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International Tax Planning/IOFC Analysis – The Foreign Account Tax Compliance Act

By Lowtax Editorial
10 January, 2013


The Foreign Account Tax Compliance Act, or FATCA for short, might be targeted towards US taxpayers, but it will have a huge impact on the banking industry in all corners of the world, in IOFCs as well as in the large onshore banking and asset management jurisdictions, and this feature gives the low-down on the legislation and how it will work in practice.

The Legislation

FATCA was enacted by the US in March 2010 as part of the Hiring Incentives to Restore Employment (HIRE) Act. The legislation is a key part of the Democratic administration’s efforts to clamp down on offshore tax evasion by US taxpayers, being a combination of Senator Carl Levin’s ‘Stop Tax Haven Abuse Act’ and President Obama’s 2009 budget proposals.

FATCA requires certain US taxpayers holding foreign financial assets with an aggregate value exceeding USD50,000 to report information about those assets on a new form (Form 8938) that must be attached to the taxpayer’s annual tax return.  Reporting applies for assets held in taxable years beginning after March 18, 2010.  Failure to report foreign financial assets on Form 8938 will result in a penalty of USD10,000 (and a penalty up to USD50,000 for continued failure after IRS notification).  Further, underpayments of tax attributable to non-disclosed foreign financial assets will be subject to an additional substantial understatement penalty of 40%.

FATCA is also intended to ensure that the US tax authorities obtain information on financial accounts held by US taxpayers, or by foreign entities in which US taxpayers hold a substantial ownership interest, at foreign financial institutions (FFIs). Failure by an FFI to disclose information would result in a requirement to withhold 30% tax on US-source income.

Under the legislation, a participating FFI will have to enter into an agreement with the IRS to provide the name, address and taxpayer identification number (TIN) of each account holder who is a specified US person; and, in the case of any account holder which is a US-owned foreign entity, the name, address, and TIN of each substantial US owner of such entity. The account number is also required to be provided, together with the account balance or value, and the gross receipts and gross withdrawals or payments from the account.  These provisions are generally effective for payments made after December 31, 2013, and apply to any US resident who holds more than USD50,000 in a depository or custodial account maintained by an FFI

On October 25, 2012, the IRS announced new timelines that extend the dates for withholding agents and FFIs to complete due diligence and other requirements under FATCA. Under FATCA regulations, an FFI must enter an agreement with the IRS to provide information on each account (including account ownership, balances and amounts moving in and out of the accounts) and US account holder by June 30, 2013, to ensure that it will be identified as a participating FFI in sufficient time to allow it to refrain from withholding, which would otherwise begin on January 1, 2014.

It had been indicated that withholding agents would have to have new account opening procedures in place by January 1, 2013. Institutions with US clients would be required to report basic account details for 2013 and 2014 by January 1, 2015, and the withholdable income of those clients would then need to be reported from January 1, 2016, with respect to calendar year 2015.

The IRS is now stipulating that withholding agents, including participating FFIs and registered-deemed compliant FFIs, will be required to implement new account opening procedures one year later than envisaged - by January 1, 2014.

In addition, the final FATCA regulations will provide that a participating FFI will be required to file the information reports with respect to the 2013 and 2014 calendar years not later than March 31, 2015, while the withholdable payments of clients will now need to be reported from January 1, 2016, with respect to calendar year 2015.

FATCA Becomes Reality

Given its extra-territorial reach, it was at first thought that FATCA would be practically unenforceable. But implementation is now at an advanced stage, and with dozens of countries having agreed in principle to participate in the passing of information about bank account holders to the US Internal Revenue Service, only a repeal of the legislation can probably scupper it. However, with the re-election of President Obama in November 2012, and the continuation of split Congress for at least another two years, this seems unlikely.

Details of model intergovernmental agreements that will facilitate the information exchange provisions follow as a supplement below.

Although it may appear that foreign governments and financial institutions have been brow-beaten by the US government into accepting FATCA, this hasn’t stopped many of them raising concerns about the amount of administration involved and the costs that this will impose on the financial services industry (costs that may ultimately be passed on to consumers, regardless of their nationality).

Canada has been especially vocal on the subject, with Finance Minister Jim Flaherty going as far as writing an open letter to several US publications in 2010 to assert that Canada was no ‘tax haven’ and that FATCA would swamp Canadian taxpayers in red tape and accomplish little.

Even the European Union, certainly no stranger to extra-territorial rule-making with its Savings Tax Directive, has used official channels to express concern over the widespread impact of FATCA.

Predictably, EU financial institutions (including banks, investment funds and insurance companies) have also expressed concern about the legislation, in particular the costs of compliance and penalties that will ensue in case of non-compliance. The European financial industry has estimated that the costs of modifying their IT systems, and the administrative burden of ensuring compliance with FATCA, would be significant. While no official estimate of these costs exists, it is thought to be well into the billions of dollars and probably more like tens-of-billions. Indeed, KPMG has predicted that FATCA will cost the industry much more than it is likely to raise for the IRS.

Recent research has suggested that FFIs are struggling to have the systems in place on time to comply with the legislation.

It was said in a report published by Fenergo, which provides compliance software to the finance industry, that 65% of FFIs are having difficulties completing the client identification process with regard to FATCA due to various problems within their client data retention systems. The report, "The Road To FATCA," is based on a survey that was conducted in September last year with FFIs running the full spectrum of financial services, including investment, corporate, retail and private banks. According to Fenergo’s findings, the biggest impact of FATCA will be felt in the area of customer due diligence or ‘know your customer’ processes. A huge 79% of FFIs are expecting FATCA to have either a high or medium impact on those processes (where processes will have to be rewritten, reviewed and/or amended). The survey also illustrates how FFIs will expect to collect additional data and documentation as part of the self-certification process, revealing that 30% of FFIs expect between 5%–49% of their client base to have to complete self-certification; 17% expect over 50% of their client base to complete it; 53% anticipate less than 4% of their client base having to self-certify that they are or are not US persons/entities; and up to 42% of FFIs are either using or plan on using an online portal to collect forms.

IOFCs Come On Board

After intensive discussions with foreign governments, the US Treasury Department issued a joint statement with France, Germany, Italy, Spain and the UK in February 2012 expressing mutual intent to pursue a government-to-government framework for implementing FATCA – an important step toward addressing legal impediments to FFIs’ ability to comply with the regulations. Since then, dozens of other jurisdictions have expressed interest in making agreements with the US government according to this framework, including several offshore territories.

The intention is that the three British Crown Dependencies – Guernsey, Jersey and the Isle of Man, will negotiate their own individual agreements which will follow the model intergovernmental agreement published by the US government on July 26 (see below) and these will be similar in form to the agreement between the United Kingdom and the US signed on September 12.

Fiona Le Poidevin, Chief Executive of Guernsey Finance, the promotional agency for the Island’s finance industry internationally, said that the agreement will be along the lines of the ‘Model I’ type agreement that the UK has signed with the USA."

She explained:

“The financial services industry in Guernsey has been busy getting up to speed with FATCA. This announcement will be very well received by industry because it provides certainty for the future. That said, there is still much work to be done by those firms in preparation for FATCA and we will also have to wait to see the final form of the agreement which is reached between Guernsey and the US.

“Overall though this is a very positive step. It is also encouraging to see that the three Crown Dependencies are taking a common approach, which will also be welcomed by much of the industry and especially those who have offices in two or more of the islands.”

The Guernsey government has revealed that discussions have taken place at official level between the Crown Dependencies jointly and the US government, and formal negotiations will now take place with the intention of concluding intergovernmental agreements rapidly. Once signed, they will be subject to ratification by each of the island parliaments and implementation of the agreements will be through the domestic procedures relevant to each of the three jurisdictions.

Guernsey’s Chief Minister, Deputy Peter Harwood, said:

“Basing FATCA implementation on an intergovernmental agreement is preferred by industry in all three Crown Dependencies. We are pleased to confirm our joint intention to follow this approach with the US government. This announcement today provides certainty for our business community as they also prepare for FATCA."

“Entering into this type of arrangement highlights the cooperative approach of the Crown Dependencies to international tax matters and confirms Guernsey's commitment to being a well-regulated, internationally co-operative tax transparent jurisdiction. I am particularly pleased that the three Crown Dependencies have worked together and adopted a common position on this issue.”

In December 2012, Ireland and Switzerland concluded FATCA agreements with the US, while Luxembourg disclosed that negotiations towards an agreement would commence shortly.

Ireland signed the so-called ‘Agreement to Improve International Tax Compliance and to Implement the FATCA’ on December 21. Commenting on the signing, Finance Minister Noonan said: “Ireland is one of the first countries in the world to sign such an agreement with the United States and we welcome the opportunity to demonstrate Ireland’s commitment to helping combat international tax evasion. This agreement will have a positive impact on trade and investment between Ireland and the United States, and will provide certainty and clarity to Irish and American financial institutions who wish to do business with each other."

Switzerland and the United States initialled an agreement for the implementation of  FATCA on December 3, 2012. In particular, the US-Swiss agreement would ensure that accounts held by US persons at Swiss FFIs are reported either individually, with the consent of the account holder, or, if consent is not given, by administrative assistance channels through group requests. Under the latter, the FFI would be able to provide aggregate information on all such accounts to the Swiss tax authority, which would then be authorized to transmit the group data to the IRS. Therefore, if the holder’s consent is not given, detailed account information will not be exchanged automatically, but only on the basis of the future administrative assistance provision in a Swiss-US double taxation agreement, which is itself still being negotiated. In consideration of the above, the US has agreed to provide certain simplifications for some sectors within the Swiss financial industry. In particular, Social Security and private retirement funds, as well as casualty and property insurers, will be exempt from the application of FATCA; while collective investment vehicles, and Swiss financial institutions with a predominantly local clientele, can be deemed to be FATCA-compliant and subject only to a registration obligation.

Luxembourg’s Finance Minister Luc Frieden announced plans to begin negotiations on an inter-governmental agreement between Luxembourg and the United States, implementing FATCA, on December 17. The first round of bilateral talks took place on November 19, to prepare for upcoming negotiations, and the finance ministry revealed that the negotiations are expected to conclude in the first half of 2013.

While many other territories have not formally commenced negotiations with the US, several have been busy assessing the impact of FATCA on their finance industries, while others have been preparing the ground for talks with the US government.

In December, the Central Bank of Barbados confirmed that the territory has established a Working Group to negotiate an inter-governmental agreement (IGA) with the United States within the first half of 2013 to facilitate compliance with FATCA. The Central Bank said that in order to meet the January 1, 2014 deadline, the territory needed to adopt a proactive approach in recognition "that the growth and continuation of its international business sector depends on its compliance with this US initiative." To this end, a working group under the joint leadership of Invest Barbados and the Central Bank of Barbados and comprising representatives from the Ministry of International Business, the Inland Revenue Department, the Barbados International Business Association, the Institute of Chartered Accountants of Barbados and the Barbados Bankers Association, has been established to keep abreast of FATCA developments and to make recommendations to the Government of Barbados on its response," it said, reporting that these representatives had met twice in November.

The US Treasury Department revealed in November that it is in fact engaged with more than 50 countries and jurisdictions around the world to implement the information reporting and withholding tax provisions arising out of FATCA. Jurisdictions with which the Treasury was in the process of finalizing intergovernmental agreements at this time included: France, Germany, Italy, Spain, Japan, Switzerland, Canada, Denmark, Finland, Guernsey, Ireland, Isle of Man, Jersey, Mexico, the Netherlands and Norway. Jurisdictions with which the Treasury was actively engaged in a dialogue towards concluding an inter-governmental agreement include: Argentina, Australia, Belgium, the Cayman Islands, Cyprus, Estonia, Hungary, Israel, South Korea, Liechtenstein, Malaysia, Malta, New Zealand, Slovakia, Singapore and Sweden. Jurisdictions with which the Treasury is working to explore options for inter-governmental engagement include: Bermuda, Brazil, the British Virgin Islands, Chile, the Czech Republic, Gibraltar, India, Lebanon, Luxembourg, Romania, Russia, the Seychelles, Sint Maarten, Slovenia and South Africa.

Model Intergovernmental FATCA Agreement

On July 26, 2012, the US Treasury Department published a model intergovernmental agreement (model agreement) to implement the information reporting and withholding tax provisions set out by FATCA. The model agreement was developed in consultation with France, Germany, Italy, Spain, and the United Kingdom and these five countries, along with the United States, will, in close cooperation with other partner countries, the Organization for Economic Cooperation and Development, and, when appropriate, the European Commission, work towards common reporting and due diligence standards in support of a more global approach to effectively combatting tax evasion while minimizing compliance burdens.

The model agreement follows through on the commitment reflected in the joint statement issued with the same countries in February to collaborate on developing an intergovernmental approach to implementing FATCA.  The model agreement is accompanied by another joint communique with France, Germany, Italy, Spain, and the United Kingdom, endorsing the agreement and calling for a speedy conclusion of bilateral agreements based on the model.

There are two versions of the model agreement - a reciprocal version and a nonreciprocal version.  Both versions establish a framework for reporting by financial institutions of certain financial account information to their respective tax authorities, followed by automatic exchange of such information under existing bilateral tax treaties or tax information exchange agreements.  Both versions of the model agreement also address the legal issues that had been raised in connection with FATCA, and simplify its implementation for financial institutions. 

The reciprocal version of the model also provides for the United States to exchange information currently collected on accounts held in U.S. financial institutions by residents of partner countries, and includes a policy commitment to pursue regulations and support legislation that would provide for equivalent levels of exchange by the United States.  This version of the model agreement will be available only to jurisdictions with whom the United States has in effect an income tax treaty or tax information exchange agreement and with respect to whom the Treasury Department and the IRS have determined that the recipient government has in place robust protections and practices to ensure that the information remains confidential and that it is used solely for tax purposes.  The United States will make this determination on a case by case basis.

Model 2 Agreement

On November 14, 2012, the US Treasury Department issued a template of a second model agreement. This supplements direct reporting under FATCA by FFIs by adding the exchange of information between the respective governments, but only on request. In that way, it addresses domestic legal impediments and reduces burdens on financial institutions, while still strengthening and improving the inter-governmental cooperation.

Under the agreement, a government will issue a directive to its resident FFIs to direct and enable them to register with the IRS by January 1, 2014, and then comply with the requirements of an FFI agreement, including its due diligence, reporting and withholding tax terms, with respect to pre-existing accounts identified as being held by US taxpayers. FFIs must also request from each such account holder his or her US tax code number and consent to report, and report annually to the IRS.

If the required information and consent is not provided by existing account holders, the FFI will be able to provide aggregate information on all such accounts to its government’s tax authority, which is then authorized to transmit the data to the IRS. However, with respect to new accounts identified as belonging to a US taxpayer, the FFI would have to obtain from each account holder consent to report his or her details consistent with the requirements of an FFI agreement, as a condition of account opening.


At the moment it seems to be full speed ahead for FATCA. However the fact that the IRS has deferred certain compliance deadlines in response to complaints from FFIs, many of which are struggling to put the necessary systems in place, is an indication of what an enormous undertaking FATCA is, for FFIs, the IRS and other national tax administrations. IOFCs tend to be located in small territories with much less administrative capacity than the large ‘high tax’ countries, but they seem to have come to the conclusion that it is better to carry the FATCA burden rather than give the US government another excuse to brand them as uncooperative tax havens. It remains to be seen how the legislation works in practice, although if it costs more in administration than it raises in tax, as some research suggests, then one could rightly ask what the point is.


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