FATCA in the frame

  • Author : Alan Winston Granwell
  • Date : June 2012
ABOUT THE AUTHOR: Alan Winston Granwell TEP is a Partner at DLA Piper in Washington DC

The Foreign Account Tax Compliance Act (FATCA) requires foreign financial institutions (FFIs) and non-financial foreign entities (NFFEs) to identify and report information about US account holders or members, or face a new 30 per cent US withholding tax on payments of US-source income and gross proceeds from US investments in stocks and securities. The purpose of FATCA is to obtain information to curb US tax abuse, not to raise revenue through the collection of the new FATCA withholding tax. FATCA is a US-centric law that has wide extraterritorial application and has become contentious globally because of its broad application, the burdens and costs that it will impose on FFIs and NFFEs, and its conflict with local laws.

On 8 February 2012 the US Treasury Department issued voluminous proposed regulations to implement FATCA, which are intended to minimise the burdens and costs of implementing the law, while still generating the statutorily mandated information. Concurrently, the US Treasury Department issued a joint statement with the governments of France, Germany, Italy, Spain and the UK regarding an intergovernmental approach (IGA) to improving international tax compliance and implementing FATCA.

The IGA establishes a framework for countries to collect and report information on a reciprocal basis and exchange that information automatically. It is a groundbreaking development in international efforts to expand the exchange of information and tax transparency. So what are the implications of the IGA?

Proposed framework agreement

Under the IGA, an FFI could satisfy the reporting requirements of FATCA if the residence country of an FFI enters into an agreement to report the information required under FATCA pursuant to an income tax treaty, tax information exchange agreement, or other agreement with the US (the FATCA partner). Or if the FFI collects the information required under FATCA and reports this information to its residence country government for automatic exchange by that government with the US. The quid pro quo for this undertaking by FATCA partners would be that the US Internal Revenue Service (IRS) would agree to report information on FATCA partner taxpayers and automatically exchange such information with FATCA partners.

The benefits of this alternative approach are:

  • FFIs established in the host country of the FATCA partner would not have to enter individual agreements with the IRS
  • the FFI would report US account-holder information to the FATCA partner tax authority, pursuant to domestic enabling legislation
  • FATCA withholding on payments to non-participating FFIs would be eliminated; and
  • the closing of recalcitrant accounts and the obligations to withhold on ‘passthru’ payments to others in FATCA partners would be eliminated.

In the longer term, the US and its FATCA partners would commit to developing a practical, workable and effective alternative approach. This would achieve the policy objectives of passthru payment withholding and to working with other FATCA partners, the Organisation for Economic Cooperation and Development (OECD) and, where appropriate, the EU on adapting FATCA in the medium term to a common model for automatic exchange of information, including the development of reporting and due diligence standards.

IGA implications

The IGA is a groundbreaking international tax development because of its implications for tax transparency and exchange of information. It is not, however, an exemption for FFIs resident in FATCA partners to comply with FATCA.

The IGA intends to minimise or eliminate local law conflicts that could prevent FFIs from complying with FATCA. These conflicts include privacy and data protection laws, account opening/closing provisions, anti-discrimination provisions and local laws that would prevent an FFI from withholding US tax under the FATCA passthru payment provisions. Without a coordination of local law with FATCA, FFIs that opt to comply with FATCA could become subject to regulatory sanction or proceedings that could result in civil or criminal penalties.

Also, the IGA should reduce administrative and cost burdens for FFIs to comply with FATCA. Nonetheless, FFIs will still have to implement procedures to identify and categorise entity account holders and to identify and report US account holders, generally as specified under the proposed regulations, albeit to their home country tax authority. Further, the IGA to FATCA would not solve local law conflicts of branches or subsidiaries of FFIs situated in countries that are not FATCA partners, as discussed below.

Although the IGA currently only covers five EU countries, it has been reported that many other countries (EU and non-EU) will become FATCA partners. Further, it is likely that the IGA may further spur countries to adopt automatic exchange of information agreements for financial account information.

To reciprocate, the US undertakes to automatically exchange information. How the US would reciprocate was unclear at the time the joint statement was released. On 18 April 2012, the US Treasury Department finalised controversial proposed regulations regarding the reporting of interest on deposits maintained at US offices of certain financial institutions and paid to non-resident aliens (NRAs) effective for payments made on or after 1 January 2013, which payments are reportable to the IRS in 20141.

These regulations will facilitate the IGAs by enabling the US, in appropriate circumstances, to reciprocate by exchanging information with FATCA partners for tax administration purposes. Finalising these regulations was critical as they enable the US Treasury Department to offer a quid pro quo with respect to the exchange of information to jurisdictions that will enter into an IGA. Absent providing this type of information (and perhaps other types that may be agreed to in the future), it would have been difficult for the US to reciprocate, which could have doomed the IGA approach to FATCA.

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Transitional rules for FFI affiliates

Under FATCA, each FFI that is a member of an expanded affiliated group (FFI group) is required to be a participating FFI or a deemed compliant FFI. An FFI group includes those entities that are more than 50 per cent controlled, except as otherwise provided by regulations.

‘The IGA is groundbreaking because of its implications for tax transparency and exchange of information’

Recognising that an FFI group may have branches or subsidiaries in jurisdictions that have local law conflicts with FATCA, the proposed regulations provide a two-year transition period, until 1 January 2016, for these branches or subsidiaries to become either participating or deemed compliant FFIs. During this transition period, an FFI affiliate in a jurisdiction that prohibits the reporting or withholding required by FATCA will not prevent the other FFIs in the FFI group from entering into an FFI agreement, provided that the FFI in the restrictive jurisdiction agrees to perform due diligence to identify its US accounts, maintain certain records and meet certain other requirements.

During this interim period, the branches or subsidiaries in these jurisdictions are subject to FATCA withholding. Significantly, if the local law conflicts cannot be reconciled with FATCA by the end of the transitional period, all the FFIs in the FFI group will become non-compliant. This requirement thus becomes important for FFI groups and will require timely action by affected countries and FFIs in these jurisdictions, particularly if these countries are eager to become FATCA partners.

So, in the context of FATCA, the IGA is intended to eliminate local law conflicts and enable FFIs to comply with FATCA by gathering and reporting the information required under FATCA to their local tax authorities, as mandated by local law. In the broader context, the IGA establishes a framework for countries to obtain financial information from other countries on an automatic exchange of information basis (pursuant to an agreement to exchange information) that far transcends the current efforts of the OECD Global Forum to exchange information on request to achieve global tax transparency. It will be interesting to see how developments unfold in the future.

Update on FATCA partners: as reported in STEP’s Wealth Structuring news digest on 26 April, Ireland is seeking a partnership agreement with the US

Under the regulations, interest that relates to a deposit maintained at an office in the US, and that is paid to an NRA who is a resident of a country (identified as of 31 December prior to the calendar year in which the interest is paid) with which the US has in effect an income tax treaty or other convention or a tax information exchange agreement is reportable to the IRS. An IRS release, issued concurrently with the issuance of the regulations, identified 80 countries currently qualifying for information exchange, principally either upon request or automatically. Canada is the only country currently qualifying for automatic exchange of NRA bank deposit information


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