Europe, U.S. Battle Swiss Bank Secrecy

Europe, U.S. Battle Swiss Bank Secrecy
Investigations into UBS and a proposed law against tax havens are ratcheting up pressure against Switzerland's banking regulations

Martin Liechti, a senior executive with the private banking division of major Swiss bank UBS, worked through his business appointments in New York with his usual efficiency. A subsequent trip to the Bahamas for a meeting in late April was also pure routine. In the Caribbean paradise, Liechti was scheduled to attend a supervisory board meeting of UBS (Bahamas) Ltd., and to take a closer look at the options for doing business with America's super-rich, including parking their money in Swiss trust accounts. But Liechti, a man known for his abrasive manner, never arrived in the Bahamas. US officials abruptly ended his trip when he was about to change planes in Miami. Since then, Liechti has been barred from leaving the country because the American authorities are investigating his employer for allegedly helping clients to evade taxes.

Liechti's former colleague Bradley Birkenfeld, as well as Mario Staggl, an executive with a trust company in Liechtenstein, are under indictment for allegedly helping American billionaire Igor Olenicoff evade taxes. According to the indictment, a fortune of about $200 million (€129 million) was sheltered from tax authorities "in secret bank accounts in Switzerland and Liechtenstein." Prosecutors allege that Staggl's attorney in Gibraltar even helped Olenicoff hide the details of his ownership of a "147-foot yacht."

The accused are alleged to have forged special forms that Swiss banks use to report their US customers' capital gains to the US tax authority, the Internal Revenue Service (IRS). Both Birkenfeld and Staggl have declined to comment on the charges.

"UBS is walking a thin line. On the one hand, it has to show a willingness to cooperate. On the other, it is trying to protect its customers' banking secrets," says Robert Heim, an attorney in New York and a former investigator with the US Securities and Exchange Commission.

"The Justice Department will urge the two to cooperate," says Heim. "The more information they provide, the less severe their penalties will be." He expects that their testimony will soon lead to further indictments and arrests. "This is a very bad development for UBS," says Heim.

According to Heim, the United States is by no means the only place where Swiss high finance and the country's banking secrecy laws are coming under growing pressure. Foreign authorities around the globe are increasingly taking sharper action against tax evaders. Swiss financial institutions, often in tandem with partners in Liechtenstein, play a central role in helping the ultra-rich avoid paying billions in taxes.

An almost unimaginable fortune of more than €3 trillion ($4.7 trillion) is currently sitting in Swiss bank accounts. The discreet Swiss allow vast amounts of money to disappear into trusts, offshore companies and bank accounts, money that is often protected by Switzerland's banking secrecy laws.

"Criminal Support of Economic Crime"

Because of these laws, foreign officials on the hunt for untaxed riches are often forced to end their quests at the Swiss border — to the anger and dismay of the world's finance ministers, and others. Rudolf Elmer, a controversial former executive with the private bank Julius Bär, condemned the dubious methods employed by Switzerland's financial institutions at a press conference in Berlin last week. He sharply attacked his native Switzerland, accusing it of engaging in "criminal support of economic crime."

Many politicians agree. The most recent challenge comes from French Finance Minister Eric Woerth, who plans to dry up the profit sources of Alpine "tax robbers," as he announced in a recent interview. The Frenchman has called for an initiative against tax havens and wants Switzerland to guarantee "maximum transparency and the exchange of information."

Woerth also plans to examine the black list of the Organization for Economic Cooperation and Development (OECD) because, as he claims, many countries have only been removed from the list thanks to "vague promises." Woerth says that he has already discussed the matter with German officials.

One man he can count on as an ally in his campaign against tax havens is German Finance Minister Peer Steinbrück. The Germans are especially fond of parking their untaxed assets in foreign tax shelters. According to a study based on data from DSTG, the German national tax collectors' union, and the Bundesbank, Germany's central bank, close to €500 billion ($775 billion) in untaxed German assets are in foreign tax shelters, with fully one-third of that amount on deposit in accounts in banks in Swiss cities like Geneva, Zürich and Lugano.

Former German Finance Minister Hans Eichel is a vocal critic of Switzerland's special status, and he is fond of appearing on Switzerland's prime-time television talk shows, where he sharply attacks Swiss banking secrecy. "A person who receives stolen goods is no better than a thief," he says.

Nevertheless, Eichel's comments are greeted with complete incomprehension. Despite the rallying cries of Eichel — a member of Germany's center-left Social Democratic Party — such as "tax evasion is committing theft against the people," the majority of Swiss continue to support banking secrecy.

One of the system's strongest advocates is a senior executive with Switzerland's oldest private bank. For Konrad Hummler, a partner in Wegelin & Co., German tax evasion is a legitimate defense by citizens attempting to "partially escape the current grasp of the administrators of a disastrous social welfare state and its fiscal policies."

"Swiss-style saving outside the system" is something to which not only the wealthy, but also productive small and mid-sized businesses are entitled. "These people must be protected," says Hummler.

Banking secrecy as an act of humanitarian compassion? More than anything, Switzerland's system of banking secrecy amounts to a very good business. It is considered the most controversial model of success in the history of global high finance. In past decades, the banking secrecy that is protected by law in Switzerland has acted like a magnet, drawing in trillions of euros and contributing to the meteoric rise of the small Alpine country's financial sector.

Once insignificant boutique banks transformed themselves into banking industry giants. Despite suffering record losses as a result of the US subprime mortgage crisis, banks like UBS and Credit Suisse are still seen as top choices for portfolio managers. The entire industry makes up 15 percent of Switzerland's gross domestic product. "It makes us fat, but impotent," top banker Hans J. Bär complained a few years ago in his memoirs.

From small and mid-sized businesses to athletes to actors, everyone values the Swiss authorities' policy of refusing to respond to inquiries from foreign tax investigators. Those seeking a place to park untaxed income have nothing to fear in Switzerland. Their account information is kept under lock and key because tax evasion is not considered a criminal offence in the country. Foreign governments can only expect assistance from the Swiss when it comes to tax fraud, such as when their tax authorities are deceived with falsified documents like bogus company accounts.

A recent incident at Credit Suisse illustrated how routine and matter-of-fact it is for Swiss banks to help their foreign clients avoid paying taxes. Because of embezzlement of customer money, one of the bank's customer advisors was summoned to appear in court in Zurich and divulge his employer's practices. At the bank's offices on downtown Zurich's posh Paradeplatz square, the defendant and his coworkers helped manage the assets of customers living in Germany, including a wealthy, elderly woman. According to the indictment, house visits with the client were as much a part of Credit Suisse's service as "tax optimization." The banker allegedly deposited the proceeds of real estate sales as cash into trust accounts, in an attempt to "make it impossible to trace the source of the funds," the prosecutor writes.

Naturally, the Zurich court refused to overrule the country's banking secrecy laws. The names and addresses of the injured parties were not divulged — neither in the indictment nor in the courtroom.

A Wall of Silence

Switzerland's wall of silence has been in place for more than 70 years. In the Third Reich, both the Nazis and the persecuted Jews valued the small country's discreet services. After the war, Colombian drug dealers, African dictators and tax evaders from around the world pumped their ill-gotten billions into Swiss vaults. Former Philippine dictator Ferdinand Marcos, for example, had more than $600 million (€387 million) stashed away in Swiss bank accounts.

Money-laundering was not made a criminal offense in Switzerland until 1990. Before that, Swiss banking secrecy laws were even impregnable to foreign authorities pursuing members of the mafia.

In the meantime, however, it has become easier to crack the country's once hermetically sealed vaults.

A treaty with the European Union "to combat fraud" is expected to come into effect by the end of the year. When that happens, Switzerland will "also provide administrative and legal assistance in cases of tax evasion in the area of value-added tax," says Robert Waldburger, a professor of tax law and former deputy director of the Swiss Tax Administration. German tax investigators will then be able to contact their Swiss counterparts directly and discuss the necessary account information.

The new rules will be especially detrimental to small and mid-sized companies. Their private illicit earnings are often derived from undeclared company sales, for which they also failed to pay value-added tax.

Part 2: The Demise of Swiss Banking Secrecy

Is Swiss banking secrecy headed for the history books? And are Steinbrück and other finance ministers fighting a paper tiger?

Almost, but not entirely. According to Waldburger, "the automatic exchange of information," in other words, the disclosure of account details, "would spell the real demise of Swiss banking secrecy." But the treaty on the taxation of interest between Switzerland and the EU still prevents this from happening.

After years of negotiations, the EU member states agreed that the Swiss could levy a source tax, a sort of withholding tax, which would increase over time, on the interest earnings of foreign customers, and turn over this source tax to the EU states without including customer data. However, the tax is easily circumvented with special financial products and letterbox companies, because it does not apply to legal persons.

But this is precisely what EU member states Austria, Luxembourg and Belgium are also doing. For this reason, a uniform EU directive to strengthen the interest taxation directive is not in sight. When finance ministers met in Brussels last Wednesday, Steinbrück encountered strong resistance to his demands. Austrian Finance Minister Wilhelm Molterer has said that banking secrecy is "not up for discussion."

In the United States, on the other hand, the Swiss banking industry could run into difficulties sooner. For years, the US Senate has been conducting its own detailed inquiries into the issue of tax evasion. Senators have summoned key representatives of the industry, including tax advisors, accountants, lawyers and bankers, to the Capitol in Washington for lengthy hearings.

These hearings have produced reports, some of them hundreds of pages long, on the "tax shelter industry" and "its tools, methods of obfuscation and those pulling the strings." UBS was mentioned early in the Senate documents as an offender. With relish, the senators cited a letter written by an insider to UBS management. According to the letter, the bank offers "US taxpayers illegal tax evasion models," part of a system that costs American tax authorities "several hundred million dollars a year."

Of course, others — the auditors at KPMG — invented the system on which this is based. After admitting to charges of criminal tax fraud conspiracy, they only managed to avoid further criminal prosecution in the United States in 2005 by paying $456 million (€294 million) in fines and penalties.

By this point, the UBS executives should have known that they were likely to face significant problems in the United States. Many of the "tax optimizers" advised by KPMG had maintained accounts with the Swiss bank. The trail had been set. All the American officials had to do was to follow it.

Three US authorities are now conducting investigations against the Swiss portfolio managers: tax investigators from the US Justice Department, the Securities and Exchange Commission (SEC), headed by Christopher Cox, and New York Attorney General Michael Garcia. All are now hunting down the Swiss.

Political conflict is also on the horizon. An aggressive bill to combat tax evasion, the "Stop Tax Haven Abuse Act," was introduced in the US Congress last year. The legislation provides for tough measures against 34 tax havens, including Liechtenstein, Luxembourg and Switzerland.

The bill has stood little chance of becoming law until now. But that could quickly change after the presidential election in November. Once of the bill's three sponsors is Senator Barack Obama, who is currently favored to win the White House.

Translated from the German by Christopher Sultan