new fatca information reporting and ... fatca information reporting and withholding for non-us...

NEW FATCA INFORMATION REPORTING AND WITHHOLDING

FOR NON-US INVESTMENTS U.S. Steps Up Tax Enforcement

Michael H. Plowgian

Office of Tax Policy, U.S. Treasury Department [email protected]

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Peter H. Blessing

Shearman & Sterling [email protected]

Kevin M. Downing

Tax Division, U.S. Department of Justice [email protected]

Fred F. Murray

Grant Thornton LLP [email protected]

Michael Hirschfeld

Dechert LLP [email protected]

The Abuse That Spawned FATCA • Some US investors hid their identity or created offshore companies to hold US investments:

– Evaded US withholding tax system – Failed to pay tax on the income – Failed to comply with US tax reporting/disclosure rules

• GAO estimated that the U.S. lost $100 billion per year in tax revenue from U.S. taxpayers using offshore schemes to evade U.S. income taxes

• Tax Treaties are often the only gateway for the U.S. to obtain bank account and financial information from other countries:

– Foreign governments / courts narrowly interpret treaty provisions – Process is long and often yields only limited information

• Foreign banks conducted undeclared cross border banking that aided and abetted U.S.

customers to evade U.S. income taxes with substantial contacts w/ the customers in the U.S.

• QI Agreement Ineffective – Foreign banks violated QI Agreements by knowingly accepting false documentation from

U.S. customers – Foreign banks subverted QI Agreement by instructing U.S. customers to sell all U.S.

securities

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Reaction To Abuse • DOJ

– Criminal investigation/Prosecution of foreign banks, bankers, foreign lawyers, foreign independent asset managers and U.S. customers

– Collecting 50% FBAR civil penalty from U.S. customers as part of plea agreements

– Issuing Title 31 Subpoenas to U.S. customers for foreign bank records

• IRS

– John Doe Summons

– Voluntary Disclosure Program

• Civil Penalties including FBAR penalties

• Congress

– Felt they had to act

• FATCA was the result

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FATCA Legislation

• The Hiring Incentives to Restore Employment (“HIRE”) Act became law March 18, 2010.

• The HIRE Act included modified versions of the information reporting and withholding requirements of the Foreign Account Tax Compliance Act (“FATCA”).

• Not much noise at the time, but it’s one of the most significant law changes for financial institutions, asset managers, and foreign resident individuals in many years.

– And for U.S. individuals!

• Provisions are very complex and technical…but the main takeaway for investment managers is that the core provisions will revolutionize concepts of information exchange and bank secrecy as to American taxpayers and its application – and the withholding mechanism will spawn significant compliance and enforcement activity not seen before by asset managers.

• Generally effective for payments made after December 31, 2012 except on grand-fathered “obligations” outstanding on March 18, 2012.

– Some effective dates postponed by Notice 2011-53.

– But the complex provisions mandate immediate attention and consideration now!

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FATCA’s Objective

• “Smoke out” U.S. taxpayers who are evading U.S. tax • Enforces U.S. government’s disclosure goal by imposing a 30%

withholding tax on certain payments to certain foreign persons unless foreign person provides information regarding U.S. owners and accountholders

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New Form 1040 disclosures under FATCA

• Individual taxpayers with an interest in a “specified foreign financial asset” with a value > $50,000 must attach an “FBAR like” disclosure to the 1040 – Form 8938.

• Such assets include:

– depository or custodial accounts at any FFI

– If not held at an FFI, any

1. stocks or securities issued by foreign persons

2. any other financial instrument or contract held for investment that is issued by or has a counterparty that is not a U.S. person, and

3. any interest in a foreign entity.

– The disclosure is in addition to required FBAR disclosures.

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New Form 1040 disclosures under FATCA

• New civil penalty – 40% on any understatement derived from an undisclosed foreign

financial asset.

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FATCA in a Nutshell • FATCA applies to all foreign financial institutions (“FFIs”)

– Also applies to foreign non-financial entities in some circumstances (“NFFEs”);

• A foreign financial institution is defined as any foreign entity that: 1. Accepts deposits in the ordinary course of business;

2. Is in the business of holding financial assets for others; or

3. Is primarily engaged in the business of investing, reinvesting or trading in securities, partnership interests, commodities, or any interest in such instruments.

• Given this broad definition, an FFI includes hedge funds, private equity funds, and other collective investment vehicles subject to limited carve-outs discussed later.

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FATCA in a Nutshell

• FFIs must sign an agreement with the IRS or face a 30% withholding tax on “withholdable payments”:

– Generally – ANY payments from a U.S. source of investment or other income, and/or gross proceeds on a sale transaction, and "passthru payments" (discussed below).

• In other words, sign the agreement or the FFI’s entire US source investment portfolio will be subject to 30% withholding.

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FATCA in a Nutshell

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The defined term “Withholdable Payment” is sweeping:

• Interest, OID, dividends, rents, salaries, wages, premiums, annuities,

compensations, remunerations, emoluments and other fixed and determinable

annual payment from a US source, and

- Unlike any other withholding provision , also includes the Gross

proceeds from the sale of any property which can produce US source

interest or dividends

• Passthru payments

• Excludes any payments on qualifying grandfathered obligations outstanding on

March 18, 2012, however does not exclude

i. any instrument treated as equity for U.S. tax purposes, and

ii. any legal agreement that lacks a definitive expiration or term (such as

savings deposits, demand deposits accounts, and other similar

accounts

FFIs are a foreign entity that: Examples:

• Accepts deposits in the ordinary course of a banking or similar business

• Commercial bank, • Savings and Loan

Associations

• Credit unions • Co-operative banking

institutions

• As a substantial portion of its business, holds financial assets for the account of others

• Broker Dealers • Clearing Organizations • Trust Companies

• Custodial banks • Custodian of Employee

Benefit Plan

• Is engaged (or holding itself out as being engaged) primarily in the business of investing, reinvesting or trading in securities , partnership interests, commodities, or any interest in such assets (including derivatives such as forwards, futures or options)

• Mutual Funds • Funds of Funds, • ETF • Hedge Funds • Private Equity Funds • Venture Capital Funds • Sovereign Wealth Funds*

• Commodity Pools • Managed Funds • Collective Investment

Vehicles • Life Insurance

companies/products

FATCA in a Nutshell

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OR

OR

Two broad categories of entities- Foreign Financial Institutions (FFI) and

Non Foreign Financial Entities (NFFE) which is any foreign entity not an FFI

FATCA in a Nutshell

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FATCA in a Nutshell

• Withholding can be avoided if the FFI enters into an agreement with the IRS to obtain, verify, and provide to the IRS information about U.S. accountholders

• FATCA broadly outlines the requirements to be included in this agreement but leaves the Treasury and the IRS to develop much of the substance of the agreement

• Notices 2010-60, 2011-34, and 2011-53 are applicable guidance so far

– More guidance will be forthcoming in regulations to be issued later this year

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FATCA in a Nutshell How do you avoid withholding?

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Type of entity Foreign financial institutions Non foreign financial entities

Withholding is avoided if:

FFI agrees in writing with the IRS to:

• Obtain information on account holders that is necessary to determine if accounts are US accounts;

• Comply with any required due diligence/verification procedures;

• Report information on US accounts; • Deduct and withhold a 30% tax on any “pass

thru payment” to any recalcitrant account holders or non-compliant FFIs;

• Comply with IRS information requests; and • Obtain a waiver of applicable bank secrecy

or other information disclosure limitations from the US account holder, or close the US account.

• Provides IRS a copy of FFI # and Compliance Certificate

NFFE provides IRS:

• certification of no substantial US owners; or

• information on any substantial US owners and withholding agent provides information to IRS

Exceptions Limited exceptions apply Limited exceptions apply

FATCA in a Nutshell What info is collected?

FFI NFFE

Step 1- Determine type of entity

- Participating - Excepted

- Deemed Compliant - Non-Participating

- Non-compliant

- No US Shareholders - Excepted

- U.S. Shareholders - Other

- Non-compliant

Step 2- Determine documentation needed

For entities that do not qualify for an exception or exclusion, need to identify participating FFIs identification number and certification of compliance

For entities that do not qualify for exception or exclusion

• Certification of non-U.S. Owners or • Name, Address and TIN of U.S.

Pre-existing accounts

Transition Rules apply to existing accounts which can delay withholding by two years

Same

New Accounts No grace period No grace period

Step 3- Due Diligence Requirements

Must identify non-U.S. entities by using information collected for purposes of opening and maintaining the account, corresponding with the account holder, and complying with regulatory requirements, including AML/KYC

Same

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FATCA in a Nutshell

• For any U.S. account at the FFI, the agreement requires reporting of:

– Name, address, and TIN of each U.S. account holder

– For accounts held by a U.S.-owned foreign entity, the name address, and TIN of each “substantial U.S. owner of such entity”

– The account number

– The account balance or value, and

– The gross receipts and gross withdrawals or payments from the account

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Maze Of FATCA Definitions

What Type of Accounts exists given all of the exceptions and exclusions?

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Specified US Person

Non-US Person

Recalcitrant Person

US Account

Participating FFI

Deemed Compliant FFI

Non-Participating FFI

Excepted Payments FFI

Recalcitrant

NFFE (certified no substantial

US owners)

NFFE – Excepted payments

Other

FFI

Individual Accounts

Entity Accounts

Each type of account holder is

defined in FACTA and type of

account holder determines:

1. The type of documentation to

request,

2. The amount of withholding on

each payment, and;

3. The yearend information

reporting required

Who Must Withhold?

• “Withholding Agent” – Any person (whether a U.S. person or a foreign person) having control, receipt,

custody or payment of any withholdable payment

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Who Is An FFI?

• Any foreign entity that: (1) “Accepts deposits in ordinary course of banking or similar business;” (2) “As a substantial portion of its business, holds financial assets for the

account of others,” or

(3) “Is engaged (or holding itself out as being engaged) primarily in the business of investing, reinvesting, or trading in securities…partnership interests, commodities… or any interest (including a futures or forward contract or option) in such securities, partnership interests or commodities”

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Scope Of FFI

• Covers all types of Investment Funds: – Private Equity Fund

– Hedge Fund

– Venture Capital Funds

– UCITs

– Exemptions?

• Deemed Compliant FFI

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FATCA Extraterritorial Reach re Back to Back Payments

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US Bank UK Bank National Indian Bank

Local Indian Bank 2

Local Indian Bank 1

Depositors/Other Payees

• Passthru Payment % calculated for each participating UK Bank/Indian Bank.

• Sovereignty issue, because data collection and withholding can apply to transactions having no connection to the US; no obvious remedy however.

• Prohibition under laws of certain countries. Alternative compliance based on Foreign Govt agreement to get info re payees/owners and provide to US.

Typical Inbound Investment Situations Where FATCA Must Be Tested

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Sub

US Propco REIT US Opco

Any % Any % Any %

Loan

Loan/License

Mgmt. Agr.

• Nature of recipient – assume alternative situations

– Pension fund (Notice 2011-34); deemed compliant (?); effect of sub.

– Publicly traded Parent: effect of sub if < 50% owed

– Active business NFFEs (Notice 2010-60): exempt (?); effect of sub

• Nature of payments for w/h if noncompliance (any payor can be withholding agent)

• 301(c)(1), (c)(2), (c)(3) (see “sale proceeds”)

– §897(h)(1) (ECI exception)

– Interest/principal

– Sale proceeds (incl. if w/i 897(c)(3) or 897(h)(2) but not if w/i 897(a))

Foreign Pension Fund or Public Forco or Private Forco/PEF

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• Securities offerings (Additional Amounts)

• Credit/Loan Agreements

• Funds (Subscription Agreements; Partnership Agreements; etc.)

• License Agreements

• Service Agreements

Provisions in Agreements

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Cayman Fund = FFI

(assume corp for US)

SUSP1

Non-US or Pub-Traded or

Pension Plan

or Charity SUSP3 CDN

10% 81% 1% 99% 10% 81%

20%

SUSP2

9%

No IRS Agr but

must certify non-

FFI status and ID

of SUSP1 to FOF

SUSP4 SUSP5

9%

Non-US or Pub-

Traded or

Pension Plan

or Charity

Cdn

Family

Investco

= FFI

Cdn

Opco

= NFFE +

USOFE

Cdn

B/D

= FFI

Need IRS

Agr +

disclose

SUSP to

IRS

Need IRS

Agr +

disclose both

SUSPs to

IRS

Cayman Fund of Funds (FOF)

= FFI


Need IRS Agr and must report

Investco + B/D as participating FFIs +

ID of SUSP1 of Opco

Need IRS Agr and must report Agr or

ID of its SUSP owners and any

USOFE (except if via an FFI) + FOF

as participating FFI

US source income Non-US source income

33% 33% 32%

Various SUSPs

Panama corps

30%

50%

SUSPA

1%

81%

Compliance Complication in Even a Simple Case—See Next 3 Slides

Cdn Bank

Passthru Payment

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Cayman Fund

= FFI


SUSP1

10% 81%

20%

SUSP2

9%

No IRS Agr but must

certify non-FFI status

and ID of SUSP1 to FOF

Cdn

Opco

= NFFE + USOFE


= FFI


Need PPI Agr and

must report ID of

SUSP1

Need PPI Agr and

must report PPFI

EIN of FOF

33%

Compliance Complication in Even a Simple Case


Pension Plan or Charity

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Cayman Fund

= FFI + USOFE


SUSP3 CDN

1% 99%

20%

Cdn Family

Investco = FFI


= FFI


Need PPI Agr and must

report PPI EIN of

Investco

Need PPI Agr and must

report PPI EIN of FOF

33%


Need PPI + disclose SUSP3 to

IRS UNLESS deemed compliant

per Notice 2010-60 documented

owner exception

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Cayman Fund

= FFI (assume corp for US)

20%

Cdn

B/D = FFI Need PPI Agr +

disclose both SUSPs

to IRS as US accounts


= FFI (assume corp for US) Need PPI Agr and

must report PPI EIN

of B/D

Need PPI Agr and

must report PPI EIN

of FOF

33%


SUSP4

10% 81%

SUSP5

9%


Pension Plan or Charity

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Uncertain Impact Of FFI’s Debt

– Treatment of debt is still unclear • Debt is technically a “financial account” unless regularly

traded on “established securities market”

– Thus, if FFI has a foreign creditor, this could constitute foreign “financial account” that prevents the FFI from qualifying for deemed-compliant status

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Burden Of Being An FFI

• Unless exception applies, FFIs must enter into agreements (“FFI Agreement”) with IRS, under which FFI agrees to comply with FATCA reporting & related requirements

• Otherwise 30% tax must be withheld

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Content Of FFI Agreement

• Exact scope is not yet clear but it will cover:

– New due diligence requirements

– New Depository obligations

– New Withholding burden on payments to recalitrant holders and non-participation, FFI

• Expect application process will start online by 1/1/13

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Apart From FFI, Who Is A NFFE?

• “Any foreign entity which is not a financial institution” (as defined for purposes of the FFI rules)—in other words, everybody else

– But Notice 2010-60 took a relaxed view as to who are NFFEs by excluding many entities from such status

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NFFE Requirements

• Unless an exception applies, NFFEs must provide the withholding agent with either:

– Certification that the NFFE does not have any “substantial U.S. owners,” or

– The name, address, and TIN of each “substantial U.S. owner” of the NFFE

• Otherwise the 30% tax must be withheld

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Who Are The People That FATCA Wants A Fund To Identify?

• US Accounts, which are accounts owned by:

– Specified “US Persons”

– US owned foreign entity

• Exists if “substantial US owner”

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“US Persons”

• Tax concept may not match what you may think is a US person

– SEC Concept (Rule 902):

• US Person = Any natural person resident in the United States

– Tax Concept:

• US Persons = US citizens (no matter where they reside) & US residents

• Much broader definition than SEC view

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“Substantial U.S. Owner”

• “Specified U.S. person” that:

– Owns, directly or indirectly, more than 10% of the:

• Stock of a corporation (by vote or value) or

• Profits or capital interests in a partnership

– Comment: Lower threshold than what you have used before

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“Substantial U.S. Owner” (cont’d)

• Is treated as owner of any portion of trust under grantor trust rules;

• Is treated as owning, directly or indirectly, more than 10% of beneficial interests in a trust (to the extent provided in forthcoming Regulations); or

• Owns, directly or indirectly, any portion of a foreign entity that is engaged or holds itself out as being engaged primarily in the business of investing, reinvesting, or trading in securities, partnership interests, commodities, or any interest in such securities, interests or commodities

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“Specified U.S. person”

• A “specified U.S. person” is any U.S. person other than:

– A publicly traded corporation or member of the affiliated group of a publicly traded corporation,

– A tax exempt organization or IRA,

– The U.S. gov’t or a state gov’t, or any subdivision or wholly-owned agency or instrumentality thereof,

– A bank, REIT, RIC, common trust fund, or exempt charitable trust

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How Do You Determine The Status Of Your Investors?

• Pre-existing Individual Accounts

– General rule

• Low value ($50,000 or less) account exemption:

– High Value Accounts ($500K or more)

– Private Banking Accounts/Private Banking Relationship

– Multi-Step Process

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Account Identification

General requirements of Notice 2011-34:

• Notice 2011-34 modifies the procedures provided in Notice 2010-60 for a participating FFI to identify U.S. accounts among its preexisting individual accounts. A participating FFI is required to determine whether its preexisting individual accounts are to be treated as U.S. accounts, recalcitrant accounts or non-U.S. accounts. This analysis is generally made in a descending order of steps for the following types of accounts:

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• Low Value ($50K or less) Accounts

• Step 1: Documented U.S. Accounts- Under this step, all account holders already documented as U.S. persons for other U.S. tax purposes (e.g., for purposes of chapters 3 and 61) are treated as specified U.S. persons, and those account holders’ financial accounts are treated as U.S. accounts. Notwithstanding the foregoing, unless the FFI elects otherwise, an account is a non-U.S. account if: (i) the account is a depository account; (ii) each holder of such account is a natural person; and (iii) the balance or value of such account as of the end of the calendar year preceding the effective date of the FFI’s FFI Agreement does not exceed $50,000 (or the equivalent in foreign currency).

• Step 2: Accounts of $50,000 or less- From among the accounts not identified as U.S. accounts in Step 1, the FFI may treat an account as a non-U.S. account if the balance or value of the account as of the end of the calendar year preceding the effective date of the FFI’s FFI Agreement does not exceed $50,000 (or the equivalent in foreign currency). An FFI may elect not to apply this Step 2.

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Account Identification • Private banking department accounts

– Detailed scrutiny is required that goes beyond searching electronic database – Search for the recurring and ask more questions if they exist

• Identification of holder as a US citizen or resident • US place of birth • US address • Standing instructions to transfer funds to US account • Hold mail or c/o address as sole address • Power of Attorney / signatory authority given to US person

• Step 3: “Private Banking” Accounts - With respect to private banking accounts maintained by the FFI that are not addressed in Step 1 or 2, the FFI must perform certain identification, paper and electronic review, documentation, and recordkeeping steps to determine whether client accounts are U.S. accounts.. A “private banking account” is any account maintained or serviced by an FFI’s private banking department or any account maintained or serviced as part of a private banking relationship, including any account held by any entity, nominee, or other person to the extent the account is associated with the private banking relationship with an individual client.

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• A “private banking department” is any department, unit, division, or similar part of an FFI:

– that is referred to by the FFI as a private banking, wealth management, or similar department;

– that focuses on servicing accounts and investments of individual clients (or their families) whose accounts with the FFI or whose income, earnings, or assets exceed certain thresholds, or who are otherwise identified as high-net worth individuals (or families), as determined under an FFI’s own policies and procedures;

– that is considered a private banking department under the anti-money laundering or know-your-customer (AML/KYC) requirements to which the FFI is subject; or

– in which some or all of its employees, under any of an FFI’s formal or informal procedures or other guidelines for its personnel: (i) ordinarily provide personalized services to individual clients (or their families), such as banking, investment advisory, trust and fiduciary, estate planning, philanthropic, or other services not generally provided to account holders; or (ii) gather information about individual clients’ personal, professional, and financial histories in addition to the information ordinarily gathered with respect to the FFI’s retail customers.

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• Step 4: Accounts with U.S. Indicia – For accounts that are not identified as U.S. accounts in Step 1, non-U.S. accounts in Step 2, or private banking accounts under Step 3, the FFI must then determine whether “electronically searchable information” maintained by the FFI and associated with those accounts or account holders, includes any of certain prescribed “U.S. indicia.”

• Accounts must be reviewed for the following U.S. indicia: – identification of an account holder as a U.S. resident or U.S. citizen;

– a U.S. place of birth for an account holder;

– a U.S. residence address or a U.S. correspondence address (including a U.S. P.O. box);

– standing instructions to transfer funds to an account maintained in the United States;

– an “in care of” address or a “hold mail” address that is the sole address shown in the FFI’s electronically searchable information for the account holder; or

– a power of attorney or signatory authority granted to a person with a U.S. address.

• Electronic database search for “US indicia”

– But do not have to search – PDF and scanned documents

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• “Electronically searchable information” refers to information that an FFI maintains in its tax reporting files, or customer master files or similar files that is stored in the form of an electronic database against which standard queries in programming languages, such as Structured Query Language, may be used. Customer master files include an FFI’s primary files for maintaining account holder information, such as information used for contacting customers and satisfying AML/KYC requirements. However, information, data, or files are not electronically searchable merely because they are stored in an image retrieval system (such as .pdf files or scanned documents).

• For all accounts identified as containing U.S. indicia, the FFI will be required within one year of the effective date of the FFI’s FFI Agreement to request certain documentation to establish whether the account is a U.S. account.

• Account holders that have not provided appropriate documentation within two years of the effective date of the FFI’s FFI Agreement will be classified as recalcitrant account holders from that date until the date on which appropriate documentation is received from the account holder by the participating FFI.

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• Step 5: High Value Accounts of $500,000 or More – For accounts not identified as U.S. accounts in Step 1, as non-U.S. accounts in Step 2, or as private banking accounts in Step 3, and that had a balance or value of $500,000 or more at the end of the year preceding the effective date of the FFI’s FFI Agreement (“high value accounts”), the FFI must perform a diligent review of all account documentation associated with the account (not just electronically searchable data) for U.S. indicia and using U.S. account indicia standards.

• To the extent an account file contains any of the U.S. indicia enumerated above, the FFI

must obtain the appropriate documentation confirming the account holder’s US status within two years of the effective date of the FFI’s FFI Agreement.

• Account holders that do not provide appropriate documentation by the required date

will be classified as recalcitrant account holders until the date on which appropriate documentation is received from the account holder by the participating FFI.

• High value accounts ($500K or more)

– More diligent review that goes beyond electronic database • Must check account files

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Retesting

• Beginning with the third year following the effective date of its FFI Agreement, the FFI must annually re-test all pre-existing individual accounts that were not previously flagged as high value accounts. If such an account has become high value, the FFI must perform a "diligent review," as above, and obtain any necessary additional information from the account holder by the end of the year. If the account holder does not respond, the account must be treated as recalcitrant.

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Required Certification #1

• Responsible officer will be required to certify that:

– FFI had written policies and procedures in place as of the effective date of the FFI’s FFI Agreement prohibiting its employees from advising U.S. account holders on how to avoid having their U.S. accounts identified.

– BUT there is one more certification---

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Required Certification #2

• Responsible officer must certify that, between publication date of Notice (May 9, 2011) and effective date of FFI Agreement:

– FFI management personnel did not engage in any activity, or have any formal or informal policies and procedures in place, directing, encouraging, or assisting account holders with respect to strategies for avoiding identification of their accounts as U.S. accounts under the procedures described above.

– Can this certification be given absent adoption of express policy?

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Reporting Requirements Reporting on US Accounts:

• Notice 2011-34 modifies the information reporting rules set out in Notice 2010-60. Under the new rules, in addition to other information required in specific circumstances, the following must be reported for US accounts by FFIs that are banks and custodians:

– Account balance or value

– Gross dividends paid and / or credited to the account; gross interest paid and / or credited to the account, other income that is paid and / or credited to the account, and gross proceeds from the sale or redemption of property paid and / or credited to the account with respect to which the FFI acted as custodian, broker, nominee or other agent of the account holder.

• Some bank FFIs may face constraints under local law that would prevent consolidating account holder information across branches or affiliates located in different jurisdictions generally and specifically that required for these purposes. Those constraints may not prevent branches from reporting separately in order to satisfy the requirements of section 1471(b). Treasury and the IRS intend to issue guidance allowing those banks to elect to have each branch report information regarding the U.S. accounts it maintains and to make the section 1471(c)(2) election with respect to each of their branches. Treasury and the IRS intend to require that such an election be made as part of the application process for an FFI to obtain status as a participating FFI.

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Deemed Compliant

• Notice 2011-34 also contains special rules for entities that are “deemed compliant.” These entities will be deemed to be compliant, without having to enter into an FFI Agreement and, except as noted below, will be required to:

– Apply for deemed compliant status with the IRS, – Obtain an FFI identification number (FFI-EIN) from the IRS identifying it as a deemed compliant FFI, and – Certify to the IRS every three years that it meets the requirements for deemed compliant FFI status.

• For example, Local Bank FFIs in an expanded affiliated group will be treated as a deemed compliant FFI if each member of the group that is an FFI is organized in the same country and meets all of the following requirements:

– Is licensed and regulated as a bank or similar deposit taker in its country of organization; – Is not, and does not hold itself out as, primarily engaged in the business of investing in securities, etc., for its own

account; – Does not maintain operations outside of its country of organization; – Does not solicit account holders outside of its country of organization; and – Implements policies and procedures to ensure that it does not open accounts for nonresidents, non-participating FFIs,

and NFFEs (other than certain excepted NFFEs, as defined in Notice 2010-60, that are organized and operating in the same country).

• Further, if at least one member of an expanded affiliated group is a participating FFI, any other member of the group may be treated as a deemed compliant FFI if it meets all of the following requirements:

– Does not maintain operations outside of its country of organization; – Does not solicit account holders outside of its country of organization; – Implements the pre-existing account and customer identification procedures required of participating FFIs to identify

U.S. accounts, accounts of non-participating FFIs, and NFFEs (other than certain excepted NFFEs that are organized and operating in the same country as the FFI member); and

– Agrees that if it ever does find an account that is a U.S. account, an account of a non-participating FFI, or an account of an NFFE other than those permitted above, it will obtain its own FFI Agreement, transfer the account to an affiliate that is a participating FFI, or close the account.

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Deemed Compliant FFI

• Notice 2011-34 created a limited exception (next slide) & said IRS is considering added exceptions, BUT under narrow circumstances

• Unclear how helpful the classification may be

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Deemed Compliant FFI If:

(1) All direct investors must be participating FFIs or deemed-compliant FFIs holding on behalf of others, or certain excluded entities per § 1471(f) (e.g., foreign governments, central banks);

(2) Fund must explicitly limit ownership to above persons; and

(3) Fund certifies it will calculate and publish any passthru payment percentages (see below).

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#1: Considering Deemed Compliant FFI If:

• All the interests in fund are regularly traded on an established securities market (e.g., exchange-traded funds (ETFs)).

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#2: Considering Deemed Compliant FFI If:

(i) All direct interest holders in fund are participating FFIs, USFIs, deemed-compliant FFIs, entities described in section 1471(f), or non-participating FFIs acting as distributors;

(ii) Distribution or similar agreements prohibit sales of interests to specified U.S. persons, NFFEs other than excepted NFFEs, and non-participating FFIs holding for their own account;

(iii) Each distributor agrees to enforce the sales prohibitions described in (ii) above, and

(iv) The fund satisfies other requirements and meets other criteria relevant to the purposes of chapter 4.

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Burden On Deemed Compliant FFI

• Required to: – Apply for deemed compliant status with IRS (not automatic)

– Obtain an FFI identification number (FFI-EIN) from IRS

– Certify to the IRS every three years that it meets requirements

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Compliance FFIs

• Treasury and the IRS also intend to provide FFI Groups with an option under which a designated FFI could be appointed by some or all of the FFI affiliates in the FFI Group to assume an oversight role with respect to the compliance by the FFI Group with the section 1471 requirements (Compliance FFIs). For example, a Compliance FFI could assume the responsibility to:

– establish applicable policies and procedures with respect to the section 1471 requirements for all or a subset of the FFI affiliates in the FFI Group;

– ensure that all such FFI affiliates have adopted and implemented these policies and procedures; and

– account to the IRS with respect to each such affiliate’s compliance with such policies and procedures and the section 1471 requirements.

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Relationship Of FATCA To Existing Withholding Tax Regime

• FATCA requirements and withholding is intended to be integrated with the already existing foreign withholding scheme, but not to double the amount of tax: – For example, the maximum withholding rate is not 60% (30% FATCA + 30%

interest/rents/FDAP withholding)

– If 30% FATCA withholding is required, no additional withholding tax is imposed under the previously existing foreign withholding scheme

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Withholding on Passthru Payments

Recognition and Remittance of Withholding Obligations on Passthru Payments: • FATCA provisions contained in Internal Revenue Code sections 1471 and 1472 generally

require a participating FFI to deduct and withhold a tax equal to 30 percent of any “passthru payment” made to a recalcitrant account holder or non-participating FFI (“Chapter 4 withholding”) under complex rules described in Notices 2010-60 and 2011-34, except where otherwise provided.

• A passthru payment is defined under section 1471(d)(7) as any withholdable payment or other payment to the extent attributable to a withholdable payment. With certain significant exceptions, amounts withheld on withholdable payments made to FFIs or NFFEs are refundable to the beneficial owner of such payments to the extent that such amounts would otherwise be refundable under the standard chapter 3 nonresident withholding tax rules of sections 1441 through 1446.

• Certain classes of payments are exempted in their entirety from the Chapter 4 regime, including payments made to a foreign entity to the extent the beneficial owner of such payments is a foreign government, its political subdivisions or any wholly-owned agency or instrumentality thereof, an international organization or any wholly-owned agency or instrumentality thereof, a foreign central bank of issue, or any other class of persons identified by the Treasury as posing a low risk of tax evasion. In order to avoid the Chapter 4 withholding tax on all other withholdable payments, a foreign entity must comply with an extensive information reporting regime.

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Passthru Payments

• Complex new term you will need to understand

• Why? – Participating FFI must deduct and withhold a tax equal to 30 percent of any

“passthru payment” made to a recalcitrant account holder or non-participating FFI.

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Recalcitrant Holder

• Holder who fails to: – Comply with reasonable requests for information necessary to determine if

account is a US account

– Provide name, address, and TIN of each specified US person and each substantial US owner

– Provide “waiver” of any foreign law that would prevent FFI from reporting required information

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Passthru Payment-Clarification?

• Passthru payment is defined as any withholdable payment or other payment to the extent attributable to a withholdable payment.

• In Notice 2011-34, IRS gave guidance that highlights the complexity of this new term and burden placed on Funds.

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Passthru Payment (cont’d)

• Payment is a passthru payment to extent of: – Withholdable payments plus;

– Portion that is not a withholdable payment multiplied by “passthru payment percentage” (or PP%) of payee FFI (or use PP% for custodial payments)

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Passthru Payment Percentage

• Based on FFI’s assets – PP% = US Assets / Total Assets

– Tested quarterly, with four most recent quarters averaged

– Use gross assets on financial statements

– Look thru rule for lower-tier FFI

– Must publish quarterly

• If do not publish, then PP% = 100%

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Passthru Payment Percentage (cont’d)

Example:

Fund A, a fund of funds, has total assets of $100M, which consists of:

1. $20M: Interest in Fund B, nonparticipating FFI

2. $30M: Interest in Fund C, participating FFI with 50% PP%

3. $10M: Interest in Fund D, participating FFI that did not publish PP%

4. $40M: Interest in Fund E, domestic corp.

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Passthru Payment Percentage (cont’d)

Example (cont’d):

Fund A’s PP percentage is 65%, calculated as follows:

US Assets = $65M

• Fund B = 0

• Fund C = $15M

• Fund D = $10M

• Fund E = $40M

Total Assets = $100M

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US Investors Recalcitrant

Account Holders German Investors

Top

LuxCo

PFFI

LuxCo

PFFI

US SPV German SPV

Fund

PFFI

US Real

Estate

US Real

Estate

50% 10% 40%

100%

100%

$40 $60

$70

$80

$30

Expenses -$20

$24 $6

Expenses -$10

Expenses -$10

Germany US

Initial investment $500 $1,000

Return 8% 6%

SPVs

SPV income $40 $60

Distributed to LuxCo $40 $60

LuxCo

LuxCo revenue $100

LuxCo expenses -$20

LuxCo profit $80

Top LuxCo

Top LuxCo revenue $80

Top LuxCo expenses -$10

Top LuxCo profit $70

Distribution to Fund $70

Fund

Fund revenue $70

Fund expenses -$10

Fund income $60

Calculating passthru payments and percentages

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Calculating passthru payments and percentages

US Investors Recalcitrant

Account Holders German Investors

Top

LuxCo

PFFI

LuxCo

PFFI

US SPV German SPV

Fund

PFFI

US Real

Estate

US Real

Estate

50% 10% 40%

100%

100%

$40 $60

$70

$80

$30

Expenses -$20

$24 $6

Expenses -$10

Expenses -$10

Passthru payment percentage calculation:

FFI's US assets

FFI's total assets $1,000 / $1,500 = 67%

• The last PFFI in the chain (i.e., Fund) would need to

withhold 30% on passthru payments made to the

recalcitrant account holders, i.e., 30% of 67% of the

distributions.

$6 X 67% = $4.02

$4.02 X 30% = $1.21

• Fund can elect to have Top LuxCo withhold by making a

section 1471(b)(3) election rather than withholding the

tax. The election shifts the responsibility upstream all

the way to US SPV if all the entities make the election.

• If the election is made, the upstream entities need to be

informed how much of a passthru payment is allocable

to recalcitrant account holders.

• With all such elections in place, US SPV would need to

withhold tax.

30% X 10% X $60 = $1.80

Effective Date

• Generally these rules applied to withholdable payments made after December 31, 2013 (or later).

• But FATCA generally not applicable to: – Certain “obligations” outstanding on March 18, 2012, or – Gross proceeds from the disposition of such obligations

• Notice 2011-53 postpones some of the effective dates.

– In July 2011, Treasury and the IRS issued Notice 2011-53 providing a revised time line for implementing the various requirements of the Foreign Account Tax Compliance Act (FATCA).

– Significant aspects of the extended phase in of the FATCA requirements include:

• Participating FFI Registration to Begin in 2013 • Withholding to Begin on January 1, 2014 and Be Fully Phased in by January 1, 2015 • Participating FFI Due Diligence Requirements for Identifying New and Pre-Existing U.S Accounts • Participating FFI Reporting Requirements to Begin in 2014 • Miscellaneous Substantive Matters (QIs and Grandfathered Obligations) • Procedural Matters-Timeline for Published Guidance

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Participating FFI Registration to Begin in 2013

• An FFI must enter into an FFI Agreement by June 30, 2013, to ensure that it will

be identified as a participating FFI in sufficient time to allow U.S. withholding

agents to refrain from withholding beginning on January 1, 2014.

• The effective date of an FFI Agreement entered into any time before July 1,

2013, will be July 1, 2013.

• FFIs that enter into FFI Agreements after June 30, 2013, but before January 1,

2014, will be participating FFIs with respect to 2014, but might not be identified

as such in time to prevent withholding beginning on January 1, 2014.

• The effective date of an FFI Agreement entered into after June 30, 2013, will be

the date the FFI enters into the FFI Agreement.

• The IRS will begin accepting FFI applications through its electronic submissions

process no later than January 1, 2013.

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Notice 2011-53: Withholding Beginning January 1, 2014 and Fully Phased in by January 1, 2015

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• Withhholding agents (whether domestic or foreign, including participating FFIs) will be obligated to withhold under section 1471(a) and 1472(a) only on U.S. source FDAP payments made on or after January 1, 2014;

• For payments made on or after January 1, 2015, withholding agents will be obligated to withhold under section 1471(a) and 1472(a) on all withholdable payments (including U.S. source FDAP payments and payments on gross proceeds described in section 1473(1)(A)(ii)).

• Participating FFIs will be obligated to withhold on withholdable payments of U.S. source FDAP under Sections 1471(a) and 1472(a) for payments made on or after January 1, 2014, but will not be required to withhold under Section 1471(b)(1)(D) with respect to passthru payments made before January 1, 2015.

• The obligations of participating FFIs with respect to computing and publishing their passthru payment percentage as set forth in Notice 2011-34 will not begin before the first calendar quarter of 2014

Remaining Guidance

• Treasury expects to promulgate proposed regulations late this year

• Final regulations?

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What Do We Do?

• More guidance is needed BUT Funds need to act now: – Do we change our business model?

– Do we adopt procedures to halt abuses that FATCA was addressing?

– Do we begin the process to become FATCA compliant?

• Update electronic database

• Check records

– More?

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• So first, assess your infrastructure – Can you identify US persons (remember: there are at least three definitions of

US persons commonly used by fund managers; do your forms reflect them all correctly?)

– Can you identify US-sourced income?

• Then assess your exposure – How many US investors? How large are their holdings?

– How much of portfolio investments will result in US-sourced income? Are there acceptable alternatives?

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• Minimizing the Burden: – If you have minimal exposure to US investments, complete withdrawal from

US markets may make sense. But participating FFIs may be reluctant to do business with you.

– Entities that never have US investors may be able to reach agreement with the IRS. But we don’t know that the IRS will be receptive.

– In some cases, compliance and agreement with the IRS could be relatively straight-forward—especially for entities that are not widely held.

Bottom line: Either stop investing in the US, find an exemption or comply.

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• Start now: – There is still some uncertainty regarding the exact form that FATCA will take.

But there is not enough time to wait for all possible guidance.

– The key to getting the best possible outcome is obtaining the best possible information efficiently and quickly (e.g., if you are updating your KYC process, consider FATCA updates at the same time).

– You’ll also need to review relationships with custodians and data providers.

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FATCA – Considerations for Funds and Foreign Investors

• Investors will look hard at costs of compliance

– Necessary systems modifications and on-going due diligence

• Monitoring non-participating FFIs and recalcitrant account holders

– Withholding and depositing taxes

– Calculation of passthru payments / passthru payment percentages

– Account closures

– Disclosures

– Account closure requirements

– Identifying and documenting direct US investors, participating/non-participating FFIs and NFFEs

– Distributions through the fund structures usually involve intermediaries like banks, asset managers and custodians, and transfer agents.

• Nominee accounts involved?

• Who bears cost for FATCA compliance?

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FATCA – Considerations for Funds and Foreign Investors

• Need to consider amendments to Fund Agreements

– Required cooperation and provision of necessary information for FATCA compliance – consent to withholding if not compliant

– Whether the Fund will seek status as a FFI

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Closing Thoughts

• This is as much an operational, technology and business

issue as it is a tax issue.

• New process and procedures will be needed for

identifying accounts, withholding, paying, reporting and

reconciling.

• Flexibility is required as the rules are still in development

and will be through 2012.

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Closing Thoughts

• The New World

– Information exchange between governments and transparency is becoming more the norm

– More Voluntary Disclosures, many with six years of filings

– New penalties on top of the already draconian potential FBAR penalty

– More examinations, enhanced penalties, and longer SOLs

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Closing Thoughts

• Foreign government may emulate the U.S. System.

• Small and medium-size FFIs without a large U.S. client base may decide that the cost, administrative burden of compliance, and potential penalties are not worth doing business in the U.S. or with U.S. owned accounts.

• That will deny critical foreign capital to the U.S. economy.

• Those non-participating FFIs may themselves become a target of opportunity for the scofflaws that seek to avoid U.S. reporting.

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The views and statements expressed by the panelists are those of the panelists individually, and do not necessarily represent the views or statements of any firm or agency by which they may be employed. This publication contains general information only and the panelists in this presentation are not, by means of this publication, rendering accounting, business, financial, investment, legal, tax, or other professional advice or services. The information contained in this presentation provides background information about certain legal and accounting issues and should not be regarded as rendering legal or accounting advice to any person or entity. As such, the information is not privileged and does not create an attorney-client relationship or accountant-client relationship with the companies, or any of its employees. This presentation does not constitute an offer to represent you, and you should not act, or refrain from acting, based upon any information so provided. In addition, the information contained in this presentation is not specific to any particular case or situation and may not reflect the most current legal developments, verdicts, or settlements. In the event that you have questions about and are seeking legal or professional advice concerning your particular situation in light of the matters discussed in the presentation, please contact us so that we can take the necessary steps to form a professional-client relationship if that is warranted.

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IRS Circular 230 disclosure: To ensure compliance with requirements imposed by the U.S. Internal Revenue Service, we inform you that any U.S. federal tax advice contained in this PowerPoint is not intended or written to be used, and cannot be used, for the purpose of (a) avoiding penalties under the U.S. Internal Revenue Code or (b) promoting, marketing or recommending to another party any transaction or matter addressed herein.

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