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FATCA Regulations Provide More Clarity, but Leave Open Questions

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By Michael Cohn
January 22, 2013

The Treasury Department and the Internal Revenue Service released their long-awaited set of final regulations for the Foreign Account Tax Compliance Act last week. They answer many of the lingering questions that have caused banks to put off implementation, but not all of them.

FATCA, which was included as part of the HIRE Act of 2010, requires foreign financial institutions to report on the holdings of U.S. depositors to the IRS, or else face stiff penalties. The initial proposals provoked an outcry among many foreign banks and governments, as well as U.S. citizens living abroad, and the Treasury was forced to delay the requirements and soften some of the tougher regulations (see Treasury Releases Final FATCA Regulations). 

John Rieger

“My reaction to the regulations is it provides important clarity to the financial services industry, which has been somewhat reluctant to start the active work of implementing changes to their processes and systems for FATCA until they had this clarity,” said John Rieger, national managing partner of the financial services tax practice at Deloitte Tax LLP. “What the regulations did was widen some of the burdens and extend the timeline for implementation of certain aspects to give the industry sufficient time for implementation.”

Denise Hintzke, director of Deloitte Tax LLP and global tax leader for the FATCA initiative, generally agrees, although she believes the final regulations, which are approximately 540 pages, do eliminate some of the burdens that were initially proposed by the Treasury and the IRS. “When you look at the preamble, they say they’re exercising the authority that Congress had given them to try to provide a balanced and integrated approach. It is really more risk based and addresses policy while eliminating some of the burdens. It appears that they have made quite a few inroads into that in certain ways.”

The provisions were softened in part through grandfathering, giving some foreign financial institutions, or FFIs, a status known as “deemed compliant,” and by making use of the provisions of the intergovernmental agreements, or IGAs, that have been worked out between the U.S. and other countries.

Denise Hintzke

“When you look at it, there were some things that we were expecting, such as the expansion of the grandfather rule for certain obligations,” said Hintzke. “We were hearing that orally a couple of weeks ago. That’s now in the regulations. The fact that they were going to pick up more of the definitions that are actually in these intergovernmental agreements, that also held true here so that they have changed, for example, the definition of an entity that is involved in investing and trading to be more in line with what you see in the IGAs.

“Also, there was quite a big expansion in the types of entities that could be treated as deemed compliant, or as exempt FFIs under the rules,” she added. “They made a special ‘deemed compliant’ status now that is applicable to these credit card companies that were out there issuing credit cards with deposits backing them. There had been some concerns from that industry. They have now been made deemed compliant. They’ve simplified the requirements for certain types of retirement plans to fallen into the deemed compliant status. They’ve made it clear that insurance companies can be deemed compliant in certain situations.”

Hintzke believes the new rules will make it easier for certain segments of the financial industry to be able to deal with the FATCA regulations, especially in some countries that have hammered out an intergovernmental agreement with the U.S. “They’ve made it very clear now in the regulations themselves as to how the IGAs and regulations are going to work together,” she said. “They’ve indicated that if you’re in a country with a Model 1 intergovernmental agreement, such as the U.K., then the local law that is put into place to implement FATCA in that jurisdiction will be what governs the FFIs unless the jurisdiction itself allows the FFI to have the option of relying on the regs. In those case where it’s a Model 2 IGA, which is what’s expected in places like Switzerland, Japan or the Cayman Islands, they’re actually going to be governed by the regulations, so they’ve clarified that. There had been a lot of questions about that.”

Michael Silva

Michael Silva, a partner in law firm DLA Piper’s tax practice, sees some positives in the final FATCA regulations. “They provided coordination of the timelines for implementation between those taxpayers that are going forward with intergovernmental agreements and those that are following under FFIs,” he said. “The implementation dates under the regs were fairly well coordinated. That’s important because the large financial institutions with operations in multiple jurisdictions, some of those jurisdictions will be going under the intergovernmental agreement format and others will be going under the FFI format. The final regulations coordinated the obligations of those major institutions that will be going forward under both of those options, and the implementation date has also been coordinated. I was expecting that.”

Silva noted that the final regulations also clarified some of the entities a little better, such as the governmental and retirement funds that are low risk. “They also coordinated and relieved the various parties making payments under grandfathered obligations, and certain nonfinancial entities have been relieved. That was a positive clarification,” he said. “They also clarified the verification obligations of FFIs, and they streamlined the registration.”

Hintzke noted that the final regulations now provide many more details on the types of documentation that will be required for identifying who account holders are. “Some of it is quite a bit simplified, such as being able to rely on certain certifications, not always having to have 'penalties of perjury' statements on those certifications,” she said. “In certain situations, the documentation will have unlimited life, so that it doesn’t have to expire and need to be renewed all the time. Those are all very good things that industry was asking for.”

Despite the voluminous final regulations, some matters remain unresolved, such as a foreign financial institution agreement that has yet to come out, as well as upcoming regulations on foreign pass-through payments.

Hintzke noted that the regulations go into great detail about what is going to be in the upcoming FFI agreement that will be released in the form of an IRS revenue procedure, probably sometime this summer. “They seem to indicate it could be earlier, but they don’t always keep with the timeframes,” she added.

The new regulations also describe how FFIs will be able to register through a secure online Web portal. “They’ll be able to access it from anyplace in the world,” said Hintzke. “It’s going to be completely paperless registration.”

The final regulations also provide an indication that FATCA may eventually expand into a global system of tax compliance and enforcement to track how money is flowing around the world. “One of the things that I thought was very interesting is in the original, in everything we’ve seen so far, they’ve always talked about an FFI EIN number and an FFI registration number,” said Hintzke. “They’ve moved away from that now and they are instead talking about a Global Intermediary Identification Number. There’s been a lot of speculation about the fact that FATCA was the first step in moving towards a more globalized sharing of information, and I think this is a sign that we could be going that way. Not only do they talk about this Global Intermediary Identification Number, what they’re calling a GIIN, they’re also saying they’ve had discussions with other countries about using that same number locally for reporting that’s required in those particular countries and also coming up with a common rubric that will be used for purposes of passing information so that it is more standardized. So I think that’s an indication that we could be going towards some global system down the road.”

The new regulations also provide many more details on how the process is going to be enforced. “They still have the concept of a responsible officer who will be making certain certifications as to whether or not the entity has met its requirements,” said Hintzke. “Those certifications will be done through this online system. They’ve provided more guidance on how that process will work. They’ve also indicated that, ongoing, the responsible officer will be required to make a certification every three years that the entity is in compliance with its processes and procedures, and that it has put into place some type of audit-type process internally to ensure that the organization is doing what it needs to do. It also mentions the fact that the IRS has the right to ask for an external audit in situations where they believe there could be compliance issues.”

In the area of withholding, the final regulations have scaled back the requirements in certain ways. “They have made it clearer as to what is a withholdable payment, and what types of payments are going to be ‘ordinary course of business’ types of payments,” said Hintzke. “They have backed away from using the ‘ordinary course of business’ exception, and instead they are providing actual payment types of what is in and what is out.”

However, questions remain about some areas of the regulations that still have to fleshed out at a later time. “There had been a lot of requests from industry to move away from this whole concept of foreign pass-through payments, and they did not do that,” Hintzke pointed out. “As a matter of fact, you see it mentioned quite often, especially in the preamble about the foreign pass-through payments. They did reserve it in the regulations itself. That means they haven’t provided a lot of detail about how it will work, but they definitely haven’t backed off on it.”

Another item on the FATCA regulatory to-do list is relief for so-called “qualified clearing organizations.”

“There had been some discussions about them providing some relief for things that they called qualified clearing organizations, clearing organizations that basically agree to only do business with organizations, other broker-dealers that were going to be FATCA compliant,” Hintzke explained. “That also was reserved, so they haven’t provided a tremendous amount of detail around how that specifically is going to work. I believe that the true impact of those requirements really has to do with gross proceeds withholding, and since gross proceeds withholding has been pushed out a bit, they’ve got some additional time now to get that kind of stuff in order.”

Even though the FATCA regulations released last week were billed as final regulations, Hintzke expects to see more regulations coming in this area.

“There definitely will be additional regulations,” she said. “They indicated as much in the body here. The section where it’s clearest is where they talk about grandfathered obligations. They say that entities that are grandfathered obligations, that definition can be adjusted in situations where something becomes subject to withholding due to regulations that are issued in the future. It kind of contemplates—especially around the foreign pass-through payments, and some of the rules around securities lending—that stuff will be in the future.”

Another area of future concern will be the timing and implications of the Global Intermediary Identification Numbers. “They have mentioned that they’re going to start assigning these GIINs no later than Oct. 15,” said Hintzke. “They’re going to post a list of all the participating FFIs that are registered or deemed compliant, including those under Model 1, on Dec. 2, 2013. I thought it was interesting that they have an actual date there. It will be interesting to see whether or not they actually hit that date. They’re promising to update that list on a monthly basis. It also said that an FFI needs to register by Oct. 25, 2013 in order to be included on the list. And if it’s not on that list, then presumably, if it doesn’t have its GIIN by Jan. 1, 2014, then it appears that except in very limited circumstances, it would become subject to withholding on payments of U.S. source income. It kind of indicates that an entity has to enter into this agreement, or get online and register, by Oct. 25, 2013 in order to make sure that it has this number, and it’s on that Dec. 2 list.”

The GIIN could have far-reaching implications beyond just FATCA. “This idea about a global information number, I find it very interesting,” said Hintzke. “There have been some meetings going on that have been basically sponsored by the OECD [Organization for Economic Cooperation and Development] where they have been talking about this concept of having some type of global system. The fact that they have moved away from the normal numbering system that we use here in the U.S., with the EINs etc., to something that is envisioning being a global number that is going to be assigned to institutions that will not only be used for FATCA but will be used presumably for reporting within other jurisdictions and among other jurisdictions, I think that’s a very big sign of what direction this is moving in, and those types of discussions did not come quickly.”

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