Exclusive: U.S. tax-evasion probe turns to Israeli banks

People stand beside a branch of Bank Hapoalim, Israel's second largest bank which is controlled by Shari Arison's Arison group, in the southern city of Ashkelon July 27, 2011.

(Reuters) - The U.S. pursuit of offshore tax evaders is widening to include Israel, where U.S. authorities are scrutinizing three of Israel's largest banks over suspicions their Swiss outposts helped American clients evade taxes, people briefed on the matter said.

The banks under scrutiny by the U.S. Justice Department's criminal tax division are Bank Hapoalim, Bank Leumi le-Israel BM and Mizrahi-Tefahot, the sources said.

The shift to Israel from Switzerland, for years the main focus of the Justice Department's campaign against offshore private banking secrecy, signals the broadening of a landmark probe by the agency that began in 2007 with UBS AG, Switzerland's largest bank.

The shift also opens up a potential sore spot in the historically close relationship between the United States and Israel, a key diplomatic and military ally in the Middle East that is the biggest recipient of U.S. aid -- $3.1 billion last year.

U.S.-Israeli relations have come under strain in the past year, after U.S. President Barack Obama's drive to relaunch direct peace talks between Israel and the Palestinians collapsed, although both sides say their decades-old alliance remains unshaken.

The scrutiny of the three Swiss branches of the Israeli banks is at an early stage and has not reached the level of that of Credit Suisse, which received a target letter from the Justice Department in July, or of HSBC Holdings, a major European bank, and Basler Kantonalbank, a Swiss cantonal bank, said the people briefed on the matter.

U.S.-SWISS ARRANGEMENT CITED

Aviram Cohen, a spokesman for Bank Leumi in Tel Aviv, wrote in an e-mailed statement on Thursday that "the request was for general statistical data. It appears that this data was to serve as a basis for a comprehensive arrangement between the Swiss and American Authorities. Obviously, Bank Leumi Switzerland is cooperating fully with the Authorities, in accordance with Swiss Law and under legal advisement."

A spokesman for the Bank of Israel, the country's central bank, said on Thursday the agency "cannot comment on questions that refer to specific banking corporations." One person briefed on the matter said the U.S. Justice Department "tries to deal with the entity, not the government" in its crackdown on tax evasion.

The scrutiny comes during a wide-ranging campaign by the Justice Department to force nearly a dozen Swiss banks now under scrutiny to pay collectively billions of dollars in fines and admit to criminal wrongdoing.

The focus turned to Israel with a letter dated August 31 from the second-highest law enforcement official in the United States, Deputy Attorney General James Cole. Cole gave the three Israeli banks, along with seven Swiss banks, until September 23 to produce broad statistical information on their Swiss operations with U.S. clients.

The data requested, according to people briefed on the matter, cover the types of accounts disclosed by UBS in 2009 as part of a deal with the Justice Department to settle U.S. charges that it enabled scores of wealthy Americans to evade billions of dollars in taxes. It also covers other types of accounts, including those opened after the UBS settlement with the Justice Department in February 2009.

Under its settlement, UBS entered into a deferred-prosecution agreement, paid a $780 million fine, admitted to criminal wrongdoing, and eventually disclosed details for clients who had unreported accounts of at least 1 million Swiss francs (about $1.15 million) or who owned sham company accounts with that total. The accounts in question covered 2001 through 2008.

10 BANKS

While UBS turned over client names, the Cole letter requests only broad, statistical information on how many American taxpayers hold those types of accounts at the 10 banks covered in the letter, the persons briefed on the matter said. In addition to the three Israeli banks, institutions that received the letter include Credit Suisse AG; HSBC; Julius Baer and Wegelin, both smaller private banks, and Basler Kantonalbank.

All the banks are being questioned on suspicion of having enabled wealthy Americans to evade taxes, a criminal offense, through unreported bank accounts, people briefed in the matter said. Some banks, including Credit Suisse, also are suspected of lying to the U.S. Federal Reserve and providing unlicensed banking services to American clients.

American officials are concerned that the 10 banks appear to have accepted hidden money from American clients who fled UBS in the wake of its scrutiny and assertions by Swiss officials that offshore tax evasion would not be tolerated under the cloak of Swiss bank secrecy rules, the people briefed on the matter said.

Swiss banks argue that U.S. laws, which do not distinguish between tax fraud and tax evasion, should not apply to Switzerland. The Alpine country has a tradition of financial secrecy that punishes the disclosure of client data.

David Garvin, a tax lawyer in Miami representing American clients of offshore banks, said, "Israel isn't really anxious to be viewed as turning people over."

A spokesman for the Israeli embassy in Washington did not respond to questions.

NO COMMENT

Benny Shoukron, a spokesman for Mizrahi-Tefahot in Tel Aviv, did not respond to requests for comment. Ofra Preuss, a spokeswoman for Bank Hapoalim in Tel Aviv, referred calls to the bank's Swiss branch in Zurich, Bank Hapoalim (Switzerland), saying, "They're separate from us." A spokeswoman for the Swiss branch declined to return calls requesting comment.

Datan Dorot, a tax lawyer in Miami who represents U.S. clients of Israeli banks, said that bankers from an Israeli branch of Bank Leumi called his clients about six weeks ago to tell them they needed to close their accounts at the bank's Swiss branches because of scrutiny by the Justice Department.

Many of his clients, Dorot said, hold dual U.S.-Israeli citizenship and had opened their Israeli accounts with Israeli passports and not disclosed their U.S. citizenship -- a factor that makes them U.S. taxpayers.

Dorot said Bank Leumi's advice that clients close the accounts -- and presumably open new accounts elsewhere -- could cause problems for the clients because the U.S. Internal Revenue Service does not consider merely closing the account to be enough; the U.S. taxpayer must also report the account to the IRS and pay taxes on it. "The Israeli banks are suggesting a very bad idea," Dorot said.

(Reporting and writing by Lynnley Browning in Hamden, Conn.; Additional reporting from Reuters Jerusalem bureau; Editing by Howard Goller and Peter Cooney)