FATCA – are we nearly there yet?

The International Tax Compliance (United States of America) Regulations 2013 ('Regulations') came into force on 1 September 2013.

The Regulations implement the UK-US intergovernmental agreement ('IGA'), which in turn implements the wide-ranging and long-awaited, Foreign Account Tax Compliance Act ('FATCA') into UK law.

The advent of FATCA may, when the dust has finally settled, be regarded as either an important turning-point in international tax cooperation or a case study in how not to attempt to introduce new extra-territorial law.

Either way, we are fast approaching the date for FATCA to go 'live' (albeit in stages) and the booming FATCA advisory, lobbying and implementation industries are working hard to ensure that those who are affected by FATCA are aware of their obligations.

What is FATCA?

For readers who are not familiar with FATCA, its origins and objectives can be shortly stated.

FATCA is a piece of US tax legislation, enacted in 2010, and designed to prevent tax evasion by US citizens and residents. The Obama administration perceived there to be widespread tax evasion by US persons holding either (i) "accounts" in foreign (i.e. non-US) financial institutions ('FFIs'), which include banks, brokers, certain insurers and custodians to name but a few, or (ii) "substantial" interests in non-US, non-financial, entities ('NFFEs').

What FATCA will do is effectively force FFIs and NFFEs to provide certain information to the Internal Revenue Service ('IRS') on US persons.

The 'stick' with which FATCA encourages FFIs and NFFEs to report the information is the punitive threat of a new 30% withholding on US source payments that include dividends, interest, rents, salaries and gross proceeds (not just gains) on sale of US dividend and interest producing assets.

In order to avoid being hit by this new 30% withholding, FFIs in particular, would have been required to enter into an agreement with the IRS requiring annual reporting, closure of accounts held by certain persons and obliging the FFI itself to withhold on certain payments it made to others. It now seems that many FFIs, at least in the UK, will not have to go down this path (see below).

Inevitably, there is much more to FATCA than this short summary (over 400 pages in the final US regulations, not to mention associated IRS guidance, UK legislation and draft HMRC guidance!).

An international backlash

It is fair to say that FATCA has not been well received, at least outside the US. There are few FFIs and NFFEs, at least of any significant size, that have the luxury of being able to ignore FATCA on the basis that they have no US investments (whether or not they also have US account holders or interested persons).

From the outset, the wide definitions of "financial institutions" and "financial accounts" have resulted in unprecedented lobbying of the IRS and US Treasury as various governments, trade bodies and individual institutions have all sought to comment on FATCA.

In a number of important jurisdictions, not least the UK, serious legal impediments meant that FFIs simply could not comply with their obligations under the terms of a FATCA agreement with the IRS.

In addition, the element of the FATCA rules described as the "passthru payment" regime had potentially far-reaching extra-territorial effect. These rules will require FFIs to withhold on payments they make to other FFIs, if the other FFI is not FATCA-compliant. The situation could therefore arise where, say, a UK bank with US investments would have to withhold under FATCA on payments it made to a German bank, even if neither had any US account holders. The question as to how to 'solve' the passthru payment problem has been parked for now, but it certainly added to the early international concern over FATCA.

It eventually became clear that FATCA, in its original format, was impractical and in many instances unworkable.

An international solution?

In a February 2012 joint statement the US and UK, Germany, France, Italy and Spain paved the way for an internationally cooperative approach to reporting under the FATCA rules (and perhaps beyond – see below).

Designed to overcome the local law barriers on reporting information direct to the IRS, the IGA allows FFIs to meet their FATCA obligations by reporting the required information on US persons direct to their local tax authorities. HMRC, in the UK context, will then pass the information on to the IRS.

Under the terms of the IGA, FFIs in the UK are freed from the threat of FATCA withholding.

The IGA includes 'reciprocal' obligations requiring US financial institutions to report similar, but by no means identical, information on their (UK) account holders to the IRS (to be passed on, in the UK's case, to HMRC).

Delaying the inevitable?

FATCA was originally scheduled to take effect from 1 January 2013.

FATCA 'd-day' has been pushed back on several occasions. At the time of writing, FATCA is expected to go 'live' in accordance with the following timetable (key dates only):

• IRS will publish its first list of 'compliant' FFIs on 2 June 2014
• FATCA withholding will begin from 1 July 2014 (on US-source payments, except gross proceeds). Payments made on or after this date in respect of certain (broadly, debt) existing obligations will be "grandfathered" and therefore not subject to FATCA withholding
• FATCA withholding on gross proceeds from the sale of property that produces US-source interest or dividends will begin from 1 January 2017
• From 1 January 2017 (at the earliest) FATCA withholding will begin on "foreign passthru payments"

There are complex transitional rules for 'pre-existing' accounts (i.e. those opened before 1 July 2014) and detailed reporting requirements for those FFIs that choose to comply with FATCA by way of agreement with the IRS or which are able to take advantage of an IGA.

Comment

Despite the criticism (of which there has been much) there is a school of thought that the US, being the only country that could unilaterally impose a regime like FATCA, has taken the first, important step along a path that will see a proliferation of FATCA-like arrangements in the years to come.

Over the summer, the IRS confirmed that in addition to those countries which had already signed an IGA, it was in negotiation with a further 80 countries. Not all IGAs will be reciprocal (requiring US institutions to also report information), but it is clear that many countries are now giving serious thought to ways in which they can beef up their tax information exchange arrangements with other countries.

The UK's Crown Dependencies and British Overseas Territories have each agreed to enter into FATCA-style automatic tax information exchange agreements with the UK.

The G8 leaders in June this year committed "to establish the automatic exchange of information between tax authorities as the new global standard".

Love it or hate it, it would appear that the principle underlying FATCA is here to stay.