April 2013
Simplified FATCA Overview
The Foreign Account Tax Compliance Act (FATCA) applies to all entities, not just to financial institutions. Therefore every entity has to be familiar with the FATCA rules. For sake of simplicity we will refer to an entity or taxpayer covered by FATCA as a “business.” It is important to note that U.S. and foreign businesses are subject to FATCA.
When a U.S. or foreign business makes a withholdable payment it is a FATCA withholding agent subject to the FATCA regime. A payment of any U.S. source interest, dividends, rents, salaries, wages, insurance or annuity premiums, insurance or annuity policy payments, compensations, remunerations, emoluments and other fixed or determinable annual or periodical gains, profits and income (FDAP income) made after December 31, 2021 constitutes a “withholdable payment.”
After December 31, 2021 the definition of a withholdable payment will be expanded to include gross proceeds from the sale or other disposition of any property of a type which can produce interest or dividends from sources within the United States.
A FATCA withholding agent must withhold tax at a 30 percent tax rate (the FATCA Tax) from its withholdable payments unless it has appropriate documentation or the payee is an excepted payee. Acceptable forms of documentation include a Form W-9 from “U.S. Persons”, a defined term which refers to any type of a U.S. entity, U.S. citizens and foreign nationals who are U.S. tax residents or an appropriate form in the W-8 series from any “foreign person,” i.e., a non-U.S. individual or non-U.S. entity. The current versions of the W-8 forms are generally valid for a 3 year period unless there is a change in circumstances.
When a U.S. payor is making a payment to a non-U.S. individual or non-U.S. company that has not previously provided a form in the W-8 series the payor must obtain an appropriate form from the new non-U.S. recipient. Starting in 2014 non-U.S. individuals are to provide the form W-8BEN while non-U.S. entities are to provide the new form W-8BEN-E. For those non-U.S. entities which are pass-thru intermediaries there is a new Form W-8IMY to be provided. Click here to see the revised Form W-8BEN, a draft of the new Form W-8BEN-E and a draft of the revised Form W-8IMY.
We suggest that any U.S. businesses that make withholdable payments consider implementing internal procedures to verify that their accounts payable department has a Form W-9 from every U.S. payee and a Form W-8 from each non-U.S. payee in its files. Note that the rules requiring a U.S. payor to have a W-9 or a W-8 on hand are not new. Because of the existing back-up withholding tax rules and the regular FDAP withholding tax rules these forms should already be available. The FATCA rules increase the importance of these forms and their safe keeping.
On audit, the IRS is likely to request copies of the Forms W-9 and forms in the W-8 series. If they cannot be produced the business will be liable for the 30 percent FATCA tax on its withholdable payments plus interest and penalties.
Starting January 1, 2017, pass-thru payments will be subject to the FATCA withholding. A business receiving any withholdable payments that happens to be making remittances to others may indirectly be making pass-thru payments of U.S. source income that are subject to the FATCA regime.
For example, Business X borrows funds from Entity Y which chooses not to provide appropriate FATCA data. Business X has 5 percent of its assets in U.S. institutions earning U.S. source withholdable income. When Business X makes an interest payment to Entity Y Business X is making a withholdable pass-thru payment subject to the FATCA tax and thus withholds 30 percent from 5 percent of its payments to Entity Y.
It is not unusual for a global group to include one or more entities that receive passive types of income such as a “Group Finance Company” or a “Group Insurance Company”. Such a group entity might constitute a foreign financial institution (FFI), a non-financial foreign entity (NFFE) or an “active NFFE” depending upon its particular facts and circumstances. FFIs, NFFEs and active NFFEs have to provide appropriate FATCA information to avoid being subject to the FATCA withholding tax.
When a business makes a payment to a FFI, a NFFE or an active NFFE, the payor needs to have information from the recipient so it knows how much FATCA tax, if any, it has to withhold.
A FFI can agree to participate in the FATCA regime and withhold the FATCA tax from payments to others who do not provide it with appropriate information. A participating FFI provides businesses making payments to it with a form in the W-8 Series, its global intermediary identification number (GIIN), its U.S. tax identification number (TIN) if it has a U.S. branch and/or a statement that it does not have any substantial U.S. owners or if it does have U.S. owners a list identifying the name, address and U.S. TIN of its substantial U.S. owners.
NFFIs who are FATCA compliant provides business making payments to it with a form in the W-8 Series, its U.S. tax identification number (TIN) if it has a U.S. branch and/or a statement that it does not have any substantial U.S. owners or if it does have U.S. owners a list identifying the name, address and U.S. TIN of its substantial U.S. owners.
All FATCA withholding agents are required to file a new Form 8966 to report recipients that received or could have received withholdable payments. The FFIs and/or NFFEs receiving the withholdable payments are identified along with information about the recipients’ substantial U.S. owners.
Withholdable payments must be reported to the IRS on a newly revised Form 1042 that will be used to report payments made in 2014 and later years. This form requires more detailed information about the immediate and ultimate recipients of the payments than has been requested in the past. Businesses should review their data collection procedures to ensure that they capture all required information for the redesigned form. Click here to see the draft revised Form 1042.
Many global groups use a third-party non-U.S. financial institution for global cash management services. Foreign financial institutions that provide cash management services must become FATCA compliant to avoid being subject to the 30 percent FATCA tax on the U.S. source withholdable payments they receive.
Global groups may also use non-U.S. bank counterparties in their hedging activities. These arrangements might be direct or indirect (e.g., through the assignment in a multi-branch or multiparty agreement). Hedging transactions may create U.S. source payments that arise from collateral arrangements, up-front payments and/or transactions with respect to U.S. equities. If any payments to a foreign counterparty are U.S. source the foreign counter-party must become FATCA compliant to avoid the FATCA tax.
We note that many businesses make payments to insurance companies and banks organized outside of the United States. These businesses must ascertain whether the foreign insurance companies receiving their premiums or the foreign banks receiving their interest or other U.S. source FDAP income are FATCA compliant. If the insurance company or the foreign bank is not FATCA compliant then the business is required to withhold 30 percent from any withholdable payment it makes.
Under the grandfathering rule, a withholdable payment does not include a payment made on an obligation outstanding on January 1, 2014. In general, withholdable payments made on or after January 1, 2022 to non-FATCA compliant FFIs or NFFEs which are not associated with a grandfathered obligation are subject to the FATCA withholding. However, withholding from payments of proceeds does not begin until January 1, 2017.
A non-U.S. company (e.g., a NFFE) whose stock is regularly traded on an established securities market is excepted from FATCA withholding (i.e., an “excepted NFFE”). This exception also applies to any non financial institution entity owned more than 50 percent by the public company. Such an organization would identify this by completing the appropriate sections of the new Form W-8BEN-E.
Note that an entity owned exactly 50 percent or less by a foreign public company is not eligible for this exception. Thus a jointly-owned entity which does not qualify as an excepted NFFE must become FATCA compliant to avoid the imposition of the FATCA tax on its withholdable revenues.
The year 2014 will soon be here. It is important for every business to analyze its transactions so as to be able to implement policies and procedures to comply with the new FATCA withholding rules.
For assistance with addressing your FATCA compliance needs please feel free to contact
Mike Mathisen, Partner | 646.375.3825 | [email protected]
Jim Lawson, Principal | 215.557.2063 | [email protected]
Ellen Hickman, Director | 215.972.2528 | [email protected]
Robert Arthur, Principal | 215.557.2285 | [email protected]
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