Fatca: Disclose, Withhold or Disinvest? Program Selected highlights and client implications


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FATCA: Disclose, Withhold or Disinvest?


Program

  • Selected highlights and client implications

  • Special issues for trustees

  • Comments and strategies

  • Q&A

    • Comments / questions forwarded to Treasury only if specifically requested


What is FATCA?

  • All FFIs subject to 30% gross withholding on US investments

  • Unless

  • Enter into ‘FFI Agreement’ to

    • Identify clients; and
    • Withhold where relevant


The Road to FATCA

  • LGT and UBS scandals

  • The trouble with treaties and TIEAs

  • OECD standards don’t address the problem

  • I don’t know what I don’t know



FFI Obligations

  • What must an FFI do?

    • Identifying US clients and disclosing account details;
    • Withholding on account holders refusing to be identified;
    • Withholding on any FFI not entering adopting these procedures;
    • Closing the account of anyone protected by banking secrecy laws who fails to waive the protections of such laws


Financial Institution Defined

  • Accepts deposits in ordinary course of banking or similar business – 1471(d)(5)(A);

  • Holds financial assets for the account of others as a substantial portion of its business – 1471(d)(5)(B); or

  • Engaged primarily in the business of investing… – 1471(d)(5)(C)



‘Financial Institutions’ Generally Affected

  • Banks (whether commercial or savings), savings and loans, thrifts, credit unions, building societies, etc.

  • Broker dealers, clearing organizations, custodians, employee benefit plans, trust companies, etc.

  • Hedge and private equity funds, funds of funds, mutual funds, ETFs and all other collective investment and securitisation structures



Comments on Selected FFIs

  • Funds

  • Employee benefit plans

    • Limited ‘same country’ exception
  • Trust companies and individual trusts

  • Life insurance companies



Identifying ‘Account Holders’ - Individuals

  • Existing accounts v New accounts

  • Pre-existing individual accounts

    • Search electronic databases for indicia of US status
    • Where US, must obtain W-9
    • Where US place of birth or mailing/residence address
      • If claiming non-US status, W-8 plus non-US passport
    • Other indicia only require W-8
      • Beware ‘care of’ and ‘PO Box’ addresses generally
  • Transition to new account rules

    • Five years generally
    • Two years where account greater $1,000,000
  • New accounts

    • Documentary evidence required


Identifying ‘Account Holders’ - Entities

  • Entities

  • Classify entity as FFI or NFFE

    • Participating, non-participating, deemed compliant, excepted, recalcitrant or other…
  • Identify each individual with an ‘interest’; and

    • Obtain documentation applicable to new individual account holders
  • New accounts

      • must refer to all information collected
      • regardless of whether electronically searchable…


Frequent Reactions

  • But we don’t have US clients…

  • We’ll stop taking on US clients….

  • Do you have US investments?

    • All that matters!!!


Frequent Reactions

  • But we don’t have US clients…

  • We’ll stop taking on US clients….

  • Do you have US investments?

    • All that matters!!!


Client’s Perspective

  • Implications for all US taxpayers not fully tax and reporting compliant

  • Am I US?

    • Citizen;
    • Green card holder; or
    • Resident
  • Worldwide tax and reporting

    • Regardless of residence
    • Credits generally available for taxes paid, but must be claimed!


Client’s Perspective - Expatriation

  • Expatriation?

    • Citizens
    • Green card holders
  • Exit tax regime from mid 2008

    • Deemed sale of assets
    • Tax on deemed gains in excess of $600,000
    • Additional implications
  • Exceptions

    • Dual citizens from birth
    • Age 18 1/2


Client’s Perspective – Expatriation

  • What if not fully tax and reporting compliant?

  • Expatriation exit tax regime applies unless

    • Can certify full compliance for last five years
  • Voluntary disclosure



Client’s Perspective – Voluntary Disclosure

  • Special disclosure program expired 15 October 2009, BUT

  • Long standing IRS voluntary disclosure policy

    • See IRM 9.5.11.9 — Voluntary Disclosure Practice
    • No criminal prosecution
    • Must come to IRS before they come to you
    • Several options for proceeding – ‘Quiet’ v ‘Noisy’
  • Most recent UBS client sentence

    • 50% account value, plus tax interest and other penalties
    • One year jail followed by house arrest


  • Implications of the New HIRE Act Rules:

  • The Trustee View



Overview

  • Recent History of Foreign Trust US Tax Concerns

  • Is a Trust an FFI? NFFE?

  • Disclosure and Identification Rules as to beneficiaries and settlors

  • Additional Hire Act rules implicating trusts



Recent History of Trustee US Tax Concerns

  • Distinctions between “foreign trust” vs “US trust” and “grantor trust” vs. “non-grantor trust”

  • Application of QI rules beginning in early 2000’s

  • Proper trustee and beneficiary disclosures on

    • Trust distributions
    • Holding companies
    • Foreign bank accounts
  • Now FATCA



Trust As NFFE – US Persons with a ‘Substantial Interest’ (10% Interest?)

  • Beneficiaries or settlor?

  • Foreign grantor trust – settlor

    • 1473(2)(A)(iii)(I)
    • Trust revocable or or distributions limited to settlor / spouse during settlor’s lifetime
    • Slightly different rules for certain pre Sept 19, 1995 trusts
  • Foreign non-grantor trust – beneficiaries

    • 1473(2)(A)(iii)(II)


Trust as NFFE - Beneficiaries of Discretionary Trusts as ‘Account Holders’

  • Who is a beneficiary:

    • Letter of wishes?
    • Will new IRC section 679 provisions apply?
  • Potential beneficiary attribution regimes:



Identifying Trust ‘Account Holders’

  • Where to begin?

  • Notice requires

    • Identify each individual with an ‘interest’; and
    • Obtain documentation applicable to new individual account holders
    • New accounts
      • Must refer to all information collected
      • Regardless of whether electronically searchable
      • Notice section III.B.3.b.


But is a Trust / Trust Company An FFI? FATCA - Financial Institution Defined

  • Accepts deposits in ordinary course of banking or similar business – 1471(d)(5)(A);

  • Holds financial assets for the account of others as a substantial portion of its business – 1471(d)(5)(B); or

  • Engaged primarily in the business of investing – 1471(d)(5)(C)



‘Financial Institutions’ Generally Affected – AND NOTICE POTENTIALLY AFFECTING TRUSTS

  • Banks (whether commercial or savings), savings and loans, thrifts, credit unions, building societies, etc.

  • Broker dealers, clearing organizations, custodians, employee benefit plans, etc. [ TRUST COMPANIES? (PTC’s??) ]

  • Hedge and private equity funds, funds of funds, mutual funds, ETFs and all other collective investment and securitisation structures [ INDIVIDUAL TRUSTS ?? ]



Trusts and Trust Companies

  • Trust companies

  • Trusts

    • ‘Small family trust’ listed as an example of an FFI
    • FFI status supposedly arising under Section 1471(d)(5)(C) which requires that the entity be primarily in the business of investing
    • Notice 2010-60 section II.B.3.


Trusts as FFIs?

  • Primarily in the business of investing?

  • Existing US classification rules indicate otherwise

    • Regulation section 301.7701-4
    • Ordinary trusts
      • arrangement to protect property for beneficiaries
    • Business trusts
    • Investment trusts
      • generally classified as a ‘business entity’ for US purposes


Trusts as FFIs (con’t)

  • Trusts as FFIs effectively contradicts other FATCA provisions

  • Section 1473(2)(A)(iii)(II) and 1473(2)(B)

    • Substantial US account holder exists where > 10% of trust attributed to US person; but
    • Where FFI is primarily in business of investing, substantial US ownership exists if anything attributed to a US person
    • If all trusts are treated as FFIs, then 10% test can never apply to trusts not withstanding express language that it does apply to trusts


OTHER HIRE ACT RULES- Reporting of Specified Foreign Financial Assets

  • In addition to current FBAR reporting

  • Reporting of “specified foreign financial assets” that exceed $50,000 (aggregate)

    • Any financial account maintained by a foreign financial institution;
    • Any of the following assets not maintained in a foreign financial account: non-US stock; any interest in a non-US entity; any financial instrument or contract with a non-US counter-party


Reporting of Specified Foreign Financial Assets

  • Applies to US individuals; IRS has authority to extend to US entities

  • May apply without regard to whether that individual owns more than 50% interest in trust owning such foreign accounts or assets

  • Reporting on US income tax return (IRS Form 1040)

  • Failure to report subject to penalty of $10,000; additional penalties up to $50,000 could apply



Passive Foreign Investment Company Reporting

  • Definition of Passive Foreign Investment Company (PFIC)

    • 75% of gross income is passive income or 50% average passive assets
  • Old rule (IRS Form 8621)

  • New rule

    • annual reporting obligation regardless of whether any taxable event has taken place during the year


Uncompensated Use of Trust Property

  • Deemed distribution of income or gains

    • Only for uncompensated use of trust property
    • Only if used by US person beneficiary
    • Only for foreign (non-US) trusts
  • Amount of distribution equal to the FMV use of property;

    • Taxable if trust generates income or gains
    • Interest charges if there is accumulated income or gains
    • In all events, reporting of distribution
      • Information statement from trustee to meet US reporting obligations


Uncompensated Use of Trust Property

  • Impacts any foreign trust that holds property used by a US person

    • Real property, art, jewelry, automobiles, yachts and airplanes.
  • Exception where beneficiary pays FMV for use of property within a “reasonable period of time”

    • Rent payment can give rise to passive income subject to 30% withholding


Uncompensated Use of Trust Property—Planning Options

  • Segregate the use property in a separate “dry” foreign trust

  • Domesticate the use property to a US trust (watch for carrying out income)

  • Sell property to a grantor trust (watch for gain recognition)



Responses to the New Hire Act Rules: Comments and possible strategies

  • Richard Cassell, Withers LLP London

  • 26 October 2010



IRS Notice 2010 – 60

  • These are only proposals and are open for comment

  • IRS specifically is looking for comments as to impact on trusts and practical trust issues

  • We are assembling comments from interested parties

  • In order to be effective the comments must be specific and targeted. There is no point in requesting blanket exemptions or grandfathering



Surprises in the Notice

  • Every trust is an FFI – not the trustee, but the trust, but not undefined “small family trusts”

  • Does offer opportunity for a trust to elect to participate separately from trustee but of limited practical use

  • Multiplicity of reporting, for example, for private trust companies with professional service provider, but confusion about responsibility (custodian? Paying agent? FFI?)

  • Concept of US financial institution – treated like a participating FFI but not defined – does it include US partnerships and US trusts?

  • As a result of all trusts being FFIs this ignored Section 1472 definitions of US owners and 10% restriction



Comments

  • IRS will be deluged with pointless information (like the FBAR reports) as a result of including every non-US trust in the world as an FFI. Should only trustees be FFIs not trusts?

  • Should the definition of “small family trust” be expanded? How big is small? What is a family?

  • Will the disclosures be limited to the last participating FFI in the chain or will intermediate participating FFIs be required to maintain parallel disclosure? What about potential inconsistencies in disclosure?

  • Will certification by a participating FFI provide effective disclosure exemptions?

  • Should there be any separate category for charities?

  • How do you value a US beneficiary’s discretionary trust balance?



Strategies

  • Segregate trusts between those with US and non-US investments. Those with only non-US investments can be non-participating FFIs.

  • Generally strategy must be to manage the disclosure. We expect clients will generally need a participating FFI – it must be preferable to control the disclosure in the FFI

  • A strategy to limit disclosure to third parties may be to use a US partnership to segregate all US investments and to manage the disclosure – a strategy that could exploit the exemption for family offices that we expect under Dodd-Frank regulations

  • Eliminate US beneficiaries who are not intended actually to benefit from discretionary trusts



Client reactions

  • Anticipate disclosure or divest from US but a strategy to avoid all US investments seems very restrictive

  • If the clients are non-compliant the voluntary disclosure program is still open for business and this is the opportunity to become compliant

  • We anticipate that some compliant clients may use this as the opportunity to look at expatriation –covered expatriate limit is currently $2m




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