Slimming Down the Fat from FATCA

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We are currently living in a time in which the tax landscape of the Financial Services Industry in the Bahamas is changing and evolving rapidly. On 3rd November, 2014 the Bahamas Government executed the Model 1, of the Intergovernmental Agreement with the U.S. Government to implement the U.S. Foreign Account Tax Compliance Act (“FATCA.”) .

We are currently living in a time in which the tax landscape of the Financial Services Industry in the Bahamas is changing and evolving rapidly.

[Article contributed by Thamara Saunders-Munnings, Attorney-at–Law & Compliance Specialist]

On 3rd November, 2014 the Bahamas Government executed the Model 1, of the Intergovernmental Agreement with the U.S. Government to implement the U.S. Foreign Account Tax Compliance Act (“FATCA.”) Hence by the Bahamas government signing the said Model 1, the Bahamas is now committed to the global standards on automatic exchange of information for FACTA purposes. Accordingly, the Bahamas is now deemed by the U.S. Department of the Treasury to have a Fatca agreement “in effect.” The question is, are we ready? Are we ready and equipped for FATCA and the myriad of complex, compliance intricacies that is associated with compliance in the private banking sector?

What is FATCA?

FATCA is the U.S. Foreign Account Tax Compliance Act. It was enacted into law on 18th March 2010 to create a vehicle to eliminate tax evasion within the U.S. more intensively. FATCA requires “foreign financial institutions” (FFIs) to report information on U.S. account holders to the U.S. Internal Revenue Service (IRS). In the case of the Bahamas all FFIs shall report to The Central Bank of The Bahamas, in accordance with the executed Intergovernmental Agreement (IGA) with the IRS. These FFIs shall also encompass Bahamian Foreign Financial Institutions (BFFIs). An example of FFIs are; generally non-U.S. entities such as, banks, broker dealers, hedge funds, securitization vehicles and insurance companies. FFIs are expected to identify the direct and sometimes indirect owners of their accounts to determine whether they are ‘U.S. accounts’ holders. On these premises the FFI is required to disclose its accounts of U.S origin to the IRS. Consequently the IRS shall impose a 30% withholding tax on any U.S. source income, unless the FFIs enters an agreement with the IRS to identify all U.S accounts held by it or its affiliates and report annually on each account.

FFIs were mandated to comply with the aforementioned before 30th June, 2013. If an FFI registered after this time but before 1st January, 2014, it would be considered a qualified participant FFI for 2014. However it will still be subject to withholding. The new rules require FFIs to provide the IRS with information on certain U.S. persons invested in accounts outside of the U.S. and non-U.S. entities to provide information about any U.S. owners. It is pertinent to comprehend that the rules of FATCA is not merely driven by whether the FFI has acquisitioned U.S. clients, but its primary focus is on non – U.S. entities ascertaining certain types of U.S source income and gross proceeds from the sale or disposition of U.S. property which can produce U.S. source interest or dividends.

Hence an FFI is not exempt from complying with FATCA, on the mere premise that it has no U.S. clients as is commonly presumed. On the contrary, an example of this can be seen in an instance where, a Bahamian Financial Institution with Canadian ties holds a corporate account for a non-U.S. legal entity, and a U.S. person is the ultimate beneficial owner. Therefore the latter individual shall be subject to FATCA for tax purposes. Additionally a more complex case may transpire, where a FFI may be required to report a U.S. business payment to a foreign individual for services rendered outside the U.S. If the foreign service provider performs any of its services in the U.S., then in accordance with FATCA, the U.S. payor is mandated upon the payment of the same to issue a Form 1042S to the foreign service provider. This form must state the gross payment and any amounts withheld for U.S. tax purposes. The obligation to remit the tax is placed squarely on the payor (“the withholding agent”) of the income not the foreign payee. The said tax is usually at a rate of 30%; the rate may be reduced or eliminated under the auspices of a tax treaty between the U.S. and the foreign person’s residence country. The payee must certify the ownership of the income, a foreign residence and  their eligibility for treaty benefits. This must be documented on an executed W-8 Ben form, if the payee fails to comply with the same, they shall be subject to a 30% withholding fee. Therefore in the case of dividends payments being made by a Bahamian FFI to a non- U.S. client from U.S. stocks and bonds, they too are subject to withholding if not exempted. Again theses cases fit the criteria for a U.S. source based income. In this vein, the aforementioned examples are the mere tip of the iceberg, as it relates to the scope and depth of the possible complexities that might ensue which are inherent with the compliance of FATCA.

What is an FFI Agreement?

It is the day that all FFIs make the formal contractual commitment to, love, honour and cherish the IRS for the remainder of their banking lives.

FFIs must enter into an FFI agreement with the Department of the U.S. Treasury to avoid withholding on payments that it will acquire. Essentially this agreement mandates the identification of all U.S. accounts, compliance with verification, due diligence procedures and annual reporting on the U.S. accounts to the U.S. Treasury. It also stipulates compliance with additional IRS reporting requests and 30% withholding where applicable. This may include e.g. recalcitrant account holders, non participating FFIs and electing FFIs. Generally, a recalcitrant account holder is any account holder that (1) fails to comply with reasonable requests for information necessary to determine if the account is a U.S. account; (2) fails to provide the name, address, and TIN of each “specified U.S. person” and each substantial U.S. owner of a U.S. owned foreign entity; or (3) fails to provide a waiver of any foreign law that would prevent a foreign financial institution from reporting information required under FATCA.

Additionally, participating FFIs must report the following information on U.S Accounts:

• The name,  the address, Taxpayer Identification Number (TIN) for all U.S. account holders.
• Any account holder that is a U.S. owned foreign entity, the name, address and TIN of each substantial U.S. owner of the company.
• The account number.
• The account’s current balance and annual year end value (to be confirmed by Regulators).
• Gross dividends, interest and other income paid or credited to the account.

When does withholding start?

FATCA withholding began on 1st January, 2014 for non-participating FFIs, recalcitrant accounts, fixed or determinable annual or periodical (FDAP) payments made.​

Who is impacted by FATCA?

FATCA’s impact is wide-reaching and deeply felt from your average FFI to a native Indian whose only crime is being born in the “Great United States of America”. Hence he is reluctantly made subject to this nightmare of a tax legislation called FATCA! When he has never even visited his native land of birth, is the cry of many foreigners that hold dual citizenship. Consequently many have renounced their U.S. citizenship to circumvent this plight.

• FATCA may apply to both financial and non-financial operating companies.
• It impacts any bank invested in the U.S. market for its client’s accounts or for its own accounts.
• Any bank which is a part of a group which invests in the U.S. market for its customers accounts or for its own account.
• FATCA affects all non-U.S. entities, directly or indirectly receiving most types of U.S. source income, including gross proceeds from sale or disposition of U.S. property which can produce interest or dividends.

There are many factors and variables that FFIs must consider when determining if FATCA applies. So let’s examine the “Fat in FATCA” by highlighting the various FATCA indicia that must be contemplated.

Indicia of FATCA?

There are various factors or indicia that determine if an account holder is a U.S. person for FATCA purposes. Once an account holder has been accurately categorized the relevant documentation to support their FATCA status must be ascertained accordingly. If you are a U.S. citizen or lawful permanent resident, a W-9Ben form must be obtained. If the client has a U.S. birth place, a W-9Ben or W-8Ben; and a non-U.S. passport or similar documentation establishing a foreign citizenship; and a written explanation regarding their U.S. citizenship must be provided. If the client has a U.S. address (residence, correspondence or P.O. BOX) the same aforementioned documents are also required, along with documentation establishing a foreign citizenship. In the case of instructions to transfer funds to a U.S. account or directions are regularly received from a U.S. address the same information is required. Lastly if the only address on file is in care of or hold mail or a U.S. P.O. BOX the aforesaid requirements apply. In accordance with Notice- 2011-34 a foreign P.O. BOX is excluded as a FATCA indicia. However please note that having one of these indicia, only mandates that closer scrutiny and comprehensive due diligence must be applied to the account. It does not automatically make the account holder a U.S. person for FATCA purposes.

Revised Timeline for New Account Opening Procedures

Time is  now of the essence, as registered FFIs were required to implement new account opening procedures by January 1, 2014. The final modifications of FATCA shall stipulate 1st January, 2014 as pre-existing obligations date. This obligation encompasses any account, instrument, or contract maintained or executed by a withholding agent prior to 1st January, 2013 or the date that the participating FFIs agreement is deemed effective. This would include an agreement entered before 1st January, 2014. An FFI registered and deemed compliant must execute the implementation of any required account opening procedures by 1st January, 2014 or the date upon which the FFI registers with the IRS.

Due Diligence & Withholding dates for Pre-existing Entity Obligations

Further, FFIs shall be required to perform the requisite due diligence and ascertain whether the prima facie FFI payee is a deemed-compliant FFI or non-participating FFI within six months after the effective date of its FFI agreement. The said date would have been by 30th June, 2014 or the date of any FFI entering an agreement before December 31st, 2013. This rule stipulates that the FFI would have to acquire the appropriate documentation from the FFI Payee to confirm its compliance with the IRS requirements. On these premises if a deemed compliant Bahamian FFI, is receiving a pass thru-payment from an international correspondent bank. The onus is then upon the Bahamian FFI to confirm that the other FFI is also a deemed compliant FFI. If the said bank is unable to produce, evidence to establish their status, the payment shall be subject to a 30% withholding fee. The FFI has one year from the effective date of its FFI agreement to comply by identifying and obtaining the necessary documentation from the prima facie FFI’s payees.

Due Diligence & Withholding dates for Pre-existing Individual Accounts

Participating FFIs must accelerate their FATCA compliance pace, as they are now mandated to execute the necessary due diligence and obtain the requisite documentation to determine pre-existing individual accounts that are high-value accounts by the 31st December, 2014,or one year after its FFI agreement. A high value account is any account in excess of Fifty Thousand Dollars ($50,000.00). Consequently after the aforementioned date participating FFIs must report any pre-existing account of high value as being held by a recalcitrant account holder. However, if the FFI was successful in executing the requisite identification procedures and obtained the appropriate documentation required by the IRS, this shall not be applicable.

Dates for information reporting and gross proceeds withholding

Additionally, all participating FFIs will be required to submit information reports for the calendar years of 2013 and 2014 by 1st March, 2015.

In the final analysis, it is clearly evident that there is no escaping FATCA and its inherent implications. In this vein it is incumbent upon all parties concerned, to take the necessary steps and exercise the mandated due diligence to comply with the same expeditiously. Accordingly, as failure to adhere to this complex and diverse tax legislation, shall prove detrimental to all FFIs, their clients and ultimately the Bahamian Financial Services Industry as a whole. On theses premises “slimming the Fat of FATCA” first begins with you the Bahamian Foreign Financial Institutions. This article does not encompass the full scope and intricacies of the FATCA legislation respectively. For further information on the Grandfathered Obligations, Expanded Affiliated Group Requirements, and other details about FATCA, please visit the IRS website.

[This Article was previously published on 6th January 2015 in the Nassau Guardian.]