If you are registered with the Commission as an "interest representative" 1 your identification number

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1 IDENTIFICATION OF THE STAKEHOLDER The Commission services would be interested in receiving contributions from all interested parties. In order to correctly assess the responses, it will be useful to group the answers by type of respondent. Therefore, respondents are requested to provide the following information: Name and address of the respondent, relevant contact details (including address for contact) Rüdiger JUNG, Member of the Management Board Tel.: (+352) If you are registered with the Commission as an "interest representative" 1 your identification number Are you a recognised European social partner organisation or a representative of a European (sectoral) social dialogue committee No Field of activity of the respondent. Please specify your field of activity. Please indicate if you are directly affected by any of the measures and if so, which one and to what extent: Luxembourg Bankers' Association If the respondent is an association of stakeholders, how many members do you represent and what is your membership structure? 133 members Do you object to publication of personal data on the grounds that such publication would harm your legitimate interests? No Do you agree to having your response to the consultation published along with other responses? Yes 1

2 April 18 th, 2011 ABBL position paper on the EU initiative to introduce new additional taxes for the financial sector ABBL lobbyist registration number : Background/reason for this paper: G20 discussions and the consultation of the EU Commission So far, the different ideas discussed at G 20 and/or EU level do not seem to allow determining with clarity the aim of introducing a financial sector tax (FST). The present paper mainly discusses issues raised in the recent consultation of the EU Commission, which envisages the (alternative?) introduction of two types of taxes, as well as a bank levy: a financial transaction tax or FTT (with two different potential scopes), and a financial activity tax or FAT (in three different forms), as well as a bank levy aiming at financing resolution funds. These (one or more) FSTs seem to pursue different or mixed objectives, some of which appear to be adverse. In fact, in its Consultation Paper of February 2011, the EU Commission indicates the following reasons for the consultation: need for fiscal consolidation; substantial public financing support during the crisis; undesirable behaviors of society as a whole (systemic risks), e.g. excessive risk taking; possible under-taxation of the financial sector. Referring to the situation that many member states have in actual fact already introduced new taxes, the Commission also states that an uncoordinated patchwork of national measures may: create incentives for tax-driven relocation either within the EU or outside the EU and distortion of competition; create situations of unrelieved juridical double taxation. Both the Commission s Communication of October 2010 and the more recent Consultation Paper however fail to clearly indicate whether it is intended to prioritize: the immediate generation of public revenue to reduce Government debt, or the aim to obtain EU competencies in direct tax matters, or the restoration, over the long term, of financial stability and economic growth, or the setting up and financing of an ex-ante resolution fund intended to avoid public spending in the event of future bank defaults or a more general financial crisis. One of the reasons for the EU consultation being: (to tackle) undesirable behaviors of the society as a whole (systemic risks), e.g. excessive risk taking, it seems that there is as often with taxes - an intention to direct behavior. This intention however strongly contrasts with the intention to tax the financial sector as such: as the proposed taxes are indirect taxes (i.e. the persons recovering them and the persons finally bearing the charge being different), the scope ratione personae of the proposed measures need to be clarified before any further discussion. A tax based on the vague idea of making contribute (or even punish) the financial sector in the end may even hit persons that were intended to be relieved from further contributions (i.e. the taxpayer ).

3 As long as the scope (in the sense mentioned above) is not clarified, it is very difficult, if not impossible, to perform a cost-benefit analysis and to determine what could be an adequate option. Even expressing a clear opinion on the proposed taxes seems difficult. G 20 Government and/or EU intentions are simply not clear enough as to who should bear the charge. One might wonder whether political intentions are not simply driven by the sole consideration of finding new financial resources. It further seems to the ABBL that some specific motivations advanced by Governments/the EU are based on wrong assumptions (e.g. the allegation that the VAT exemption benefits the financial sector). In any case, one assertion is not as evident as one may think: the assessment that the new taxes will, when introduced, hit the financial sector itself (and thus relief taxpayers from new payments in case of a future crisis and contribute to the State budget to compensate for Government interventions). It is totally unclear whether and how such an aim is to be achieved. In the following, the ABBL would thus like to shortly express its position on the different models under discussion in the EU consultation paper. To get the analysis right, such a discussion must begin by remembering the intermediary role of the actors in the financial sector. Their role in society seems often to be misunderstood. Banks as intermediaries Banks are dealing with money: from the business (objective) chosen - which is earning money by dealing with it - automatically follows their intermediary role. Banks are intermediaries in a horizontal and a vertical sense. In the horizontal sense: the banks role as intermediaries becomes immediately evident when considering the high part of their year-end profits, which is represented by the interest margin. Banks profits are - to a very large extent - derived from the difference between interest received on money lent (asset side of the balance sheet) and the interest paid on money borrowed (liability side of the balance sheet). But banks are also intermediaries in the vertical relation between their clients (the citizen or taxpayer) and the Government. Constantly rising compliance cost of banks, in fact, reflect a tendency: Governments are increasingly charging banks with functions that at least traditionally - were considered to be governmental functions. Banks are fulfilling tasks of the police and the State prosecutor (anti money laundering, fight against terrorism, corruption and fraud), as well as functions of the tax authorities (VAT, withholding taxes on investment income) and other administrations. As a consequence, banks have - private law based - contractual relations with citizens in the downside direction which they need to coordinate with their public law based - administrative relations with Governments in the upside direction. This vertical intermediary position is again due to the fact that banks are dealing with money, understood this time as a very important vector in society. Horizontally and vertically, banks consequently need to manage at least two potential sources of conflict: the relation between investors (including shareholders) and borrowers and the relation between their clients (seen as citizens and taxpayers, including shareholders) and the Government. Concerning the vertical aspect, the non-reimbursed cost related to the outsourced Government functions are (and must be, because intermediaries are earning a margin) recovered from stakeholders: they may be charged to customers (citizens) or deducted from the earnings of shareholders. To this extent, this cost constitutes a (hidden) tax. 2/9

4 Indirect vs direct taxes It results from the banks intermediary role that, when Governments or the EU introduce one or several new FSTs, these taxes will hit the stakeholders of financial intermediaries. The proposed taxes are indirect taxes (or in a large sense - consumption taxes), at least as far as the FTT is concerned, but also in some aspects of the FAT (based on turnover). The introduction of indirect taxes leads to the fact that taxpayers (stakeholders of banks) are not clearly made aware of the fact that they are finally targeted by the measure. It is very unclear to which extent which type of stakeholder will be hit. Raising direct taxes, such as income or other taxes, directly from the different types of stakeholders of financial intermediaries ( the taxpayers ) would clearly be more transparent. Justifications for new taxes The main justification for new taxes to be paid by the financial sector is the financial crisis and the fact that this crisis has triggered massive public interventions to support the financial sector. Without taking a clear position on the question whether this assessment is correct (a question raised in the Commission s consultation paper) 1, and bearing in mind that in contradiction to public announcements made - the new taxes will often hit stakeholders of banks, the ABBL will nevertheless comment on some individual arguments to justify new taxes on the financial sector. Banks do not pay enough taxes One justification often heard is that banks pay less tax than other economic actors. This assumption seems to be wrong, in any case for Luxembourg: Banks and their employees pay at least - as much corporate and salary taxes than other companies and contribute to a large extent to the national budget. The VAT exemption of financial services benefits the financial sector As to the value added tax (VAT) exemption of financial services, it needs to be emphasized that the intention of this exemption was never to leave banks themselves with a VAT charge. The only and very clear aim of the VAT system, as a consumption tax, was and is to achieve tax neutrality for business while shifting the charge to the final consumer. The exemption of financial services is due to the fact that it was not practically feasible to submit financial services, such as (for instance) interest payments to VAT. If VAT were charged on financial services, it would again hit the end consumer and not the entrepreneur/financial intermediary. The charge on the end consumer would even be higher, as banks would not only just try to recover their (input VAT) cost from the consumer (as far as market conditions/competition allow), via an increase of the price of the services, but in addition charge VAT on the value added by the bank (i.e. on the interest margin) 2. As the Commission is currently 1 In this respect, it seems at least also possible to argue that public spending was already much too high before the crisis and that the purely economic integration at European level or even worldwide ( globalization ) provided advantages to Governments (economies of scale) without directly revealing the need to also foresee political integration (which is disliked, because it causes a loss of power for national Governments) and strong international control mechanisms. 2 It is true that the non payment of VAT by the end consumer of financial services may be considered a win-win situation for banks and consumers insofar as a third party, the Government, does not receive the (potential) additional VAT on some of the value added by financial intermediaries. In fact, Governments will receive the so called input VAT from the provider of the service (who invoices VAT to banks and receives the payment from them, which he needs in turn to pay to his Government), but the difference in the VAT amount calculated on the basis price of the service received and the VAT calculated on the basis price of the (compound) service provided by the bank to its client ( output VAT ) is not received by the Government, as financial services are VAT exempt. But, under the assumption that the VAT law / directive will have been changed, this (potential) additional VAT on the value added by banks will again finally be paid by the consumers. 3/9

5 conducting a study on VAT and the financial sector, it seems thus very much advisable to await the outcome of this study in order to draw conclusions, including on the question as to who pays the charge of VAT. Banks do not respect thin capitalization rules The argument that banks have no thin capitalization rules (which thus allows them to replace capital, the remuneration of which is not tax deductible, by debt, the remuneration of which is tax deductible) is also not evident enough to justify new taxes. The reason of being of banks is the transformation of maturities (short term into long term and vice-versa). As long as the liquidity problem is properly addressed and supervised internally and externally (notably through rules ensuring a certain congruency (matching maturities) between the terms of receivables and debts and a correct evaluation of banks assets), the only reason imaginable for banks to have high amounts of own funds is to have a safety buffer. But in the end, even very high amounts of own funds cannot save a bank in case there is a run on it (because in case of a run, banks always reach a point, where they need to realize assets engaged in long term, such as real estate, in order to pay out liabilities owed to depositors, who generally invest in short term). On the other hand, it is important to stress that banks cannot operate if they are not allowed to transform maturities: this is their business. Finally, the existence of thin capitalization rules stems from the necessity to protect creditors (in case of bankruptcy). The reason of being of thin capitalization rules is not to create higher tax revenues (by reducing tax deductibility). Thus, justifying new taxes by the non-existence of thin capitalization rules alone is a circular reasoning. Excessive risk taking The only argument which really seems to hold water is that of sustainability (short term vs long term) and excessive risk (and profit) taking: Excessive profit taking was certainly also a result of the (misunderstood) shareholder value management theory and of a higher risk taking following the competitive pressure for even more shareholder value, (which in turn was probably possible only because there was no international Government control). But the ABBL would like to immediately point out a considerable drawback of any tax measure aimed at reducing excessive risk taking: if such a tax is correctly designed and really effective, no excessive risk taking should take place anymore. This would leave Governments with no revenues from the new tax. Needless to say that due to relocation effects - such a tax would be useless, if introduced at purely national or regional (EU?) level. * * * Financial transaction tax The financial transaction tax may be compared, and is even very similar, to what was known in the past as Börsenumsatzsteuer (tax on stock exchange transactions) in Europe. This kind of tax has finally been abolished throughout the EU (through pressure by the EU Commission). In Europe, only Switzerland seems to still have such a tax. It is evident that a FTT has the advantage that, if introduced worldwide (or in a way that no avoidance is possible), it is able to quickly raise huge 4/9

6 amounts of money, without the tax being really felt as such by those who finally pay for it. This is even more true if derivatives are included in the scope. Nevertheless, the possibilities for avoidance are also significant in case the tax is not introduced at a worldwide level (it is very easy to make a transaction on another stock exchange, where no FTT is levied, for instance). The inclusion of derivatives will cause enormous implementation costs for banks. When considering the argument of a sanctioning of excessive risk taking, the question may also be raised whether pure hedging transactions should be covered. This, however, strongly contrasts with the general request of the ABBL that if - at all - any FST was introduced, such a tax should be easy to handle. The above mentioned negative effects would be further enhanced by organizing the FTT as a cumulative tax: a cumulative tax is not neutral for businesses and thus would hit the financial sector directly; but it is also an anti-economic tax, as the (old) discussion about the cumulative, cascading (waterfall) turnover tax illustrates, which preceded VAT in most European countries before its abolition through the EU VAT directives. In case the tax is not applied worldwide, the cumulative effect will also reinforce the competition issue at regional supranational level (i.e. EU compared to US or Asia). Financial Activity Tax The consultation of the EU Commission provides for three different models of this tax : a tax based on profits and wages, a kind of profit tax based on the rent (return) received by banks on their different activities, a tax based on risk taking activities only. Addition method (turnover/cash flow) As far as the addition method FAT (first of the three forms) is concerned, the consultation paper does not sufficiently explain the motivation for the introduction of such a tax. According to the consultation paper, the tax seems to be intended to compensate for the VAT exemption. However, as explained above, the charge of VAT is not supported by the financial intermediary, but by the end consumer. It is thus very difficult to understand why the financial sector should compensate the Government for a tax that is not paid by it, but by a third party. Doesn t the Commission mix up two different taxpayers when talking about compensation? It is further not explained in the consultation paper whether the first form of FAT is intended to replace VAT or to be an additional tax. The same is true for the question whether the new tax on profit and wages should replace or be introduced in addition to the corporate income tax. When reading the Commission staff working document (which is also not very explicit), things become a bit more clear. In this paper it is stated that: The global economic crisis has created important needs for fiscal consolidation. This document analyses potential instruments to raise additional tax revenues from the financial sector (Executive summary, first and second sentence) and For all versions of FAT,, by making financial services more expensive, it would decrease the size of the financial sector. (page 20 last sentence); see also: FAT could be designed to be neutral vis-à-vis financing and investments decisions while still reducing its size. (page 21, third paragraph). and finally However, the incidence of the addition method FAT when all remuneration and cash flow profit is taxed could possibly fall on the consumers of financial services. 5/9

7 When finally adding the assertion in footnote 5 under point 4.4 of the Commission s consultation paper itself, which is saying (- as the tax should be levied on profit, arrived at on a cash basis plus wages -) that: Therefore, wages are effectively disallowed as a deduction to profits, which means the tax is by its design labor neutral, the intentions become so clear that the ABBL is wondering whether the whole consultation process is not biased by the fact that this information is not directly provided in the consultation paper. It seems that the intention is: simply to raise additional revenues for Governments (executive summary of the staff working document) and to shrink the financial sector in size (page 20 and 21 of the staff working document), while taking into account - that the burden is shifted to the consumer (page 21 of the Commission staff working document) and higher labor cost and the transfer of further jobs outside the EU (footnote 5 of the consultation paper). The statement about the labor neutrality quoted above is in fact not correct. Such a new tax - with limited geographical scope - not allowing for the deduction of staff cost will certainly render employment more expensive. It is further a fact that wage cost (tax and social security) for the employer in Western Europe is extremely high and such a new tax would clearly drive even more jobs out of Europe, as this is already the case. European companies would certainly not be competitive anymore at a worldwide level. As far as salaries are concerned, such a taxation would thus be in contradiction to the new Monti report (A new strategy for the single market, 9 May 2010) which contains a chapter on tackling the anti-labor bias of Member States tax laws (page 79). But if the sole intention of the tax is to raise more money (and there are no intentions to guide behavior), motivations are effectively not important. It is certainly a nice to have to find some convincing arguments for the introduction of a new tax, but then the arguments should hold water when it comes to a logical analysis. It seems more easily defendable that Governments simply say we need to raise taxes and directly address the taxpayer concerned, instead of raising taxes indirectly through intermediaries, where nobody knows who will be finally hit. Besides, the rationale behind the intention to reduce the financial sector in size is also not evident. In case it should derive from the hearing of Mr. Bernanke before the US Financial Crisis Inquiry Commission and his declarations about the too big to fail problem 3, the ABBL would like to remind the Commission that circurmstances in Europe are different from those in the US. Yet beyond this, it seems obvious that trying to control cross-border or worldwide business from the comfortable national driving seat and perspective can only be destined to fail (also see the ABBL s reflections in footnote 1 above). Coming back to the technical debate, the ABBL cannot see why a tax on all incoming cash flows including (non deductible) salaries and wages would be justified effective in reducing excessive risk taking. The first model of FAT seems to be very anti-economic, as it hits indistinctly, and without any evident reason, all kinds of activities, and especially salaries and wages. As the tax hits the value 3 The ABBL is not saying that there is no «too big to fail problem», but the ABBL is of the opinion that this problem needs to be addressed at the level of the insolvency law; see below under the heading bank levy. 6/9

8 added, there is also a double taxation issue with VAT and corporate income tax or, in some countries, commercial taxes (often municipal) and other taxes. Under the assumption that high bonuses are sometimes paid for excessive risk taking, this does in no case concern all activities and all employees of a financial intermediary. Many activities of a universal bank, such as the credit business or the private/retail banking activity, are not prone to excessive risk taking, simply because excessive risk taking in these sectors of activity would quickly lead to a collapse. It is correct that loan books and other risky assets may be sold (securitization) and the (same) own funds can then be used again to finance new loans/assets of the same type. But this kind of leveraging practice (CDOs) does not seem to have been extensively used in (Continental) Europe and could also not be effectively stopped by a FAT (alone). And securitization may also be motivated by very valuable economic reasons: factoring for instance is a (non-sophisticated) form of securitization. It thus seems to the ABBL that, if there should be any effect of a FAT to the intended aim of reducing risk taking, then this tax should be limited to income from certain activities, such as (for instance) trading activities on own books or similar activities of a bank. And still, not all activities should be penalized, but only those that have a high risk. This again raises the question (already addressed above) of the application ratione personae of such a tax. Rent taxing and risk taking approach An impact on excessive risk taking could probably be achieved more easily either through the second or the third model of FAT, for instance by penalizing returns on the own books or similar returns in excess of a certain return on assets. The rent-taxing approach is interesting in theory, as it provides for a tax deduction of the remuneration of capital and could thus eliminate the debt/equity bias at the level of the tax deductibility of their respective returns (see the notional interest concept in Belgium). But as described in the consultation paper, it does not seem to be selective enough on the risk taking aspects. As indicated, all taxes on excessive risk taking bear the risk that, if the tax will be effective (and really reduce excessive risk taking), the revenues received by Governments may be less than expected. Even if the two last kinds of taxes seem to indirectly be addressed more at shareholders (due to its importance rate/amount - the corporate income tax of financial intermediaries also mainly hits the shareholder), there is again a risk that other stakeholders will - at least partially also support the FAT. This is especially true for the FAT in its addition method form: the distribution between stakeholders (customers, employees and shareholders) seems unclear, as it depends on the volume and the amount of the tax to be paid as a percentage of the intermediaries turnover. And even under the condition that the tax would only hit shareholders, the issue needs to be addressed that shareholders are already heavily hit by extensive new capital requirements. Again the motivation for not directly taxing stakeholders of financial intermediaries seems unclear. Bank Levy The ABBL understands that the issue at stake here is not a tax (having the aim to finance Government debt and with a possible penalizing effect on excessive risk taking), but solidarity. As explained above, it seems again necessary to emphasize the intermediary function of actors of the financial sector: the question of the asset or liability base for the levy does not necessarily determine who (which stakeholders) has to finally pay for the levy: If the levy would for instance be based on the liability side 7/9

9 of the balance sheet, or to take an extreme case - only on deposits, this does not (necessarily) mean that the levy needs to or will be paid by depositors exclusively. One needs further to bear in mind that a levy aimed at financing a resolution fund cannot counter altogether the effects of a 2008 or 1929 type crisis, but could only attenuate its effects: there should thus be some kind of priority (similar or different to insolvency law) and the fund should probably, as a priority, protect the following persons in the following order: (1) depositors/investors (beyond DGS and ICS) (2) operators of the real economy (especially SMEs) (3) others (a. o. institutional investors) (4) (unpaid) salaries. In this (insolvency type priority) context, the question further needs to be raised how other proposals, such as the one of mandatorily convertible bonds (institutional investors) will fit into the idea of a resolution fund. All this can probably only be resolved via a fundamental modification of insolvency laws for banks 4. It should again be emphasized that, due to the intermediary role of banks, it cannot be excluded, and is even probable, that the persons protected and the persons who finally bear the charge may be the same. As long as the scope ratione personae of a future levy raised on financial intermediaries is not defined, such a levy, like the taxes discussed above, certainly releases Governments from the decision to precisely designate the persons who should pay, but there is also a high risk that the taxpayer might finally at least also - pay for the burden. This is in opposition to the announcements made, according to which a resolution fund should avoid that the taxpayer pays for a further crisis. Avoidance of double taxation within and outside the EU Different taxes within the EU (and within the space where OECD rules apply) and double (or multiple) taxation situations have always been considered as something to be addressed with urgency in order not to penalize cross-border economic activities. Double or multiple taxation issues, however, only exist and can be avoided (ex ante or ex post) if two or more taxes are applied to the same taxable base (e.g. profits). A FAT on turnover (which contains the profit element) may conflict with (or add to the charge of) corporate income tax, other (municipal) business taxes and VAT on the same taxable basis within the same country, but mainly as far as permanent establishments/branches are concerned - also with similar taxes in other countries. Double taxation treaties provide for clear guidance on how to avoid or eliminate economic double taxation. But avoiding the double charge (the term double taxation seems inappropriate) if the taxable bases are totally different (e.g. country A raises a FTT on trading activities, country B a FAT, and country C a bank levy) seems to be a real challenge, as Governments may even discuss whether legally, not economically speaking - there is a double taxation at all. Given the factual situation created by Governments/EU member states who have already introduced national measures, it is difficult to see, in the interest of cross-border business, any other solution than the introduction of EU wide measures or at least a harmonization at EU level (with a tax credit for national taxes paid). But is this realistic 5? 4 See : the present discussion in the US, 5 Or, by building on the question just raised: isn t the whole situation surrealistic? 8/9

10 Conclusion Having analyzed all the points above, the ABBL would like to draw the following conclusions: (1) The Commission s consultation paper (and Governments public declarations) lacks a clear statement about the rationale for their intentions: are the new taxes intended to guide behavior of the actors (financial or not) of the society (in this case, if the new tax/levy is really efficient in changing behavior, where should the expected money come from?), or is the intention to simply open up new resources for Governments (in this last case, the only justification needed is to explain why the new tax/levy should be an indirect tax, flowing though the financial sector). (2) From a pure technical point of view, many of the justifications invoked for a new tax on the financial sector cannot be upheld. (3) The only argument which seems to be sustainable (with respect to the financial sector itself) is the intention to achieve elimination of excessive risk taking and promotion of long term decision making of bank managers. (4) Before any discussion about the introduction of an EU wide tax/levy, the scope ratione personae (answering to the question: who shall finally bear the charge?) needs to be univocally clarified. (5) If an EU wide tax or levy will be introduced, it should be easy to handle (with FTT, problems may arise for derivatives and hedging transactions; with FAT distinguishing excessive risk taking activities may be difficult). (6) If a tax or levy will be introduced, competition and relocation issues (in- and outside Europe) must be carefully analyzed. (7) In order to not penalize the recovery of economic activities, a potential tax should preferably be in the third form of a FAT, based on excessive risk taking. But, as explained above, if such a tax would be really effective (and excessive risk taking avoided), the question may be raised whether there will be any income for Governments from such a tax. (8) In case of the introduction of a tax, national and international double taxation issues - including (at least for the case of a FAT, as profit is part of the value added), corporate income tax, other business taxes and VAT - must be considered and solutions provided (e.g. tax credits). This again raises the question of the additional revenues for Governments. (9) Authorities should avoid using language, which gives the impression that the future tax is to be supported by financial intermediaries, when there is, in fact, a high risk that the charge will in reality hit the bank s different stakeholders. * 9/9