The Foreign Account Tax Compliance Act (FATCA) may seem as if only affects those with US clients – but its scope is far more reaching than that and could significantly impact family offices.
The provisions of FATCA, enacted on 18 March 2010 as part of the Hiring Incentives to Restore Employment (“HIRE”) Act, impose new information reporting and withholding requirements on non-US financial institutions (Foreign Financial Institutions or FFIs) which receive withholdable payments.
Through FATCA, the IRS seeks to identify US taxpayers with accounts at FFIs and asks these entities to report them to the IRS under the threat of punitive measures of withholding tax. The FATCA rules apply in addition to existing US withholding tax rules, including those applying to Qualified Intermediaries (QI), and will significantly affect foreign financial intermediaries, non-financial foreign entities, and other payers of US source income. The impact of the provisions on the private wealth management industry and entities including funds, family offices and trusts is likely to be significant.
FFIs will be required to enter into compliance agreements with the US Treasury as well as identify and report information on all accounts held by specified US persons on an annual basis. Other non-US entities, which do not fall under the definition of a FFI will be required to report substantial US owners or certify they have no substantial US ownership. Failure to comply with the FATCA rules will result in the imposition of a 30% withholding tax on withholdable payments of both the institution and its account holders.
Initial guidance issued on 27 August 2010 (Notice 2010-60), suggested certain entities (including small family trusts) would be excluded from the definition of an FFI although there is a still a requirement for the owners of such vehicles to be documented and if they are US persons to be reported.
Further guidance was issued on 8 April 2011 (Notice 2011-34). This included required procedures for identifying accounts held by US individuals, as well as focusing on additional procedures for an FFIs private banking customers and accounts with a value in excess of USD $500,000. The notice outlined the pass through percentage calculation method and certain deemed compliant FFI categories. It also covered the requirement for an FFI’s Chief Compliance Officer (CCO), or equivalent, to sign a certification that the ‘FFI management personnel did not engage in any activity,
or have any formal or informal policies and procedures in place, directing, encouraging, or assisting account holders with respect to strategies for avoiding the identification of their accounts as US accounts’. The IRS requires the CCO to backdate this certification to the publication of Notice 2011-34.
The most recent guidance note was released on 14 July 2011 (Notice 2011-
53) and gives transitional relief to FFIs. In particular, it states a FFI must enter
into an agreement with the IRS by 30 June 2013 in order to be identified as a participating FFI and give sufficient time to US withholding agents to refrain from withholding beginning on 1 January 2014.
Draft regulations are due to be released by January 2012 with final regulations together with FFI agreements and reporting forms to be published in Summer 2012. It is anticipated further guidance on implementing FATCA will be released by the IRS this year.
Why is becoming compliant a challenge?
FFIs face a major challenge across a number of areas and this is magnified by the number of jurisdictions within which they operate and the variety of products offered.
The impact to the FFI goes far beyond the obvious tax and reporting obligations. For institutions in the private wealth management industry including funds, family offices and trusts some of these may areas include:
• Modifying the client take on process to capture additional information regarding US status and searching information obtained during the account opening process;
• Performing electronic searches on existing client accounts, as well as paper reviews in certain cases to determine the US status of existing account holders;
• Building reporting processes to aggregate information across different businesses and report details annually to the IRS;
• Implementing procedures to collect withholding taxes on all US sourced and pass through payments;
Analysing US and non US assets held by the FFI in order to calculate a pass through payment percentage on a quarterly basis.
A key concern is how to quantify the investment and effort required to become compliant, particularly given the current uncertainty associated with FATCA.
The first step is to perform an impact assessment to understand the compliance challenge as it applies to the FFI (and its affiliates where relevant). This should provide a high level estimate of the level of investment and effort likely to be required to become compliant.
Most organisations have delivered FATCA programmes using a combination of resources across the business as the solution is cross functional. This includes a mixture of tax, legal, systems, AML and programme and change management specialists feeding into a steering committee with strong executive sponsorship.
With less than two years to go until FFIs are required to sign up to agreements to minimise the impact of FATCA withholding there remains significant uncertainties institutions need to be able to manage effectively while retaining sufficient flexibility to deal with possible changes arising from further guidance and draft regulations.
