FATCA: progress towards automatic information exchange

FATCA: From Unilateral to Bilateral Automatic Information Exchange
Guest blog by David Spencer

The U.S. Foreign Account Tax Compliance Act of 2010 (FATCA) will, when implemented in 2013, require foreign financial institutions (FFI) and other non-U.S. entities (such as hedge funds or other investment vehicles) to provide automatically to the U.S. Government information about U.S. persons who have direct or indirect interests in foreign financial accounts. It targets foreign entities because domestic entities are already subject to similar, though not identical, requirements. FATCA builds on the existing, though flawed, “Qualified Intermediary” (QI) Program, to create a substantially stronger, though still flawed, piece of legislation. (Read more about the QI Program and FATCA here.)

FFIs and other foreign entities which do not comply with FATCA would generally be subject to U.S. withholding taxes on their income, if that income comes from a U.S. source. If FFIs want to continue to have access to U.S. financial markets, then they must comply with FATCA.

FATCA raised two main problems.

First, it is unilateral: the U.S. Government would require FFI’s and other foreign entities to provide automatically to the U.S. Government information about foreign financial accounts. But FATCA would not require the U.S. Government to provide to foreign governments information about financial accounts in the United States held by residents of those foreign countries. When FATCA was enacted in March 2010 the U.S. Government apparently expected that some foreign governments would also enact FATCA-type legislation, but that did not happen. (The U.S. Government Accountability Office issued a report in September 2011 indicating that the U.S. Government already exchanged information automatically with twenty-five (unidentified) income tax treaty partners, though this information exchange does not cover bank deposit interest nor income covered by the U.S. Qualified Intermediary Program).

Second, the proposed regulations under FATCA are very complex, and FFIs and the respective foreign governments objected to the administrative burden and complained that they could not comply with it due to applicable local law restrictions.

The modus operandi of FATCA was changed substantially by a Joint Statement on February 8, 2012 by the Government of the United States, and five foreign governments (“FATCA Partners”): France, Germany, Italy, Spain and the United Kingdom. The Joint Statement said:

“FATCA, however, has raised a number of issues, including that FFIs established in these countries may not be able to comply with the reporting withholding and account closure requirements because of legal restrictions. An intergovernmental approach to FATCA implementation would address these legal impediments to compliance, simplify practical implementation, and reduce FFI costs. Because the policy objective of FATCA is to achieve reporting not to collect withholding tax, the United States is open to adopting an intergovernmental approach to implement FATCA and improve international tax compliance.

In this regard the United States is willing to reciprocate in collecting and exchanging on an automatic basis information on accounts held in US financial institutions by residents of France, Germany, Italy, Spain and the United Kingdom. The approach under discussion, therefore, would enhance compliance and facilitate enforcement to the benefit of all parties. The United States, France, Germany, Italy, Spain and the United Kingdom are cognizant of the need to keep compliance costs as low as possible for financial institutions and other stakeholders and are committed to working together over the longer term towards achieving common reporting and due diligence standards. In light of these considerations, the United States, France, Germany, Italy, Spain and the United Kingdom have agreed to explore a common approach to FATCA implementation through domestic reporting and reciprocal automatic exchange and based on existing bilateral tax treaties.”

The Joint Statement indicates that the United States, France, Germany, Italy, Spain and the United Kingdom would commit to working with other FATCA partners, the OECD, and where appropriate the EU, on adapting FATCA in the medium term to a common model for automatic exchange of information, including the development of reporting and due diligence standards.

So the Joint Statement did two main things:

First, it changed the unilateral nature of FATCA, as the United States

“Commit to reciprocity [with those five FATCA partners] with respect to collecting and reporting on an automatic basis to the authorities of the FATCA partner information on the U.S. accounts of residents of the FATCA partner.”

With the Joint Statement, then, FATCA will become an instrument for U.S. bilateral automatic exchange of information. The Assistant Secretary for Tax Policy of the U.S. Treasury Department recently stressed the importance of reciprocity:

“The U.S. Treasury Department sees no principled basis on which to require that financial institutions based in other countries collect and provide us with information on U.S. taxpayers, if we take the position that our own institutions should be exempt from similar requirements. To the contrary, we believe that it will be critical to the success of our efforts to implement FATCA that we are able to reciprocate.”

Will the United States and other foreign governments enter into similar agreements?

Second, it simplified the administrative procedures for FATCA, so that FFI’s would provide to the respective foreign government the required information, and the respective foreign government would provide that information to the U.S. Government. In the Joint Agreement, the U.S. agreed to:

• Eliminate the obligation of each FFI established in the FATCA partner to enter into a separate comprehensive FFI agreement directly with the IRS, provided that each FFI is registered with the IRS or is excepted from registration under the agreement or under IRS guidance.
  
  
• Allow FFIs established in the FATCA partner to comply with their reporting obligations by reporting information to the FATCA partner rather than reporting it directly to the IRS.
  
  
• Eliminate U.S. withholding under FATCA on payments to FFIs established in the FATCA partner (i.e., by identifying all FFIs in the FATCA partner as participating FFIs or deemed-compliant FFIs, as appropriate);
  
  
• Identify in the agreement specific categories of FFIs established in the FATCA partner that would be treated, consistent with IRS guidelines, as deemed compliant or presenting a low risk of tax evasion;
  

The Joint Statement and the GAO Report are evidence that progress is being made toward automatic exchange of tax related information, on a step-by-step basis. This may be a more realistic approach than aiming for an immediate multilateral convention requiring automatic information exchange, which some have been calling for.