Brazilian authorities are clamping down on offshore banks and providers of what they see as dubious tax shelters, in some cases leading to firms shutting down offices in the country.

Brazil has caught the interest of many international private banks as one of the fastest-growing wealth management markets in the world. It is set to be increasingly seen too as a country at the forefront of the war against rogue offshore banking.

Last week's warning by the Brazilian Central Bank that foreign banks should dispose of their representative offices in the country has been interpreted as a further step in the process of closing the gaps through which wealthy Brazilians hide money from the taxman using offshore schemes.

In recent years, the police and tax authorities have stepped up their actions against tax evasion and the trend looks unlikely to change anytime soon. Among the institutions that have been investigated are AIG Private Bank, Credit Suisse, Clariden Leu, UBS and Merrill Lynch.

The actions of the Brazilian government come as some of the world’s biggest economies, as represented via the Group of 20 body, have vowed to crack down on tax havens and pressurise offshore jurisdictions into being more open about their financial affairs. In their defence, such jurisdictions argue that their standards of corporate governance are improving and that some countries, such as the UK, are hypocritical as they have offshore dependencies.
 
But to the legal sticks, a carrot can soon be added to convince people to shed their offshore accounts. The Brazilian Congress is debating a bill that would concede an amnesty to those who have assets hidden abroad but are willing to repatriate the money.

The central bank's instruction implies that foreign banks which have a banking licence in Brazil are expected to close their representative offices in the country or to integrate them into their main Brazilian businesses. Such offices represent other parts of the banks' international operations, like global private banking departments, and are allowed to perform commercial activities in the Brazilian territory.

However, these offices cannot offer banking services or take deposits from clients, and therefore remain outside the scope of the central bank. Sources familiar with the matter have stressed that the instruction was issued after it was established that some representative offices were doing business out of their legal remit.

No further details were officially provided, and the authorities have stressed that the decision only applied a policy decision that can be tracked back to 1999 and of which banks received a gentle reminder in February 2008. But a strong hint of the real reasons behind the tightening of the central bank’s stance this time was provided by the Brazilian media when it reported that the central bank took the step after demands from Enccla, the government's body responsible for organising the fight against corruption and money laundering. The central bank itself is a member of Enccla.

Schemes under attack

The Brazilian authorities have encouraged a number of operations in recent years, targeting schemes that enable wealthy individuals to evade taxes and send money to offshore accounts in places like Switzerland, Uruguay and the Caribbean tax havens.

Such schemes met with strong demand for a long time in Brazil. During three decades until the stabilisation of the economy in the mid-1990s, political and economic turmoil (which even included a policy of temporary confiscation of assets on one occasion) convinced many well-off Brazilians that it was a good idea to keep their assets offshore.  

In the past decade, however, the governments of president Luiz Inácio Lula da Silva and his predecessor, Fernando Henrique Cardoso, have moved to fight the practice. In the recent G20 meeting in London, Mr Lula Da Silva was among the most strident supporters of curbs in the activities of offshore tax havens, mirroring the official policy of the Brazilian government inside the country.

In 2004, the government created a special unit to recover money hidden in offshore accounts, known by the acronym DRCI, and recently boosted its resources. Investigations on the trail of expatriated money are reported to have been intensified too.

The Brazilian federal police have also undertaken several high profile operations to uncover schemes where currency traders helped wealthy individuals, including businesspeople, bankers and politicians, to hide their money abroad. In a number of them, executives from foreign private banks were formally accused by the investigators of helping to gather clients and to organise the schemes.

Among others, staff members of UBS, Credit Suisse, Clariden Leu and AIG Private Bank have been detained and questioned by the Brazilian authorities with relation to money laundering investigations. But not only Swiss banks have been targeted. Bankers from America's Merrill Lynch and Israel's Hapoalim and Bank Leumi have also been investigated. The three are reported to have voluntarily closed its representation offices in Brazil.

The official pressure against offshore banking increases the challenges faced by private banks in the Brazilian market, not least because hiding money from the "Lion" (as Brazilians call their income tax collection service) is exactly what many potential clients still want from their bankers.

Much money is still earned in Brazil with political corruption, criminal activities or the underground economy. To avoid touching dirty money, some private banks, like BNP Paribas Wealth Management and UBS Pactual, officially pledge a policy of not accepting clients' assets unless their origins can be thoroughly verified. But market sources concede that bankers can be found who will take any kind of money, as long as the client's Brazilian legal advisors say it is legitimate.

Legal offshore planning

Fighting illegal offshore transfers is not the only strategy of the Brazilian government to convince taxpayers that they should keep their assets at home. Legal offshore tax planning for individuals and companies have also been made harder by measures that have been gradually implemented by the authorities, according to Miguel Hilú Neto, a tax expert at Hilú, Custódio Filho & Caron Baptista, a law office in the wealthy city of Curitiba.
 
"The tax authorities are starting to apply the notion that substance prevails over form when it comes to tax planning," he said. "They are clamping on structures that, although they are legal, don't have substance and appear to be used to reduce tax payments. Legal measures have also been adopted to increase tax rates on legal operations with jurisdictions that Brazil classifies as tax havens," Mr Hilú said.

Some say that the situation could be changing, though. Private bankers in Brazil often claim that the stable economy and the newly-found strength of the local currency, the real, have boosted onshore private banking to the detriment of offshore operations. And Mr Hilú believes that the Brazilian government looks actually more concerned about the money that has already left Brazil than assets that could still leave the country.

For instance, a congressional ally of the centre-left government of Mr Lula da Silva has recently presented a bill that, if approved, will provide an amnesty to owners of offshore money, who would be allowed to bring the money back to the country paying smaller tax rates and avoiding prosecution. The author of the bill, senator Delcídio Amaral, has estimated that, if approved, the measure could lure back assets worth over $50 billion in only six months. But first it will to go through Brazil's fractious Congress.