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The Impact of FATCA on Non-U.S. Banks

Global financial services industry


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Overview

Seeking to address perceived abuses by U.S. persons with offshore assets, the U.S. Congress enacted the Foreign Account Tax Compliance Act (FATCA) in 2010 to assist the IRS in identifying offshore income held by U.S. persons. FATCA identifies offshore income by compelling non-U.S. entities to report the identities of U.S. account holders to the IRS, using a new U.S.-sourced withholding tax levied against non-cooperative foreign entities to enforce compliance. Similarly, FATCA requires U.S. persons to specifically identify substantial foreign assets (and income related to such assets) beginning on their U.S. tax returns filed in 2012. Comparing the information it obtains from compliant foreign entities with the new U.S. tax return information, the IRS believes it will quickly be able to identify sources of unreported foreign income and discourage tax evasion.

FATCA’s mechanism for compelling compliance, a new 30 percent withholding tax on U.S. source income, will have a significant impact on all U.S. and foreign financial institutions (FFIs) and it will likely encourage FFIs, as well as other affected foreign entities, to share information with the IRS for the first time. The withholding tax will be imposed in a similar manner to the existing withholding tax on U.S. source income under Chapter 3 of the Internal Revenue Code by requiring payors (or withholding agents) of U.S. sourced income and gross proceeds to withhold 30 percent on payments to non-U.S. entities that do not certify their compliance with FATCA. To avoid the tax, FFIs must enter into formalized agreements with the IRS to share the identities of U.S. account and asset holders (or be resident in a country that has a Model Intergovernmental Agreement (IGA) with the U.S. to implement FATCA). Other affected non-U.S./non-FFI entities seeking to avoid the tax will be required to provide information to the withholding agents relating to any of their U.S. owners.

In final regulations released in January 2013, the U.S. Treasury and IRS have provided detailed requirements that FFIs, U.S. withholding agents and other non-U.S. entities must comply with to avoid the withholding liability under FATCA. The regulations also detail exceptions and exclusions to the withholding and suggest a broader framework of international cooperation seeking to ease challenges of FATCA compliance on foreign entities. If affected by FATCA, you should understand the implications of these rules, exceptions and frameworks on your industry and business and prepare to address them. The regulations have eased some of FATCA’s compliance deadlines, but some hurdles (and opportunities) still exist to prepare your processes, systems and business relationships now for a smooth transition to the new, more transparent international business environment that FATCA attempts to create.

Industry impact

Although the scope of the FATCA regulations casts a relatively broad net over the types of entities and businesses that are defined as financial institutions, foreign entities that conduct banking or similar business (foreign banks) are squarely in the center of the net. Under FATCA, a foreign bank is defined as any foreign entity that, in the ordinary course of business with customers, engages in activities that include accepting deposits of funds; making personal, mortgage, industrial or other loans; purchasing, selling, discounting or negotiating accounts receivable, among other activities. Where the foreign bank is a member of an affiliated group, all members of the affiliated group must sign FFI agreements to be considered a participating FFI.

The impact of FATCA on foreign banks is pervasive, possibility more than any other entity or business. As with other FFIs, foreign banks are subject to the requirement to report their U.S. account holders to the IRS. Most foreign banks that are not in a Model 1 IGA jurisdiction will be required to enter into a formalized agreement (FFI Agreement) with the IRS, under which they will agree to additional documentation standards, tax withholding and annual reporting obligations, as well as other requirements described below. Foreign banks that do not sign the agreement (and are required to do so) by the June 01, 2014 deadline may become subject to 30 percent withholding on income and gross proceeds from U.S. sources. Certain foreign banks, whose operations are limited to the country in which they are incorporated, and who do not solicit nor have accounts outside of that country may be eligible for “deemed compliant” status, as may certain smaller purely local banks or those with only low value accounts.

The FFI Agreement will require foreign banks to identify and report on new and pre-existing accounts held by U.S. Persons. The regulations generally place reliance on documentation and electronic data that is either collected through the FFI’s existing account opening process or that is normally maintained in the customer file, with specific reference in the preamble to the regulations to reliance on anti-money laundering “Know Your Customer” (AML/KYC) information. However, the rules for new accounts require that FFIs maintain copies of documentation and periodically renew it. These procedures are often not followed under pre-existing AML/KYC rules. Therefore, while reliance on the foreign bank’s existing documentation procedures may appear to offer the potential to reduce the impact of FATCA requirements on existing account opening and documentation procedures, in reality foreign banks may need to take additional steps to modify their existing programs in order to comply.

The regulations have sought to ease the burden for FFI’s of identifying U.S. accounts from pre-existing accounts by excluding certain individual accounts with balances of $50,000 or less and certain entity accounts with a balance of $250,000 or less. Further, for individual accounts with balances greater than $50,000, the regulations permit reliance solely on electronic searches of customer information to assist identification of pre-existing U.S. accounts, where the account balance is $1 million or less1.

One additional challenge that some foreign banks may be facing is the requirement to close or transfer accounts of U.S. account holders that refuse to provide disclosure waivers where foreign law would otherwise prevent the reporting of information to the IRS. The account closure or transfer requirement also extends to account holders that do not provide required information (i.e., recalcitrant account holders) and accounts belonging to a nonparticipating FFI. Depending on local laws, banks may be restricted from closing or transferring accounts, thus placing them at odds with the FFI agreement.

Next steps

In the coming months, banks should perform a review of their operations to determine whether they expect to have additional reporting and withholding requirements under FATCA. Banks will be expected to answer the following questions to determine whether they fall under the scope of FATCA as an FFI and if so, what their obligations are;

  • Is the bank domiciled outside the U.S. and is it subject to an IGA?
    • A consolidated group must determine its organizational structure, whether any of its entities are domiciled in a jurisdiction outside of the United States and whether any of its entities are subject to an IGA.
    • Banks may want to determine whether they qualify for a deemed compliant status.
  • Does the foreign bank intend to be a participating FFI or a non-participating FFI (if not subject to a Model 1 IGA)?
    • A participating FFI will not be subject to 30 percent withholding on its U.S. source cash flows (unless it is an intermediary receiving a payment for a recalcitrant account holder or non-participating FFI); a non-participating FFI will be.
    • Subject to transitional measures, all FFIs in an expanded affiliated group will need to be participating FFIs or 30 percent withholding will be applied to all group FFIs.
  • What procedures are in place to identify account holders?
    • The company will need to consider its existing KYC processes to determine that it is able to satisfy FATCA documentation and due diligence requirements designed to identify U.S. persons and will need to develop systems to report on them in accordance with the FATCA requirements. Withholding will be confined to account holders that are non-participating FFIs or recalcitrant account holders2.
    • Companies should review their books of business to identify U.S. Persons who hold pre-existing accounts.
    • The nature of that review is determined by the aggregate account balance whether the account holder is an individual or an entity.
  • Are changes required to account agreements to permit compliance with FATCA requirements?
    • Account agreements may need to be revised to include terms that permit reporting of required information and/or the closure or transfer of accounts that fail to provide waiver to permit reporting and/or withholding where foreign law would otherwise prevent such action when required.
  • Will existing customer systems be adequate to record and report relevant changes in account holders’ situation which bring them within the scope of FATCA?
    • The FATCA reporting obligations are triggered where an account holder becomes a U.S. person after opening an account.
  • What are the reporting and withholding requirements of the FFI with respect to the accounts of U.S. Persons and “recalcitrants”?
    • The FFI must follow FATCA regulations to report on U.S. persons and withhold and report on payments to recalcitrant account holders;

Withholding will not be required for obligations outstanding before July 1, 2014 (grandfathered obligations); however, the reporting requirement pertains to all in scope accounts3.

Important FATCA dates in 2013 and 2014 

2013  
August 19 FATCA registration portal will be accessible for registration
2014  
April 25 Last date an FFI can register with IRS to ensure inclusion in the June 2, 2014 IRS FFI list
June 02 IRS scheduled to publish first “GIIN” list
July 01 Grandfathered obligations cutoff
July 01 USWA & FFI to begin new account onboarding
July 01 Begin income withholding (excluding certain offshore payment of U.S. source income)
December 31 FFI & USWA to complete documenting/remediating preexisting accounts that are considered “prima facie FFIs”

**Other withholding/reporting requirements phase in from 2015 through 2018

To learn more

The final regulations are extensive and complicated, and the changes from the proposed regulations are substantial. This document attempts to highlight certain important provisions of the final regulations that generally impact U.S. and non-U.S. non-financial services companies and do not represent a broad-based summary of all of the changes. If you are or suspect that you are directly or indirectly affected by the compliance obligations of the final regulations, you should to take affirmative steps soon with respect to FATCA compliance. If you wish to discuss the final regulations or any FATCA-related matters, please contact one of our FATCA contacts listed on the following pages.

Full article is available for download. For more information please contact a Deloitte FATCA Leader or click here.

As used in this document, “Deloitte” means Deloitte Tax LLP, a subsidiary of Deloitte LLP. Please see www.deloitte.com/us/about for a detailed description of the legal structure of Deloitte LLP and its subsidiaries. Certain services may not be available to attest clients under the rules and regulations of public accounting.

1 Accounts of a single customer or account holder must be aggregated to determine if they meet the thresholds. Aggregation is only required to the extent that the FFI’s computer system links the accounts and allows for account balances to be aggregated

2 Recalcitrant account holder means any account holder if such account holder is not an FFI, the account does not meet an exception to U.S. account status or does not qualify for any exception from documentation requirements and the account holder fails to comply with requests for documentation or information

3 §1.1471-2(b)(1)

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