FATCA Continued

Modifications and Additions to Preliminary Guidance Relax Implementation Rules, Extend Time Periods

Many speakers were grateful for changes made to preliminary guidance and notices regarding FATCA implementation:

  • Expanded scope of grandfathered obligations to January 1, 2013
  • Provided a two-year transition period for members of affiliated group with legal prohibitions on FATCA compliance
  • Added categories of deemed compliant FFIs.
  • Simplified due diligence procedures for pre-existing accounts.
  • Extended some transition periods for information reporting.
  • Postponed withholding on foreign passthru payments until January 1, 2017.

Risk of Tax Evasion

Most speakers affirmed the merit of the underlying goal of FATCA, to reduce tax evasion. Several commented that the risk of tax evasion for certain financial activities is much lower in certain countries and that the burden of FATCA compliance in those circumstances would result in very little compliance effect.

This is particularly true in tightly regulated countries that already have relatively high tax rates and effective reporting requirements (for example, Canada, Sweden and Japan were noted) or where the total numbers of U.S. citizens are very low, such as Japan and Australia. Hodaka Sakuragawa, representing the General Insurance Association of Japan, said that this also applies to certain payments made by insurance companies, such as Total Loss Lapsed Contracts in Japan.

FATCA rules also include restrictions on advertising the availability of U.S. dollar denominated deposit accounts or other U.S. dollar denominated investments. A few speakers noted that the U.S. dollar is frequently treated as the effective local currency or sometimes even preferred, including in those countries with the closest relationships to the U.S., such as Canada, and those countries where U.S. tourism is common.

Impact on Citizens

While the bulk of the comments and discussion focused on the difficulties that companies will have in implementing the FATCA rules, one speaker set forth the numerous problems that the rules are having on U.S. citizens living in foreign countries, estimated at between 3 and 7 million. Joseph Green, speaking on behalf of Democrats Abroad, addressed the very real problems that Americans are encountering in attempting to comply with increasingly complex income and asset reporting rules. There have been substantial increases in recordkeeping requirements and tax preparation fees resulting from a combination of Form TD 90-22.1 (Report of Foreign Bank and Financial Accounts, ‘FBAR’), Form 8938 (Statement of Specified Foreign Financial Assets), and differences in U.S. vs. foreign income taxation.

In addition, the substantial potential penalties for reporting errors create significant personal anguish even when U.S. citizens know what their reporting obligations are. The recent focus on FBAR penalties caught many of these people by surprise. U.S. citizens who have been living on foreign countries for decades and thought they were tax compliant now find that they may be liable for a 27.5% offshore penalty under the IRS Offshore Voluntary Disclosure Program.

The ‘unintended consequences’ of the FATCA rules are also having negative impacts on a much more personal level. What the rules call foreign financial institutions are merely ‘local banks’ to the U.S citizens who live and work there. These local banks, that don’t want to deal with FATCA rules, are refusing to allow U.S. citizens to open accounts (an action noted by nine percent of respondents to a Democrats Abroad survey), or are closing accounts that have been used for years (noted by six percent of survey respondents).

The rules also cause marital strife as non-U.S. spouses and partners refuse to turn over their financial records to a foreign (i.e., U.S.) government. Some have ‘resolved’ the problem by putting all assets in the name of the non-U.S. spouse, which leaves the U.S. citizen in a precarious position if the marriage breaks down or the spouse has financial reversals. Other respondents noted the potential for adverse career effects, as foreign companies are reluctant to promote U.S. citizens to positions where they would have signature authority over foreign accounts.

Rules on Documentation are Complex

Many of the comments focused on the complex documentation requirements, including the provision that documentation has to be recertified every three years, or more frequently if certain other events occur. The FATCA documentation rules require substantial new procedures that do not currently represent normal business practice in these financial institutions.

Several speakers suggested that the existing Anti-Money Laundering/Know Your Customer rules be adopted as the FATCA standard. Jonathan Sambur, speaking for the Swiss Bankers Association, questioned the FATCA requirement to renew documentary evidence every three years, and said that it would create a substantial and costly burden. He referred to their submitted comments; under Swiss KYC/AML rules, the expiration of documentary evidence (for example, in a passport) has no effect on the prior identification of the client. Once a client is identified under the AML/KYC rules, the later expiration of the documentary evidence would not call the prior identification into question, unless there was reason for doubt.

Because much of the FATCA information is duplicative of reporting done by taxpayers on Forms 8938 and TD 90.22-1, the Swiss Bankers Association also propose simplified information reporting for U.S. accounts to only include the name, address, account number, Taxpayer Identification Number of the specified U.S. person and the year-end account balance of such account.

Ella Grundel, representing the Swedish Bankers Association, noted that some of the provisions are so complex that even their lawyers are not able to interpret them. To make matters worse, Andrew Barkin, representing the Institute of International Bankers, noted that it is the back office people in foreign countries, many of whom don’t speak English, who will be responsible for the day-to-day implementation of the FATCA rules.

Identifying existing clients who are dual citizens continues to pose a very serious challenge. In certain circumstances, FFIs would be expected to subject payments to the 30 percent FATCA withholding tax, or close the accounts of customers, because of expired documentary evidence or failure to comply (‘recalcitrant account holders’). Michael Edwards, representing the World Council of Credit Unions, noted that it might be illegal to close accounts of members, another conflict with the FATCA rules as presently written. Others also noted that, under laws in certain countries, disclosure of some of the FATCA-required information is illegal or not otherwise considered acceptable. Yutaka Yokota, representing the Japanese Securities Dealers Association, said that requests for personal information required by FATCA are outside accepted norms in Japan.

Harris Horowitz, representing asset management firm BlackRock, Inc., advised that FATCA will have a detrimental impact on investors and markets, especially for U.S. asset managers offering funds to U.S. investors abroad. He recommended that IRS adopt a risk-based approach focusing on the greatest potential for abuse.

Michael Bernard, speaking for TEI, expects that it will be difficult for NFFEs to comply with the effective dates provided in the FATCA proposed regulations, in particular the documentation of new payees on January 1, 2013. NFFEs generally do not have reporting and withholding systems in place, which are typically found in financial institutions. TEI observes that many NFFEs, or their advisers, may not even realize that FATCA applies to them. Until the publication of the FATCA proposed regulations, IRS and Treasury Notices referred to FFIs.

Intergovernmental Approach to Avoid FATCA Withholding

Generally, Chapter 4 of the FATCA regulations requires FFIs to provide information to the IRS annually regarding their U.S. accounts, and also requires NFFEs to provide information on their substantial United States owners to withholding agents. A 30 percent withholding tax is imposed on U.S. payments to FFIs and NFFEs that fail to comply. To avoid withholding, an FFI must enter into an agreement with the IRS and become a “participating” FFI.

Notably, the U.S. Treasury Department released a Joint Statement from the U.S., France, Germany, Italy, Spain and United Kingdom announcing an intergovernmental approach to implementing FATCA. Significantly, the framework outlined envisions an agreement between the U.S. and a FATCA partner country, in which a FATCA partner country would collect any necessary information from FFIs in the partner country, and then transfer the information reported by the FFIs to the United States.

For its part, the U.S. would waive the requirement for an FFI in the partner country to enter into a separate agreement with the IRS, and eliminate U.S. withholding under FATCA on payments to FFIs in the partner country. Additionally, the intergovernmental agreement would identify specific categories of FFIs in the FATCA partner country deemed to be FATCA compliant. Further, IRS is willing to reciprocate in collecting and exchanging on an automatic basis, information on accounts held in U.S. financial institutions by residents of FATCA partner countries.

The government-to-government framework is similar to international tax treaty mutual agreement and tax information exchange agreement programs. We will keep you posted on any details emerging on the framework, which is expected to operate for partner countries so that FATCA compliance costs, and the time burden expended to comply, should be reduced for banks in a FATCA partner country.

Global Approach to FATCA is Needed

Comments prepared by the Canadian Bankers Association underscored that FATCA regulations would touch financial services sector in all parts of the world. A global approach to FATCA is needed. In particular, it will be important to minimize differences in compliance for global FFIs operating in various FATCA partner countries with different bilateral intergovernmental agreements, as well as in non-FATCA partner countries without such agreements. The Securities Industry and Financial Markets Association (SIFMA) said that it is particularly important to implement a model agreement in a consistent manner across jurisdictions.

Tony Burke from the Australian Bankers Association concurs, suggesting that a multi-national approach is the best course, as does the Japanese Bankers Association. Keith Lawson, Senior Counsel-Tax Law, Investment Company Institute/ICI Global, also appreciates the intergovernmental approach, but recognizes that more work needs to be done, “A global solution requires a global dialogue,” with substantial business input. He is concerned about foreign governments adopting FATCA-type rules for U.S. funds investing in their markets, which places greater emphasis on developing administrable FATCA rules in the United States.

Arsalan Shahid, Financial Information Forum, pointed out that a draft intergovernmental agreement is not expected to be available until August 2012, and suggested that it be published for public comment. SIFMA has noted that it is very difficult to make an accurate assessment of the effect of the proposed regulations, or to begin designing the compliance systems, until a proposed model agreement for the FATCA partnerships to be entered into with foreign countries is released.

The Chorus for More Transition Relief to Implement FATCA

The IRS plans to issue final FATCA-compliant forms around September 2012. Several speakers noted that this would give U.S. and foreign withholding agents only about four months to prepare, test and train personnel to bring a FATCA compliance system online by January 1, 2013. SIFMA added that FFIs generally bring substantial new compliance systems online at January 1, only after a substantial lead-time.

The Investment Company Institute and Bank of New York Mellon asked that FATCA’s requirements apply no sooner than 12 to 18 months after the FATCA regulations are finalized to test and build new FATCA procedures. The Institute of International Bankers and others went further, by recommending that at least an 18 to 24 month implementation window be given from the effective date of the final regulations to complete FATCA implementation.

Tax Executives Institute, European Banking Federation and others emphasized that FATCA will be a complicated, time-consuming process.

It will most certainly involve the creation and implementation of new internal, compliance, certification procedures and Information Technology systems. The FATCA transition timeframe should be revised to provide that the full documentation and due diligence rules required by Chapter 4 should only apply to obligations or accounts established or opened on or after January 1, 2014, at the earliest.

Arsalen Shahid, Financial Information Forum, said that more time is needed not only to comply with FATCA, but also to conduct client testing. Further, he said that regarding “grandfathered” obligations issued before January 1, 2013 and exempt from FATCA withholding tax requirements, systems need to be developed to track issue dates.

Nicole Tanguy, SIFMA, also spoke about the FATCA timeline being a significant concern. SIFMA recommends that there should be a uniform cutoff date for pre-existing accounts on January 1, 2014, and the implementation dates for related withholding and reporting duties should be extended appropriately (the general January 1, 2014 start date for FATCA withholding should be pushed back to January 1, 2015, and similar delays should be implemented for all other related reporting start dates).

Peter van Dijk, TD Bank Group, observed that retail banks will need 18 months at a minimum to implement FATCA, and that it may take even more than 24 months after final FATCA regulations are finalized to implement an intergovernmental agreement.

Next Steps, Final Regulations To Be Published

IRS and Treasury will consider comments made at the May 15th hearing, and are also reviewing comments previously submitted by the April 30th deadline. IRS is expected to finalize the regulations in September 2012, by publication in the Federal Register. We will keep you posted on any developments, especially regarding any updates on the intergovernmental framework.

For additional information, please contact:

Jim Casimir at jim.casimir@casimirconsulting.com, Tom Louthan at tom.louthan@casimirconsulting.com, or Steve Onken at steve.onken@casimirconsulting.com; www.casimirconsulting.com/news/.