Tax Collector for the World

Insight on the News, July 30, 2001 by John Berlau

Thanks to a Bill Clinton `midnight regulation,' U.S. banks may may have to report financial data about their foreign depositors to countries such as Russia and even China.

During the last month of his administration, Bill Clinton worked desperately for a historical legacy on the world stage. But peace talks with Israel and the Palestinian Authority broke down, and Chile balked at signing a trade agreement with labor and environmental conditions attached.

Then, on Jan. 17, three days before his administration ended, Clinton's Treasury Department and Internal Revenue Service announced an international bequest of considerable significance. The gift was a "midnight" regulation requiring U.S. banks routinely to provide data on their foreign customers to countries ranging from socialist Sweden to communist China.

If it goes into effect, the new regulation should garner considerable appreciation from foreign bureaucrats and tax collectors. To escape high taxation by Europe's welfare states or outright confiscation by Marxist and other dictatorships, foreigners have been putting their earnings into U.S. bank accounts, where the currency is relatively stable and their privacy was protected. Congress has encouraged this practice since 1921 to attract capital to the U.S. economy by exempting from U.S. taxation the interest earned on deposits of nonresident foreigners. But high-tax countries in Europe, as well as the Paris-based Organization for Economic Cooperation and Development, have attacked the United States and other (relatively) low-tax jurisdictions for fostering "harmful tax competition."

Critics say the new IRS regulations were a Clinton-administration attempt to bypass the specifics of U.S. law which bars the IRS from requiring the reporting of interest earned by foreign depositors on U.S.-based accounts except in certain exceptional circumstances. The Clinton regs make an end run around the intent of the rule by extending the exception cases to all foreign depositors so that the IRS can "facilitate, whenever possible, the effective exchange of all relevant tax information" with more than 60 countries that have tax treaties with the United States. The countries then can do with the information what they wish, taxing the interest earned by their citizens from U.S. banks. And, in the case of such treaty partners as China, Russia and Venezuela (see chart), subjecting their citizens to even sterner punishments for "economic crimes" against their masters.

IRS Proposes Sharing Data With
Unfree and Repressive Countries

Romania      Tajikistan
Russia       Belarus
Kazakhstan   Turkmenistan
India        Uzbekistan
Ukraine      China
Azerbaijan   Venezuela

Source: Heritage Foundation

The IRS already exchanges bank information routinely with Canada, and it can ask banks for information on specific foreign customers who are suspected of crimes. But the Clinton regulation represents a dramatic change, requiring banks to participate in a "data dump" on customers from treaty countries regardless of circumstances, observes George Guttman, a veteran IRS reporter for the journal Tax Notes.

"The only people who benefit from these regulations are foreign tax collectors," says Dan Mitchell, a senior fellow in political economy at the Heritage Foundation. "Countries don't have an obligation to enforce each other's laws.... Why on Earth should we help another country enforce bad tax law?" Mitchell also is cofounder of the Alexandria, Va.-based Center for Freedom and Prosperity, which is coordinating opposition to the IRS regulations and other international efforts to thwart tax competition.

And opposition has emerged to the IRS rules from financial institutions that run the gamut from small banks and credit unions to international bankers. They say that not only would the reporting requirements impose high compliance costs, they also would cause fearful foreigners to pull their money out of the United States and put it in safe havens such as the Cayman Islands, Panama or Switzerland, which have a reputation for protecting privacy. This would put at risk an estimated $1.7 trillion in U.S. bank assets from foreign depositors.

In Florida, foreign accounts are estimated to represent as much as one-third of bank deposits. So it is not surprising that members of the Sunshine State's congressional delegation who were at each other's throats during the presidential recounts signed a joint letter warning Treasury Secretary Paul O'Neill that the new IRS regulations "may well do significant damage to the U.S. banking industry and to many of the nation's communities if the proposal is not withdrawn." The letter was signed by most Republicans in the Florida congressional delegation, as well as liberal Democratic Reps. Robert Wexler and Peter Deutsch.

Now that the rules have attracted so much attention, it seems no one wants to defend them. Clinton administration Treasury secretary Larry Summers and his deputy, Stuart Eizenstat, did not return Insight's phone calls for comment. An IRS spokeswoman also declined comment, telling Insight that "regulations are issued by the Department of the Treasury." But the regulations formally cite the desires of "Treasury and the IRS" and are signed by the IRS deputy commissioner.