BSI Bank Penalty for Tax Violations Shows Need for Broad-based Financial Crime Compliance Programs

The US government’s $211 million penalty against one of Switzerland’s largest and most senior private banks for aiding US citizens in evading taxes on billions of dollars in assets should also prompt institutions to widen their lens when creating financial crime compliance programs.

The penalty and non-prosecution agreement (NPA) by the US Department of Justice and Internal Revenue Service against Lugano-based BSI (Banca della Svizzera Italiana) SA centered on the bank helping some 3,500 US accounts worth nearly $3 billion evade tax obligations through a maze of fictitious trusts, shell corporations and anonymous, numbered accounts and related debit and credit cards.

The account and transaction information gleaned from the BSI investigation, along with pressuring the current or former accountholders, will also become leads to other banks in other jurisdictions that could have knowingly or unknowingly sheltered US evaders, a dynamic that should nudge possibly affected institutions to self-review their client base, say attorneys.

Part and parcel of that, however, is to not just try to preempt US tax investigators, but also keep domestic regulators at bay by analyzing anew the strength and resilience of their financial crime compliance programs to better uncover a broader swath of illicit activities and actors, such as tax evaders from other jurisdictions, corruption, human trafficking and organized crime.

When a bank in one jurisdiction negotiates a significant penalty for what can be viewed as financial crime control failures in one area, in some cases domestic regulators initiate their own, broader view of compliance systems, such as anti-money laundering, sanctions and related areas, though these exams can be less rigorous if the banks under scrutiny find the vulnerabilities first.

Holistic financial crime program critical

The penalty and breadth of the Swiss bank’s reported cooperation “hammers home the importance that banks critically assess their risks and then impose a vigorous and effective financial crime compliance program tailored to address those risks,” said Jonathan Halpern, a partner in the New York office of Foley & Lardner LLP and a former federal prosecutor in the Southern District of New York.

Such a program would not limited to discharging their  standard anti-money laundering (AML) obligations, he said, adding that forward-thinking financial institutions will do so not only to be in compliance, but also to further protect account holders, shareholders and assets.

The NPA settlement is the first of its kind under a Justice Department Swiss Bank Program announced in August 2013 that provided a path for banks to escape criminal prosecution by advising US authorities by December of that year they could potentially have committed tax-related offenses tied to undeclared US accounts.

In recent years, more than 100 Swiss banks have opted in to the program, though some have reportedly pulled back, according to media reports. The more than a dozen Swiss banks already under criminal investigation for such offenses were not eligible for the program.

Under the program, though, Swiss banks would have to extensively open their books to US investigators, potentially putting them at odds with Swiss privacy laws. As part of the program, banks would have to:

  • Make a complete disclosure of their cross-border activities.
  • Provide detailed information on an account-by-account basis where US taxpayers have a direct or indirect interest.
  • Cooperate in treaty requests for account details
  • Provide extensive information as to any other banks that possibly transferred funds into secret accounts or accepted funds when secret accounts where closed
  • Agree to close accounts that fail to comply with US reporting obligations
  • Pay any related costs and penalties for their failings to disclosure US account ties

More tax disclosures equals more leads to bad banks

“That prospect of such widespread bank disclosures to the DOJ should provide a powerful incentive for banks to reassess their exposure,” Halpern said. “This is especially so for financial institutions in Switzerland but also in the next locus of offshore activity – including India, Luxembourg, Liechtenstein, Israel and the Caribbean.”

A focus is expected to be on transfers of suspect funds, and banks should quickly assess whether they have any exposure for conduct allegedly assisting U.S. citizens to evade their income tax obligations, he said.

These institutions would do well to “take stock of their AML, [Foreign Corrupt Practices Act] and tax compliance programs, and put their houses in order without delay” and before they are under investigation by U.S. prosecutors and investigators, Halpern said.

“It comes down to having an overall comprehensive review of bank procedures and a thoughtfully-designed evaluation of how and where the subject bank operates,” he said.

Beyond the sham corporations and trusts in places like Bahamas, Channel Islands, British Virgin Islands, Panama and Liechtenstein, the bank allowed US clients to open “numbered” Swiss accounts, shielding their identities even from employees and then issuing credit and debit cards without visible names on the cards themselves, according to the Justice Department.

In addition, the bank also helped US clients repatriate cash by having a coded system to help individuals refill their cards. In the scheme, clients would send code words to bank relationship managers saying things like “can you download some tunes for us?” or that their “gas tank is running empty,” which prompted private bankers to add more funds to the cards.

First agreement under program nailed down, but more to come

The BSI penalty is “a big deal because BSI is a big bank and it’s the first one. It also reflects the changing banking climate in Switzerland,” said Scott Michel, a lawyer at Washington, DC-based Caplin & Drysdale.

Most likely, the penalty and requirements to open the books to US investigators will be the model other Swiss banks must follow, he said, noting that the Justice Department not only cares about the names of past individuals skirting tax laws, but also the details about what other institutions and jurisdictions they moved funds and assets.

“That is one very important caveat in the agreement,” Michel said. “The banks have to provide information on not just the individuals and closed accounts, but they have to explain where the money went” either to other Swiss banks, branches in other countries or other foreign banks, which could  form the basis of new investigations against banks or strengthen current probes.

The dozens of Swiss banks involved in these deals are “obligated to provide extensive information about these closed accounts,” he said. Once acquired, “you would expect the IRS and DOJ to look into the other banks and countries and also the forms of assets that people used in trying to move their money with an intent on keeping it.”

Pool of tax evading banks, jurisdictions evaporating under DOJ heat

Since 2009, the US government has charged more than 100 offshore bank accountholders and cracked Swiss secrecy with penalties against UBS at nearly $800 million, Wegelin, which closed the bank, and snaring the names of thousands of individual evaders, though in many cases not without fighting it out in Swiss courts and garnering fewer details than originally desired.

The offshore enforcement has also stretched beyond Switzerland, with actions involving banking activities in India, Luxembourg, Liechtenstein, Israel and the Caribbean, according to the Justice Department.

After the 2008 UBS penalty, BSI chose not to open more accounts for US clients, but moved to conceal those it already had, by instituting a mandatory hold on mailing bank statements to those customers.

But the universe of banks, and likely jurisdictions, willing to engage in such blatant assistance of US tax evaders is likely shrinking due to stronger information sharing agreements between countries on financial crime and the US 2010 Foreign Account Tax Compliance Act (FATCA), which requires foreign banks to strain their customer rolls for US indicia and report hits either to their home government or directly to the IRS.

Because so many countries have signed up to FATCA, at latest count in the dozens, there is a sense that some tax evaders became desperate and didn’t just move their funds out of Swiss banks, but also out of the formal banking system entirely, putting funds in real estate, gold and even precious gems and diamonds, Michel said.

There also could still be “small, rogue countries attempting to gain more money for their financial system by expressing the view they will look the other way” for wealthy US folks attempting to evade taxes, he said. “But that should raise concerns as well. Do you really want to put a significant amount of your money in a jurisdiction that does not comply with the law?”