Overview of FATCA

As reported in a survey by Americans Abroad Global Foundation (AAGF) and the University of Nevada, 80% of US citizens living abroad believe that the US Tax laws are more complicated than the tax law in the country of their residence. In addition, an overwhelming 86% also said that FATCA needs to be reworked to allow Americans overseas access to banking services and should be exempt from reporting accounts held in the country where the taxpayers live. However, the Foreign Account Tax Compliance Act (FATCA) impacts not just US citizens living abroad, but also banks and financial institutions. [1]

So what exactly is FATCA and how does it affect you:

What is FATCA?

The Foreign Account Tax Compliance Act (FATCA) is a US Federal Law that was enacted as part of the Hiring Incentives to Restore Employment (HIRE) Act on March 18, 2010. FATCA requires US citizens living outside the United States to report their non-US financial accounts to the Financial Crimes Enforcement Network (FINCEN) on an annual basis[2]. Starting 2014, FFIs like local banks, stock brokers, hedge funds, pension funds, insurance companies, trusts, etc. are required to report directly to the IRS all their clients who are US nationals.[3]

FATCA 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. Whilst the primary goal of FATCA is to gain information about U.S. citizens and nationals, FATCA imposes tax withholding where the applicable documentation and reporting requirements are not met. Failure to report the same can result in a penalty of more than $10,000 per report per year.[4]

Who Does it Affect?

FATCA affects U.S. withholding agents and multinationals but the greater impact is to Foreign Financial Institutions (FFIs). Under FATCA, FFIs are subject to stringent requirements to identify and report U.S. accountholders (both individuals and owners of foreign entities) to the Internal Revenue Service (IRS) in order to support FATCA’s objectives. FFIs that do not agree to comply are subject to a 30% withholding tax on specified U.S. source income, such as interest, dividends, and securities sales.  Even for FFIs that agree to comply with FATCA, withholding will be required for their customers who do not agree to provide information to determine U.S. accountholder status. [5]

US Financial Institutions (USFIs) are also under the purview of FATCA. They are required to withhold 30% of their proceeds of funds sent to not participant FFIs and Non-Financial Foreign Entities (NFFEs). Additionally, USFIs that have FFIs under their overall corporate structure (e.g. overseas affiliates or offshore funds) face additional FATCA compliance challenges for implementing compliance programs at each FFI and coordinating these programs across the enterprise.

How to prepare for FATCA?

FATCA is a complex and detailed law that includes different tiers of definitions, exceptions, and deadlines. FATCA is not just a tax issue, but a customer identification program and reporting requirement for which compliance planning should begin immediately and involved parties should include legal, compliance, treasury, operations, IT, systems, audit, private banking, asset management, and risk management at a minimum.

Challenges due to FATCA

Customer Classification

To comply with FATCA regulations, banks and financial institutions need to have detailed knowledge about a particular account and match that information from amongst multiple customer databases. The information needs to be precise, because inaccuracies in reporting mean more fines. Moreover, the lack of a centralized database system means there is huge enterprise effort required to fetch the data. This can mean allocation of people, budget and project ownership across businesses, operations, compliance and tax, which many organizations are incapable of providing. [6]

Shailesh Karia, Hexanika Advisor and Ex CIO and MD Deutsche Bank adds, “Banks additionally need to assess whether individual clients are FACTA relevant (e.g. US citizen OR Foreigners with US connections or some financial ownership OR Companies owning share in US companies)”. Due to huge complexities in the Act, determining the status of entity for FATCA purposes may be a challenging aspect for most.

Transaction Matching

FATCA applies to two defined payment types: withholdable payments and passthru payments. FFIs need to identify where income is earned and sourced on a quarterly basis. This means financial institutions should also keep a check on transactions and payments of accounts from their enterprise, requiring sourced information from multiple transaction engines which in turn are dependent on various touch points.

Shailesh agrees, saying “This creates a major challenge with payment transactions, as the transaction is required to go through a FATCA supported engine or a similar system, which slows down processing and impacts reporting Service Level Agreements (SLAs).”

Reporting Complexities

The short time frame for implementation requires immediate focus on key startup tasks, and this adds to complexities in technology as numerous unrelated systems must be addressed and modified to enable precise fetching of required information for reporting.[7]

Like other regulatory reporting requirements, FATCA requires detailed information of a particular account to complete multiple templates. This includes:

1. Movement of specific accounts
2. Transactions by FATCA relevant clients
3. Details of beneficiaries and dividends of single accounts and also accountholders with one or more of the shareholder being a US citizen or US national staying abroad

Fetching and reporting this information in time and checking it for correctness is a challenging task for most institutions.

Hexanika: Addressing FATCA pressures holistically

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

SmartReg™ can use cleaned data from SmartJoin to be used for further analysis, visualization and also for generating reports. The reports are generated dynamically in the format as prescribed by the reporting authorities, bringing down the resources and time required to prepare FATCA reports. The scalable and flexible rules engine enables an easy drilldown from regulatory reports to transactional level, makes the process of data matching and integration easier and faster. Hexanika’s end-to-end solution that is also relevant to FATCA identifies relevant transaction and provides for easy reporting capabilities.

Contributor: Vedvrat Shikarpur

Image: geralt

[1] NewsMax Finance: The Ugly Face of FATCA: Why Life for American Expats Is Getting Harder

[2] Thompson Reuters: FATCA FAQ

[3] US Dept of Treasury: FATCA

[4] US Tax: What is a US Person for IRS tax purposes?

[5] Protiviti: FATCA

[6] EY: Complying with FATCA: 11 key challenges

[7] Capgemini: A Comprehensive FATCA Solution