Bank Secrecy: More holes than Swiss Cheese?

There have been a number of reports in the press and media lately relating to a brewing scandal at the giant Swiss based bank and financial services firm UBS. With stories flying that the Feds are hot on the trail of some very wealthy people who allegedly squirreled away small (or in some cases, large) fortunes in foreign bank accounts, there may be a number of people having trouble sleeping at night who should normally not be worrying about money. One of the reasons is that the NY Times among others is reporting that the U. S. Treasury is demanding that UBS hand over the names of thousands of American clients and account holders. This is not of course in reference to the ones who opened an account at their local branch of UBS here in the USA. They are looking for people who have been hiding money in undeclared bank accounts in Switzerland and not paying their taxes on that money. (Having a foreign bank account is not illegal. Not declaring its existence to the IRS and paying taxes on it is.)

All of which is producing another round of speculation (this seems to happen every ten years or so) that the end is nigh for Switzerland’s famous (or infamous) bank secrecy.

However, I think that the demise of Swiss bank secrecy is once again being prematurely reported. While it is certainly true that the Swiss have a long history of facilitating tax evasion; they also have a long history lifting bank secrecy where there is evidence of serious crimes as defined in their legal code. Tax evasion, being at most a misdemeanor in Switzerland, does not qualify as such. However, fraud does and always has. The allegations in this case suggest that documents were falsified and dummy corporations were created with the connivance and material aid of some Swiss bankers. That is a serious crime under their law and I fully expect bank secrecy to be lifted in very short order. But probably only in this case unless evidence indicates that this was more widespread than is currently being reported.

It’s important to note that UBS does not have the legal authority to hand over any information about other clients without a court order from the Swiss government lifting bank secrecy. Violating that bank secrecy would be a serious crime under their laws. All of which leads me to suspect the Swiss will cooperate with the IRS only where there is compelling evidence of fraud. Beyond that they will tell the Feds to go pack sand.

Totally ignoring the legal issues, UBS simply cannot hand over lists of their clients to the IRS without committing corporate suicide at the least and potentially undermining confidence in Swiss banks in general. Such an act would likely precipitate a major crisis in this little country whose economy is heavily dependent on its financial services sector. It might even cause something of a panic and a run on the banks. There are over 400(!) banks in Switzerland some of which cater mainly to the very wealthy. Most of those banks survive thanks to the staggering amounts of money, by most estimates in the Trillions of dollars (US), parked in their country by foreign clients.

Now let us be candid for a moment. Most of their clients do not bank in Switzerland because they like the mountain air or the skiing. But this doesn’t mean everyone who has a Swiss bank account is a crook either. I suspect that everyone who is reading this blog has seen one or more B spy movies where the villain explains to his prospective employer that he will do the dirty deed immediately after “X” dollars is deposited into his numbered Swiss bank account. For the sake of staying on track here we won’t start asking inconvenient questions like why any competent spy would divulge the number of his Swiss bank account to anyone. (Yes, there is such a thing as a numbered bank account. But they are not anonymous.)

The reality however is not quite so romantic or dramatic. As I noted above Switzerland’s bankers have a long history of shielding their client’s money from tax collectors. That’s almost certainly one of the main reasons, if not THE main reason why some people bank there. But there are others as well. Some people stash money in countries with serious bank secrecy laws in an effort to shield assets from frivolous (or not so frivolous) lawsuits, others to keep money from ex spouses and still others because they are disturbed at the lack of financial privacy in large parts of the world. (Financial privacy in the United States is quite simply a joke.) Some bank there because the Swiss also have an excellent reputation for wealth management and investing their client’s assets. And believe it or not, some bank there because of the romantic allure of having a Swiss bank account. “I will just have my Swiss banker wire you the money.”

However without a doubt the cornerstone of Switzerland’s financial services sector is their reputation for discretion and secrecy. One banker compared the confidentiality accorded to bank clients to that which in this country would exist between a lawyer and his client. It can be lifted, but only for very exceptional reasons. There is one glaring difference though. In the United States if your lawyer breaches the attorney client privilege you can sue him and maybe get him disbarred. In Switzerland if your banker even admits that you have an account at his/her bank without your permission they can be sent to prison.

The origins of the Swiss tradition of bank secrecy were laid centuries ago. However, the modern law dates to 1934 and can be largely credited to the Nazis. Following the Nazi takeover in Germany in 1933 people on Hitler’s list of undesirables (Jews, political opponents etc.) began to quietly move their money outside of the reach of the new regime. The Nazis responded by passing laws making it a crime to have a foreign bank account. They then began to exert pressure on the Swiss to reveal the names of German nationals with bank accounts in the alpine country. To their credit and in keeping with a centuries old policy of discretion and safeguarding the assets of their clients, they refused. The Nazis responded by attempting to get information by other means including spying, bribery and blackmail of employees. To counter this the Swiss reinforced their tradition of confidentiality by passing the 1934 Bank Secrecy Law.

In a nutshell it codified into criminal as well as civil law, with draconian penalties, the cult of bank secrecy that had long existed in their country. In the years which followed the Swiss have almost always refused to hand over information to outsiders about bank accounts absent compelling evidence of serious crimes. Switzerland thus became a popular place for political refugees from the Nazis and also the Fascists of Italy and Spain and later the Communists of the Soviet Union and Eastern Europe to hide their money from those who would likely attempt to steal it. But Swiss banks also became a popular place for tax cheats, money laundering, terrorist groups, tyrannical dictators and yes the occasional spy to stash their loot.

Beginning several decades ago Switzerland (and most of the other countries with similar laws) began to realize the damage this was doing to their reputation and they took steps to clean up their act, at least somewhat. While tax evasion remains perfectly acceptable in their banking system, the laws were modified to make it a little easier to lift bank secrecy in cases where there is bona fide evidence of serious crimes. More importantly the Swiss abolished the anonymity of numbered accounts, and required banks to conduct due diligence background checks on all perspective clients that are, even post 9-11, far more rigorous than any requirements in the US financial services industry. Not only must proof of identity and residence be established but the Swiss also demand documentary evidence showing the economic origin of any large amounts of money to be deposited in their banks. By their own estimation Swiss bankers now turn down nearly as many applicants for bank accounts in their country as they accept. That however has not been their only problem.

One significant drawback to the bank secrecy used to protect refugee’s money is that when the refugees died their accounts often simply became inactive. The most glaring example of this was the money deposited by Jews and other enemies of the Third Reich in the 1930’s. For many years the Swiss, clinging rigidly to their code of bank secrecy, resisted efforts to identify dormant accounts that belonged to the victims of Nazi genocide and track down their legal heirs. It is only within the last ten years that the Swiss government intervened and granted special exemptions for accounts that went dormant between 1933 and 1945.

Personally I work hard for very little money, and I pay my taxes. So I am not exactly overwhelmed with sympathy for the ultra-wealthy who feel that paying their fair share in taxes on that extra several hundred million will somehow prejudice their standard of living. If the IRS can track them down I will be more than happy to cheer as they are packed off to an all expense vacation at Club Fed. However, I confess to some mixed feelings about the rigid bank secrecy laws in Switzerland (and some other countries).

We live in an age when privacy has become something of a rare commodity. In the United States we have come to accept as normal and permissible government spying on all manner of our activities from telephone conversations, to internet use (email and IMs as well as what web sites you visit) and yes our financial affairs. Most of this can now be done without a warrant. Indeed the Treasury Dept. now requires banks and other financial service firms to report all manner of activities to the US Government without even telling you about it. Every time you withdraw over a certain amount of cash from your bank, the IRS is flagged. All of which I find deeply offensive to my libertarian sensibilities.

So yes, part of me is offended by another country tolerating an entire industry that at least in part exists to facilitate world wide income tax evasion. But another part of me is quietly cheering for the Swiss. I find it heartening that somewhere in the world there are people who still think it is neither normal nor right for governments or anyone else to be able to snoop at will in your private affairs. There is a little part of me that hopes the next time the Feds demand bank records from them that the Swiss will send George Bush a couple pounds of cheese in reply.

(NOTE: This post has been slightly edited for grammar etc.)