cayman will have to amend its legislation by the end of this year.
The EU governments added 10 new jurisdictions to the tax blacklist, including Aruba, Barbados, Belize, Bermuda, Fiji, the Marshall Islands, Oman, the United Arab Emirates, Vanuatu and Dominica.
The Cayman Islands government last year passed a new economic substance law to fulfill commitments made to the EU in 2017 in order to avoid being classed as uncooperative in tax matters. The new law requires certain Cayman companies that are active in defined business areas to pass an economic substance test by demonstrating sufficient economic activity on island, in terms of staff, office space and expenditure.
The EU is targeting Cayman and other offshore financial centres for maintaining tax regimes that facilitate offshore structures which attract profits without requiring real economic activity locally.
The EU Council said Cayman, the Bahamas and the British Virgin Islands also committed to addressing the concerns relating to economic substance in the area of collective investment funds.
While the three jurisdictions had engaged in a positive dialogue with the EU Code of Conduct Group on Business Taxation and have remained cooperative, the EU Council said, they will “require further technical guidance”.
Cayman and the other offshore centres will have until the end of 2019 to adapt their legislation. But the EU noted that the deadline may be reviewed depending on the technical guidance that will be agreed by the Code of Conduct Group and the ongoing dialogue with the jurisdictions concerned.
The EU first referred to collective investment vehicles in a scoping paper in June 2018 but mentioned them in the context of “reduced substance” requirements similar to equity holding companies.
The substance test would include fund managers, the scoping paper said, as this is a mobile activity within the scope. “However, collective investment funds (CIVs) are of a different nature, except in rare circumstances where the manager and the CIV form one legal entity. Therefore, the usual substance requirements cannot automatically be applied to CIVs. Thus, and in part similar to pure equity holding companies, reduced substantial activities requirements adapted to CIVs should apply requirements in this regard can be paralleled with EU legislation on investment funds, in particular Directive 2011/61/EU on Alternative Investment Fund Managers,” the paper noted.
However, the EU then based its economic substance process on the global standard set by the OECD’s Forum on Harmful Tax Practices, which does not consider funds as an economic substance issue.
The Cayman Islands government responded to the EU Council’s findings by saying that the EU has acknowledged that further work will be needed to define acceptable requirements for collective investment vehicles (CIVs) or funds.
“While the government has committed to continuing its engagement and dialogue with the EU on this issue, it should be borne in mind that the global standard requiring economic substance for relevant financial and corporate entities, set by the OECD’s Forum on Harmful Tax Practices, does not include CIVs,” the government said in a statement. “As such, Cayman’s legislation is based on the global standards, and we will continue to adhere to global standards with regard to economic substance requirements for relevant entities.”
Overall, the Code of Conduct Group’s latest assessment of Cayman’s tax regime in early 2019 concluded: “Leaving aside the issue of collective investment funds, the Cayman Islands have implemented their commitment to introduce substance requirements.”
The addition of the 10 new jurisdictions to the tax blacklist brings the total number of listed countries to 15, including the previously listed Samoa, Trinidad and Tobago, and three US territories: American Samoa, Guam and the US Virgin Islands.
Citing the minutes of a meeting of EU envoys, news agency Reuters reported in March that Britain had pushed other EU states not to include Bermuda on the list, but then lifted its objections after the European Commission argued that the island had “been playing games” to dodge EU requirements.
According to the document, the Commission noted that Bermuda was supposed to change its tax rules by the end of February, but had added new loopholes in its revised legislation and did not provide a final text by the deadline.
The EU Council said it will also monitor how Bermuda addresses economic substance concerns in the area of collective investment funds by the end of 2019.
Blacklisted countries face restrictions on EU funding and investments from the European Investment Bank. They are likely to be subject to stricter controls on transactions with the EU, but member states have not agreed any uniform sanctions as yet.
Bermuda’s Premier David Burt called the island’s tax blacklisting by the European Union a “setback”, but said that he believes Bermuda is compliant with EU requirements and should be removed at the next EU Council meeting in May.
Bermuda’s Finance Minister Curtis Dickinson ascribed the problems with the EU’s Code of Conduct Group, which evaluates compliance with EU requirements, to “a slight typographical error”.
The omission meant that Bermuda’s submission was incomplete because one provision was not included.
Jersey was not blacklisted but will have to amend its own substance legislation to remedy certain issues that were highlighted after the latest EU blacklist was announced. The required amendments are, however, described as minor.
Money laundering report finds deficiencies in Cayman
The Caribbean Financial Action Task Force has identified a number of shortcomings in its latest evaluation of Cayman’s anti-money laundering framework.
Large money laundering investigations and prosecutions were non-existent and the use of the Financial Reporting Authority to initiate investigations was benign.
In addition, Cayman is not able to fully analyse and understand the risks from money laundering and terrorism financing, the regional affiliate of the global standard setter in anti-money laundering concluded.
The problems partially stem from a national risk assessment, conducted in 2015, that, given Cayman’s role as an international financial centre, did not focus enough on international money laundering and terrorism financing threats.
The evaluation report found that the risk assessment provided a “fair level” of understanding. However, it did not contain an assessment of legal persons or arrangements, nor did it include a sufficient analysis of risks faced by parts of the financial sectors that are not subject to supervision, like lawyers or excluded persons under the Securities and Investment Business Law.
“This has resulted in major deficiencies that have inhibited the jurisdiction’s ability to analyse and understand its risks,” the mutual evaluation report stated.
The high-level summary of the national risk assessment, therefore, did not contain enough information to help develop a comprehensive understanding of all the money laundering and terrorism risks faced by Cayman entities.
The evaluation of Cayman’s anti-money laundering rules and practices was adopted by the CFATF Plenary held in Barbados in November 2018, but only published March 2019. Based on a visit to the Cayman Islands in December 2017, the report analyses the level of Cayman’s compliance with 40 Financial Action Task Force standards to combat money laundering and terrorism financing.
Unlike previous anti-money laundering assessments of Cayman, the fourth round of mutual evaluations focusses on how effective Cayman’s anti-money laundering regime is in practice.
On a positive note, the CFATF assessors detected “a solid and highly professional institutional framework” and found that almost all financial and non-financial representatives they interviewed “displayed a solid understanding of risks and are skilled in applying relevant control measures”.
The CFATF further credited Cayman with “a high level of commitment” to ensuring the anti-money laundering framework is robust and capable of safeguarding the integrity of the jurisdiction’s financial sector.
The cooperation and coordination in the Cayman Islands through the Inter Agency Coordination Committee and the Anti-Money Laundering Steering Group works well, the CFATF said, but it requires further integration and cooperation among law enforcement organisations and the Financial Reporting Authority at the operational level.
Although money laundering offences are investigated and prosecuted, this involved almost exclusively minor domestic predicate offences. Given the shortcomings of national risk assessment, the report noted, this “may not be fully commensurate with [Cayman’s] risk profile”.
While money laundering investigations and prosecutions focus on the identification of assets that could be seized, the results are “modest” and there could be greater use of civil forfeiture.
Despite the resources available to the Royal Cayman Islands Police Service and the Office of the Director of Public Prosecutions, “large and complex financial investigations and prosecutions have not been identified, or pursued, and there is limited focus on stand-alone [money laundering] cases and foreign generated predicate offences”, the report said, adding that there remain fundamental challenges in how the jurisdiction identifies instances of money laundering and terrorism financing for investigation.
The Financial Reporting Authority, which deals with all suspicious activity reports in Cayman, does not have the tools to assist investigative authorities in the identification of cases, the CFATF said. Assessors found that the Financial Reporting Authority has not been able to sufficiently analyse and disclose the reports in time, nor does it have access to wider relevant information.
“The result is that there is a low level of usage of FRA’s disclosures to supplement investigations, and they have been used to a negligible extent to initiate investigations,” the report said.
Some of the legislative changes had not come in time for the assessors to evaluate their effectiveness. For instance, a risk-based supervisory regime for dealers in precious metals and stones, real estate agents and accountants had not been fully implemented.
In addition, the report said, more information should be collected on excluded persons under the Securities Investment Business Law, who must also implement appropriate anti-money laundering policies, procedures and controls.
In terms of transparency, basic information on legal persons is available through the General Registry’s website, but not for legal arrangements and exempted companies, the CFATF said. Challenges also exist in the verification and ongoing maintenance of the ultimate beneficial ownership information in the case of partnerships where the information required does not include the beneficial owner.
The Cayman Islands government responded to the report’s finding by appointing a dedicated task force, made up of the premier, the attorney general, the deputy governor, and the ministers for financial services, commerce and finance, to oversee the implementation of a “comprehensive action plan”.
The task force will coordinate the implementation of the plan and lead the several initiatives with the aim of remedying the identified shortcomings within a year.
“The Cayman Islands remain fully committed to upholding the highest global standards on money laundering and terrorist financing,” Premier Alden McLaughlin said. “Our anti-money laundering and counter-financial terrorism action plan will send a clear signal that we intend to maintain those standards.”
“Work is already underway to improve information gathering, more rigorously monitor financial activity and enhance enforcement including the confiscation of assets,” he added.
After a 12-month observation period, the FATF’s International Cooperation Review Group is set to issue a report on Cayman’s progress.