The Hiring Incentives to Restore Employment Act (the HIRE Act), in an effort to reduce the evasion of U.S. tax obligations through the establishment of accounts at foreign financial institutions (FFIs) or by holding assets through other, nonfinancial foreign entities (NFFEs), included the provisions that are now commonly referred to as FATCA.[i] FATCA generally will impose a 30% withholding tax on all withholdable payments made to FFIs and NFFEs. "Withholdable payments" are defined as any payments of interest, dividends, rents, salaries, and other fixed or determinable annual or periodical (FDAP) gains, profits, and income from any U.S. source, as well as gross proceeds from the disposition of property that can produce U.S. source interest or dividends.
Since the enactment of the legislation, three substantive Notices and a first draft of IRS Form 8938 have been published. On August 27, 2010, the U.S. Treasury and the Internal Revenue Service published Notice 2010-60, providing initial guidance regarding FATCA. Under that Notice, the 30% withholding tax will not apply to (i) entities that enter into certain withholding and information reporting agreements with the IRS (Participating FFIs), (ii) entities for which other reporting procedures have been provided (Deemed-Compliant FFIs), and (iii) other specifically excepted categories of entities. In addition, pursuant to a grandfathering provision, proceeds from certain obligations that are outstanding on March 18, 2012, will not be subject to the withholding tax. The details of Notice 2010-60 are explained more fully in our previous client alert, IRS Issues Guidance on New FATCA Withholding Obligations, distributed on October 7, 2010.
Notice 2010-60 was supplemented on April 8, 2011, by Notice 2011-34, which clarified and replaced some of the earlier guidance. Notice 2011-53, released July 14, 2011, describes a timeline for phased implementation of the FATCA provisions, following numerous comments to Treasury and the IRS concerning practical difficulties created by the additional compliance burdens and the January 1, 2013, effective date of the legislation. In particular, Notice 2011-53 provides that withholding obligations of withholding agents with respect to dividends, interest, and certain other U.S.-source payments (FDAP payments) will be delayed until January 1, 2014. An FFI can avoid withholding by registering as a Participating FFI and entering into an FFI Agreement by June 30, 2013. Withholding with respect to other withholdable payments (including the obligation of Participating FFIs to withhold on passthru payments) will not begin before January 1, 2015.
Additionally, Notice 2011-55 (issued by the IRS on June 21, 2011) suspends the requirement that individuals attach Form 8938 (used to report information regarding certain foreign financial assets) to income tax returns that are filed before the release of Form 8938. A draft of Form 8938 was released the next day, but the filing obligation will not commence until Form 8938 is finalized.
The memorandum below summarizes Notice 2011-34, Notice 2011-53 and Notice 2011-55. Please contact any Gibson Dunn tax lawyer to discuss the best way to prepare for the forthcoming compliance obligations.
Updates and Phased Implementation
Withholdable payments will not be subject to withholding under FATCA if they are made to Participating FFIs. A Participating FFI is an FFI that enters into an agreement (an FFI Agreement) with the IRS regarding certain due diligence, withholding, and reporting obligations with respect to certain accounts made by the FFI. Notably, a Participating FFI agrees to withhold 30% on all passthru payments to recalcitrant account holders (i.e., account holders that fail to provide reasonable information solicited by an FFI pursuant to its FATCA reporting obligations) or non-Participating FFIs.
Notice 2011-34 provides that Treasury and the IRS intend to issue regulations which characterize a payment made by an FFI (the Payor FFI) as a passthru payment to the extent of (i) the amount of the payment that is a withholdable payment, plus (ii) the amount of the payment that is not a withholdable payment multiplied by the passthru payment percentage of either the Payor FFI or, in the case of custodial payments, the entity that issued the interest or instrument. "Passthru payment percentage" is explained in Notice 2011-34 as a metric reflecting the ratio, updated and published quarterly, of an entity's U.S. assets to its total assets. Notice 2011-34 provides rules for calculating an FFI's passthru payment percentage. A "custodial payment" is a payment with respect to which an FFI acts as a custodian, broker, nominee, or otherwise as an agent for another person.
Categories of Deemed-Compliant FFIs
Notice 2011-34 specifies three categories of FFIs that will be considered "Deemed-Compliant FFIs" for purposes of FATCA, and that will therefore be exempt from the withholding and reporting requirements.
- Certain local banks. Under forthcoming regulations, each FFI in an expanded affiliated group (discussed in more detail below) will be treated as a Deemed-Compliant FFI if all such FFIs (i) are licensed and regulated as banks or similar organizations, (ii) are organized in the same country (and neither have operations nor solicit account holders outside such country), and (iii) implement policies to ensure they do not open or maintain accounts of non-residents, non-Participating FFIs, or NFFEs (other than Excepted NFFEs).
- Local FFI members of Participating FFI Groups. Any FFI that is a member of an expanded affiliated group that includes one Participating FFI (each an FFI Member of a Participating FFI Group) will be treated as a Deemed-Compliant FFI if the FFI Member (i) does not maintain operations or solicit accounts outside its country of organization, (ii) implements certain account identification procedures required of Participating FFIs, and (iii) enters into an FFI Agreement if any U.S. accounts, accounts of non-Participating FFIs, or accounts of NFFEs are discovered.
- Certain investment vehicles. A fund will be treated as a Deemed-Compliant FFI if (i) all holders of the fund's units are Participating FFIs or Deemed-Compliant FFIs holding units on behalf of other investors, or are described above as falling into a category of FFIs exempt from all FATCA withholding; (ii) the fund prohibits subscription by any entity not described in (i); and (iii) the fund certifies that its passthru payment percentages[ii] will be published according to the procedures set forth in Notice 2011-34.
Notice 2011-34 adds that Treasury and the IRS intend to provide additional guidance regarding the types of foreign retirement plans or retirement accounts that will be deemed compliant.
Reporting on U.S. Accounts
A Participating FFI agrees in the FFI Agreement to report certain specific information to the IRS with respect to each U.S. account, including account balances or values, as well as gross receipts by and gross payments from the account. In response to comments that compliance could be potentially burdensome, Notice 2011-34 limits the account balance reporting obligations to year-end balances, and provides for more limited reporting of gross receipts and gross withdrawals in the case of depository accounts and custodial accounts maintained by FFIs.
Participating FFIs must also identify the branch that maintains the U.S. account that is being reported. Because commentators have indicated that certain local laws may forbid consolidation of account holder information across branches, Treasury and the IRS intend to issue guidance permitting FFIs to elect to have each branch report information regarding the U.S. accounts that it maintains.
With respect to U.S. accounts for which a Form W-9 has been obtained by June 30, 2014, Participating FFIs will only be required to report limited information for the first year of reporting, due September 30, 2014. This limited reporting includes the name, address, and identification number of each account holder; the account balance as of December 31, 2013 (or closing balance, if applicable); and the account number.[iii] This is intended to provide Participating FFIs with greater flexibility to satisfy the reporting requirements. Reporting in future years will require full compliance with the mandates of Notice 2010-60, Notice 2011-34, and future regulations. For each account for which the Participating FFI is unable to report the required information (e.g., because the account holder has not waived applicable reporting restrictions), the FFI should report the account as a recalcitrant account holder in accordance with the rules prescribed in Notice 2010-60. The reporting of recalcitrant account holders identified by June 30, 2014, must also be filed by September 30, 2014.
Identifying Individual Accounts
A Participating FFI must have in place procedures for opening new accounts on or after the effective date of its FFI Agreement in order to identify U.S. accounts (pursuant to the rules described in Notice 2010-60).
Previous guidance set out procedures by which Participating FFIs would identify their U.S. accounts. Recent guidance replaces the procedures in the earlier guidance applicable to certain pre-existing accounts. Please see Notice 2011-34 for detailed procedures for identifying U.S. accounts among pre-existing individual accounts. For identification of U.S. accounts among corporate accounts and new individual accounts, please see Notice 2010-60.
As explained in Notice 2011-34, the chief compliance officer of the FFI must certify to the IRS that the procedures were followed within prescribed time frames from the effective date of the FFI Agreement, including a certification that employees did not assist account-holders in avoiding identification of their U.S. accounts.
Notice 2011-53 prescribes deadlines for these due diligence procedures. A Participating FFI will be required to have completed certain identification procedures applicable to pre-existing private banking accounts (i) within one year of the effective date of its FFI Agreement for accounts with a value of at least $500,000 on the effective date, and (ii) within the later of December 31, 2014, or one year after the effective date of the FFI Agreement for all other pre-existing private banking accounts. Due diligence procedures described in Notice 2010-60 and supplemented by Notice 2011-34 must be completed for all other pre-existing accounts within two years of the effective date of its FFI Agreement. Future regulations will provide that an account that has been identified as a U.S. account or a non-U.S. account will not be subject to additional due diligence procedures unless the account undergoes a change of circumstance.
Treasury and the IRS intend to require FFIs currently acting as Qualified Intermediaries, Foreign Withholding Partnerships, or Foreign Withholding Trusts to consent to include in their agreements the requirement to become Participating FFIs, unless they qualify as Deemed-Compliant FFIs. Treasury and the IRS also intend to coordinate the FATCA withholding and reporting requirements with the requirements presently applicable to such entities.
Expanded Affiliated Groups
In general, the requirements imposed on an FFI under FATCA also apply to each other FFI that is a member of the same expanded affiliated group that includes the FFI (each an FFI Affiliate of an FFI Group). Treasury and the IRS intend to issue regulations requiring that each FFI Affiliate in an FFI Group must be a Participating FFI or a Deemed-Compliant FFI. Notice 2011-34 provides for coordinated FFI Agreement execution procedures, pursuant to which a Lead FFI from the FFI Group will be designated as a central contact point to interface with the IRS, though each FFI Affiliate will be responsible for its own obligations under its FFI Agreement with respect to its account holders.
Treasury and the IRS also intend to provide FFI Groups with an option whereby a designated FFI would assume an oversight role with respect to compliance by the FFI Group. This may include establishing policies and procedures for the FFI Affiliates, ensuring that the FFI Affiliates have adopted and implemented the procedures, and accounting to the IRS with respect to each FFI Affiliate's compliance. Future guidance may extend this centralized compliance option to funds associated with a common asset manager or other agent.
Registration of Participating FFIs
The IRS will begin accepting FFI applications by electronic submission no later than January 1, 2013. An FFI must enter into an FFI Agreement by June 30, 2013 in order to ensure that it will be identified as a Participating FFI in sufficient time to avoid withholding at the beginning of 2014. The effective date of an FFI Agreement entered into any time before July 1, 2013, will be July 1, 2013. The effective date of an FFI Agreement entered into after June 30, 2013, will be the date the FFI enters into the Agreement.
All qualified intermediary, withholding foreign partnership, and withholding foreign trust agreements (each, a Withholding Agreement) of entities qualifying as FFIs that expire on December 31, 2012, will be automatically extended to December 31, 2013. An FFI that enters into an FFI Agreement on or before December 31, 2013, will be considered to have renewed its Withholding Agreement.
Withholding and Expiring Withholding Agreements
Withholding obligations of withholding agents with respect to withholdable payments will be implemented in two phases. For payments made on or after January 1, 2014, withholding agents (including Participating FFIs) will be obligated to withhold only on U.S.-source FDAP payments. For payments made on or after January 1, 2015, withholding agents must withhold on all withholdable payments. Participating FFIs will not be required to withhold on passthru payments (other than U.S.-source FDAP payments) made before January 1, 2015.[iv]
IRS Form 8938
The HIRE Act includes a requirement that any individual who during the taxable year holds an interest in any specified foreign financial asset (SFFA) must report on IRS Form 8938 (to be attached to his or her U.S. federal tax return for the taxable year) certain information with respect to each SFFA if the aggregate value of all of the individual's SFFAs exceeds $50,000. An SFFA is defined as (1) any financial account maintained by a non-U.S. FI, and (2) to the extent not held in an account maintained by an FI, any non-U.S. stock or security, any financial instrument or contract held for investment that has a non-U.S. issuer or non-U.S. counterparty, and any interest in a non-U.S. entity. The information that is required to be reported is as follows:
- in the case of an account maintained by a non-U.S. FI, the name and address of the FI and the account number;
- in the case of any stock or security, the name and address of the issuer and such information as is necessary to identify the class or issue of such stock or security;
- in the case of any instrument, contract or interest, such information as is necessary to identify such instrument, contract or interest, as well as the names and addresses of all issuers and counterparties; and
- the maximum value of the asset during the taxable year.
Notice 2011-55 (issued by the IRS on June 21, 2011) suspends the requirement to attach Form 8938 to income tax returns that are filed before the release of a finalized Form 8938. The IRS has since released a draft of the form, but the IRS has not yet issued instructions. The draft form separates foreign financial assets into two basic categories: deposit and custodial accounts, and other assets. To avoid duplicative reporting, the draft features a section for indicating foreign financial assets that are reported on other income tax forms.