STEP Caribbean: Trust industry at a crossroads

Trust practitioners debated the future of the financial services industry at the regional STEP Caribbean conference in Bermuda and found that “we will survive” is more than just “a ghastly karaoke song”.

The annual conferences of the Society of Trust and Estate Professionals have changed over the years, said Michael Young, the organisation’s global chairman.

Initially STEP events were very much about the “tools of the trade” with topics covering the latest developments, particular tax planning techniques and reviews of recent cases. But in recent years there has been a shift toward regulatory topics, especially international regulation, which has taken aim at the practices of tax and estate planning.

Young noted that a substantial portion of the world “does not do trusts, they don’t understand them, they regard them as an alien concept”.

At the same time, he said, there have been cases where trusts have been used for illegal purposes, for money laundering and tax evasion.

“So if we have a significant number of countries where trusts are simply not understood, but they know that trusts have been used for illegal purposes, it is hardly surprising to find that government and officials in those countries view trusts with suspicion or even downright hostility,” Young said.

The answer to this development and to counter suspicion and prejudice is education and the promotion of truth, he argued, which at the moment is the major activity within STEP.

The organisation’s representatives meet regularly with international organisations such as the OECD or the Financial Action Task Force to foster a better understanding of trusts and how they are used.

“In this way we are aiming to dispel the myths and prejudices that have been built up,” said Young, who is convinced that clearly there is going to be increased regulation.

“Our efforts are trying to ensure that regulation targets the abuses of trusts without stifling their entirely legitimate use,” he explained.

In this context a couple of presentations at the recent STEP Caribbean regional conference highlighted the work of STEP’s Public Policy Committee in addressing regulatory initiatives affecting international financial centres and that of the IFC Forum and STEP in representing international financial centres with a unified voice.

Young suggested that it can no longer be the aim to fight and preserve the trust industries in any one jurisdiction, but that financial centres have to join forces in defence of legitimate trusts anywhere in the world. To this end jurisdictions have to join “together, putting aside their rivalry”, 
Young stated.

No colours left in the crayon box

The event’s key note speaker Professor Gilbert Morris argued for the same idea of unity among IFCs, however on the political level.

He lamented the lack of political will to create an organisation representing international financial centres. An initial idea for such an organisation and a model treaty he had drafted never came to fruition.

Examining the role IFCs play in the global financial system and the likelihood of their survival, Morris noted that 70 per cent of US bank liabilities are processed through Caribbean financial centres and that the Cayman Islands is the largest facilitator of investments in China, followed by the BVI.

In other countries of the world investments are made in a similar way. “The formula for investments in Singapore is a Cayman fund and a BVI company,” he said.

This would mean that IFCs “are not centrifugal but centripetal to the global financial system”, Morris concluded.

Yet, facing the demands by the IRS, the OECD, the EU and now the G20, he believes, only those small financial centres that are able to align their interests with a large nation will be able 
to survive.

Morris said that these organisations not only behave inappropriately but illegally by imposing rules that do not apply evenly to large and small states. In addition none of the organisations have a standing in international law backed global law-making authority, he said.

Citing the 19th Century Austrian diplomat Prince Klemens von Metternich, whose strategy small IFCs should adopt, Morris said that “large nations are always right and small nations can only keep from being wrong”.

And although the size of a country should not matter, if there is a rule of law, this rule of law has been lost, according to Morris. Even the confidentiality rules in common law jurisdictions, which he calls constitutional confidentiality, because they are based on the protection of fundamental rights that cannot be easily disapplied, have been eroded by the IFCs themselves.

Those governments that are signing tax information exchange agreements are acting “unconstitutionally”, Morris said, emphasising that his aim is not to defend a tax scheme, but the rule of law.

He believes small international financial centres have been pushed as far as it goes, asking “are there any colours left in the crayon box” of white, grey and other lists?

“You have done everything that you have been asked to do. You are the most well regulated jurisdictions.”

Given these political realities he predicts that large states will have their own client financial centres. “Brazil will have Panama, India will have Mauritius, China will have Macau, Honk Kong and Shanghai and the US will have whatever they want.”

Giving the example of the G20 summit in London, when China resisted attempts to introduce tougher rules for offshore financial centres, Morris concluded that “only those jurisdictions that have a big power like China defending it will survive”.

Although IFCs are at the heart of the financial system, they need to have a consistent narrative that they can defend. IFCs need a strategic leverage proposition built on that narrative, he said. “Until you have this or some institution that acts on your behalf, your impact in the world will not survive,” Morris said.

We will survive

In contrast to Morris a panel of practitioners, debating whether preferred trust jurisdictions will survive, was adamant that offshore finance will continue to be in demand.

However, individual financial centres may well struggle in the future, the panellists agreed, although no one wanted to point the finger at any one jurisdiction in particular.

Joseph Kellog of UBS in Miami said as long as there is cross-border investment there is going to be a need for IFCs to facilitate that investment. The challenge for financial centres will be to provide the required level of services in response to demand.

In addition education has an important role to play, says Kellog, explaining that STEP USA is constantly engaged in “making sure that practitioners understand the legitimacy of what we are doing”.

Nick Jacob of Lawrence Graham concurred that education has to improve standards as well as explain the benefits that offshore finance does provide to ensure the survival of the industry

“No doubt offshore will survive, but not everyone will survive at the same level,” said Tracy Tepper of Lombard Odier Darier Hentsch Trust in Bermuda. Tepper argued that it is not just a question of survival but of what should be done so the industry can be truly successful. She does not believe that educating onshore will make much of a difference. Instead it is about educating practitioners, Tepper said, “because to be relevant we have to be sophisticated” and “understand the client we are serving”.

BVI’s Lorna Smith of LGS & Associates cited a study that in the near and medium term only the 12 best regulated financial centres will survive.

“As costs go up there will be small jurisdictions that will just not be able to bear those costs,” Smith said, referring among others to the OECD Global Forum peer review process.

Overall the shakeout of trust jurisdictions will be driven by costs and reputation, she said.

To survive the natural selection process one needs a critical mass of business both in terms of the business model and the jurisdiction, Tepper added.

From an onshore perspective legislation and infrastructure, in particular the legal fraternity and the local professionals, is the bottom line in the selection of a jurisdiction, said Jacob. “The court system is another aspect of survival and absolutely crucial to have the certainty that if there is a dispute you will get a good hearing,” he added.

For Kellog the selection of a jurisdiction depends on client needs. Even new jurisdiction could survive, he said, “but not on the old business model of the best trust legislation; that has been commoditised”. Smaller financial centres would have to focus on niche markets.

The retention of key people will be another important factor for the survival of individual financial centres, particularly as Singapore and Switzerland with their quasi onshore-offshore regime are on the rise, looking to attract the best professionals, said Tepper.

Kellog’s vision of where the trust industry is going is that practitioners must ensure that every structure that is set up is ready for a full audit. “The value of any jurisdiction is no longer that it is a black box,” he said.

“We need to move away from the paradigm of they never 
find out.”