The EU Fifth Money Laundering Directive – how will the new rules affect you?

An update on 5MLD: some additional clarification but much left to be supplied

We provide an update below on how the UK will transpose the EU Fifth Money Laundering Directive (the Directive). HM Revenue and Customs (HMRC) published a further technical consultation on 24 January 2020 (the Consultation), which included draft legislative provisions amending the relevant part of the Money Laundering, Terrorist Financing and Transfer of Funds (Information on the Payer) Regulations 2017 (the Regulations).

You will recall that the Regulations originally transposed the trust registration provisions contained in the EU Fourth Money Laundering Directive.

The Consultation provided certain comments which are welcome, although there are fundamental points which require further thought on HMRC's part. So, we still only have a partial view as to what the final rules will look like.

Which trusts are now caught?

UK resident "express trusts" were previously only registrable where taxable (at trust level). From 10 March 2020, all UK resident express trusts will need to register, unless falling within a pre-defined set of low risk categories. For instance, statutory trusts and charitable trusts will be out of scope.

However, HMRC will need to give far more thought to which other trusts need to be included amongst these low-risk categories, eg temporary trusts in commercial share transactions, trusts holding income protection and critical illness policies (as opposed to just pure protection life insurance policies, which are specified as out of scope).

Non-UK resident "express trusts" were also previously only registrable in the UK if a UK tax liability arose at trust level. Such trusts are now also registrable if the trust acquires UK property at trust level or enters into a "business relationship" in the UK with an "obliged entity" (eg financial institutions, law firms, tax advisers). Acquisition of property at trust level would typically have triggered an SDLT liability (or at some stage an IHT liability), such that trusts holding UK property at trust level were already likely to be registrable at some stage in any case.

Actually, the trust register might prove preferable to the Register of Overseas Entities which will, from 2021, bite on properties held through non-UK companies (including those wholly owned by a trust) and will be more visible to the general public. The "business relationship" trigger is the much more significant additional trigger and forms the main focus of the rest of this bulletin.

What is a "business relationship" and when does it trigger registration?

It is, in broad terms, a business or professional relationship between a regulated person and a customer which has an "element of duration". The Consultation interprets the latter criterion as present if there is an ongoing and repetitive nature to the relationship, which at the outset is expected to last more than 12 months.

Does this mean that an overseas trustee engaging with UK investment advisers or tax advisers could cause an overseas trust to become registrable?

In short, yes it can do. However, it is unclear whether one merely needs to look at the position at the very start of the relationship or periodically throughout. For instance, if a law firm's engagement letter specifies an engagement term of less than 12 months, that presumably should not trigger registration, and perhaps if a new short-term engagement is entered into after the expiry of that period, perhaps that is not registrable either. However, HMRC will need to provide guidance on these points.

When do the new rules take effect?

It appears from the Consultation that the trigger is business relationships (having an element of duration) which are entered into on or after 10 March 2020 (and it only appears to be property acquired on or after 10 March 2020 which acts as an additional trigger if it did not already trigger registration).

It is not clear whether a trust could fall outside scope (for 40 years) by, for instance, entering into a 40-year business relationship on 9 March 2020, although this, alongside much else, requires clarification (and, of course, there might be other reasons to avoid committing to a commercial relationship for such a long period).

If caught, when do you need to register?

If you trigger registration on or after 10 March 2020, you will need to register by 10 March 2022. If you trigger registration on or after 9 February 2022, you will have 30 days to register.

It is stated in the Consultation that you can apply to remove the trust details from the register if the trust ceases to be registrable. Common sense would dictate that if you become registrable after 10 March 2020 and cease to be registrable before 9 February 2022, you would not need to register (as otherwise you would register and then immediately apply to de-register). But this awaits clarification, and this suggested outcome cannot be presumed.

What do you need to register?

If you are not caught under existing registration requirements (ie unless registration is triggered by a tax charge), you just need to register information on beneficial owners of the trust, which the Consultation regards as settlors, trustees and beneficiaries (and possibly protectors). Presumably, as is the current practice, beneficiaries who are defined only by class do not need to be named specifically until they receive a benefit, but this also needs to be specifically clarified.

In addition, trustees need to declare information on any non-EEA entities that they control and which underlie the trust. This will affect who has access to the register contents in relation to the relevant trust – see below.

If you do need to register, when can members of the public request, and be granted access to, the contents of the register?

Alongside the meaning of "business relationship", this is the point which we have found to be of greatest concern. There is some good news and some bad news.

The good news is that access is limited by reference, in broad terms, to those with a genuine anti-money laundering purpose. The bad news is that, in broad terms, there seems to be little to hold such persons to that genuine purpose, nor comfort that HMRC staff will properly satisfy themselves in the first place.

While, generally, a person requesting information from the trust register will need to demonstrate a "legitimate interest" in the contents, this requirement does not exist where the trust holds a "controlling interest" in a non-EEA entity (a "third country entity").

The Consultation proposes that "controlling interest" should mean a holding (directly or indirectly) of more than 50% of the shares or voting rights. This is a particular concern for non-EEA trustees, as non-EEA trusts will often have a 100% participation in an underlying company incorporated outside the EEA.

Where a legitimate interest needs to be demonstrated, the Consultation proposes that applicants be required to provide standardised information, including their name, organisation and information supporting their request (which should include their suspicion as to how the trust has been involved in money laundering or terrorist financing).

Where no legitimate interest needs to be demonstrated, the applicant still needs to provide certain standardised information (albeit less), including their intended use of the data and how this will help detect or prevent money laundering. This is also a requirement of a legitimate interest request. In each case, there also needs to be a form of data handling confirmation, although it is unclear what statutory sanction, if any, there would be for misuse of the data or who would enforce any such sanction.

Any information request also needs to be specific, including the name of the trust and any underlying entity. As a result, the applicant would actually need to have a fair amount of information already in order to make a request. This might act as a natural brake on speculative requests.

So, it is positive that, even where no legitimate interest is required, the position is not a free-for-all. Some anti-money laundering purpose always needs to be present, in keeping with the overall spirit of the Directive, although this does beg the question as to whether state crime prevention agencies are regarded as somehow deficient (such that private involvement is required).

Can disclosure of the register contents be denied?

HMRC will use the information it receives in order to ascertain whether it is reasonable for the applicant to suspect the trust of being used for illicit purposes. HMRC can decline to provide information where there are reasonable grounds to suspect that the request is not in line with the Directive's objectives.

HMRC can also deny a request in relation to a particular beneficial owner where there is a disproportionate risk to that person of fraud, kidnapping etc or because the person is a minor or otherwise legally incapable. So, as part of the registration process, trustees would need to take care to register, on the part of any beneficial owner, any disproportionate risks to safety and/or any (potential) mental illness.

There is intended to be an appeals process, although we understand that this would not operate in favour of trustees nor beneficial owners, but only in favour of applicants whose requests had been denied. It seems that trustees and beneficial owners will be unaware of any requests for information, or of the supply to any applicant, until any potential misuse later occurs. This is in stark contrast to the underlying principles behind data protection legislation, which grant individuals better control over the application of their data.

What penalties apply if you fail to register (or to update the register)?

The proposed penalties are lenient – the first offence results in a nudge letter or notification, and the second in a £100 penalty. So, one might be excused for wondering whether it is possible simply to ignore the registration requirements.

However, the real teeth in the legislation lie in the client due diligence obligations. More specifically, trustees will need – in order to form business relationships with various UK obliged entities (eg law firms) – to be able to provide an excerpt from the trust register evidencing registration. Without such an excerpt, it is expected that a UK obliged entity could not form a business relationship with the trustee.

So, a non-EU trustee might be effectively barred from taking UK tax advice (which would, ironically, not be conducive to UK tax compliance). There is also an interesting "chicken-and-egg" point – what if it is the business relationship itself which causes the trust to become registrable? Surely, a register excerpt cannot be required in order to form that relationship?

What next?

The Consultation period closed on Friday 21 February and we await the outcome. In our response, we urged that further time be taken to consider the serious and difficult points arising. We hope that our request is heeded, and expect to find out more in the next few weeks.