Here Comes FATCA…What To Expect In 2014

By Scott D Michel, Caplin & Drysdale, Washington DC, US (01/04/2014)

As the calendar turns to 2014, two major worldwide events loom closer on the horizon.  The first, of course, is the World Cup, with cheering masses, big screen TVs in historic public squares, banners in every pub, and agony for all but one nation at the end. 

The second is the implementation of the US Foreign Account Tax Compliance Act (FATCA), which creates an automatic information exchange regime between global financial institutions and the US Internal Revenue Service (IRS).  Under FATCA, financial institutions worldwide – irrespective of any jurisdictional ties to the US – must provide the IRS with information about American account holders or face 30 per cent withholding on their US investment portfolio.

FATCA is part of the US government’s multi-faceted enforcement actions against Americans hiding money abroad.  It has arguably erased bank secrecy for Americans, and it impacts structures in place for any high net worth family with an US connection.  So what’s on the horizon for 2014?  


More IGAs

Originally under FATCA, foreign financial institutions (FFIs) and non-financial foreign entities (NFFEs) would contract with the IRS to comply.  Since enactment, the US has negotiated a series of ‘Intergovernmental Agreements’, known as IGAs, whereby the US and a partner country agree on a compliance process for the partner’s financial institutions.


In 2013, the US  signed or negotiated IGAs with many countries.  Most IGAs were ‘Model 1’, which provide for government to government data transfers rather than transfers directly from the entity to the IRS.  Recently, Italy, the Netherlands, Malta, the Isle of Man, Guernsey, the Bahamas, and the Caymans have signed Model 1 IGAs.  Eleven more are apparently on the way, and discussions continue with other countries.  Singapore, Hong Kong and Russia have signalled a willingness to pursue IGAs.   The IGAs will leave most FFIs and NFFEs in an IGA jurisdiction little option but to ramp up and begin to comply.


Some IGAs provide for reciprocal information sharing with the partner jurisdiction as to their own taxpayers.  This, combined with IRS rules requiring US financial institutions to report interest paid to non-resident aliens affiliated with treaty partner countries – recently upheld by a Florida court – signals enhanced two-way cooperation by the US with other taxing authorities.


Forthcoming Deadline and Difficulties for FFIs and NFFEs

The IRS has issued substantial technical guidance on FATCA and more regulations are expected.  However, in January 2014 the IRS announced that it will not extend the July 1, 2014 start date for most of FATCA’s disclosure and withholding provisions.


There are, however, gaps in FATCA’s regulatory framework, and institutions face difficulties in changing their systems.  Many foreign entities hesitate to implement FATCA until they know if their tax authority will sign an IGA.  They also wait on local guidance to ensure compliance with domestic privacy laws.  Yet, a deadline is a deadline, although as a practical matter, it is difficult to imagine the IRS imposing an immediate withholding sanction if an entity is taking all reasonable steps to comply.


Fallout Among FFIs and NFFEs Globally

FATCA has caused huge compliance costs and created an enhanced risk climate for dealing with US clients.  Many banks have ceased doing business with known Americans.  For Americans living abroad – many of them working for US companies – it is increasingly difficult to obtain basic financial services.  Many non-US businesses and partnerships are barring American participants because of enhanced information reporting requirements. 


FATCA is proving challenging in the Middle East and Latin America, where US efforts have run into cultural opposition, regulatory delays, and skepticism about the benefits of cooperation. 


In the Middle East, many wealthy residents hold American passports as insurance against regional turmoil, but none of the Gulf Cooperation Council states have a tax treaty with the US. 


As to Latin America, the banking federation criticised the statute, citing prohibitive operational costs, the need to alter their constitutions, and the absence of mutual benefits to compliance.  How quickly FFIs and NFFEs in these areas will begin to comply remains to be seen.


China is an issue unto itself.  Observers find it difficult to imagine that the US would withhold, or even threaten to withhold, 30 per cent on a principal financier of the American government.  In August 2013, the US and China issued a joint statement pledging efforts to reach an IGA in advance of the implementation deadline but there have been no public developments since then.  In a nod toward potential cooperation, China has implemented its own regulations requiring the country’s wealthy to declare offshore holdings, resembling the US ‘FBAR’.  Even so, the prospect of the Bank of China implementing procedures to ferret out US persons among clientele in remote branches is hard to envision.


Compliance Issues for Americans

Yet, in Europe, Canada, Mexico, and Israel, impacted entities are reasonably far along in preparing for FATCA.  Banks are identifying US account holders, seeking waivers of local privacy laws and issuing notices that accounts will be subject to information disclosure to the IRS. 


If these clients have not been compliant with US reporting requirements, they have a problem.  The IRS still offers its Offshore Voluntary Disclosure Program, but its onerous administrative requirements and ‘one size fits all’ penalty structure have little appeal for the many Americans who have long resided outside the US.  Yet, even without a perfect option for resolving prior reporting failures, bank customers who are out of tax compliance need to seek competent US tax advice.


IRS Preparing for FATCA Data

FATCA’s fundamental benefit to the IRS will be to allow it to match data from global financial institutions to US tax returns, more specifically the new Form 8938, another component of FATCA, in place since 2011.  The Form reports “Specified Foreign Financial Assets,” including foreign bank accounts, even if the accounts are reported on an FBAR.


The technology necessary for the IRS to utilise FATCA-based information is in the early stages of development.  The IRS has finalised a format for exchanging FATCA under IGAs is completing the requirements for data exchange services for further automatic disclosure.  Eventually, the IRS can be expected to take data suggesting non-compliance by a US taxpayer and generate a series of escalating contacts, leading to audits, criminal investigations, and generating, perhaps, a new round later in this decade of offshore enforcement actions.


Trusts and Trustees

A looming issue for 2014 will be how trust companies and trustees sort out under FATCA.   The regulations create a complicated framework by which some foreign trusts are NFFEs and some are FFIs, and are similarly varied as to how corporate and individual trustees are classified.  The rules can differ depending on whether an IGA is in place, and among jurisdictions.  Trusts themselves may be FFIs in some circumstances and NFFEs in others, sometimes depending on the precise legal status of the trust under US tax law.  Foreign trust companies, individual trustees, and persons affiliated with foreign trusts should be evaluating their status under FATCA.  They are subject to the same forthcoming deadlines as major banks around the world. 



Much of the world’s financial community has accepted that FATCA will remain the law of the US.  Indeed, tax authorities are looking to FATCA as one mechanism by which the flow of financial information across borders can serve their own fiscal purposes.  Wealth managers, trust companies, private banks and others should move forward to review their potential regulatory responsibilities under the statute, and US persons whose accounts and structures may now be subject to automatic disclosure, if they are not in full tax compliance, should consider their legal options.