Notice 2010-60, 2010-37 I.R.B.

On August 27, 2010, the IRS unveiled initial guidance on the Foreign Account Tax Compliance Act (FATCA) provisions of the Hiring Incentives to Restore Employment Act in Notice 2010-60. The FATCA provisions are designed to detect U.S. persons who may be evading U.S. tax by holding income-producing assets through accounts at foreign financial institutions (FFIs) or through other foreign entities (non-financial foreign entities, or NFFEs). The law requires withholding on certain payments to FFIs and NFFEs with respect to those accounts, but the withholding requirements do not apply to FFIs that enter into agreements (“FFI Agreements”) with the IRS to identify and report on their “U.S. accounts” and for NFFEs that provide information about their “substantial U.S. owners.” The FATCA provisions are generally effective for payments made after December 31, 2012. More comprehensive guidance is anticipated before the effective date of the FATCA provisions.

Overview of FATCA provisions

Section 1471 provides for a 30 percent withholding tax on “withholdable payments” made to FFIs that don’t enter into FFI agreements with the IRS involving significant due diligence and reporting requirements. Section 1472 provides for a 30 percent withholding tax on withholdable payments to NFFEs that don’t comply with certain reporting requirements. A withholdable payment is non-effectively connected (1) U.S. source fixed or determinable annual or periodical (FDAP) income; (2) U.S. source gross proceeds from sales of property that produce interest and dividend income; and (3) interest on deposits with foreign branches of domestic commercial banks (which are otherwise non-U.S. source income).

Notice 2010-60

The Notice provides guidance on a number of priority issues discussed below.

The definition of a financial institution under section 1471(d)(5). There are three types of financial institutions defined in the FATCA provisions, including entities that:

  1. accept deposits in the ordinary course of a banking or similar business;
  2. hold financial assets for the account of others as a substantial portion of its business; or
  3. engage primarily in the business of investing, reinvesting or trading in financial assets, includingsecurities, partnership interests and commodities, or any interest in such items.

Thus, the definition of an FFI can include such investment vehicles as hedge funds and private equity funds.

The Notice provides detailed descriptions of the three types of financial institutions and identifies foreign entities that are deemed to be compliant FFIs, as well as those that are not treated as FFIs or NFFEs and, thus, are exempt from withholding under both sections 1471 and 1472. For example, certain holding companies, start-up companies, non-financial entities liquidating or emerging from reorganization or bankruptcy and hedging financing centers of a non-financial group are exempt under the FATCA withholding regime. The Notice discusses the treatment of certain classes of entities, including entities with certain identified owners, U.S. territory organized FFIs, certain foreign retirement plans and certain insurance companies (future regulations will treat entities solely in the business of issuing insurance or reinsurance contracts without cash value, including most property and casualty insurance or reinsurance contracts or term life insurance contracts, as non-financial institutions).

It also sets forth guidelines for the treatment of FFIs with U.S. branches and controlled foreign corporations (CFC). An FFI with a U.S. branch will be required to execute an FFI Agreement to avoid being subject to withholding, unless the U.S. branch receives the payment as an intermediary, in which case, the documentation standards required of U.S. financial institutions are imposed (although there would be no withholding on effectively connected income). CFCs that meet the definition of an FFI will not be treated as deemed-compliant FFIs under section 1471(b)(2) and will be required to execute an FFI agreement.

The scope of collection of information and identification of persons by financial institutions under sections 1471 and 1472. In order to avoid withholding under §1471, an FFI that agrees to obtain, verify and report certain information about its account holders under its agreement with the IRS is treated as a participating FFI. Withholding agents and participating FFIs that make withholdable payments will have to determine the type of person to whom they are making a payment and comply with applicable statutory rules.

For accounts held by individuals, withholding agents and participating FFIs must determine whether the accounts are to be treated as:

  • U.S. accounts;
  • accounts of recalcitrant account holders; or
  • other accounts

For accounts held by entities, withholding agents and participating FFIs must determine whether the accounts are to be treated as:

  • U.S. accounts;
  • accounts of participating FFIs;
  • accounts of deemed-compliant FFIs;
  • accounts of nonparticipating FFIs;
  • accounts of entities described in section 1471(f);
  • accounts of recalcitrant account holders;
  • accounts of excepted NFFEs;
  • accounts of other NFFEs; or
  • other accounts.

The Notice describes the due diligence required to:

  1. determine whether an account maintained by the FFI is a U.S. or non-U.S. account;
  2. obtain information about the account that must be reported to the IRS, including the highest account balance of each U.S. account; and
  3. make certain re-determinations regarding certain accounts determined to be non-U.S. accounts or considered to be held by recalcitrant account holders.  

The Notice sets forth specific procedures for making these determinations. For instance, withholding agents and participating FFIs will be allowed to rely on forms W-9 and W-8BEN to establish the U.S. or foreign status of individual account holders. On the other hand, in order to identify accounts of participating FFIs, the IRS will issue special employer identification numbers (EINs) to participating FFIs in the future. Prior to the issuance of the special EINs, withholding agents and participating FFIs will be permitted to rely on certifications provided by FFIs as to their status as participating FFIs.  

The Notice also sets forth detailed due diligence procedures for pre-existing financial accounts held by individuals or other entities (in which case, certain presumptions are provided and the identification of such accounts is based on electronically searchable information in the FFIs’ files) or new financial accounts held by individuals or other entities (in which case, the determination generally must be based upon all information collected by the FFI).

The guidance contains somewhat parallel requirements for U.S. financial institutions and separate rules for accounts held with NFFEs. Future guidance will address situations where a participating FFI maintains an account of another participating FFI (the FFI with the more direct relationship with the investor or customer must report the required information about the U.S. account).

The scope of obligations exempt from FATCA withholding. FATCA will not apply to payments made under an obligation, or to proceeds from the disposition of an obligation, outstanding on March 18, 2012, subject to an exception for obligations that have been materially modified after March 18, 2012. For this purpose, an obligation is defined as any “legal agreement that produces or could produce withholding payments,” but does not include any instrument treated as equity under U.S. tax law or any legal agreement that lacks a definitive expiration or term.

Proposed Regulations Planned

IRS will issue proposed regulations incorporating the guidance in the Notice and will publish a draft FFI agreement and draft information reporting and certification forms.