FATCA: Overview, Challenges and Implications for Banks

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Overview

On the outset, let’s first understand what exactly FATCA (Foreign Account Tax Compliance Act) is in its simplest sense.

The Foreign Account Tax Compliance Act (FATCA) is a United States federal law whose intent is to enforce the requirement for United States persons (including those living outside the U.S.) to file yearly reports on their non-U.S. financial accounts to the Financial Crimes Enforcement Network (FinCEN).

Under this law, all non-U.S. Foreign Financial Institutions (FFI’s) are required to search their records for U.S. persons and to report the assets and identities of such persons to the U.S. Department of the Treasury.

patriotismBasically, FATCA was enacted for the purpose of detecting non-U.S. financial accounts of U.S. domestic taxpayers rather than to enforce collections on non-resident U.S. citizens. It was brought into being to recognize approximately 8.7 million U.S. citizens staying outside the mainland and believed to be U.S. persons for tax purposes. This, in turn, would help in identifying the signatories of accounts of U.S.-persons and their other assets like non-U.S. corporations, volunteer organizations and any other non-U.S. entity. It is also used to locate U.S. citizens and to collect and store information including total asset value and social security number. FATCA is also used by government personnel to detect U.S. persons and their assets and to enable cross-checking where assets have been self-reported by individuals. FATCA data is used to crosscheck a U.S. person’s self-reported data at the Financial Crimes Enforcement Network (FINCEN). U.S. persons, regardless of residence location and regardless of dual citizenships, are required to have self-reported their non-U.S. assets to FINCEN on an annual basis. Based on a specific qualification criteria, individuals have to report this information on form 8938 which is an information reporting form provided by the Internal Revenue Service (IRS).

The legislative history[1] of FATCA can be traced as follows:

  1. Introduced in the House and Senate as Foreign Account Tax Compliance Act of 2009 in October 2009.
  1. Committee consideration by Senate Finance, House Ways and Means.
  1. Passed the Senate on February 24, 2010.
  1. Passed the House as the Hiring Incentives to Restore Employment Act, Title V, and Subtitle ‘A’ in March 2010 with amendment.
  1. Senate agreed to the House amendment.
  1. Signed into law by President Barack Obama.

It is intended to increase transparency for the Internal Revenue Service (IRS) with respect to U.S. nationals that may be investing and earning income through non-U.S. institutions.

 

1

Figure 1: Schematic explaining basic entities of FATCA[2].

Challenges

In the years leading up to the passing of the Law, implementation of FATCA has had its fair share of challenges. Let’s look at some of the challenges[3] posed to banking and financial services industry by FATCA legislation:

  1. Enhancing operational procedures: Impacted institutions will have to re-consider their procedures specifically around client onboarding since all checks and balances have to be put in place in order to identify a US resident at the time of onboarding.
  1. Insufficient account information: The way in which institutions are recording and storing client and account data may not be adequate enough to identify the data that needs to be reported to the regulators. In order to remedy this situation, an extensive data cleansing exercise may have to be performed.
  1. Lack of central customer data: Very few institutions have all client information readily available at a single place. Usually data is scattered across multiple product and region-specific data stores. Synergizing the data together to make the required determinations with respect to account holders will be a significant task.
  1. Lack of knowledgeable staff: FATCA being an exhaustive regulation, the impacted institution’s staff may not have thorough knowledge about the nuances of the regulation. In most cases, such firms will have to look for external help to decipher the regulation and identify its impact on their business procedures.
  1. Short time-frame: Implementation requires immediate focus in critical tasks to be completed within a stringent deadline.
  1. Integrating integral systems: Multiple systems within the institution’s IT landscape will have to be linked efficiently to enable data collation and aggregation to generate the required reports. This may be a challenging task, depending on the scalability of the institution’s IT architecture.
  1. Enhancing existing systems: Impacted institutions will have to enhance their existing applications, or in some cases build new ones, to bring in a robust rules management engine that can identify entities to be reported. They will also have to bring in business intelligence to create regulatory reports and enable senior executives to monitor compliance.

Further, to successfully navigate FATCA, financial leaders would need to address the following eleven key challenges[4]:

  1. Program governance/ownership:The enterprise-level effort required allocation of people, budget and project ownership across the businesses, operations, compliance and tax.
  2. Legal entity analysis:Determining the status of entity for FATCA purposes may be challenging.
  3. Existing account information:Despite Know Your Client (KYC) information being readily available and/or could be leveraged, at various instances, the customer data is hard to locate.
  4. Lack of central customer data:Very few organizations have a single source of necessary information to readily make the required determinations with respect to account holders.
  5. Timing:The short time frame for implementation requires immediate focus on key start-up tasks while the Treasury Department and the IRS develop additional guidance as to the final regulations are not yet released.
  6. Technology:Numerous unrelated systems must be addressed and modified to enable new required information reporting and withholding at the FFI and USFI levels.
  7. Education:Generally, there is not a full awareness of FATCA, its requirements and the resulting impact to the businesses, which will necessitate early, senior-level commitment and communication.
  8. Vendors: Vendors FATCA readiness and capabilities will need to be assessed.
  9. Pass-thru payments:FFIs will need to identify where income is earned and sourced on a quarterly basis.
  10. Private banking relationships:FFIs will need to identify private banking relationships and educate relationship managers.
  11. Account governance:An officer will need to ascertain governance and control over guidance given to US account holders as of 6 August 2011.

2

Figure 2: Role players of FATCA.

Implications

Some important steps financial institutions can follow to comply with the regulations of FATCA are described below:

  1. Understanding FATCA: Workshops and consultations with specialists can help leaders gain an understanding of new regulations and their effect on business activities.
  1. Strategic decisions: Financial intermediaries must decide whether US persons will be retained as clients and whether US securities will be included.
  1. Implementation guidance: FATCA implementation and the actual specifics of the requirements must be continually analyzed and an operating model must be adapted to prepare for compliance. Foreign Financial Institutions (FFIs) need to:
  1. Educate about the need to comply with FATCA.
  2. Conduct a high level review of affected business operations and entities.
  • Assign primary points of contact for the FATCA initiative and for affected operations and entities.
  1. Develop an initial FATCA roadmap with timelines, work streams, outputs and targeted deadline.
  2. Study how entities currently keep track of customer accounts and if the accounts are linked to one another.
  3. Ascertain data that is kept on paper and stored electronically.
  • Identify processes, procedures and technology systems that will need to be enhanced or added.
  1. Implementation: Financial institutions will need time to make their processes and systems compliant to the new regulations. Systems should be ready three months prior to the application of new FATCA regulations, so as to ascertain smooth functioning.

3

Figure 3: Possible roadmap for FATCA compliance.

 

How Hexanika Addresses FATCA Regulations-

Hexanika is a RegTech big data software company, which has developed the revolutionary software platform called SmartJoinTM for financial institutions to address data sourcing and reporting challenges for regulatory compliance. SmartJoinTM improves data quality while the automated nature of SmartRegTM keeps regulatory reporting in harmony with the dynamic regulatory requirements and keeps pace with the new developments and latest regulatory updates.

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Figure 4: Distinctive Algorithm Intelligence

 

Financial institutions benefit can address FATCA using Hexanika solutions in the following ways:

  1. Use of Big data technology for high capacity need based engine which shall enhance the accuracy of data.
  2. Distributed computing for enhanced data quality and time saving.
  3. Semantics enabled for less errors and clear cut understanding of the end user.
  4. Machine learning enabled for cost avoidance and process automation.
  5. Centrally Hosting Services resulting in ease of use and cost reduction.

 

Conclusion-

FATCA is one of the most far-reaching tax legislation to impact financial institutions globally. FATCA compliance is complex and time consuming and requires co-ordination of several business lines and geographies. In addition, timing is of utmost importance and deadlines are fast approaching. The focus is on rapid deployment at reduced compliance costs. Allocating adequate resources to plan, choose and deploy a comprehensive FATCA solution will help reduce risks and costs significantly, and streamline deployment. Various Inter Governmental Agreements (IGAs) have also been signed with several countries worldwide to bring them under the umbrella of FATCA. Another precipitate, one can say, of the FATCA is the marked increase in number of Americans renouncing their citizenship (from just 1,006 in 2010 to 3,415 in 2014).

 

Hexanika addresses FATCA regulations using its unique product and solutions. To know more about us, see: https://hexanika.com/company-profile/

Feel free to get in touch with our experts to know more at: https://hexanika.com/contact-us-big-data-company/

 

Contributor: Akash Marathe

Image Credits: Steve Johnson via Flickr using Creative Commons

 

[1] Source: Wikipedia

[2] Link: https://www.kpmg.com/LU/en/IssuesAndInsights/…/FACTA-Banks.pdf

[3] Link: mindtree-thought-posts-white-paper-impact-of-fatca-on-financial-institutions.pdf

[4] Link: http://www.ey.com/gl/en/industries/financial-services/banking—capital-markets/fatca–eleven-challenges-of-complying-with-fatca

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