September 2010 IRS Provides Initial Guidance under Foreign Accounts Legislation. On August 27, 2010, the US Internal Revenue Service ( IRS ) released Notice 2010-60 (the Notice ), which contains guidance regarding the new reporting requirements for foreign accounts imposed by the recently enacted Hiring Incentives to Restore Employment Act of 2010 (the HIRE Act ). The HIRE Act contains rules imposing a 30 per cent. withholding tax on certain payments to foreign financial institutions ( FFIs ) made with respect to US securities and accounts unless the FFI agrees to undertake information reporting to the IRS regarding any US persons who are direct or indirect owners of accounts with the FFI. The Notice clarifies the scope of the exception for grandfathered obligations, provides important exclusions from the definition of FFI, and specifies procedures necessary to comply with the new information reporting provisions. Grandfathered Obligations Payments on obligations outstanding on March 18, 2012 are not subject to withholding under the HIRE Act. The IRS clarified that this exemption does not cover an obligation that is treated as equity for US tax purposes, or that lacks a definitive expiration or term (such as a checking or savings account). Moreover, a material modification of an obligation after March 18, 2012 may result in the obligation being treated as newly issued on the date of the modification, causing it to lose grandfathered status. Contents Grandfathered Obligations 1 Definition of FFI... 1 Holding companies... 2 Hedging/financing centers... 2 Closely held arrangements... 2 Foreign retirement plans2 Insurance companies... 2 Compliance with Reporting Requirements... 3 Accounts held by individuals... 3 Accounts held by entities... 3 Definition of FFI An FFI is broadly defined to include any entity that (i) accepts deposits in the ordinary course of a banking or similar business, (ii) holds financial assets for the account of others as a substantial portion of its business, or (iii) is engaged (or holds itself out as being engaged) primarily in the business of investing, reinvesting, or trading in securities. The IRS, however, is authorized to identify classes of financial institutions that will not be treated as FFIs, or that will be deemed to have complied with the HIRE Act s reporting requirements. IRS Provides Initial Guidance under Foreign Accounts Legislation. 1
In the Notice, the IRS identified a number of such classes of financial institutions, including those described below, and requested comments on how these classes might be broadened. Holding companies Holding companies for groups that are primarily engaged in a trade or business other than that of a financial institution will not be treated as FFIs and will not be subject to separate withholding rules that apply to non-financial foreign entities ( NFFEs ). While this exclusion covers holding companies within multinational groups operating outside the financial sector, it does not apply to an entity functioning as an investment fund, even if the fund takes controlling stakes, where the fund is acquiring its portfolio companies as investments for a limited period of time. It is not clear how the exception will apply to holding companies for groups that are engaged in both financial and non-financial businesses. Hedging/financing centers Affiliates that primarily engage in financing and hedging transactions for groups that are primarily engaged in a trade or business other than that of a financial institution will not be treated as FFIs, and will not be subject to separate withholding rules that apply to NFFEs, provided they do not provide these services to non-affiliates. Closely held arrangements Funds and other entities that are owned by a small number of individuals or entities that are not financial institutions, such as family trusts, will be deemed to comply with the requirements generally applicable to FFIs, if they provide information regarding their owners to withholding agents paying US source income to them. Foreign retirement plans Foreign retirement plans will be exempt from the requirements applicable to FFIs, but only if the plan (i) qualifies as a retirement plan under local law, (ii) is sponsored by a foreign employer, and (iii) only allows US participants or beneficiaries that worked for the employer in the country where the retirement plan is established during the period when benefits accrued. This exclusion is quite narrow, and fails to reach plans that, for example, may include US employees in more than one country, and does not cover funded deferred compensation arrangements that are not retirement plans. Insurance companies An insurance company that solely issues insurance contracts without cash value, such as traditional term life, property and casualty insurance, will not be an FFI. If, however, such an entity also issues cash value insurance contracts, such as annuity contracts or life insurance contracts with an investment component, it may be classified as an FFI. IRS Provides Initial Guidance under Foreign Accounts Legislation. 2
Compliance with Reporting Requirements FFIs must generally enter into an agreement with the IRS to avoid withholding under the HIRE Act. The specific requirements will depend on whether an account is a pre-existing account or is opened after the FFI enters into the agreement with the IRS, and on whether the accountholder is an individual or entity. Accounts held by individuals In general, FFIs will need an IRS Form W-9 for each preexisting or new accountholder who is a US individual and has an aggregate balance of at least $50,000 held with the FFI. FFIs will require documentary evidence, such as an IRS Form W-8, to establish non-us status. For pre-existing accounts where there are no indicia of potential US status, an FFI will have two or five years from the date the FFI enters into the agreement with the IRS to obtain the required documentary evidence depending on whether the aggregate balance of the account exceeds $1,000,000. Although the $50,000 threshold may greatly reduce the number of accounts subject to reporting, to take advantage of this rule, an FFI will need mechanisms in place to identify and aggregate the accounts of each individual accountholder on a global basis. An FFI may elect to report all individual accounts irrespective of the $50,000 threshold. Accounts held by entities The reporting for accounts held by entities is more complex since these accountholders must be sorted into eight separate categories: US entities US entities generally include entities organized under US law, but also include an entity organized under non-us law if it has a single US owner and is treated as a disregarded entity under the US check the box rules for entity classification. Participating ( compliant ) FFIs Participating FFIs are FFIs that have an agreement in place with the IRS for reporting under the HIRE Act. Deemed-compliant FFIs Deemed-compliant FFIs are FFIs (such as the closely held arrangements described above) that are excused from the requirement of an IRS agreement, but satisfy alternate requirements for deemed compliance. Non-participating FFIs Non-participating FFIs are FFIs that are required to have, but do not have, an agreement with the IRS for reporting under the HIRE Act. IRS Provides Initial Guidance under Foreign Accounts Legislation. 3
Excepted FFIs Excepted FFIs are FFIs, such as foreign retirement plans, that are excluded from the requirements of FFI reporting. Recalcitrant entities Recalcitrant entities are entities that fail to provide necessary documentation to the FFIs with whom they have accounts. NFFEs NFFEs are non-financial foreign entities, which are not required to enter into an agreement with the IRS, but must report to withholding agents their substantial US owners. Excepted NFFEs Excepted NFFEs are NFFEs, such as publicly-traded companies, that are not required to report their substantial US owners. The Notice sets out detailed rules containing presumptions regarding the status of existing and new accountholders, and information that must be obtained to overcome those presumptions. In general, an FFI will need an IRS Form W-9 for each pre-existing or new accountholder that is a US entity. Based on available information, an accountholder may be tentatively identified as an FFI. The IRS intends to issue special taxpayer identifying numbers to FFIs in order for them to certify their status as a participating, deemed-compliant or excepted FFI. In the case of an accountholder not tentatively treated as a US entity or FFI, whether the accountholder is engaged in a non-financial active business will be determined based on information in the accountholder s file. If an accountholder is identified as being engaged in a non-financial active business, the accountholder may be treated as an excepted NFFE. An FFI may generally rely on existing documentary evidence to establish other accountholders status. If the existing documentary evidence is insufficient, the FFI must request further documentary evidence from the accountholder, which must generally be received within a year from the date of the request. If no documentation is received within a year after the request, the accountholder will be treated as a recalcitrant entity, and payments received on behalf of that entity may be subject to withholding. IRS Provides Initial Guidance under Foreign Accounts Legislation. 4
Contacts Withholding agents that are US financial institutions ( USFIs ) must also identify the status of their accountholders among the categories listed above. The Notice sets out a separate but similar set of presumptions and documentation requirements for USFIs. For further information please contact: Stephen Land Partner (+1) 212 903 9018 stephen.land@linklaters.com Andrew Bloom Associate (+1) 212 903 9252 andrew.bloom@linklaters.com Authors: Stephen Land, Andrew Bloom This publication is intended merely to highlight issues and not to be comprehensive, nor to provide legal advice. Should you have any questions on issues reported here or on other areas of law, please contact one of your regular contacts, or contact the editors. Linklaters LLP. All rights reserved 2010. Linklaters in the U.S. provides leading global financial organizations and corporations with legal advice on a wide range of domestic and cross-border deals and cases. Our offices are located at 1345 Avenue of the Americas, New York, New York 10105. Linklaters LLP is a multinational limited liability partnership registered in England and Wales with registered number OC326345. The term partner in relation to Linklaters LLP is used to refer to a member of Linklaters LLP or an employee or consultant of Linklaters LLP or any of its affiliated firms or entities with equivalent standing and qualifications. A list of the names of the members of Linklaters LLP and of the non-members who are designated as partners and their professional qualifications is open to inspection at its registered office, One Silk Street, London EC2Y 8HQ, England or on www.linklaters.com. Please refer to www.linklaters.com/regulation for important information on our regulatory position. We currently hold your contact details, which we use to send you newsletters such as this and for other marketing and business communications. We use your contact details for our own internal purposes only. This information is available to our offices worldwide and to those of our associated firms. If any of your details are incorrect or have recently changed, or if you no longer wish to receive this newsletter or other marketing communications, please let us know by emailing us at marketing.database@linklaters.com. 1345 Avenue of the Americas New York, NY 10105 Telephone (+1) 212 903 9000 Facsimile (+1) 212 903 9100 www.linklaters.com IRS Provides Initial Guidance under Foreign Accounts Legislation. 5