An inconvenient truth

Those familiar with the incoherent logic of Carroll’s work will have no difficulty in comprehending the recent mischaracterisation of the Cayman Islands (and other offshore jurisdictions) as the serpent of the current financial crisis. New legislative and regulatory thrusts from the EU have always been presaged by a barrage of distortion only apparent to those actually involved in the relevant industry. What has made the current EU initiative more problematic is that the United States, driven by domestic fiscal crisis, and which has hitherto regarded tax competition as a cornerstone of its domestic and global tax policy, has undergone a radical pro-European shift in socialist thinking and so we now find the full force of the public relations departments of the United States and the EU Treasuries combined in a drive that supports the OECD initiative to domesticate and tax all global capital flows, writes Cayman Islands Financial Services Association Chairman Anthony Travers.

Leaving aside the contentiousness of that objective for the moment there should be little wonder if, in the face of the concerted G-20 campaign of blame deflection, the truth has been hard to find. However, given the significant regulatory and transparency advances undertaken by the Cayman Islands over the past decade, which are now being publicised, those who distort the picture can no longer maintain credibility. Even the United States General Accounting Office report 2008 fully corroborates the true Cayman Islands position as can anyone with access to the internet and the Cayman Islands Monetary Authority website. Those who would assert a contrary position should recognise that they cannot defy gravity forever.

How do these distorters of the truth operate?  
By conflating the Cayman Islands with jurisdictions which should properly described as “tax havens” as part of a rudimentary PR campaign designed to garner public support for ill-conceived domestic tax reform. Without doubt the rationale for this approach has been to demonise all low-tax jurisdictions, masking the fact that this has as much to do with UK and US domestic tax policy than anything else.
As opposed to Switzerland, Andorra, Lichtenstein, Monaco and others the Cayman Islands has held a full tax information exchange treaty with the United States since 2001 and has had full proactive tax reporting on individual accounts with all 27 European Union jurisdictions since 2005. In addition it holds 12 unilateral tax information exchange arrangements with Japan, South Africa, Switzerland, United Kingdom and others and is constantly updating its reporting standards. Only the criminally insane would seek to use the Cayman Islands to evade tax. Many of these evidently effective measures have, however, been dismissed on the hop by the OECD, which has imposed – and promoted – misleading ‘lists’ to fit in with its negative  PR drive. As a testament to Cayman’s cooperation and transparency it now additionally holds 11 bilateral tax information exchange agreements in the OECD model form, and negotiations are ongoing so that it and surpass the 12 treaties required by the new OECD standard.
By continually suggesting that there is a greater probability of housing “illegal proceeds” in Cayman than the UK or the US. The 1990 United States Treaty with the United States of America gives the Department of Justice unrestricted ability to empty any filing cabinet in the Cayman Islands on enquiry in relation to any criminal or money laundering matter; most notably a power which it does not possess within the United States. Interestingly a 2009 report of the Financial Action Task Force, which rates the Cayman regulatory system on money laundering compliance as the most robust of any country assessed, including UK and US, has not seen the light of day.
By conflating, as does President Obama, illegal tax evasion, legal tax avoidance and tax competition such that any reference invokes a sense of moral outrage. Debate surrounding the importance of tax competition in regulating state spending and maintaining global capital markets has therefore been almost non-existent. Companies should legally have the right to structure their business such that they can benefit from lower tax regimes in order to remain globally competitive. ‘Avoiding’ tax is not in and of itself morally reprehensible as long as appropriate tax payments are being made in the correct jurisdictions. 
When it comes to exchanging information to prevent tax ‘evasion’ another myth peddled is that a low number of enquiries are evidence that the system does not work. The Pigeon would be proud of the logic. In fact the absence of enquiry is evidence of nothing more startling than a transparent well regulated regime. Compare the Cayman Islands to the now OECD white-listed Switzerland, which has 53,000 Swiss UBS accounts for US citizens that the IRS is investigating. Where is the publicity on the recent FATF report which ranks the Cayman Islands as the leading jurisdiction globally in matters of all crimes and in money laundering compliance?
The OECD initiative is not really then about tax evasion but rather tax competition and an attempt to domesticate and tax international capital pools. In a bid to appear effective in the wake of the financial crisis the British government, keen on political grandstanding, was happy to be tied in to this unjustifiable assault on the British Overseas Territory with over 9,000 hedge funds and US$3.6 trillion under management. However the EU has now revealed its second but true target with the introduction of the AIFM Directive and the British Government has been hopelessly wrong footed.  It has been left to AIMA, industry, practitioners and now Boris Johnson to sound the alarm on the threat to the City of London – through which a significant proportion of Cayman Islands hedge fund assets are managed pursuant to the investment management exemption and invested.  The fact that it was left to Mr Johnson to articulate the concern is testimony only to the failure of the British Government to protect the vital interest of either the Cayman Islands or the City of London against what an ill-founded EU attempt at fiscal manipulation in the guise of a regulatory initiative.  There is something wrong too with Lord Myners suggestion that he must now obtain the support of the United States in dealing with the European Union threat. Is that the measure of UK influence on this issue in Europe?  Less political grandstanding and a good deal more focus on the real fundamentals of the global crisis may have avoided this outcome.
There is at least one inconvenient truth that may be harnessed by way of rearguard action.  Both the Institute of Economic Advisors and Lord Turner absolve the Cayman Islands from involvement in the global financial meltdown.  Indeed the Cayman Islands financial system has remained robust throughout simply because the Cayman Islands Monetary Authority did not allow its regulated banks to lend 40:1 to hedge funds and did not permit impecunious borrowers to purchase homes.  It may therefore be legitimately argued that the EU response should be proportionate and properly focussed on the actual causes.
That said, what are the likely consequences of this Directive, assuming (by no means certain) it proceeds in its current form?  As with all misguided protectionist legislation it creates as many unintended as intended consequences.  The answer though is nothing like as negative for the Cayman Islands as it might be for the City of London. Cayman Fund structures remain superior because of a sound legal and regulatory framework and are attractive to investors globally. Cayman Islands hedge funds do not have a UCITS passport nor market retail in Europe.  Denying pan-European marketing therefore effects no fundamental change and not an insurmountable one to a global investor.  In addition, the Directive supposes that a fund manager will remain in the City of London and that the Fund must move to the EU.  No doubt the Directive is intended to strain the relationship between the Cayman Islands and the City of London but the relationship most likely tested will be that between the hedge fund manager and his or her spouse and family. Hitherto the balance of competing interests has favoured Bond St, Eton and Harrow and the unquestionable attractions of the Wiltshire weekend house party. But if the fund manager is now not only subject to the new levels of UK super tax and national insurance contribution but is subject also to restrictions on trading function which substantially reduce pre-tax profit then one likely consequence is that the fund manager may now move out of the EU although not necessarily out of Europe.  That is not to say that the economics necessarily dictate an all family exodus .Switzerland is recognised as being a tedious place to live and there will be fine economic calculations to be undertaken balancing the additional UK tax bill, reduced trading profit (given imposed trading restrictions), the cost of the weekly Geneva/London return by Net Jets as against the possible alimony. But with a non EU resident fund manager the relationship with the Cayman Islands remains unaffected and no one should be surprised that the Swiss amongst other obvious jurisdictions will be the net beneficiaries of the Directive in its current form but so too the Channel Islands, Dubai and other non EU locations simply because no fund manager needs to be resident in the EU to trade EU securities.  There comes too a point where more protectionist regulation on that point from the EU throttles the very markets it is intended to bolster.  Thus, the most likely consequence of the Directive in its current form is that UK tax revenue on fund managers will be substantially reduced. Mr Boris Johnson is right to be alarmed but the hitherto silent Mr. Darling should be more so.  

This article was first published in Hedge Fund Journal.



Anthony Travers