Legislation known as FATCA - a key element of new US laws designed to squeeze tax evaders - imposes new burdens on US citizens living abroad and the institutions that cover them. This publication takes another look at what is at stake.

Editor’s note: This publication has already examined the implications of the recently signed HIRE Act in the US and its effects on US expats in nations such as the UK. 3i Infotech takes another look at this Act and the legislation that was incorporated into it, known as FATCA.

Introduced in October 2009 as the “Foreign Account Tax Compliance Act of 2009”, “FATCA” aims to improve tax compliance respecting offshore financial accounts owned by non-exempt US Persons. It was used as a revenue raiser to pay for the “Hiring Incentives to Restore Employment Act” or “HIRE”, which President Obama signed into law on 18 March 2010.

Although not effective for payments until after 31 December 2012, the move is starting to cause some serious consternation amongst global and national wealth management providers, banks, and asset managers as the implications look likely to create a significant increase in the administrative reporting burden, and great unease amongst US offshore investors.

Why? Because a particular chapter of the legislation called the “Enforcement of disclosure of US Beneficial Owners” places a 30 per cent "withholding tax" on "withholdable payments" made to foreign financial institutions (FFIs) or non-financial foreign entities (NFFEs) who do not disclose details of their US investors. Withholdable payments are generously defined as any US source FDAP income, including interest, dividends, rents, salaries, wages, annuities, remuneration and, for the first time...sales proceeds.

The definition of a US investor has also been expanded – the US Internal Revenue Service is looking for both direct, and indirect – beneficial ownership. Plus all financial institutions need to prove that their account holders are not from the US, and they then need to report those who remain; thus, it simply is not enough to say that your account holders are non-US – you need to prove it too. For the US Internal Revenue Service, responsible for overseeing FATCA, secrecy is over.

Although the specific regulations of FATCA have not been finalised to date, a wealth management firm will be required to provide the IRS with the personal details of all customers with accounts larger than £50,000 (around $78,000).

While this may sound easy, the information required will likely be more than merely the name, address, and account number. Indeed, it will probably require the average account balance per year, maximum account balance, withdrawals and receipts, and in some cases, the IP address of any computer that the account holder logs on with. The information burden is much more than sharing the basics: institutions will be forced to initiate some fairly intensive administrative processes to gather the data, record it, and then generate the returns with the relevant information. For most wealth managers, their current US WHT processes are typically highly manual – with no ability to scale up with volumes or complexity. 

A nightmare

As you can imagine, trying to get hold of this customer information is a logistical nightmare for financial institutions, most of which do not have it already, and the 30 per cent withholding tax on withholdable payments means that non-compliance would be difficult to explain to customers.

Thus, although FATCA is not due to take effect until after 31 December 2010, the IRS has been quite forthcoming about the changes. Some global wealth managers have already initiated enterprise-wide projects, reviewing their entire proposition and approach to taxation, in the US and elsewhere.  And while many financial institutions are understandably unhappy about the introduction of FATCA, they may not oppose the legislation per se, but are frustrated by the lack of guidance from the IRS and the unrealistic timeframe in which they are expected to complete this colossal logistical task by.

So what should you be doing about FATCA right now? First, ensure that your firm is aware of the impact of the changes that it will bring; and secondly, be prepared to enact these changes as soon as the regulations are issued. Arguably the best solution is to work with financial technology firms to update your internal systems and control frameworks to form a single, simplified platform flexible to all of the changes that the FATCA legislation will bring.