Introduction

In today’s interconnected world, managing your assets and finances across borders is more common than ever. But with this global reach comes the need for greater transparency, especially when it comes to taxes. Global frameworks like the Foreign Account Tax Compliance Act (FATCA) and the OECD Common Reporting Standard (CRS) designed to ensure that everyone pays their fair share, no matter where their assets are held. Whether you are setting up an estate plan or managing international investments, understanding the CRS is crucial. In this article, we will break down what the CRS is, why it matters, and how it can impact your financial planning. 

What is Due Diligence under the CRS?

Due diligence is the process that Reporting Financial Institutions (RFIs) must follow to identify whether any of the accounts they manage are reportable under the Common Reporting Standard (CRS).

For the CRS, Australian RFIs need to follow specific steps, detailed in Sections II to VII of the CRS, to determine if the person who holds the account is a tax resident of another country. This helps identify which accounts must be reported to the Australian Taxation Office (ATO), so that the information can be shared with other countries.

The due diligence procedures are fundamental to identifying accounts held by residents of jurisdictions with which the implementing jurisdiction exchanges information. These procedures are designed to ensure that all relevant financial account information is accurately reported and exchanged in compliance with the CRS.

Key Components of CRS Due Diligence for Financial Institutions

AML/KYC (Anti-Money Laundering/Know Your Customer)

Anti-Money Laundering (AML) and Know Your Customer (KYC) processes are critical components of due diligence under the CRS. AML refers to a set of procedures, laws, and regulations designed to prevent the generation of income through illegal actions. KYC, on the other hand, involves verifying the identity of clients and assessing the potential risks of illegal intentions within the financial system.

• Importance: AML/KYC checks ensure that financial institutions can detect and prevent money laundering activities. By verifying the identity of account holders and understanding their financial activities, these processes help institutions avoid being used as vehicles for illicit activities. In the context of CRS, these checks ensure that institutions have accurate information about the tax residency of account holders.
• Implementation: Institutions typically collect identity documents, such as passports or national IDs, and may perform checks against international watchlists. Additionally, they assess the customer’s financial behavior, looking for unusual or suspicious transactions that could indicate illegal activities.

Determining the Type of Account

The second step in CRS due diligence is determining the type of account. The classification of the account is crucial as it dictates the specific due diligence measures that must be applied. Accounts generally fall into categories such as individual, entity, or trust accounts, each with distinct reporting requirements.

• Importance: Accurate classification ensures that the correct CRS rules are applied. For instance, individual accounts have different due diligence requirements compared to entity accounts. Misclassification could lead to non-compliance or incorrect reporting, which may result in penalties.
• Implementation: Financial institutions must evaluate the account details, including the account holder’s information and the nature of the account.  A crucial aspect of CRS due diligence involves determining whether the account in question is pre-existing or newly opened, as this distinction influences the due diligence procedures required. An account is considered pre-existing if it was established before 30 June 2017 for CRS purposes or before 30 June 2014 for FATCA compliance. The due diligence requirements further vary depending on whether the account holder is an individual or an entity. For accounts held by individuals, the due diligence process is differentiated based on the account’s value. Lower Value Accounts, which generally fall below a certain threshold, are subject to less stringent review procedures, while High Value Accounts require a more thorough examination. This approach allows financial institutions to allocate their resources efficiently, focusing more on accounts that present a higher risk of non-compliance.

Identifying the Account Holder

Identifying the account holder is a fundamental step in the CRS due diligence process. It involves verifying who owns or controls the account and determining their tax residency. This step is essential because CRS reporting obligations are based on the account holder’s tax residency.

• Importance: Accurate identification of the account holder is crucial to ensure that financial institutions comply with their CRS reporting obligations. The tax residency of the account holder determines whether the account information needs to be reported to the relevant tax authorities.
• Implementation: Institutions typically collect and verify identity information such as names, addresses, dates of birth, and tax identification numbers (TINs). For entity accounts, identifying controlling persons is also necessary, particularly for passive non-financial entities (NFEs), where the controlling persons’ tax residencies are relevant.

Due Diligence for Individual Accounts

The due diligence requirements for individual accounts under CRS are further divided based on whether the account is pre-existing or new and the account’s value.

1. Pre-existing Individual Accounts, Lower Value Accounts

Pre-existing individual accounts that are classified as lower value accounts (generally those with balances below a certain threshold, often USD 1 million) are subject to a simplified review process.

• Importance: The simplified due diligence process helps financial institutions manage their reporting obligations efficiently, focusing their resources on higher-risk accounts.
• Implementation: Institutions review the information they already hold on these accounts, such as KYC data collected at the time of account opening. If the existing information is consistent and there are no indications that the account holder’s circumstances have changed, further inquiry or reporting may not be necessary.

2. Pre-existing Individual Accounts, High Value Accounts

High value accounts (typically with balances over USD 1 million) require a more detailed review.

• Importance: Due to the higher risk associated with these accounts, a thorough review is necessary to ensure that all relevant information is captured and reported correctly.
• Implementation: The process involves electronic searches for additional information, manual reviews of paper records, and potentially seeking additional information from the account holder. Institutions may also need to review files maintained by relationship managers, especially in cases where they hold additional information that is not reflected in the electronic records.

3. Self-Certification for New Individual Accounts

For new individual accounts, CRS requires the account holder to provide a self-certification of their tax residency at the time the account is opened.

• Importance: Self-certification is a proactive approach to due diligence, ensuring that the financial institution has accurate and up-to-date information from the outset.
• Implementation: The account holder provides a declaration of their tax residency, typically by filling out a standard form. The financial institution must validate this information, ensuring that it is reasonable based on the documentation provided and the institution’s knowledge of the customer. This information is then stored and used to determine whether the account needs to be reported under CRS.

Due Diligence for Entity Accounts

Similar to individual accounts, the due diligence process for entity accounts is divided into pre-existing and new accounts, with specific procedures tailored to each.

1. Pre-existing Entity Accounts

For pre-existing entity accounts, due diligence requirements depend on the account balance and the entity’s classification.

• Importance: Accurate classification of entities as either financial institutions, active NFEs, or passive NFEs is critical for determining CRS reporting obligations. Misclassification could lead to non-compliance or inaccurate reporting.
• Implementation: Institutions must review their records to determine the entity’s classification. For passive NFEs, identifying and verifying the controlling persons is also required. The institution must also evaluate whether the entity’s classification and the controlling persons’ tax residencies have changed since the account was opened.

2. New Entity Accounts

For new entity accounts, financial institutions must obtain self-certification from the entity at the time of account opening.

• Importance: Obtaining accurate self-certification from entities ensures that the financial institution can correctly classify the entity and identify any controlling persons who may need to be reported under CRS.
• Implementation: The entity provides a self-certification that includes details about its classification and the tax residency of any controlling persons. The institution must validate this information and retain it for CRS reporting purposes.

Due Diligence for Trust Accounts

Trust accounts present unique challenges due to the multiple parties involved, including settlors, trustees, and beneficiaries. Each of these parties may have different tax residency statuses, making the due diligence process more complex.

1. Settlors

The settlor of a trust is the person who establishes the trust and transfers assets into it.

• Importance: Identifying the settlor is crucial because their tax residency may trigger reporting obligations under CRS, depending on the jurisdiction and the structure of the trust.
• Implementation: The financial institution must verify the identity and tax residency of the settlor, ensuring that this information is accurately reflected in the CRS reporting.

2. Beneficiaries

Beneficiaries are individuals or entities entitled to receive benefits from the trust.

• Importance: Identifying the beneficiaries and determining their tax residency is essential for CRS compliance, as this information impacts whether the trust needs to report to tax authorities.
• Implementation: The institution must gather and verify information on all beneficiaries, including their tax residency and relationship to the trust. This may involve reviewing the trust deed and any relevant legal documentation.

CRS Due Diligence Requirements for Financial Institutions Can be Tough. Here’s How We Can Help with Compliance.

The Common Reporting Standard is a key factor in international estate planning, ensuring that financial accounts are transparent and tax obligations are met across borders. Staying informed about CRS requirements can help you avoid costly mistakes and ensure your assets are managed correctly. If you need help understanding how the CRS impacts your estate planning, PBL Law Group is here for you. Let’s connect!