19 July 2013 International Tax Alert News from the Global Tax Desk Network FATCA considerations for multinational non-financial corporate groups Executive summary On 17 January 2013, the US Treasury (Treasury) and the Internal Revenue Service (the IRS) issued final regulations under the Foreign Account Tax Compliance Act (FATCA) provisions of Sections 1471 1474 (also referred to as the chapter 4 provisions). More recently, on 12 July 2013, Treasury and the IRS issued a Notice modifying many of the timelines relating to these provisions. This bulletin provides a high-level overview of the FATCA regime and how it may impact multinational corporate groups in non-financial services industries (MNCs). FATCA provides for the imposition of a 30% withholding tax on certain US source payments unless extensive information reporting with respect to non-us accounts held by certain US persons is provided to the IRS by non-us financial institutions that have entered into an agreement with the IRS, or by governments that have entered into an Intergovernmental Agreement (IGA) with the US. The withholding tax will apply to certain payments of (i) US source FDAP, or fixed and determinable annual periodical income, which is generally defined as passive-type income (e.g., dividends, interest, rents and royalties, and excluding income effectively connected with a trade or business in the United States) and (ii) gross proceeds from the sale or disposition of US assets of a type that produce dividends and interest. The final regulations contain in addition a restricted list of payments generally associated with business operations exempted from FATCA withholding, including payments for wages and other forms of employee compensation (e.g., stock options), the use of property, office and equipment leases, software licenses, and interest on outstanding accounts payable arising from the acquisition of goods or services.
The FATCA provisions have a significant impact on withholding agents and other financial institutions such as banks, asset managers, investment funds and certain insurance companies. Nonfinancial entities, however, are also subject to the FATCA rules. The law gives rise to certain documentation and reporting obligations for a nonfinancial entity or group member acting in a capacity as payor or payee, including as counterparty to certain direct transactions with financial institutions. In addition, FATCA will require many nonfinancial corporations and corporate group members to affirmatively certify their status under FATCA to payors of certain types of income, and to financial institutions holding their accounts. Effective on 1 July 2014, if a payor cannot document the FATCA status of its payees in order to report the information on certain payees as required under the law, in-scope payments will be subject to 30% FATCA withholding. While FATCA will apply to a broad range of entities, the depth of its impact will vary depending upon industry, business operations and corporate footprint of the non-financial group. In order to prepare for the law, MNCs should recognize the need for assessment and evaluation of corporate entities against the exceptions and exclusions to FFI (Foreign Financial Institution) status. Each non-financial corporate group member should be prepared to certify its own FATCA status to its providers of financial services and to its counterparties. Such evaluation and certification will require testing of group members against the definitions and exceptions set out in the Final Regulations. Finally, to the extent non-financial group members make US source payments, such group members may be required to identify, report, and potentially withhold on certain of those payments. Overview of the FATCA provisions For some time the US taxing authorities have been concerned that US taxpayers may be evading tax by holding accounts in non-us banks and investing in non-us institutions, either directly or through other non-us entities. FATCA, which was enacted by the US Congress on 18 March 2010 as part of the Hiring Incentive to Restore Employment (HIRE) Act, is a reporting and withholding regime that provides the US Treasury and IRS with new tools to combat tax evasion. The law strengthens the information reporting and compliance regimes with respect to US persons who have invested money outside the United States or who have accounts with offshore financial institutions. From 1 July 2014, a non-us financial institution (a foreign financial institution, or FFI) will suffer a 30% withholding tax on US source FDAP income and gross proceeds from the sale or disposition of certain US assets unless it enters into an FFI Agreement with the IRS or is otherwise covered under an IGA between the US and the government of the jurisdiction in which the FFI is organized. Both the FFI Agreement and the IGAs (as applicable) require the FFI to undertake a comprehensive review of its accounts to identify direct or indirect accounts holders with indications of connections to the US (US indicia) and provide certain information reports on those accounts, either to the IRS or to the government executing the relevant IGA. In entering into an FFI Agreement, the FFI also agrees to withhold 30% on certain US-source payments paid to account holders that refuse to provide information on their status as US persons (recalcitrant account holders) and to other financial institutions that do not enter into an FFI Agreement (Non-Participating FFIs or NPFFIs) or that are not covered under an IGA. Therefore an MNC will be required to certify its status to financial institutions with which it does business as a US or non-us person (generally by way of a new-series IRS Form W-8BEN). Furthermore FATCA also imposes increased disclosure obligations on certain nonfinancial foreign entities (NFFEs) that present a high risk of US tax avoidance, primarily passive investment entities. For payors of US source income, FATCA reporting focuses on identification of owners of accounts or ultimate shareholders of certain entities. The legislation requires payors to look through the entity receiving a payment to determine if the entity 2 International Tax Alert Global Tax Desk Network
is directly or indirectly substantially owned by specified US persons (called substantial US owners ) or is instead owned by an excepted or exempted entity. For purposes of FATCA, a substantial US owner is a specified US person that owns 10% or more by vote or value of an entity. Without such identification, the NFFE payee is subject to 30% FATCA withholding on payments of certain US source income. Accordingly, certain non-us MNCs will be required to assess ultimate ownership to determine whether there are any substantial US owners. To determine a payee s status for FATCA purposes, and to determine if any FATCA reporting or withholding responsibilities are triggered, withholding agents will generally rely on documentation provided by the payee prior to payment (or, to the extent permitted by the final regulations, on documentation that the withholding agent already has in its customer files). The final regulations set forth detailed standards for due diligence. The majority of FATCA s impact on non-financial corporations or corporate groups is likely to consist of establishing the status of each of the members of the corporate group for FATCA purposes in order to provide appropriate information to financial institutions or counterparties, and in some cases to provide further information and certification on substantial US owners. Generally, members of the corporate group may fulfill information and certification requirements by providing a newseries IRS Form W-8BEN. It is possible that certain entities in a nonfinancial group may be required to withhold on direct payments to payees. Preparation for FATCA compliance will require review of each of the legal entities within a corporate group and testing of each entity under certain definitions and exclusions set out in the Final Regulations. Definitions relevant to MNCs mapping exercises There are a number of detailed definitions in the Final Regulations that describe persons and entities affected by FATCA, but relatively few are likely to be immediately relevant for non-financial corporations. Among those most relevant are the definitions pertaining to (i) FFIs; (ii) NFFEs, including excepted NFFEs that are generally exempt from FATCA withholding and subject to minimal information requirements, and (iii) enumerated exclusions and exceptions of certain entities from the definition of an FFI. The exclusions from FFI status and the definitions of excepted NFFEs are particularly relevant to members of MNCs. MNCs within any of the categories listed above may be expected to have minimal requirements for complying with FATCA. FFIs and NFFEs The definition of FFI is extremely broad and may encompass entities not traditionally considered to be financial institutions (such as hedge funds and private equity funds). The definition is focused on the activities of the entity and its relationship to other entities within and outside its organization. Under Treas. Reg. Sections 1471-5(d) and (e), an FFI is defined as any non-us entity that: Accepts deposits in the ordinary course of a banking or similar business (a depository institution); Holds, as a substantial portion of its business, financial assets for the account of others (a custodial institution); Conducts as a business one or more of the following activities on behalf of a customer: trading in money market instruments (including but not limited to bills, certificates of deposits, and derivatives); foreign currency, foreign exchange, interest rate and index instruments; transferable securities or commodity futures; or engages in individual or collective portfolio management, or otherwise invests, administers, or manages funds, money or financial assets (an investment entity); Is an insurance company (or a holding company that is a member of a group that includes an insurance company) that issues, or is obligated to make payments with respect to, certain cash value insurance or annuity contracts (a specified insurance company); Is a holding company or treasury center that is affiliated with the types of entities described above or is formed in connection with (or availed of by) certain investment vehicles. International Tax Alert Global Tax Desk Network 3
EY observes: Holding companies and treasury centers that are not described in the fifth bullet above (i.e., are not affiliated with FFIs) and are not otherwise excepted from FATCA under rules described below may be treated as FFIs under one of the first four bullets above. Non-US entities that do not qualify as FFIs under the definition above are treated as NFFEs under FATCA. Generally, an NFFE will be subject to 30% FATCA withholding unless the NFFE provides to a withholding agent adequate documentation exempting the NFFE from withholding because the NFFE is exempted under a separate provision in the Final Regulations, or, in the case of a passive NFFE (as defined below), because the passive NFFE has reported information on its substantial US owners to the withholding agent (or certified that it has no substantial US owners). Excepted NFFEs are not subject to 30% withholding and not required to provide any information to a withholding agent other than a certification as to their own FATCA status (generally on a new-series IRS Form W-8BEN). Such organizations are considered at low risk for tax avoidance. This category includes (i) nonfinancial corporations, more than 50% of the voting stock of which is regularly traded on one or more established securities markets (where regularly traded means that at least 10% of the stock is traded on at least 60 days during the calendar year); (ii) nonfinancial corporations that are members of the same group as a publiclytraded corporation described in (i) above (e.g., subsidiaries or brother/ sister corporations), provided such members are more than 50% owned by the same group of which the publicly-traded corporation is a member, and (iii) active NFFEs, generally understood to be operating companies in which less than 50% of the NFFE s gross income is passive income, and less than 50% of the NFFE s assets are assets that produce or are held for the production of passive income. EY observes: As a first step in any entity mapping exercise, MNCs should determine whether group members qualify as excepted NFFEs under the tests above. Passive NFFEs are defined as those NFFEs that do not meet the requirements of excepted NFFEs as set forth above. Passive NFFEs are required to report information on their substantial US owners to withholding agents (or to certify that they have has no substantial US owners). Certain Exceptions and Exclusions to FFI Status Nonfinancial groups Specifically excluded from treatment as FFIs are nonfinancial groups, defined as any group that satisfies the following conditions for the three-year period preceding the year for which the determination is made: (i) no more than 25 percent of the group s gross income consists of passive income ; (ii) no more than 25% of the fair market value of the group s assets are assets that produce or are held for the production of passive income, and (iii) no more than 5% of the group s gross income is derived from FFIs (excluding certain specified transactions between members of the affiliated group). EY observes: It is possible for an MNC that does not meet the definition of an excepted NFFE above to qualify as a nonfinancial group. As a second step in any mapping exercise, an MNC that fails the NFFE tests described above should test for nonfinancial group status. We note however that the status requires annual testing because of the threeyear lookback rule and may require careful monitoring. The Final Regulations provide an exception to FFI status for certain members of nonfinancial groups (as defined above) that may independently qualify as financial institutions (or as passive NFFEs) but that support the operations of the nonfinancial group. Such entities will not be treated as FFIs under FATCA and will instead be treated as NFFEs, with payments beneficially owned by such entities exempt from FATCA withholding and the entities themselves excepted from many of FATCA s due diligence and reporting requirements imposed on FFIs. In particular, the final regulations provide an exception to FFI status for holding companies, treasury centers, and captive finance companies that are part of a nonfinancial group. An excepted entity can provide a mixture of holding company, treasury 4 International Tax Alert Global Tax Desk Network
center, and captive finance company functions so long as substantially all of its activities are such activities. The Final Regulations provide, however, that this excepted status will not apply to entities formed in connection with or availed of by private equity funds, venture capital funds, leveraged buyout funds, or any similar investment vehicle established with an investment strategy to acquire or fund companies and to treat the interests in those companies as capital assets held for investment purposes. EY observes: It is important to note that the exceptions for holding companies and treasury centers described above are only available for such entities that are part of an MNC that meets the definition of nonfinancial group as set forth above. If the MNC does not meet the definition of nonfinancial group, the exceptions for holding companies, treasury centers and captive finance companies are not available. Start-ups and liquidating or bankrupt entities Further exceptions exist for nonfinancial groups that may not qualify under the tests set out above. The Final Regulations include a 24-month exception for start-up companies, provided the entity is investing capital with the intent to start a new business other than that of a financial institution of passive NFFE and certain other requirements are met. Nonfinancial companies in liquidation or emerging from bankruptcy will escape qualification as FFIs in circumstances where the entity has not been a financial institution or NFFE at any time during the past five years and is in the process of liquidating its assets or reorganizing with the intent to continue operations as a nonfinancial entity. As described above, participating FFIs are generally required to perform substantial due diligence, information reporting and withholding on their account holders, or be subject to 30% withholding on certain payments made to them. NFFEs are not required to perform the same expansive due diligence, but must certify as to their substantial US owners or be subject to 30% FATCA withholding. These requirements are phased in, with effective compliance dates beginning 1 July 2014. Generally, the required information may be provided on a new-series IRS Form W-8BEN. Non-life insurance companies, reinsurance companies and insurance brokers Special considerations apply to non-life insurance companies and reinsurance companies (including captives) and insurance brokers. Non-life insurance companies should be outside the definition of FI so long as they issue no products that could be considered financial accounts such as cash value life insurance contracts, annuity contracts or depository accounts. Insurance products that should generally not be considered financial accounts include general insurance such as auto or property insurance, and protection life contracts without a surrender or loan feature. Brokers may not have financial accounts but may find themselves acting as intermediaries performing cash management activities between insureds and insurance or reinsurance companies or providing investment management services. While such companies may not be considered FFIs under FATCA and therefore not be required to fulfill the same diligence, reporting, and withholding requirements placed on FFIs, such companies may still have diligence, reporting and withholding requirements placed on them under FATCA. In particular, insurance and reinsurance premiums referencing US risks are considered withholdable payments under FATCA and subject to FATCA withholding if the payee is not documented. Generally, payments made on an offshore contract such as insurance or reinsurance contract maintained outside the United States are not subject to withholding until 2017. However this rule does not apply to payments made through an intermediary. If an insurance broker is acting in a cash management role, as if often the case in global insurance and reinsurance arrangements, a premium payment including US risks will be subject to withholding unless the insurance or reinsurance company can correctly document its FATCA status, which is generally expected to be an an NFFE. International Tax Alert Global Tax Desk Network 5
EY observes: To address the issues raised by non-life insurance and reduce the complexity of compliance, EY has been leading initiatives with insurance companies, reinsurance companies, brokers and captive managers to develop an industrywide solution for FATCA compliance. Implications for multinational corporate groups The extent of the impact of FATCA (if any) on a multinational non-financial corporate group will depend on the industry, business operations and corporate footprint of the non-financial group. Specifically, a non-financial group will be expected to test and document each of its group entities to determine whether the entity should be defined as an excepted NFFE or otherwise qualifies for an exemption or exclusion from the FFI categories set out above, or whether the entity instead should be treated as a financial institution. Each non-ffi entity in the group should be prepared to provide documentation on its FATCA status upon request prior to 1 July 2014. Typically such request will come from an FFI or other withholding agent with which the entity has an account or payee payor relationship. Each FFI in the group should understand what its responsibilities are in terms of collecting information on payees, reporting information on those payees as required, and withholding on in-scope payments made to certain payees if necessary. Though the Final Regulations seek to exclude many of the activities of a nonfinancial group, it should be noted that the rules must be carefully applied to any entity whose activities might involve investing, lending, funding, hedging, trading, leasing, or other financial type activity and may potentially trigger FFI status. Each entity s business lines, operations and capital structure should be reviewed and documented to ensure an exception applies. Similarly, the threshold income and asset tests for active NFFE status may be inadvertently crossed. Certain nonfinancial entities that are not FFIs but do not pass the tests for excepted NFFEs may be obligated under FATCA to disclose their substantial US owners because such groups may be treated as passive NFFEs. If such substantial US owners are not disclosed, these passive NFFEs will be subject to a 30% withholding tax on certain US source income. 6 International Tax Alert Global Tax Desk Network
For additional information with respect to this Alert, please contact the following: Ernst & Young LLP (UK), UK Tax Desk, London David Gill +44 207 951 4180 dgill1@uk.ey.com EY Société d Avocats, Paris, Claire Acard +33 1 55 61 10 85 claire.acard@ey-avocats.com Ernst & Young GmbH Wirtschaftsprüfungsgesellschaft, Frankfurt Dmitri Bordeville +49 6196 996 24138 dmitri.bordeville@de.ey.com Global Tax Desk Network of Ernst & Young LLP in the United States Argentina Australia Austria Belgium Brazil Canada China Czech Republic Denmark Finland France Germany Hungary Iceland India Ireland Israel Italy Japan Luxembourg Mexico Netherlands Norway Pan-Africa Poland Russia Scandinavia Spain Sweden Switzerland Taiwan Turkey United Kingdom Asia Pacific Business Group Central European Business Group Eastern European Business Group EMEIA Financial Services Latin American Business Center International Tax Alert Global Tax Desk Network 7
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