The IRS Money Laundering Machine: QI Regulations
More Government & Protection for Mafia, Less Legitimate Investments & Privacy  (rev. k)

     The U.S. Internal Revenue Service (IRS) promulgated new regulations which, effective 1 January 2001, would impose a world-wide confiscatory backup withholding tax of 31% on money invested in U.S. securities from overseas - over US$ 6000 billion - except on money where the IRS knows its beneficial owners or accepts them to be non-U.S. persons.  Even capital invested abroad would be exposed to this new IRS taxation - if only the order came from America or involved a U.S. account.  Providing IRS protection at 31% would suit some Mafia kingpins just fine.  However, the rest of us may be tempted to run for the door.  An investment stampede out of the U.S. market can thus not be excluded.  Also, foreign tax collectors could seek reciprocal treatment with foreign rules imposed on U.S. citizens and businesses at home.  Behind the back of Congress, the IRS thus not only stretches but unwisely ventures beyond its prerogatives.  And while significant adverse effects would be a certainty, experts foresee no appreciably higher tax revenues or a real dent on U.S. tax evasion.

    As the opposite of what tax reform and tax competition are are all about, the IRS has been hiding this latest power grab behind a convenient multi-purpose smoke-screen. Ostensibly designed to catch tax dodgers investing in the U.S. market through off-shore centers, this anti-market, anti-sovereignty and anti-privacy tax and its enforcement instrument, the QI regulations ( are in fact ill-considered and dangerous to U.S. interests.  For they also void or erode the investment incentives associated with comparatively low U.S. taxes, they put off-shore branches of U.S. financial institutions at a competitive disadvantage, and they jeopardize a key motor of the market economy, i.e. reliable financial privacy.  Fundamentally flawed, their enactment has already been twice postponed.  Yet, the legally required cost/benefit analysis is still lacking.  The IRS should thus withdraw the proposal and reconsider how best to serve the U.S. economy without infringements on foreign jurisdictions.

What exactly are QI Regulations?
     Qualified Intermediary (QI) regulations are extraordinarily complicating texts with which the IRS seeks to globally impose a backup withholding tax regardless of its market-upsetting risks and without congressional approval.  Theoretically, it applies only to "U.S. persons"- i.e. U.S. citizens, dual nationals, green card holders, U.S. residents - who invest in the U.S. market through financial institutions abroad.  In practice, all recipients of U.S.-source income or capital gains are thus faced with a choice: either they withdraw their investments from the U.S. before the end of this year, or - as long as they are not, to the satisfaction of the IRS, identified or shown to be non-U.S. persons - they risk their U.S. investments to be slammed with a confiscatory backup withholding tax of 31% (i.e. 31% on principal, not on interest or gains)!  This tax is to be collected on behalf of the IRS by Qualified Intermediaries (QIs) which, in return, will be able to provide some sweeteners to investors.  Overseas financial institutions practicing IRS-approved Know-Your-Costumer rules can apply for entering into an agreement with the IRS for directly enforcing these new regulations as QIs, with IRS-approved and QI-paid fiduciaries serving as auditors acting under U.S. laws.

Did Congress ever intend to let the IRS impose, on its own, a world-wide confiscatory tax?
No, if the original intent & purpose of the U.S. taxcode and other applicable authorities are a guide.

What are we talking about in terms of foreign investments in the U.S.?
    In its latest report, the U.S. Federal Reserve Board stated the total foreign-held U.S. financial assets to be US$ 6277 billion ("Flow of Funds Accounts of the United States", Federal Reserve Board, Washington 9 June 2000 -   Nobody seems to have a clear idea whether the undeclared money originating from U.S. persons amounts to much of the total investments from abroad, and whether the risks involved in this IRS witchhunt will not far outweigh the benefits.   Some observers see the QI regulations as a direct cause for both U.S. persons and foreign investors to at least temporarily withdraw their investments from the U.S. market before the end of the year.  The negative investor advice currently circulating among investment advisers in the U.S., France, Great Britain, Italy, Japan, Switzerland, Luxemburg and elsewhere may indeed snowball - at considerable risks to the U.S. economy.  To be sure, the usual impact and cost/benefit analysis required by U.S. law are still missing.  The bounds of administrative lawmaking are overstepped when untested, far-reaching and globally impacting directives and norms like the IRS' QI regulations are enacted without congressional guidance and affirmative action by the constitutional lawmaker.

Why Are the QI Regulations Not Only Harmful to U.S. Interests but Helping the Mafia?
     U.S. persons determined to avoid U.S. taxes, will always find lawful ways, e.g. by shifting their investments out of U.S. assets.  They don't need the anonymity offered by the QI Regulations.  Only the Mafia does - for reasons of its own.  Mafia treasurers would appreciate the guaranteed anonymity obtained through a 31% protection payment to the IRS.  The QI regulations might thus not only fail their advertised purpose, but would likely cause significant damage to U.S. interests, e.g. by being:

1.    Bad for the market
    The regulations would hit all persons investing in the U.S., non-U.S. firms included.  Failure to qualify as QI would mean higher withholding taxes, yet qualification would force the institutions and investors to endure considerable red tape and costly regulatory burdens.  The solution: to invest someplace other than America.  Professionals have thus warned that the new regulations “could trigger an exodus from U.S. securities.”
    The QI regulations would create a discriminatory system imposing different tax rates on global investment.  Also, international tax specialists that have commented have all criticized these regulations for their extraordinarily bewildering complexity, amounting to a new non-tariff trade barrier.  Indeed, for foreign institutions and investors – particularly from the non-English speaking world – it would be difficult to decipher the intricacies of U.S. regulations even without the QI's numerous cross-references to the Internal Revenue Code. As such, they would violate open trade rules.
    In order to comply, foreign institutions would have to endure large information technology costs, legal fees and on-going auditing costs.  Small- and medium-sized companies typically do not have in-house legal assistance and are not used to engage costly outside counsel for interpreting “60-odd pages of American legalese.”   As Wall Street has no monopoly for foreigners to invest, QI compliance costs and burdens may thus lead many institutions to avoid the U.S. market altogether.

2.    Bad for sovereignty
    The IRS is adding new personnel to accomodate hundreds of foreign institutions which, under threat of higher withholding taxes, it is deputizing for enforcing US information-gathering requirements and the collection of congressionally unapproved confiscatory and other U.S. taxes.  The QI regulations would also interfere with nations which genuinely respect financial privacy.  This puts long-term U.S. interests at risk as aliens may insist on and receive reciprocal treatment.  The specter of foreign taxmen, backed by the OECD's international police arm FATF, harrassing U.S. citizens and companies in the United States may not be to the liking of many U.S. lawmakers either.  Not least as this would mean new regulatory burdens for U.S. institutions and investors.  And as it could violate and generally erode the respect for existing tax and other treaties.

3.    Bad for privacy
    Foreign institutions would be forced to engage in a massive data collection exercise to determine whether or not their clients are "U.S. persons".  This is an unreasonable and disproportionately time-consuming and costly task, particularly given the complex rules governing dual citizens, green card holders, varying tax rules for different types of investments, and the use of multi-tiered structures and multi-country entities.  As such, the QI regulations represent an attempt by the IRS to export Know-Your-Customer rules that force financial institutions to spy on their customers, i.e. to act contrary to their legal duties and traditional fiduciary obligations.  American consumers revolted against similar provisions that regulators attempted to impose in the U.S.  Despite of this and behind the back of Congress, the IRS seeks to get these discredited invasive rules adopted overseas and - by way of the Paris-based Organization for Economic Cooperation and Development (OECD) - to impose them by stealth on the U.S. market.

4.    Bad for foreign branches of U.S. financial institutions
    The QI regulations entail a competitive disadvantage on foreign branches of U.S. financial institutions in that all investments which their U.S. person clients hold anywhere must be identified to the IRS, whereas U.S. persons banking through their QI host country competitors would need to report only investments made in the U.S. market.  This is seen to be in contradiction not only with non-discrimination host country statutes but with treaties binding on the United States.