Congress enacted the Foreign Account Tax Compliance Act ("FATCA") in 2010 to prevent and detect offshore tax evasion. It requires U.S. entities to withhold 30% of all “withholdable payments” made to foreign persons unless the payee can establish that it is eligible for an exemption. In order to be eligible for an exemption, foreign financial institutions (“FFIs”) must identify and report U.S. persons that hold assets abroad; in addition, non-financial foreign entities (“NFFEs”) must identify their substantial U.S. owners. The withholding and reporting requirements are effective July 1, 2014.
Most financial institutions have devoted significant resources to develop procedures and systems to ensure that they will be FATCA compliant by the July 1 deadline. Many nonfinancial companies, however, may not have appreciated how broadly FATCA reaches: any U.S. entity that makes any payment to any foreign entity should have procedures in place to determine and document their FATCA compliance; failure to withhold exposes the U.S. entity to penalties equal to the amount of the withholding. In addition, foreign affiliates of U.S. companies may be subject to registration and reporting requirements even if they are not viewed as financial entities for non-FATCA purposes.
There are two major components to FATCA compliance for U.S. multinationals making payments to foreign entities: (1) compliance with the obligations of a withholding agent with respect to all payments it makes, and (2) determination of the proper FATCA characterization (FFI or NFFE, and what type) of the U.S. company’s foreign affiliates. Each component comprises a relatively involved process.
Withholding Agent Compliance
The U.S. multinational must first determine whether the payments it makes are “withholdable payments” under FATCA. "Withholdable payments" include payment of U.S.-source interest, dividends, rents, salaries and wages, premiums, annuities, compensations and remunerations, fixed or determinable gains, and profits (i.e., fixed, annual, determinable or periodic ("FDAP") income). On the other hand, certain payments may be exempt from withholding, such as payments with respect to certain grandfathered obligations, certain payments made in the ordinary course of business, effectively connected income, gross proceeds from the sale of excluded property, and offshore payments of U.S. FDAP income prior to 2017. The FATCA status of each payment should be determined individually.
Withholding agents should obtain new W-9 or W-8 forms from all of their payees. This will not be a simple task. For example, the draft form W-8BEN-E for foreign entities (released in May 2013) is 8 pages long and asks the payee to choose among numerous alternative characterizations of its FATCA status. Payors will generally have three alternative approaches to obtaining these forms:
Most companies will likely find the third alternative unappealing. Regardless of which of the first two alternatives the payor selects, it will be necessary to review, analyze, and remediate existing procedures for onboarding new payees and ensuring that the A/P systems are consistent with the requirements of FATCA.
Classification of Foreign Affiliates
U.S. multinationals may not only be subject themselves to FATCA as withholding agents, but their foreign affiliates may also be subject to various registration and reporting requirements. The U.S. multinational should therefore analyze each one of its affiliates and determine its proper entity classification status under FATCA. FFIs must enter into a FFI agreement with the U.S. Treasury or comply with intergovernmental agreements ("IGAs") entered into between their local jurisdiction and the U.S. If they successfully do so, they will receive an identification number (known as a “GIIN”) that it can use to demonstrate to payors its FATCA classification. Some common types of foreign affiliates of nonfinancial multinationals (e.g., foreign pension plans and some types of companies engaged in banking-type activities) can fall under the general definition of FFIs. Non-financial foreign entities ("NFFEs") must identify their substantial U.S. owners, unless otherwise statutorily from doing so.
FFIs and withholding agents must file Form 8966, FATCA Report, annually. This Form contains sections for identification of the filer; account holder or recipient information; identification of specified U.S. persons; financial information such as account number and account balance; and a section for pooled reporting of similar accounts types. Should any withholding be required, withholding agents must deposit the tax with the U.S. Treasury; file a tax return on Form 1042, Annual Withholding Tax Return for U.S. Source Income of Foreign Persons; and file informational returns on Form 1042-S, Foreign Person's U.S. Source Income Subject to Withholding.
How Can True Partners Help?
True Partners Consulting LLC has a team of experienced tax professionals to assist U.S. nonfinancial multinationals and U.S. subsidiaries of foreign multinationals to comply with the mind-numbingly complex FATCA requirements. Always sensitive to our clients’ resource constraints, we offer the most cost-effective solutions by utilizing a phased approach to ensure that our solutions remain fit-for-purpose. A typical implementation project may involve some or all of the following:
Robert M. Gordon