Despite its small size and limited natural resources, Liechtenstein has developed into a prosperous, highly industrialized, free-enterprise economy with a vital financial service sector and living standards on a par with its large European neighbors. The Liechtenstein economy is widely diversified with a large number of small businesses. Low business taxes - the maximum tax rate is 20% - and easy incorporation rules have induced many holding or so-called letter box companies to establish nominal offices in Liechtenstein, providing 30% of state revenues.

Contact us about opening a Liechtenstein bank account

A substantial banking sector has developed in Liechtenstein, particularly in private banking, due to a combination of factors, including a relatively relaxed but still highly respected regulatory regime, the very flexible company legislation, and strict banking privacy.

The Liechtenstein banking sector is regulated under the Law on Banks and Finance Companies 1993; this law was substantially amended following Liechtenstein's entry into the EEA in 1995, through the Law on Banks and Finance Companies 1998. The Act concerning Banks and Savings Funds 1960 imposes heavy penalties for breaches of professional secrecy. Other recent legislation dealt with due diligence on the part of bankers accepting deposits or assets, installing 'know your customer' rules.

The "know your customer" system is legally compulsory (and has been since October 2000) for all banks that belong to the Liechtenstein Bankers' Association. This means that banks in Liechtenstein, previously known as one of Europe's most secretive tax havens, can no longer guarantee anonymity for new and existing account holders, although further account details will remain under normal banking secrecy agreements.

Liechtenstein private banks are able to offer highly tax-efficient asset management services to clients, using one or other of the forms available under the PGR Code, so that income received in Liechtenstein from international assets can be forwarded or reinvested with minimal or no local taxation.

According to the most recent figures available at the time of writing, Liechtenstein's banks managed some SFr171.5bn in clients assets (which equates to a staggering SFr5m for every man, woman and child in the principality).

In March, 2006, Prince Alois, ruler of the Principality, stated that Liechtenstein was unlikely to dispense with its coveted banking secrecy laws any time soon because such a measure would probably not be approved if put to a referendum.

In 2008, the banking sector became the centre of an international row over tax evasion, which was sparked by the use by German taxpayers of Liechtenstein entities to duck their tax liabilities in their home country.

The scandal first broke after it emerged that the home of Klaus Zumwinkel, Chief Executive of Deutsche Post, one of Germany's largest companies, had been raided by police as part of a tax evasion investigation. He was accused of hiding about EUR1 million from German tax collectors in Liechtenstein.

Zumwinkel was subsequently forced to resign by Deutsche Post, but the affair did not end there. On Monday, it was reported that several more homes and offices in the Frankfurt area and in southern Germany have been raided, after the intelligence services received information from a former employee of a Liechtenstein bank about hundreds of wealthy German clients.

The informant, an ex-employee of LGT, Liechtenstein's largest bank, was said to have handed over a disc to the German intelligence service, the BND, containing confidential information on more than 1,000 clients. The BND was believed to have paid the informant a sum of between EUR4 and EUR5 million for the disc.

Following the revelation, Prince Alois reiterated his message that the jurisdiction would continue to improve its financial sector regulation, but that this would not come at the expense of an erosion in individual privacy.

"The Liechtenstein financial centre has already undertaken considerable reform efforts in recent years, but more reforms will be necessary, not only to ensure the competitiveness of the financial centre for the future, but also to enhance it," the Hereditary Prince told Parliament.

"Other financial centres have caught up by creating new, attractive business environments, while the international pressure has risen on locations offering a high level of protection of privacy," he observed.

The scandal had repercussions throughout the world, and in February 2008, US Senator Carl Levin (D-MI), announced that he intended to investigate whether US citizens may have had dealings with the Liechtenstein bank at the centre of the row over tax evasion and offshore secrecy laws.

Levin, who had long campaigned for legislation to prevent Americans from moving money offshore, recently revealed that the Senate Permanent Committee on Investigations, which he chairs, would launch a probe into reports that the stolen computer disc containing details of clients of Liechtenstein's LGT Bank also included several American names.

It also emerged that month that the Internal Revenue Service had initiated enforcement action involving more than 100 US taxpayers, to ensure proper income reporting and tax payment in connection with accounts in Liechtenstein.

The national tax administrations of Australia, Canada, France, Italy, New Zealand, Sweden, United Kingdom, and the United States of America, all member countries of the OECD's Forum on Tax Administration (FTA), had also announced that they were working together, following revelations that Liechtenstein accounts were being used for tax avoidance and evasion.

"Combating off-shore tax avoidance and evasion are high priorities for the IRS," explained then IRS Acting Commissioner Linda Stiff.

“We are determined to protect the United States tax system from abuse and ensure that taxpayers pay what they owe. We will use all our authority to fairly and effectively enforce our tax laws. It should be clear from recent events that there is no safe hiding place for the proceeds of tax avoidance and evasion. Anyone with hidden income and gains would be well-advised to make a prompt and complete disclosure to the Internal Revenue Service," she added.

The arrival of President Obama in the White House has seen the proposal of several anti-offshore intiaitives, including the Foreign Account Tax Compliance Act, which has given the US Internal Revenue Service new tools to "detect, deter and discourage offshore tax abuses." The legislation, approved by Congress in March 2010: imposes a 30% withholding on US source payments to foreign financial institutions, foreign trusts, and foreign corporations that do not agree to disclose their US account holders and owners to the IRS; requires taxpayers to disclose their foreign accounts on their US tax returns; increases the statute of limitations to six years for failure to report certain offshore transactions and income; clarifies when a foreign trust is considered to have a US beneficiary; and treats substitute dividend and dividend equivalent payments to foreign persons as dividends for purposes of US withholding.

In August 2009, the UK government announced details of the “groundbreaking” disclosure agreement with Liechtenstein that gives UK taxpayers with undisclosed accounts in the Alpine jurisdiction the opportunity to disclose income at a reduced penalty, or face having their accounts shut down.

The so-called Liechtenstein Disclosure Facility (LDF) agreement, signed by the two governments on August 11 along with a broader Tax and Information Exchange Agreement, will allow penalties on unpaid tax to be capped at 10% of tax evaded over the last 10 years providing that the account holder makes a full disclosure to HM Revenue and Customs (HMRC).

However, those who do not make a full disclosure by the end of the program, which runs from September 1, 2009 to March 31, 2015, will find their Liechtenstein accounts closed down. They may also face penalties on any unpaid tax of up to 100%.