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FATCA: What You Need To Know?

Published on Tue, Jul 26,2011 | 16:20, Updated at Wed, Jul 27 at 08:04Source : 

By: Alan Winston Granwell, Partner, DLA Piper LLP (US)

FATCA, as it is colloquially known, refers to Chapter 4 of the US Internal Revenue Code (the "Code"), which was enacted by the Hiring Incentives to Restore Employment (the "HIRE Act") on March 18, 2010.  FATCA requires non-US financial institutions ("FFIs") to identify and disclose their US account holders and members or become subject to a new 30 percent US withholding tax (the "FATCA withholding tax") with respect to payments of US source income and gross proceeds (not gains) from the sale or disposition of US stocks and securities ("Withholdable Payment"). 

An FFI that is a beneficiary of a double tax treaty with the United States generally can obtain a refund (without interest) but for an FFI that is not a treaty beneficiary, the FATCA withholding tax is a final tax.  The definition of an FFI is broad and includes banks, investment banks, brokers, trust companies, investment funds, insurance/reinsurance companies and all other investment vehicles.  FATCA also applies to non-US entities that are not financial institutions, but in a less intrusive fashion.

FATCA was enacted to identify US taxpayers (i.e., US citizens and residents and other US persons (excluding publicly-traded entities and their affiliates) that hold assets abroad directly or through non-US entities in order to counter US tax evasion.  The ultimate goal of the legislation is for the United States to obtain information with respect to offshore accounts and investments beneficially owned by US taxpayers, rather than the collection of tax through the FATCA withholding tax.

Under FATCA, effective for payments after December 31, 2012 (subject to transitional rules), Withholdable Payments will be subject to the FATCA withholding tax unless an FFI enters into an agreement with the US Internal Revenue Service (“IRS”) under which the FFI must, among other undertakings, determine whether it has U.S. account holders, comply with IRS verification and due diligence procedures with respect to the identification of U.S. accounts, annually report U.S. account information to the IRS, and withhold FATCA withholding tax on so-called “pass-thru” payments to non-compliant FFIs; i.e., FFIs that do not agree to comply with FATCA, and recalcitrant account holders; i.e., account holders that do not furnish the information requested by FFIs.

FATCA will have a direct and profound impact on FFIs that have US proprietary investments, US account holders or US financial dealings and its impact will be magnified by the cascading of international financial transactions flowing through financial entities.

FFIs have a simple choice to make as to whether they comply with FATCA or not.  Global FFIs and FFIs that would like to continue to invest on their own behalf or on behalf of US clients in the US capital markets will have to agree to comply with the new provisions by entering into an agreement with the IRS to identify and report US account holders and withhold on pass-thru payments.  This will entail significant costs as operating systems will have to be revised to comply with the expansive requirements imposed by FATCA.  Alternatively, some FFIs may be treated as “Deemed Compliant,” in which case they would not have to enter into an agreement with the IRS but still would have to undertake certain obligations.

FFIs, based on a cost/benefit analysis, that do not agree to comply with the new provisions and become non-compliant FFIs will, if they deal with compliant FFIs, become subject to the pass-thru payment rules and suffer the FATCA withholding tax on Withholdable Payments.  These institutions will be in an uncompetitive position compared to compliant FFIs with respect to investments in US capital markets.  Certain FFIs, rather than incurring the FATCA withholding tax, may simply choose to cease to hold US securities for their own account and terminate their US account holders (provided they can do so under local law).  However, even these non-compliant FFIs will be impacted by FATCA through the application of the pass-thru payment rules, as currently drafted.

Finally, FATCA is a US centric law that imposes expansive extraterritorial obligations, particularly on FFIs.  A number of these US obligations may conflict with local law prohibitions with respect to privacy, data protection, anti-discrimination and withholding “foreign” taxes, generally if the account holder or member does not otherwise consent to the actions, thereby exposing FFIs to potential regulatory sanctions, civil lawsuits and possible criminal exposure in their local jurisdiction.

For more on FATCA please read the attached DLA Piper Alerts

Attachments : Foreign-Account-Tax-Compliance-Act.pdf

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