FATCA: Objective, Impacts & Challenges in Financial Institutions

In 2010, the Foreign Account Tax Compliance Act (FATCA) is introduced in the United States to ensure that citizens fully disclose their worldwide income to the Internal Revenue Service (IRS). Foreign Account Tax Compliance Act (FATCA) is a piece of US legislation aimed at preventing and detecting offshore tax evasion by US citizens (US citizens, US tax residents or US legal entities). FATCA became effective on July 1, 2014.

Foreign governments across the world have agreed to comply with the regulations and have signed FATCA into local law by establishing bilateral agreements known as Inter-Governmental Agreements with the US (IGA).

What is the objective of FATCA?

FATCA was enacted to impose a reporting burden on monetary payers to protect the US tax base. It enables the Internal Revenue Service (IRS) to view information about offshore accounts held directly or indirectly by US citizens in cases where tax evasion is suspected.

Foreign financial institutions (FFIs) must identify their financial account holders and then report to the IRS the details of reportable US account holders and their accounts. This is typically done indirectly through the FFI’s local tax authority such as HMRC (for the UK), and it is dependent on the IGA in place.

The IRS compares FFI data to what private individuals and legal entities report on their tax returns. Before FATCA, the IRS could not make this comparison and had to rely on taxpayers to be forthcoming.

UK-US intergovernmental agreement (IGA)

The important point is that the legislation is now part of UK law because of the UK-US intergovernmental agreement (IGA) and the regulations issued under section 222 of the Finance Act 2013. Default has financial and reputational ramifications.

All UK entities are subject to UK rules, and solicitors may be asked for their clients’ FATCA status when dealing with other institutions such as banks and stockbrokers, in addition to the standard AML and client identification procedures.

Every year, financial institutions must evaluate their accounts and report certain account holders to HM Revenue and Customs (HMRC). This includes data required to be sent to the United States under the Foreign Account Tax Compliance Act (FATCA).

Who are the reportable persons under FATCA?

The legislation requires Financial Institutions (FIs) (banks, stockbrokers, and other financial intermediaries, including most Trusts) to notify the IRS through HMRC when any amounts are paid to or for a US person, irrespective of where the payment is made. Furthermore, the IRS must be confident that the FI has adequate systems in place to identify and record US Persons. The FI will be in default if there is a failure to report or any other non-compliance with the FATCA regime.

Individuals who are US citizens, US tax residents, or US legal entities are FATCA reportable persons.

  • Private individuals born in one of the states of the United States, the District of Columbia, Puerto Rico, Guam, the Northern Mariana Islands (born on or after November 4, 1986), or the Virgin Islands.
  • Foreign-born children under the age of 18, residing in the United States with their birth or adoptive parents, at least one of whom is a US citizen by birth or naturalisation.
  • Individuals who have been granted citizenship by the US Citizenship and Immigration Services (USCIS) (naturalised US citizens).

US residents such as Citizens of the United States of America, Green Card holders. Persons who spend a significant amount of time in the United States, regardless of citizenship, or those who choose to be treated as a US resident for a portion of the year.

US legal entities include US domestic corporations, companies, partnerships, and trusts that are organised under US law. The federal government of the United States, as well as its agencies and states.

What financial institutions should do for FATCA reporting?

Customer Identification: According to this IGA agreement, Financial Institutions are responsible for identifying and reporting Financial Accounts held by Specified US Persons. Customer Identification can be done in three ways:

  • Indicia search – The Financial Institution can identify Reportable Accounts by searching for US indicia by referring to documentation or information held or collected in connection with the maintenance or opening of an account; this may include information held for the purposes of complying with UK AML/KYC rules.
  • Self-certification – obtained from an account holder or Controlling Person.
  • Publicly available information (for entities only) – Using publicly available information, a Financial Institution may be able to determine the FATCA status of an entity account holder.

Reporting: According to HMRC guidelines, banks must report all financial account information held explicitly or implicitly by US reportable customers to HMRC. The information will then be forwarded to the US Internal Revenue Service by HMRC.

Withholding: FATCA requires Foreign Financial Institutions (FFIs) outside the United States (US) to provide information about their US customers to the Internal Revenue Service (IRS). Anyone who fails to comply is subject to a 30% withholding tax.

Key Challenges faced by financial institutions in FATCA reporting

Need for detailed guidance on Self-certification forms
Self-certification is likely to be the preferable option for most financial services firms, which will shift as much of the compliance burden as possible to clients. Clients will seek advice from the financial institutions with which they do business. However, the lack of detailed guidance and the absence of case law means that financial institutions will be hesitant to provide advice for fear of being sued and facing non-compliance issues.

Adherence to OECD guidelines
FATCA and UK tax obligations are already difficult. The OECD’s Common Reporting Standards add to the confusion. The OECD standards are merely guidelines for the 40+ countries that have agreed to them. Each country will be free to implement these standards in the way that best suits them. This could lead to inconsistencies and place a significant burden on businesses. FATCA forms are already lengthy and complicated. Customers are requested to fill out forms for other jurisdictions. It will be tedious for the financial institutions to ensure complete compliance with multiple jurisdictional and disparate requirements.

Lengthy & Tedious Client onboarding process
Banks must educate their customers about the importance of adhering to compliance requirements while onboarding them. Financial services firms’ due diligence requirements with respect to compliance obligations also result in significantly longer onboarding times. Hence banks should implement a digital customer onboarding process. Digital Customer Onboarding improves the customer experience and makes the process smoother or even effortless.

Need for Centralised Data source
To have a single view of their customer across all parts of the business, financial institutions will need a centralised customer database and some data processing capability. To pull this data from disparate systems, new technology such as FSCS SCV Enterprise Solution Suite will be required.

Lack of Ongoing Compliance Process
Foreign financial institutions must identify where their customers’ income is earned and sourced. This exercise is carried out every quarter. Financial institutions also have to identify any incoming funds that may be subjected to withholding tax, in which case, systems will need to calculate the appropriate tax to be withheld. Robust processes are to be established to fulfil the above said regulatory obligations and to ensure a higher degree of compliance.

Shortage of Compliance Knowledge
Generally, there is a lack of understanding of the full scope of FATCA requirements and implications at all levels of the organisation. For the reasons stated above, front office staff of the banks should be more cautious in giving advice to their customers. Senior executives must be aware of the implications for them. Specialised training programs should be given to front office staff to de-risk non-compliance. Customers must also be made aware of the FATCA compliance requirements. It must also be refined on a regular basis to ensure it remains effective.

Need for well-structured Documentation & Data
Every stage of client onboarding and ongoing client interaction must be diligently documented to ensure a comprehensive audit trail and proof in the event of regulatory scrutiny. Additional circumstantial data and documentation will need to be collected and stored so that evidence can be framed under the circumstances at the time of audit investigation or regulatory scrutiny drills.

Documentation is one of the most significant challenges for most financial services organisations, necessitating a comprehensive change programme to ensure that everyone in the organisation understands the importance of documentation and does it consistently. Major banks are using our Aira – Enterprise Document & Workflow Management System, which enhances the productivity and efficiency of their business operations to the next level of profitable growth.

Oversight & Senior Management Assurance
The Board members will be held individually and collectively liable for any FATCA compliance violations. They will require regular assurance that everything is in order. This will necessitate new governance and oversight processes, as well as an efficient and timely process for escalation of any regulatory violation. The Board will have to rely heavily on their senior directors to ensure compliance. Many boards will be sceptical and will require formal attestations from business leaders.

Who Is Responsible for FATCA Compliance?

Even though it appears to be a simple enough task, where do FATCA and other tax reporting compliance fit into the organisation? The larger multinational financial institutions appear to be struggling to answer these questions. Does FATCA come under the scope of the KYC team, the Tax Team, or Risk and Compliance? Is it a centralised team or a hub-and-spoke structure? The requirement for a single view of the client precludes a purely federated model in which individual businesses are responsible for their own FATCA compliance. What should the governance process look like once a stakeholder is identified? Should the firm have its FATCA/Tax Reporting monitoring role? Is it required to Outsource, Build or Buy an effective FATCA reporting software to seamlessly achieve the expected CRS Compliance mandated by HMRC with critical strategic crossroads?

With decades of technical experience and subject matter expertise in the regulatory space, Macro Global provides financial institutions with the assurance that their CRS reporting activities are handled by a cutting-edge CRS & FATCA Reporting Solution. We have a sophisticated audit tool that will pinpoint all the shortcomings in the CRS data automatically based on the predefined rules rather than manually going one by one. This would save us considerable time and redundancy on either side.


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