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The Impact of the United States FATCA Rules on Family Offices and Individuals

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  1. The Impact of the United States FATCA Rules on Family Offices and Individuals Mark H. Leeds (212) 801-6947 leedsm@gtlaw.com International Wealth Planners 26 Broadway, 22nd Floor April 25, 2011, 5:00pm

  2. Mark Leeds • Mark H Leeds (212-801-6947) is a shareholder with the law firm of Greenberg Traurig. At Greenberg, Mark is a member of the Tax and Capital Markets practice groups. Mark’s professional practice focuses on the tax consequences of a variety of capital markets products and strategies, including over-the-counter derivative transactions, swaps, tax-exempt derivatives and strategies for efficient utilization of tax attributes, such as net operating losses. Mark is also the editor-in-chief of Derivatives: Financial Products Report, a Thomson/RIA monthly publication. Prior to joining Greenberg, Mark served as a Managing Director at Deutsche Bank, general counsel of a credit derivative company and, prior to that, Mark was a partner at Deloitte & Touche where he led the Capital Markets Tax Practice.

  3. Overview of the FATCA “QI-2” Rules Beginning in 2013, if a “foreign financial institution” (FFI) does not comply with due diligence and reporting rules prescribed by FATCA (a “non-Participating FFI”), then all withholdable payments made to the FFI are subject to 30% withholding, whether paid to the FFI for its own account or for its clients The withholding rate can be lowered by a tax treaty. This provision is intended to ensure that legislation does not violate existing US tax treaties. Withholdable payments include US-source FDAP payments & 30% of all US-source gross proceeds from property that can produce interest, dividends & equivalents (such as equity swap payments). Amounts withheld can be claimed as a refund (including treaty-based refunds) only if information is provided establishing the owner(s) of the payment and the owners of any entity receiving the payment.

  4. Will My Off-Shore Bank Comply with FATCA? Yes. And here is why: If the FFI receives any item of US-source income directly and invests in US stocks and bonds, it does not have any real choice. If it chooses not to comply, it will be subject to non-recoverable withholding taxes. Even if the FFI does not receive withholdable payments directly, if it invests with a Participating FFI and the Participating FFI has any US assets, under the passthru payment rules (described later), a portion of the payments to the Non-Participating FFI will be subject to US tax withholding. Notice 2011-34 provides an exception for non-US banks that only serve markets within their country of organization (local banks), but in order to take advantage of this exception the local bank must adopt procedures to ensure that it does not open or maintain accounts from non-residents of its country of organization.

  5. To avoid withholding, the FFI must agree to: • Obtain information from its ‘accounts’ to determine if such accounts are US accounts (other than public companies, US gov’t, banks, RICs & tax-exempts) • Comply with IRS-specified due diligence & verification requirements • Report information on US accounts annually • Withhold 30% on payments to pass-thru entities, recalcitrant accounts and other FFIs that have not entered into an IRS agreement (unless withholding was made against payment to FFI). • Comply with IRS requests for additional information on US accounts • Obtain a waiver of a foreign law that would prevent disclosure to the IRS • If an entity has entered into a FFI Agreement, then its affiliates must also comply.

  6. Who’s an Affected Account Holder? Any account holder at “Foreign Financial Institution” will be subjected to US withholding with respect to its account on withholdable payments credited to the account. FFIs include: (1) Banks that accept deposits in the ordinary course of their business; Financial Institutions that hold financial assets in the ordinary course of their business (as a substantial part of their business); and Entities in the business of investing or trading in securities, commodities & derivatives, including hedge funds. Accounts at FFIs organized in US possessions are exempt from new statute, although IRS is authorized to provide rules preventing abuse of possessions financial institutions.

  7. What is US-Owned Foreign Account? Foreign corporation: Specified US person owns more than 10% of stock, by vote or value. Foreign partnership: Specified US person owns more than 10% of capital or profits. Foreign trust: Specified US person owns more than 10% of beneficial interest. If a foreign corporation or partnership is primarily engaged in the business of investing or trading in securities or commodities, the 10% threshold is reduced to ZERO. Specified US person means any US person other than publicly-traded corporations & their affiliates, tax-exempt organizations, the US and its agencies, States, banks, REITs and RICs.

  8. Notice 2010-60 requires participating FFIs to categorize its account holders. • Payers of US-Source Income must categorize payees into 1 of 7 categories: • US persons • Participating FFIs • Deemed Compliant FFIs • Non-Participating FFIs • Entities exempt from FATCA reporting (foreign governments) • Excepted NFFEs and • Other NFFEs

  9. The FFI must undertake a search of indices of US ownership of the account. Indices of US ownership include: Identification of the account as a US account in the Bank or Fund’s books & records U.S. place of birth for the account holders Standing instructions to transfer funds to an account maintained in the US US residence address or a US correspondence address An “in care of” or “hold mail” address that the sole address in the FFI’s electronic database A power of attorney or signatory authority granted to a person with a US address

  10. Notice 2011-34 specifies the due diligence procedures that FFIs must conduct on its accounts generally and private banking accounts. These procedures include: Conduct a due diligence of electronic and paper files to determine if any account has indicia of US ownership If any indicia of US ownership is discovered, then the private banking relationship manager must request documentation to ascertain whether the account is a US account. If the account holder does not establish that it is a non-US account, the FFI must treat an account with US indices of ownership as a US account. The FFI must obtain a waiver of any local laws that would allow a US account to prevent turning over the name of the account holder to the IRS

  11. What Happens if An Accountholder Refuses to Supply Information? The FFI must make reasonable attempts to obtain the information, must achieve a certain level of compliance and close accounts where necessary to achieve compliance. Recalcitrant account holders include accounts that fail to (i) waive foreign law privacy laws, (ii) comply with requests for information and (iii) provide information on “substantial US owners.” Financial accounts include depository & custodial accounts & non-publicly traded debt & equity investments in the FFI itself. Short-term accounts may be excluded. US accounts do not include depository accounts held by natural persons provided that the aggregate amount in all accounts of the individual that do not exceed $50,000 (or equivalent value).

  12. What Are the IRS Reporting Requirements by the FFI? The FFI must supply the following information to the IRS: Name, address and TIN of each account holder that is a “specified US person.” Name, address and TIN of each “substantial US owner” of an account of a US-owned foreign person. The account number, balance and value. All gross receipts and gross receipts & withdrawals from the account. Reporting applies to 50% or more owned affiliates as well as the FFI itself.

  13. How do the Passthru Payment Rules Work? Code § 1471(d)(7) provides that passthru payments include a “payment attributable to a withholdable payment.” Passthru payments are subject to withholding in the same way that withholdable payments are subject to withholding. Notice 2011-34 uses an average US asset concept to determine whether a payment made by a Participating FFI is a passthru payment. (A Participating FFI is an FFI that has elected to comply with FATCA.) For example, assume 35% of French Bank’s assets are invested in US assets (as determined under the FATCA) rules. If this is the case, then 35% of each payment made by the French bank will be treated as a passthru payment, potentially subject to US tax withholding.

  14. Illustration of the Passthru Payment Rules Family office maintains an account at French Bank and French Bank’s passthru payment percentage is 35%. French Bank is a Participating FFI. Family office purchases a structured note from the French Bank. The structured note references gold or some other commodity. The Family office has some indicia of US ownership but does not provide information establishing that it is not a US account in a timely manner. The French Bank must withhold 10.5% (35% x 30%) of the income payment on the structured note. If the Family office had acquired the same structured note from a US bank, there would not have been any need for due diligence and NO WITHHOLDING.

  15. Exceptions to Reporting No withholding is required with respect to obligations owed to a FFI that are outstanding on March 18, 2012 (Grandfather Rule) Notice 2010-60 circumscribes grandfathered accounts. Such accounts do not include “any instrument treat treated as debt or equity or any legal agreement that lacks a definitive term. No reporting is required on payments to accounts owned by foreign governments, international organizations and foreign central banks No de minimis rules for private investment vehicles Duplicate reporting is eliminated in tiered arrangements for accounts maintained at a FFI that has entered into a FFI Agreement with the IRS