Fight against tax fraud laundering put to the test in next FATF visit has been saved
Fight against tax fraud laundering put to the test in next FATF visit
Performance Magazine - Issue 40 ⬤ Published on 25 November 2022
Fight against tax fraud laundering put
to the test in next FATF visit
Partner, Tax & Consulting, Deloitte
Director, Tax & Consulting, Deloitte
To the point
Initially postponed due to the pandemic, the next visit of the Financial Action Task Force (FATF) to Luxembourg should take place in the fall of 2022. While its 19 February 2010 mutual evaluation report included recommendations to strengthen certain aspects of Luxembourg’s anti-money laundering (AML) and combating the financing of terrorism (CFT) system, the last 10 years have undoubtedly seen the Grand Duchy develop its regulations and practices in this area.
On their 2009 visit, FATF emissaries specifically targeted the relative uncertainty of declaring tax offenses to the financial prosecutor's office, pointing out that they were not considered offenses that could contribute to money laundering (ML).
Although the Anti-Money Laundering Act did not restrict the reporting of suspicious transactions that could also have a tax dimension, a Commission de Surveillance du Secteur Financier (CSSF) Circular nevertheless stated that "The professional must ask himself whether the funds [...] are likely to arise from one of the primary offences.” This effectively excluded tax evasion from any AML declaration.
Moreover, the FATF emissaries found that, in practice, some financial institutions did not go further than required to investigate these tax offenses for fear of being prosecuted for bank secrecy breaches. In fact, the penalty for banking secrecy breaches was greater at the time than the penalty for failing to report suspicious transactions, which discouraged financial institutions from going down this road as a result.
Finally, although the regime regarding requests for mutual legal assistance in criminal matters allowed Luxembourg to carry out a multitude of acts, FATF emissaries pointed out that cooperation was not possible concerning tax matters, even ancillary ones.
Based on these findings, the FATF made numerous recommendations to address hardware failures.
In the past decade, the Luxembourg financial center has completely changed its approach to the fight against tax fraud laundering.
By abolishing banking secrecy and introducing the automatic exchange of information on 5 November 2014, the Chamber of Deputies took the first legislative response to the FATF’s recommendations. As banking secrecy breaches could no longer be sanctioned and the fear of prosecution was no longer justified, the first reports of suspicious transactions regarding tax offenses were made.
The second block was removed by introducing two new tax offenses by the law of 23 December 2016 that implemented the 2017 tax reform; (i) aggravated tax fraud and (ii) tax fraud (whether committed or attempted) regarding direct taxes, registration and inheritance duties, and value-added tax.
Adding these two offenses to the list of primary offenses of Article 506-1 of the Criminal Code led to the concept of money laundering and tax fraud being recognized. At this point, only simple tax evasion remained on the sidelines; and as it is only punishable administratively, it does not constitute a primary offense of laundering tax evasion as such.
This legislative reform was followed by CSSF Circular 17/650 of 17 February 2017, which set out professionals’ obligations in the fight against tax fraud laundering. This Circular’s scope was not limited to institutions regulated by the CSSF but to all professionals subject to and listed in Article 2 of the amended law of 12 November 2004 on the fight against ML and terrorist financing, as confirmed by the Financial Intelligence Unit’s circular of 31 March 2017.
CSSF Circular 17/650 lists 22 indicators of possible tax-related ML offenses, and is specifically used by institutions to set up their control and risk assessment procedures. It has also enabled certain actors to reduce their exposure to laundering tax fraud risks. For example, by abandoning their poste restante service, or requiring tax compliance documentation drawn up by a leading independent firm to avoid any conflict of interest risk between the person who issued this opinion and the institution's client.
On 3 July 2020, due to the Luxembourg investment fund sector’s importance and its different exposure to laundering tax evasion risks compared to the traditional banking and insurance sectors, the CSSF published a second list of indicators specific to collective investment activities. By taking these new indicators into account, stakeholders are encouraged to include elements regarding tax transparency in their investment controls.
The exchange of information in tax matters has been a true cornerstone of the fight against tax fraud laundering, being the tool most used by all market professionals to determine their clients’ level of risk as part of a risk-based approach.
With this new arsenal, the financial center has been put in proper working order, and the vast majority of players have integrated tax fraud into their AML policies.
In practice, this consideration is illustrated in the FIU’s annual reports, which have included figures relating to tax offenses for each sector subject to AML obligations since 2017. The number of declarations, their typology and the FIU’s follow-ups are recorded in these reports, making it possible to measure the importance of tax offenses in the volume of declarations.
In the traditional banking, investment fund and other financial sector professionals (FSPs) sector, criminal tax offenses rank third in the primary offense categories of suspicious transaction reports. For insurance sector players, these criminal tax offenses rank first, testifying to the good consideration of the fight against tax fraud and the proper functioning of professionals’ controls.
In addition, the role of tax offenses in the number of declarations is now correlated with the financial sector’s size. Luxembourg had previously pointed out to the FATF that, given the financial center’s size and the fact that capital was attracted for tax reasons, the number of declarations for suspected tax offenses should be reflected in the total number of declarations made by all professionals.
Finally, the FIU's annual reports also highlight that since tax offenses were introduced into Luxembourg legislation as a primary ML offense, information exchanges have taken place both at the international and national levels. In tax matters, the FIU carries out the required exchanges, either through the cross-border dissemination (XBD) system or through traditional international cooperation.
XBD is typically used to share elements of a case where the suspicion of a tax offense is low but where information from another FIU could confirm or refute the suspicion. In 2018, 221 declarations were disseminated via this system with several Member States.
When the FIU confirms the reported suspicion or when the exchange is made with non-EU countries, traditional international cooperation comes into play. In 2018, the FIU carried out 242 of these exchanges, most regarding suspicious transaction reports for cases where there was doubt about the tax residence of natural and legal persons, and for which the automatic exchange of information between tax administrations did not apply.
At the national level, it is also worth highlighting the increase in exchanges between the Luxembourg Inland Revenue Authority and the Registration Duties, Estates and VAT Authority. The latter is generally asked to determine the allegedly evaded tax to confirm or refute a suspicion of a criminal tax offense. This increased from six exchanges in 2018 to 92 in 2020.
In view of the facts set out in this article, it can be seen that Luxembourg has succeeded in carrying out the necessary reforms to make the entire sector—both the financial center players and the professionals in charge of their regulation—aware of the importance in the fight against the laundering of tax fraud.
In practice, we have seen financial institutions’ skills improve in this area in recent years, with more and more tax experts appearing on customer acceptance committees, and sometimes these experts being directly integrated into compliance departments. The same applies to control bodies that have included people specifically trained in combating tax fraud in their teams.
In view of the forthcoming FATF visit, these improvements could be highlighted to evaluators to show the effectiveness of Luxembourg’s measures to combat ML in relation to tax offenses. As a result, it is hoped that the FATF’s conclusions will be more positive, given that the legislative and regulatory changes have led to an evolution in market players’ oversight and the FIU’s handling of these cases.
Nevertheless, despite the FATF’s findings this autumn, all actors subject to AML obligations must continue to review their exposure to tax infringement risks, ensure their due diligence measures are up to date, and question the quality of their clients’ documentation. Supervisory authorities are scrutinizing these areas, being a priority of the Office of the Insurance Commissioner’s annual report since 2020.
Finally, as the subject is ever-evolving, actors in charge of the fight against tax fraud laundering must continuously update their knowledge in this area to prevent any ill-intentioned people from using new techniques to slip through the cracks.