Treasury Releases Final FATCA Regulations Richard J. Horne, Brian A. - - PDF document

Treasury Releases Final FATCA Regulations Richard J. Horne, Brian A. Silikovitz and Christina M. Iafe of Lowenstein Sandler LLP On January 17, 2013, the U.S. Treasury Department released final regulations implementing sections 1471 through 1474 of the Internal Revenue Code (the "Code"), commonly known as the Foreign Account Tax Compliance Act or "FATCA." The final regulations retain the basic withholding and reporting requirements that were adopted under the proposed regulations. However, the final regulations contain some important changes from the proposed regulations and previous administrative

• guidance. [1] Highlights of the final regulations and a revised implementation timeline are

provided below. An Effort to Fight Tax Evasion FATCA, enacted as part of an effort to combat tax evasion, generally imposes new U.S. information and reporting requirements on "foreign financial institutions" ("FFIs") that maintain U.S. accounts. FATCA also imposes increased disclosure obligations on certain "nonfinancial foreign entities" ("NFFEs"). FATCA generally requires FFIs (but not NFFEs) to enter into an agreement with the IRS (an "FFI Agreement") (i) to comply with verification, due diligence, and information reporting with respect to its U.S. accounts and (ii) to withhold 30% on certain payments (referred to as "passthru payments") attributable to U.S. assets that are made to holders who do not provide the required information to the FFI or to FFIs that have not themselves entered into an FFI Agreement. FFIs that enter into an FFI Agreement will be considered "participating FFIs" ("PFFIs"). Non-PFFIs will be subject to a 30% withholding tax on certain U.S.-source income and gains, as well as on passthru

• payments. NFFEs that fail to comply with their reporting obligations will be subject to a 30%

withholding tax on certain U.S.-source income and gains. Significant Changes from Proposed Regulations Extension of Withholding Dates Payments subject to withholding under FATCA ("withholdable payments") include (i) U.S.- source interest, dividends, and other fixed or determinable, annual or periodical ("FDAP") payments; (ii) gross proceeds from the disposition of property of a type that can produce U.S.-source FDAP income; and (iii) "foreign passthru payments," which the final regulations reserve defining. Consistent with IRS Announcement 2012-42 ("Ann. 2012-42"), the final regulations extend the date for withholding on gross proceeds by two years to January 1, 2017. Withholding on foreign passthru payments will begin on the later of January 1, 2017, or six months following publication of regulations defining foreign passthru payments.

Expansion of Grandfathering Rules "Grandfathered obligations" are generally outside the scope of FATCA. The final regulations extend by one year the date on which certain obligations will be considered grandfathered. Therefore, under the final regulations, withholding will not be required on any obligation that has a stated maturity and is issued or entered into before 2014 (and is not significantly modified after 2013). The final regulations also implement and expand Ann. 2012-42 by including the following as "grandfathered obligations":  Any obligation that produces or could produce a foreign passthru payment and that cannot produce a withholdable payment, provided that the obligation is outstanding as of the date that is six months after the date on which the final regulations defining the term "foreign passthru payment" are finalized (thus, non-PFFIs, such as foreign funds that do not enter into an FFI Agreement, will not be subject to withholding under FATCA on debt obligations, swaps and other derivative contracts that produce foreign-source income and that are entered into with foreign counterparties prior to six months after the regulations on foreign passthru payments are finalized);  Any instrument that gives rise to a withholdable payment solely because the instrument is treated as giving rise to a U.S.-source "dividend equivalent" under Code section 871(m) and the regulations thereunder (such as payments on certain equity swaps where payment is contingent upon, or determined by reference to, U.S.-source dividends), provided that the instrument is outstanding on the date that is six months after the date on which instruments of its type first become subject to such treatment;  Any obligation to make a payment with respect to, or to repay, collateral posted to secure a grandfathered obligation. This is broader than Ann. 2012-42, which provided that only collateral posted to secure a notional principal contract would be considered a grandfathered obligation. The final regulations also clarify that if collateral secures both grandfathered and non-grandfathered obligations, the collateral must be allocated among all of the obligations according to their value; and  Debt issued in a "qualified reopening" if the issue date of the original debt is within the grandfathering period. Modification of "Financial Institution" Definition The final regulations modify the definition of "financial institution" by clarifying when depository institutions and investment entities will be within the scope of the term. An entity is a depository institution only if it both accepts deposits and engages in one or more enumerated banking activities. Entities merely accepting deposits as collateral pursuant to a lease, loan, or similar financing arrangement, or that perform money transfers, will not be considered depository institutions. Under the final regulations, an investment entity includes any entity primarily conducting certain investment activities on behalf of customers, including: (i) trading in certain financial instruments; (ii) professional portfolio management; and (iii) managing or investing money

• r other financial assets. This new definition ensures that entities functioning as fund

managers will be considered financial institutions. Passive entities that are not professionally

managed, including certain "home offices" and family trusts, may not be considered FFIs (and will instead be considered passive NFFEs). New Deemed-Compliant FFI Categories The final regulations create an additional deemed-compliant FFI category for certain pre- FATCA CLOs that qualify as "limited life debt investment entities." A "limited life debt investment entity" will not be subject to FATCA withholding until 2017 if:  It is not a depository or custodial institution or insurance company;  It was formed pre-2012 to purchase and hold limited types of debt and will liquidate

• n or before a set date (under its organizational documents);

 Payments to investors are made through a trustee or cleared through a clearing

• rganization that is a PFFI or U.S. person; and

 Its organizational documents cannot be amended without unanimous investor agreement, and such documents do not permit the trustee to be FATCA compliant. Although this category was designed to provide relief to pre-FATCA CLOs, it is not likely to be of much value since these requirements will be difficult to meet. Most CLO indentures do not require unanimous consent for certain amendments. Additionally, even if a pre-FATCA CLO were to qualify for the exception, the exception would only last until 2017. The final regulations also introduce new categories of deemed-compliant FFIs for certain credit card issuers and sponsored FFIs. Registration process for FFIs The preamble to the final regulations outlines the procedure for FFIs to comply with their FATCA obligations. The IRS intends to provide a secure online portal for FFIs to register as PFFIs or deemed-compliant FFIs and enter into FFI Agreements. Each registered FFI will also be assigned a "Global Intermediary Identification Number" ("GIIN") by the IRS. The

• nline portal will be available no later than July 15, 2013, and assignment of GIINs is

intended to start no later than October 15, 2013. The IRS plans to publish a monthly list of PFFIs and registered-deemed compliant FFIs, which withholding agents can use to verify an FFI's FATCA status, starting on December 2, 2013. Intergovernmental Agreements The final regulations endeavor to coordinate their obligations with the "intergovernmental agreements" ("IGAs") that some governments are negotiating with the U.S. as an alternative to FATCA compliance. The U.S. has provided two types of IGAs that partner jurisdictions may enter into: Model 1 Agreements and Model 2 Agreements. Under a Model 1 Agreement, FFIs will report information directly to their home governments, which will then automatically transmit the information to the IRS. This will require the foreign government to enact legislation under which resident FFIs will report information to the foreign government instead of directly to the IRS. The final regulations confirm that FFIs in these jurisdictions will not need to enter into FFI Agreements to be FATCA compliant. Under a reciprocal version of a Model 1 Agreement, the U.S. will also agree to report information to the partner jurisdiction. Under a

Model 2 Agreement, intended for jurisdictions with local laws preventing FATCA compliance, FFIs will report information directly to the IRS. FFIs in Model 2 jurisdictions will still need to apply the final regulations and enter into an FFI Agreement, except to the extent modified by the Model 2 Agreement. This will require the foreign government to enact legislation that permits resident FFIs to comply with FATCA and to report information directly to the IRS, notwithstanding local bank secrecy laws. As of the date of this publication, the U.S. has signed or initialed IGAs with nine jurisdictions: the United Kingdom, Denmark, Mexico, Switzerland, Ireland, Spain, Norway, Italy and Germany. Treasury has also announced that the U.S. is currently in the process of negotiating IGAs with over fifty additional jurisdictions, including the Cayman Islands. The Treasury Department has indicated that, in order to enter into an IGA, the jurisdiction is required to have an income tax treaty, a tax information exchange agreement or, in the case of Model 2 IGAs, a local law that would permit the exchange of information with the United States. Revised FATCA Timeline  July 15, 2013  IRS online registration portal will be available no later than this date.  October 25, 2013  FFIs must be registered by this date to be included on first FFI list.  December 2, 2013  IRS will publish first list of FFIs. Withholding agents may generally rely on this list, which will be updated monthly, to verify an FFI's FATCA status.  December 31, 2013  Effective date of FFI Agreements entered into in 2013. For FFI Agreements entered into after this date, the FFI Agreement will be effective as of the date the IRS issues the FFI a GIIN.  Last date by which most grandfathered obligations may be issued.  January 1, 2014  Withholding on U.S.-source FDAP income begins.  New account opening procedures for withholding agents, PFFIs, and registered and deemed compliant FFIs begin.  March 31, 2015  Information reporting for U.S. accounts for calendar years 2013 and 2014 due.  January 1, 2017  Withholding on U.S.-source gross proceeds begins.  Withholding on passthru payments begins on the later of this date or six months following publication of regulations defining foreign passthru payments.

[1] For further information, please see the Business Tax Counseling & Structuring Group's

earlier alerts, available at http://info.lowenstein.com/rs/vm.ashx?ct=24F76F1DD2AE4EE0CDD881ACDA2B901D919 07ABFDA9818CF5AE175767CEAC80BDF414 and http://www.lowenstein.com/files/Publication/02c90bb0-984a-4a30-8ffc- 85176f26a060/Presentation/PublicationAttachment/cebcc154-09a2-4966-87fe- 8c3c1dce46a2/Highlights%20of%20the%20Recently%20Proposed%20FATCA%20Regulatio ns.pdf. Richard J. Horne, Esq., Partner, rhorne@lowenstein.com Richard J. Horne is a Member of the firm's Business Tax Counseling & Structuring practice group in New York. His practice focuses on the tax aspects of business transactions and pooled investment vehicles. Mr. Horne advises on domestic and cross-border tax issues relating to business transactions, including mergers and acquisitions, reorganizations, spinoffs, securitizations, joint ventures, IPOs, and other capital markets transactions. He also advises on tax issues relating to the formation and ongoing operations of pooled investment vehicles. Additionally, Mr. Horne advises on the formation and operations of public charities and private foundations. Full Bio (http://www.lowenstein.com/rhorne/) Brian A. Silikovitz, Esq., Partner, bsilikovitz@lowenstein.com Brian A. Silikovitz is a tax lawyer who advises businesses on how to structure their transactions in tax-efficient manners, as well as on tax issues that arise throughout the life cycle of a business. Mr. Silikovitz is particularly active in merger and acquisition transactions, venture capital and private equity investments, hedge fund and private equity fund formation and executive compensation. He devotes a significant portion of his practice to working with the firm's Tech Group, advising start-ups on initial choice of business entity and how to structure early-stage investments, taking into account such factors as the likely

• perational results in early years, incentive compensation issues, and tax issues that likely

will arise upon venture capital financings and ultimately on exit transactions. Mr. Silikovitz also works closely with the firm's Investment Management Group, advising on the structure

• f hedge funds and private equity funds and their management entities, considering the

special needs of tax exempt and foreign investors and the managers of those funds. His experience includes the preparation of the economic and tax provisions of complex partnership and limited liability company operating agreements; analysis of state and local tax issues, including sales and use tax issues arising from e-commerce; and cross-border structuring. Full Bio (http://www.lowenstein.com/bsilikovitz/) Christina M. Iafe, Esq., Associate, ciafe@lowenstein.com Christina M. Iafe is an associate in Lowenstein Sandler's Tax Department. A former summer associate with the firm, Christina's experience also includes a position as legal intern to the Middlesex County, NJ Prosecutor's Office. Full Bio (http://www.lowenstein.com/ciafe/)

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