What does DAC6 reporting mean for private clients and their advisers?

Council Directive EU/2018/822 (“DAC6”) of 25 May 2018 introduces Mandatory Disclosure Rules (MDR) and focuses on automatic exchange of information among EU states in the field of taxation. It obliges EU based ‘intermediaries’, and in some cases the taxpayers themselves, to report on aggressive tax planning arrangements that affect at least one EU Member State if they fall within one of several broad categories.

These categories (the so-called ‘hallmarks’) have particular characteristics that have been identified as potential indications of aggressive tax planning. If an arrangement or a transaction has any of these hallmarks, they must be reported in detail to the tax authorities so that they can react to aggressive tax planning.

However, the way DAC6 (or MDR-DAC6) has been drafted means that it can also apply to vanilla transactions with no tax motive. Furthermore, there is no safe harbour for arrangements that have an underlying commercial purpose.

DAC6 implemented with retrospective effect

As part of an increased global focus on tax transparency and with a view to target aggressive tax-planning arrangements, the Council of the European Union made, in May 2018, a series of amendments to EU Council Directive 2011/16/EU of 15 February 2011 (on Administrative Cooperation in the field of taxation), and introduced DAC6. DAC6 came into force on 25 June 2018, although the implementing legislation in Belgium was not adopted until the following year, that was the Act of 20 December 2019 that came into force on 1 July 2020. Therefore, the Belgian legislation has retrospective effect, as transactions where the first step was implemented on or after 25 June 2018 are potentially reportable.

Implementation of the reporting obligation has been delayed with the principal reporting obligation for arrangements coming into effect from 28 February 2021, with reports required to be made within 30 days from the relevant date. Cross-border arrangements that occurred were entered into between 25 June 2018 and 31 December 2020 had to be reported by 28 February 2021.

Whilst DAC6 is principally focused on corporate transactions, these regulations still have serious implications for private clients and their professional advisers.

What does DAC6 mean for you?

Broadly speaking, DAC6 provides that details of certain cross-border tax arrangements displaying one or more hallmarks must be reported to the relevant EU tax authority by promoters, intermediaries and in some cases by the relevant taxpayer. The reporting of such arrangements is compulsory and failure to comply will result in penalties ranging from €1,250 to €25,000 for incomplete reporting and €5,000 to €100,000 for failure to report or for late filing.

DAC6 then provides for automatic exchange of information between EU Member States (and the UK, post-Brexit). The information collated by each relevant tax authority is shared on a quarterly basis.

There are two criteria which will generally result in an arrangement being reportable under DAC6 if the criteria are met.

Firstly, it must be a cross-border arrangement where the transaction concerns two or more EU Member States or a EU Member State and a third country (i.e. those jurisdictions have some material relevance to the arrangement) and one of the following conditions is met:

  • not all participants in the arrangement are tax resident in the same jurisdiction.
  • any of the participants has dual tax residence.
  • any participant carries on business or activities in another jurisdiction via a permanent establishment (domestic arrangements are not expressly included); or
  • the transaction could potentially impact the automatic exchange of information or the identification of beneficial ownership.

Secondly, the arrangement must display one (or more) of a number of hallmarks, which are essentially features of an arrangement that are indicative of potential tax avoidance. That said, it should be noted that certain hallmarks, in particular those flagged below regarding automatic exchanges of information and beneficial ownership, are not subject to the ‘main benefit test’ (i.e. where it can be established that the main benefit or one of the main benefits which a person can reasonably expect to derive from the arrangement in question is obtaining a tax advantage).

What are the key hallmarks?

The hallmarks most relevant and likely to be engaged by private clients and their advisers or intermediaries are those relating to automatic exchanges of information and beneficial ownership. In particular, conventional estate and tax planning that involves offshore structures could be caught.

In respect of information exchanges, under DAC6 any cross-border arrangement (or series of arrangements), which has the effect of undermining the reporting obligations under EU law or equivalent agreements with third countries (such as the Common Reporting Standard, ‘CRS’) will result in a reporting obligation arising.

DAC6 lists a number of elements which are likely to be included in any such arrangement caught under this hallmark. Broadly, these are:

  1. using investments which are not reportable under CRS whose features are ‘substantially similar’ to investments which are caught by CRS;
  2. transferring assets or funds to jurisdictions which are not subject to CRS;
  3. reclassifying funds or assets into products or payments which are not subject to CRS;
  4. transferring or converting assets or funds into those which are not subject to CRS;
  5. using arrangements or structures which purport to eliminate reporting; and
  6. arrangements that undermine, or exploit weaknesses in, the due diligence procedures used by financial institutions, including the use of jurisdictions with inadequate or weak regimes of enforcement of anti-money-laundering legislation or with weak transparency requirements.

A second group of hallmarks concerns the concealment of beneficial owners, legal arrangements or structures by non-transparent formal or effective chains of ownership. Where an arrangement has a ‘non-transparent legal or beneficial ownership chain’, it could also potentially be reportable under DAC6. The rules state that an arrangement will be caught where it uses ‘persons, legal arrangements or structures’:

  1. that do not carry on a substantive economic activity supported by adequate staff, equipment, assets and premises; and
  2. that are incorporated, managed, resident, controlled or established in any jurisdiction other than the jurisdiction of residence of one or more of the beneficial owners of the assets held by such persons, legal arrangements or structures; and
  3. where the ultimate beneficial owners of which are made unidentifiable.

Professional advisers carry the primary reporting obligation

Concerning the actual reporting of any arrangement caught by DAC6, intermediaries have the principal reporting obligation. For the purposes of DAC6, an intermediary includes any person who ‘designs, markets, organises or makes available for implementation or manages the implementation of’ a cross-border arrangement.

It also captures anyone who knows or could reasonably be expected to know that they have undertaken to provide (directly or indirectly) aid, assistance or advice with respect to designing, marketing, organising, making available for implementation or managing the implementation of a reportable cross-border arrangement.

In both cases, the intermediary must have (broadly) an EU taxable presence or be registered with an EU legal, tax or consultancy services professional body. This broad definition would capture a wide range of professional advisers, including tax advisers, lawyers and accounting professionals across the EU. If multiple intermediaries are involved in a reportable arrangement, the reporting obligation falls onto each of them, both within the UK and in other EU jurisdictions.

There are few exclusions from the reporting obligation, but legal professional privilege is one of them. In the event there are no intermediaries with relevant reporting obligations, the reporting obligation will pass to the taxpayer.