CUM-EX Dividend Arbitrage

EU banking supervisors must investigate Cum-Ex transactions and other dividend arbitrage schemes as part of their reviews of anti-money laundering (AML) compliance programs, the bloc’s banking authority said Tuesday.

The European Banking Authority (EBA) said in a report that recent surveys of the bloc’s AML and prudential supervisors indicate that member-states “do not share the same understanding of dividend arbitrage trading schemes and the extent to which financial institutions’ handling of the proceeds from these schemes constitutes money laundering.” The handling of funds linked to such schemes “is likely to amount to money laundering, irrespective of where the tax crime took place,” the EBA said.

The Cum-Ex scandal and other trades known as Cum-Cum may have cost EU taxpayers as much as €55 billion between 2001 and 2012, according to the European Parliament.

Traders have used dividend arbitrage schemes to hedge the difference in value between shares cum- (with) and ex- (without) dividend, making use of put options, the Parliament said. The trades exploit differences in national withholding taxes for payments to corporate shareholders by ostensibly loaning out the shares before a dividend date to a party in another jurisdiction where the tax obligations are lesser. The shares are later returned to the original owner and the parties split the tax savings.

While not all dividend arbitrage trades are illegal, Cum-Ex trades are considered particularly aggressive due in part to the fact that they make it possible to receive multiple refunds. A judge ruled last year that the such trades were illegal and, in March, two former London investment bankers were convicted of tax evasion in a German court for their role in a Cum-Ex scheme.

Going forward, the EBA will expect financial institutions and competent authorities to “take a holistic view of the risks highlighted by dividend arbitrage trading cases, for example the cum-ex scandals, which may give rise to questions about the adequacy of financial institutions’ anti-money laundering systems, internal controls and internal governance arrangements,” according to the report.

AML supervisors will be expected to contact local tax authorities to determine if certain dividend arbitrage trading schemes are considered to tax crimes and, if so, to inform relevant prudential authorities, the EBA said. Prudential supervisors will need to take such information into account when performing reviews of institutions’ internal controls and governance arrangements, the authority said.

Domestic authorities should also pursue “targeted inspections” related to the schemes, according to an EBA action plan.

As part of that plan, the authority said it would amend various guidance papers and opinions to reflect the report’s findings, including its AML/CFT guidelines for risk-based supervision under the EU’s fourth money laundering directive. The amended guidelines are slated to be finalized by 2021.(Source: RiskScreen)

Read the full report here