FOREIGN BANK SECRECY

WEDNESDAY, JUNE 10, 1970

U.S. SENATE,

COMMITTEE ON BANKING AND CURRENCY,

SUBCOMMITTEE ON FINANCIAL INSTITUTIONS,

Washington, D.C. The subcommittee met, pursuant to adjournment, in room 5302, New Senate Office Building, Senator William Proxmire (chairman of the subcommittee) presiding.

Present: Senators Proxmire, Bennett, and Percy.

Senator PROXMIRE. The subcommittee will come to order. Our first witness this morning is Mr. Robert Morgenthau, of New York City. Mr. Morgenthau, would you come forward? We are delighted to have you with us. You have done a great deal of work in this area, and we are looking forward to your testimony.

Senator PERCY. Mr. Chairman, I have a statement of about 3 minutes. Senator PROXMIRE. I want to call on Senator Percy, who has a brief statement he would like to make.

Senator PERCY. If you would excuse me for just a moment, I unfortunately was not able to be here for the opening of these hearings and would like to make a short statement.

Senator PROXMIRE. Senator Percy.

Senator PERCY. Mr. Chairman, the problem that is causing many of us great concern, and I think is of concern to a great many Americans, is the current increase in tax and criminal activity which has been aided and concealed by the use of foreign bank accounts, especially in those countries that offer a maximum degree of bank secrecy, and therefore the importance of these hearings today is to consider two similar bills which attempt to curb this increase, S. 3678 introduced this morning by our distinguished chairman from Wisconsin, Senator Proxmire, and H.R. 15073, passed by the House on May 25, 1970.

There appears to be widespread agreement on the need for legislation to curb the illegal use of foreign bank accounts. H.R. 15073 was passed unanimously, and at the hearings held by the House Committee on Banking and Currency on the subject, all administrative agencies that testified supported the implementation of legislation to curb the illegal use of these accounts.

The American banking community has also supported the need for corrective measures in this area. While there has been uniform support for legislative action to control secret foreign bank accounts, there has been some disagreement over the specific means to be employed toward this end.

The Treasury Department, speaking on behalf of the administration, strongly opposed several elements of H.R. 15073 and urged the enactment of several other provisions.

Moreover, S. 3678, introduced by Senator Proxmire includes an additional provision not found in the bill passed by the House. This provision would prevent U.S. securities brokers from transacting business on behalf of a foreign entity unless that entity disclosed the person for whom he is acting, or certified that he is not acting for a U.S. citizen or resident. It is a new and different concept which certainly deserves the most thorough and careful study.

I believe that these differences will be thoroughly discussed and examined by our committee, and that all Members of the Senate will give careful consideration to the legislation before it. I would also like to note that the new legislation is just one element of the program necessary to effectively curb the illegal use of foreign secret bank

accounts.

I am pleased with the efforts being made presently in connection with other elements of the needed program. In addition to legislation to strengthen our own legal framework to combat this problem, the United States must seek increased assistance from foreign nations, especially those in which secret accounts are maintained for illegal

purposes.

I am pleased with the vigorous efforts being made by the administration to obtain increased assistance in tax and criminal matters from Switzerland and the approach that is also being made for increased assistance from other nations.

I am also pleased with the increased efforts being made by the Internal Revenue Service and other law-enforcement agencies to improve existing enforcement methods and techniques in order to maximize their efficiency in combating the problem.

I was particularly encouraged with the recent announcement by the Treasury Department that the U.S. taxpayers will be required to declare their interest in foreign bank accounts on this year's tax return. I believe this requirement will be a very effective means of reducing the number of foreign accounts used for illegal purposes.

Finally, I am pleased with the assistance and positive attitude shown by the American banking community and other sectors of the economy that can greatly aid law-enforcement officers in combating this problem of the illegal use of foreign secret bank accounts. I welcome these hearings, Mr. Chairman.

Senator PROXMIRE. Thank you, Senator Percy. I might suggest, Mr. Morgenthau, that, since you have quite a detailed statement-it is 29 pages that, if you would like to abbreviate it in any way or highlight it, the entire statement will be printed in full in the record. (Mr. Morgenthau's prepared statement appears on p. 260.)

STATEMENT OF ROBERT M. MORGENTHAU, NEW YORK, N.Y.

Mr. MORGENTHAU. Thank you. I thought I would read the beginning and the end and probably summarize the cases to hold my presentation to 15 minutes or less.

Mr. Chairman and members of the committee, thank you for the invitation to appear before your committee.

Information and evidence developed in recent years shows that secret foreign accounts are used to conceal tax frauds, securities fraud, and many other types of criminal conduct ranging from the smuggling of heroin to payoffs to government employees. But in addition to these

specific substantive violations, the availability of the secret foreign account to those with the resources to use it has created a loophole in our laws and in law enforcement. A democratic society such as ours depends on voluntary compliance. A gap available to some tends to discourage compliance on the part of the large majority otherwise willing to comply. Unless this loophole is closed, the honest business and professional man will be put to a great competitive and economic disadvantage and millions of other Americans will lose the confidence that the laws of this country are being fairly and impartially enforced. We will not have fair and effective law enforcement in this country without a systematic and vigorous effort to bring all criminals including those who hold positions of responsibility and power in the business and financial world to the bar of justice.

Today I would like to give a general description of the scheme and activities involving the use of foreign secret accounts and their potential danger to the United States, and then to discuss some of the fact patterns in this area that have been uncovered, and finally to indicate my support for legislation designed to subject to our laws the use of secret foreign accounts by American citizens, and why I consider such legislation vital.

Abuse of secret foreign accounts is no longer limited to members of organized criminal syndicates and hoodlums. Although the use by the organized underworld of these accounts is substantial, to an ever-increasing extent they are now being used by wealthy and otherwise respectable persons in the business and financial world to cheat on taxes, to trade in securities in violation of our securities laws, to trade illegally in gold, to perpetrate corporate and other frauds, and to hide the fruits of other white collar crimes. The Swiss bank is where the organized underworld and the respectable businessman meet.

For years these violations were left virtually untouched by law enforcement agencies, in large part because investigations in this area are far more demanding in terms of time and expense than in more conventional areas of prosecution and far less promising of results. Similarly, there was no attempt by legislative bodies to remedy any of the evils flowing from foreign bank secrecy.

As a result of this almost total lack of enforcement, the abuses flourished. The activities of the unscrupulous businessman paralleled those of the hoodlum in determination to violate our laws through ingenious use of secret foreign bank accounts. Because such use represented "business" to them, foreign banks began openly to solicit secret accounts in this country, in many cases using as selling points the many advantages, illicit and otherwise, that flowed from the secrecy laws of their country. Many foreign bankers organized systematic courier services to transport large amounts of cash from the United States to Switzerland and Nassau and other tax havens and set up branches and representatives in the United States to solicit and service customers. A tax evader not only needs a place where income taxes are virtually nonexistent, it also needs a place to protect the anonymity of the depositor. Many American banks opened branches in these foreign tax havens so that their customers could also avail themselves of the advantages provided by secret bank accounts. The American banks sought out, exploited and asserted the protections of local secrecy laws as vigorously as the foreign banker. Their multi

national operations became so large in scope that in many cases the banks doing the largest volume of business in some major Swiss cities are now not the local Swiss banks, but the foreign branches of large American banks. Similarly, in the Bahamas alone 29 branches of American banks have been opened or authorized, far beyond the apparent needs of the tourist trade and the local economy. This opening of foreign branches by American banks is not just characteristic of banks whose main offices are located in the financial centers of New York, Chicago, Los Angeles, and San Francisco, but also of banks centered in other places as well.

As a result of this expanded activity by American banks, transfers of funds, illicit and otherwise, through domestic banks on the way to secret foreign bank accounts became commonplace; the domestic clearing and correspondent facilities of U,S. banks became essential in many instances to the carrying out of illegal schemes involving foreign banks. For example, the facilities of a California bank and a midwestern bank were used, under circumstances that should have aroused suspicion, to transfer funds that were used to pay kickbacks to employees of noncommissioned officers clubs in Vietnam from an American company to a Swiss bank.

And when U.S. law enforcement agencies have sought to subpena U.S. banks to produce records of accounts maintained in a foreign branch in the belief that these accounts were being used to commit crimes in the United States, the banks have refused to produce such account records on the ground that by so doing they would violate the bank secrecy law of the country where the bank is located. This refusal has in some cases been sustained by our courts. I find it is shocking that a U.S. bank, by opening a branch abroad, can lend its facilities to citizens who are defrauding the Government and violating our laws and then successfully deny its obligation to make account records available to the Department of Justice by claiming that the laws of a foreign country would be violated.

A startling development of recent years has been a significant change in the identity and ownership of foreign banks. Today numerous banks in Switzerland and the Bahamas are owned and controlled not only by Americans, but in some cases by American hoodlums closely linked to loan sharking, gambling rackets, and other illegal activities. Such a bank does not need a large working capital to be a useful element of an illegal business. Its function is not to provide funds for the business so much as to provide an unreachable depository for illegal profits. Such a bank migh even not keep its accumulated funds on deposit, but might well redeposit them in a more substantial foreign bank or even in a U.S. bank. An American criminal who is not content simply to accumulate wealth in a foreign bank can easily and safely cause the bank to "lend" it back to him. These devices and many others are all at the disposal of this growing number of "foreign" banks controlled by or connected with the Americans and the American underworld.

Taking these different types of operations together the genuine foreign bank, the foreign branch of an American bank, and a foreign bank controlled by Americans and American hoodlums-I would conservatively estimate that their secret accounts hold hundreds of millions of dollars which has been used in or are fruits of violations of American law.

There is, however, a larger aspect to the problem. The significance of foreign financial institutions immune from the same governmental processes to which domestic institutions are subject goes well beyond the extent to which they are a cloak for conduct in violation of our laws. The leverage incidentally developed by a handful of private investors through vast accumulations of capital not in any way subject to our laws can, at a time of financial instability, represent a serious threat to the national economy.

For example, as a result of the Foreign Investors Tax Act of 1966 which was designed to encourage foreign investment in the United States, a corporation whose sole activity in the United States is in securities transactions is not subject to U.S. taxation. In general, this act has initially achieved its purpose as billions of "foreign" dollars have been invested here. The corporate investors, however, remain beyond the practical reach of the Securities and Exchange Commission and other law-enforcement agencies. In the long run the fact that these offshore funds, run by Americans, and investing in American security and real estate, are operating beyond the practical reach of the law may be detrimental to American investors, to foreign investors in the American market, and ultimately to the balance of payments itself.

For example, there is the case of Investors Overseas Services, Ltd. (IOS), and its mutual fund subsidiaries. With mutual fund assets before the break in the market of almost $2 billion, about two-thirds of its assets are in the form of securities in U.S. corporations. Just during the past few weeks it has been alleged by responsible sources that IOS has been engaged in a number of practices improper under American law. One instance cited is the phony writeup of oil and gas leases to lands in the Canadian Arctic, apparently done with the assistance of American companies; another is large loans to insiders by foreign banks owned by IOS. Disclosure of these transactions has had the inevitable effect of encouraging redemption of IOS shares at the rate of almost $3 million a day since May 1. To pay those redemptions they have had to sell securities in the American markets. There is strong evidence that IOS-controlled mutual funds have been dumping securities in U.S. markets to raise cash to satisfy these and other cash demands of its stockholders and creditors. In an already jittery market the weakening effect of such sustained selling activity is obvious. If foreign financial transactions by Americans were subject to disclosure requirements, the alleged writeups and insider loans might well have had to have been disclosed and the subsequent redemptions and coincident selling forestalled.

Indeed, if IOS had been subject to our disclosure laws perhaps the financial difficulty it has found itself in since the beginning of the year would have been avoided. Similarly, if foreign financial transactions were subject to disclosure requirements the comparable deterrent effect might have been felt. Absent these disclosure requirements, shady financial practices can be engaged in to the benefit of a few insiders. Unfortunately, I don't think we've seen the end of the IOS problem and its ramifications. The American markets and investors have already felt the effect of the dumping of securities by IOS. In the future, because the completely unchecked conduct by Americans running IOS has caused European investors to lose confidence in American-run companies and securities, their willingness to purchase