Europe’s Cum-Ex Scandal: What To Expect When U.S. Authorities Join the Party

July 8, 2021

By: Howard A. Fischer

Published in the New York Law Journal.

Co-written with Joshua Ray of the UK firm of Rahman Ravelli.

The recent announcement that a former banker at M.M. Warburg & Co. was sentenced to 5.5 years in prison by a German court for participating in a nine-figure “cum-ex” scheme marks the latest development in regulators’ efforts to crack down on those who employed the controversial dividend arbitrage trading strategy. Karin Matussek, “A Banker’s Long Prison Sentence Puts Industry on Alert,” Bloomberg Law News (June 2, 2021). Allegedly responsible for at least $60 billion in lost tax revenue for treasuries in Germany, France, Denmark and elsewhere, the Cum-Ex Scandal—also called the German Dividend Tax Scandal—has been labelled a massive tax fraud and the “robbery of the century.” Alex Simpson, “The robbery of the century: the cum-ex trading scandal and why it matters,” The Conversation (Nov. 13, 2019). Since 2017, investigations have been launched against nearly 800 individuals—traders, bankers, lawyers—along with their employers. Hundreds of millions of dollars in fines have been levied against financial institutions who engaged in the strategy and several criminal trials are currently pending.

Until recently, the center of the action so far has been Germany. However, the geographical scope of litigation, including enforcement cases by various national authorities, continues to expand to Denmark, the U.K., and elsewhere. A series of recent developments may augur the opening of a new front in U.S. courts in this ongoing saga. As argued below, it is likely that we are going to see an even greater number of international prosecutions, as well as some significant jurisdictional battles over where these cases can be heard.

A Legal Loophole or Tax Fraud?

The mechanics of cum-ex trading are complex but in general involve a series of transactions designed to allow multiple parties to claim a tax refund on the same dividend payment. Cum-ex trades are made possible by the bilateral double taxation treaties in place between many governments to help international investors avoid being taxed twice for the same trade (i.e., once in their home countries and once in the country where the trade occurs).

These treaties generally entitle foreign investors in domestic companies to obtain a refund on automatic dividend withholding tax (WHT) paid on their shares. For example, if an investor located in London held shares in a German-listed company (e.g., Allianz), when Allianz paid a dividend, WHT would be deducted from the dividend by the German government before it reached the investor’s brokerage account. Under Germany’s double taxation treaty with the U.K., the investor could thereafter seek a refund from Germany on the WHT already paid (which, at current rates are 26.375% of the dividend).

Thus, an investor owning 1 million Allianz shares, due to receive a dividend of €1 per share, would receive only €736,250 after €263,750 in WHT is deducted. Under the double taxation treaty, the investor could then petition the German government for all or some of that €263,750 back. (Note that the actual taxation rules are more complicated than in this example, but this simplified version conveys the key principals. For a more detailed explanation of the steps involved in a cum-ex trade, see “The Cum-Ex Guide for Financial Institutions.”)

Cum-ex exploited loopholes in certain countries’ tax laws—most of which were closed following legislative changes in 2012—pertaining to WHT rebates. These loopholes arguably allowed multiple foreign investors to claim the WHT refund on a single share of stock. The strategy involved rapidly trading shares with and without dividend rights (“cum-dividend” and “ex-dividend”) between various parties—in general, a stock would be sold after a dividend was declared (but before it was actually paid (i.e., “cum-dividend”)), but then delivered after the dividend was paid (i.e., “ex-dividend”). This tactic enabled both the buyer and seller to claim rebates on WHT (which had only been paid once, if at all) from EU tax authorities. Rapid trading between the parties confused the tax authorities as to who actually owned the shares on the dates the dividend was announced and paid. When successful, a cum-ex trade created the appearance that shares were sold prior to the dividend record date when in fact they were sold afterwards.

From the perspective of many of the traders and financial institutions involved in cum-ex trading, it was perfectly legal under the tax rules in place during the relevant time period. European regulators, on the other hand, believe that cum-ex trading strategies were fraudulent because they involved tax refunds given under false pretenses.

A Potential Precursor for U.S. Cum-Ex Enforcement Cases: The SEC’s ADR Cases

While U.S. law enforcement agencies have brought multiple cases that touch upon cum-ex adjacent issues, they have only tangentially addressed them. For example, in the last few years, in fact, the SEC targeted a closely similar dividend arbitrage strategy involving American Depositary Receipts (ADRs). The SEC’s ADR cases resulted in over a dozen settlements for more than $450 million, and provide a sense of how a more aggressive U.S. law enforcement may go after Cum-Ex incidents.

ADRs allow U.S. investors to get exposure to foreign companies’ stock or debt through U.S.-listed securities. ADR facilities are established by depositary banks in the United States, and can be either sponsored, where the foreign issuer participates in their creation, or unsponsored, where the ADRs are created without the underlying issuer’s participation.

Typically, the depositary issues ADRs in the United States at the same time an equivalent number of ordinary shares are surrendered to the depositary’s foreign custodian bank. In this way, the total number of shares (ADRs + shares traded abroad) does not change. In certain situations, ADRs are “pre-released,” meaning they are issued before the ordinary shares are given to the custodian.

When pre-release is used, the owner of the ADR owns a share that is temporarily untethered to an equivalent share abroad (under the assumption that the foreign share will be deposited into a custodian bank later on, so as to maintain the companies’ aggregate float). The original idea behind pre-release agreements was to take account of the time lag between trade and settlement dates, and allow investors to transfer the beneficial rights of ownership—including dividends—before settlement. The concept of pre-release ADRS rests on the premise that the depositary banks that issue them actually own underlying ordinary shares, as opposed to “phantom” ADRs disconnected from any of the company’s “real” shares.

Transacting ADRs without using the proper mechanisms, including mechanisms to ensure that phantom shares do not trade and that ownership vests in only one party at a time, can run afoul of U.S. securities laws. Among other things, these mechanisms involve keeping track of who the owner (or beneficial owner) is on dates when dividends are announced and paid.

In the last few years, the U.S. SEC has settled a number of administrative actions involving pre-release ADRs. Most of these cases involved pre-release ADRs issued around dividend dates that were used as a form of tax arbitrage (in a similar way to the cum-ex trades). According to the SEC, the pre-release scheme involved: “lending a [pre-release] ADR to a non-U.S. party with tax-favored status in a foreign jurisdiction, who would be entitled to receive more of the dividend than would be received by a standard U.S. taxpayer subject to foreign withholding tax.” See In re Merrill Lynch, Pierce, Fenner & Smith, SEC Dkt. #3-19114 (March 22, 2019). Once the foreign party received the dividend, the ADR would then be returned to the lender (along with a portion of the dividend payment). Through this temporary transfer of the ADR, the government in the issuer’s home country is deprived of tax revenue it would have otherwise received.

In the SEC’s view, these transactions amounted to violations of §17(a)(3) of the 1933 Securities Act which prohibits “negligent fraud”—i.e., engaging in a course of business that operates as a “fraud or deceit,” regardless of whether it was intended to do so. These kinds of administrative settlements are often derided as unaggressive, as they charge mere negligence rather than any kind of active wrongdoing.

While these resolutions might seem mild, the ADR cases show how U.S. authorities can pursue cases against cross-border transactions that result in lost tax revenue to foreign governments. Will they do the same with more explicit cum-ex cases? In our view, the chances that they will are high, both for legal and practical reasons, and that these efforts might include both criminal cases as well as civil SEC enforcement actions.

In fact, the U.S. Supreme Court issued a ruling in 2005 finding that a scheme to defraud a foreign government of tax revenue could be prosecuted under the federal wire fraud statute. In that case, Pasquantino v. United States, 544 U.S. 349 (2005), the defendants were accused of smuggling liquor from Maryland into Canada in order to evade hefty Canadian taxes on imported alcohol. Because the scheme involved phone calls within the United States, the defendants were charged with wire fraud. After they were convicted, they appealed their case based on an argument that their prosecution contravened the common-law “revenue rule,” which bars U.S. courts from enforcing foreign sovereigns’ tax laws.

The Supreme Court rejected this argument and upheld the convictions. Noting that the revenue rule was intended to preclude actions seeking to collect tax owed to foreign countries, the court concluded that the rule was not implicated simply because the Canadian government was the beneficiary of the restitution order incorporated into defendants’ sentences. Rather, the court ruled that “the wire fraud statute advances the Federal Government’s independent interest in punishing fraudulent domestic criminal conduct … . The purpose of awarding restitution in this action is not to collect a foreign tax, but to mete out appropriate criminal punishment for the conduct.” Id. at 365.

The reasoning behind Pasquantino should allow criminal prosecutions related to cum-ex trading in the United States. Indeed, last year Judge Kaplan of the Southern District of New York ruled that the revenue rule did not preclude litigation of civil fraud claims related to cum-ex that were filed by the Customs and Tax Administration of Denmark (SKAT) against a number of U.S. pension funds and their representatives. 356 F. Supp. 3d 300 (S.D.N.Y. 2019). SKAT argued that certain dividend tax refund claims were fraudulent because the defendants did not own the shares they claimed. In rejecting defendants’ motion to dismiss based on the revenue rule, Judge Kaplan stated: “These actions plainly do not seek direct enforcement of Danish tax law … . [P]laintiff has not alleged a single instance of tax evasion—it alleges fraud, pure and simple.” Id. at 311.

More U.S. Cases Are Likely

While Europe has been the center of gravity for cum-ex litigation, that focus might shift to the United States, for several reasons.

First, from the get-go the Biden administration has messaged a far more aggressive enforcement posture than its predecessor. It is more likely now that cases involving U.S. financial institutions assisting in schemes using ADR’s to manipulate dividend declarations will not be viewed solely as technical “negligent” violations but as affirmative frauds.

Second, Judge Kaplan’s recent decision provides a forum for litigating cum-ex cases in U.S. courts by injured foreign tax authorities. The only predicate—that the wrong done be fairly characterized as fraud—should be a relatively easy hurdle to surmount, at least at the pleading stage.

Third, it appears that U.K. courts are taking a contrary approach to that of the United States. Denmark’s tax authority had commenced efforts in the London High Court against Sanjay Shah, a hedge fund manager, along with several of his colleagues, who were accused of masterminding a substantial cum-ex scheme. Just recently, the London court rejected that effort, ruling that the U.K. was not the proper forum to bring a claim under Danish law. Furthermore, the court noted that the litigation seemed to be politically motivated, based on public statements by Danish politicians, and additionally held that the Danish authorities were liable for defendants’ legal costs. Ellen Milligan, “Hedge-Fund Trader Wins Dismissal of $2 Billion Tax Case,” Bloomberg (April 27, 2021).

Finally, unlike in the U.K. or in many other jurisdictions, the United States lacks a generally cost shifting provision where the loser in any litigation is liable for the costs of the victor. Thus, the risk of commencing an action in a U.S. court is far less than it would be in many other jurisdictions, like in the U.K., lowering the potential obstacles to any action.


The combination of an increasingly aggressive U.S. regulator with greater acceptance by U.S. courts of cum-ex related claims, when seen in light of hostility to those claims by U.K. courts, is likely to signal a new front in the long-running battle to recover for fraudulent dividend arbitrage schemes. The next six months to a year should be crucial in determining how active that front becomes.

Reprinted with permission from the July 8, 2021 edition of the New York Law Journal © 2021.” ALM Media Properties, LLC. All rights reserved. Further duplication without permission is prohibited, contact 877-257-3382 or