JPMorgan's most senior and long-serving investment bankers in London have received some extremely bad news. The Financial Times reported at the weekend that the bank is nearing a settlement with the UK government which could land individual bankers with enormous retrospective tax bills.
The bills pertain to JPMorgan's historic employee benefit trust (EBT). JPMorgan isn't commenting on how this trust functioned, but John Whiting, tax policy director at the Chartered Institute of Taxation and a member of the UK Treasury's tax simplification team, says the principal behind EBTs has always been simple: bonuses go in and interest free loans come out. Those loans aren't taxable. "Banks and football clubs were two of the biggest users of the trusts," Whiting says.
As we've reported various times in the past, JPMorgan is understood to have been a particularly enthusiastic user of its EBT. The Financial Times suggests that the trust contains anything from £2bn-£9bn in historical bonuses. Headhunters inform us that the trust was a big reason for working at JPMorgan's London office in the past. "Historically, a lot of the MDs at JPMorgan were paid their bonuses through the employee benefit trust," says one senior headhunter. "The idea was that they could borrow against the trust, tax free, and that if they went to live offshore they could access all their past bonuses without paying tax on them." The FT says the scheme wasn't open to US bankers working in London, who were prevented from participating by US tax laws.
"Basically, the scheme gave people at JPMorgan a 40% increase in their compensation because they weren't paying tax," another headhunter says. "It always made it very difficult for us to pull people out of there because when they left they had to withdraw from the scheme and the tax became an issue."
Graham Muir, head of employee incentives and employment tax at law firm Nabarro says the UK government is aggressively pursuing anything perceived to be a tax avoidance scheme, or any arrangement that results in people paying less than their fair amount of tax. In 2004 the UK government reserved the right to legislate retrospectively against anything perceived as tax avoidance (ie. to demand tax payments several years after the event) and on the 6th of April 2011, the government enacted disguised remuneration rules designed to further clamp down on tax avoidance. "The disguised remuneration rules have made it very difficult to use employee benefit trusts for tax avoidance motives," says Muir. "However, many of the cases that are coming to court now date back a number of years," he adds.
For whatever reason, JPMorgan seems to have fallen foul of Her Majesty's Revenue and Customs (HMRC). Given that the bank's employee benefit trust is worth at least £2bn and that UK income tax is 40% and around 2,000 senior JPMorgan bankers are said to have benefited from the trust, the average tax liability per banker would seem to be at least £400k. JPMorgan is kindly said to be paying the employer's national insurance element. Helpfully, the FT suggests that the bank has also struck an amazing deal with HMRC which could see the total bill halved. The implication is that the average banker's income tax liability will be reduced to 'only' £200k.
One ex-JPMorgan MD who left the bank in the early 2000s told us there were always plenty of tax mitigation schemes around, but that he never participated because they seemed too complicated. Another ex-head of tax at an international bank in the City said JPMorgan put all its eggs in the employee benefit trust basket: "There were plenty of alternative tax mitigation measures around, but JPMorgan always went for employee benefit trusts. They were always a very conservative bank and this was seen as the best option to reduce employees' tax exposure."
UBS and Deutsche are also known to have used employee benefit trusts, although they did so far less zealously than JPMorgan. In September, the UK tax tribunal ruled that UBS's trust, which paid £92m in bonuses to 400 UBS bankers during 2004, had in fact been legal and that UBS didn't have to repay the associated tax. At the same time, however, it ruled that a similar scheme run by Deutsche Bank, wasn't permissible, leaving Deutsche's investment bankers liable for an alleged £50m in unpaid tax.
It's not clear precisely how JPMorgan will now retrieve the unpaid tax from its senior bankers - particularly if they no longer work there. Whiting points out that the money is owed by the employees and not by the bank. Unfortunately, a large number of happily retired former JPMorgan bankers could be in for a very big shock.