Additional requirements for regulators and financial institutions to prevent and report Special Mechanisms

The Law of 2 June 2021 entered into force on 28 June 2021 and constitutes a new step in the combat against tax fraud.

The Law of 2 June 2021 containing various provisions on the prevention of fraud (the “Law”) was published in the Belgian Official Gazette on 18 June 2021 and entered into force on 28 June 2021. The Law constitutes a new step in the combat against tax fraud by extending the duty of the National Bank of Belgium (“NBB”) and the Financial Services and Markets Authority (“FSMA”) to report so-called Special Mechanisms to the judicial authorities. 

The notion “Special Mechanisms” is not new and refers to “a process which involves repetitive transactions carried out in circumstances deviating from the common market practices with the aim of facilitating tax evasion by third parties, especially clients”. The prohibition to put in place Special Mechanisms is a regulatory requirement and non-compliance can lead regulators to impose administrative sanctions. 

Prior to the entry into force of the Law, the FSMA and the NBB were required to report Special Mechanisms to the judicial authorities if they became aware that a supervised institution was effectively involved in a tax fraud. The Law now requires the NBB and FSMA to report factual elements of Special Mechanisms to the judicial authorities in all circumstances, even if the supervised institution is not involved in the tax fraud. This is because the Law now provides that the Special Mechanism itself is a criminal offence in its own right. 

For the sake of completeness, please note that the Law also includes a new requirement for entities subject to AML reporting to report discrepancies between the information they hold on the ultimate beneficial owner and the information included in the UBO-register. This requirement is not only applicable to financial institutions, but also to auditors, accountants and tax advisors for instance.

Genesis of the new criminal offence

The Law finds its origin in the recommendations made by the parliamentary commissions set up further to the international tax fraud scandal of the Panama Papers, which identified shortfalls in the current legislation to tackle Special Mechanisms. The NBB and FSMA are indeed subject to the professional secrecy so that the obligation to report Special Mechanisms to judicial authorities was only triggered when facts susceptible to constitute a criminal offence, in particular tax fraud, were detected. In the absence of effective tax fraud, only administrative measures, such as requiring the financial institution concerned to end the Special Mechanism, could be taken by the Belgian regulators.      

By qualifying a Special Mechanism as a criminal offence, the Law extends the obligation of regulators to report Special Mechanisms to the judicial authorities even when the financial institution was not a perpetrator, co-perpetrator or accomplice of the tax fraud.

Definition of the new criminal offence

The definition of a Special Mechanism is unchanged. Four cumulative conditions must be met to qualify as a Special Mechanism:

1. The process has the purpose or the effect of enabling or facilitating tax fraud by third parties (it is not required that tax fraud be effectively committed);
   
   
2. The financial institution itself (or its employees, agents) initiates the process or takes an active part in the process, or the process is the result of gross negligence (such as a lack of a control framework) on the part of the financial institution;
   
   
3. The process consists of a repetitive series of actions or failures to act;
   
   
4. The process is special in nature, meaning that the institution or company knows or should know that the process deviates from the common standards and practices in the banking or insurance industry.
   
   

A non-limitative list of practices which qualify as Special Mechanisms is included in the circular letter D1 97/9 - D4 97/4 (dated 18 December 1997) as well as in the old Communication D.207 issued by the previous insurance regulator, the Insurance Supervisory Office. An example of a Special Mechanism is the improper use of internal accounts of a financial institution for client transactions to hide the actual nature of the transactions. Another example is sham insurance (e.g. insurance of inexistent risks).  

It is expected that an updated list of examples of Special Mechanisms will be published shortly in a circular letter that will be issued by the NBB and the FSMA. 

Other important elements

Regarding the role of the NBB and FSMA: 

• The prohibition to set up Special Mechanisms remains a regulatory requirement meaning that administrative sanctions can still be applied by both Belgian regulators;
  
  
• Only the judicial authorities are competent to determine whether a criminal offence has been committed, neither the NBB nor the FSMA are entitled to assess the criminal nature of the mechanism. Both regulators are only required to report factual elements of the Special Mechanisms detected. It concerns “sound indications that the prohibition to put in place special mechanisms has intentionally not been respected”.
  
  

Regarding the scope of the new legislation:   

• The prohibition to set up Special Mechanisms applies  to all regulated financial institutions i.e. banks, brokerage firms, insurance companies, payment institutions, CSDs and custodians.
  
  
• Both Belgian incorporated financial institutions and Belgian branches of foreign financial institutions are in scope;
  
  
• Foreign investments firms and asset managers established in Belgium are not subject to the administrative supervision of the Belgian regulators regarding the Special Mechanisms (due to the application of the Home Country Rule) but are susceptible to incur criminal charges if they are not respecting the prohibition.
  
  

In addition to their current reporting obligation under their existing “warning function”, accredited auditors are now required to provide the Belgian regulators with an annual declaration confirming whether or not they have identified or observed factual elements of Special Mechanisms in the framework of their mission.

Finally, any person reporting factual elements of special mechanisms in good faith can benefit from the protection available to whistle-blowers. 

Sanctions in case of non-compliance

Besides the existing administrative sanctions that can be imposed by the Belgian regulators, criminal penalties can be imposed on financial institutions (and their personnel) who intentionally set-up a Special Mechanism: one month to one year of imprisonment and/or a fine between EUR 50 and EUR 10,000.

Conclusion

The Law raises a number of questions, in particular as to the precise contours of this new criminal offence. In this connection, it is expected that the update of the existing circular letter by the NBB will provide valuable guidance on what should be considered as a Special Mechanism. However, the courts will not be bound by this circular letter, which creates legal uncertainty. 

By creating this new criminal offence, the law further reinforces the need for financial institutions to have an adequate tax prevention policy and a robust compliance framework in order to avoid administrative and criminal sanctions. A proper review of the existing set up regarding Special Mechanisms should be undertaken by each financial institution involving all relevant stakeholders within the organization i.e. the management, the compliance officer, the tax function, the internal audit function, the accredited auditor and last but not least the various businesses.   

Combined with the recent requirements in their role as transparency agents (FATCA, CRS and DAC 6), this once again highlight the key role financial institutions are playing in the fight against (international) tax fraud, tax evasion and tax abuse. More than ever, financial organizations need to have a clear tax strategy based on a proper identification of tax processes and tax risk areas to create sustainability and long term value and build trust with their stakeholders. 

How can we help? 

EY can help you to: 

• understand the (new) requirements and consequences thereof;
  
  
• assess the impact of the new Law on your organization and help you to identify the risks areas based on your activities;
  
  
• perform a review of your current tax prevention policy and compliance framework to identify potential gaps and areas of improvements;
  
  
• identify the training needs and deploy trainings or e-learnings appropriate for the different group of personnel.
  
  

EY can also provide assistance with respect to any control procedure performed by the FSMA or the NBB and remediation projects. 

Finally, EY can provide internal audit support.