By Michael Brevetta, Associate Director and Jessie Chew, Senior Associate, PwC Services LLP
Most of the outcry over the Foreign Account Tax Compliance Act (FATCA), the United States’ extraterritorial anti-tax evasion law, has been from the financial services sector. And this stands to reason: FATCA will greatly impact banks and other financial institutions.
This has created a misconception that FATCA will have little impact on companies outside the financial services industry. This is not true.
There are several circumstances under which even non-financial multinationals may fall within FATCA’s documentation, withholding and reporting requirements: One, when an MNC, say from Singapore, makes payments of certain US income; and two, when an MNC uses non-US financial institutions (known as “foreign financial institutions” or FFI) to perform certain transactions.
What is FATCA?
Under FATCA, non-US financial institutions, including those in Asia, are “incentivised” to comply with a new tax information reporting and withholding regime designed to provide information about US persons’ accounts, income and assets to the US tax authorities.
The cost of non-compliance is steep. FATCA imposes a 30-per-cent penalty withholding tax on the gross proceeds of certain US sourced payments made to non-compliant institutions. For transactions of low margin (e.g., dividends from shares or interest from a loan) and transactions that generate a loss, this withholding tax can severely impact profitability.
Further, if a US payer or a non-US institution is compliant, it must ensure that it has sufficient information to determine whether or not its customers, including companies, are “US persons”. If the institution cannot make this determination, it will be obligated to withhold tax on payments it makes to its customers.
Unlike FFIs, which may avoid the withholding tax by means of formalised agreements with the IRS, MNCs are afforded little relief, even if non-compliance was unintentional. In the few instances where a MNC can claim a tax refund, the long and lengthy process may reduce a MNC’s desire to pursue reimbursement from the US tax authorities.
Where it can affect you?
There are two broad instances in which MNCs may be required to comply with FATCA.
Scenario 1: When an MNC makes payments of certain US income.
Many companies make payments of US sourced income. For example, if a Singapore-based company has a subsidiary in the US, most payments from that subsidiary are likely to be US sourced. If those payments are not part of the subsidiary’s main business (e.g., the payments are interest, dividends, rents, royalties), the payments may fall within FATCA’s scope. This may require the subsidiary, as the payer of US income, to comply with FATCA’s documentation, reporting and withholding requirements.
To assess and minimise FATCA’s potential impact, MNCs should consider the following:
Scenario 2: When a MNC uses third-party FFI
FATCA changes the way a business deals with financial institutions (and vice versa). For example, if a MNC uses a third-party FFI (e.g., a bank) to receive payments on their behalf, all payments received may be subject to FATCA withholding if the third-party FFI is non-compliant.
This becomes problematic if the third-party FFI has no intention of reimbursing the MNC for the amount withheld, even if the MNC is FATCA-compliant or not subject to FATCA withholding.
To avoid this indirect and involuntary form of FATCA withholding, the MNC should review existing and future cash management/banking relations with third-party FFIs to ensure that the FFI intends to be FATCA-complaint. For existing relationships, MNCs should also be prepared to update account information and provide additional documentation to third-party FFIs as such requests are likely to occur in the near future.
Additionally, certain investment arrangements with third-party FFI also may be affected by FATCA. Although timing rules may limit the number of arrangements affected by FATCA, these rules are limited in application. Therefore, a rising number of financial institutions are beginning to request FATCA-based changes to existing agreements.
To assess and minimise FATCA’s potential impact, MNCs should review existing investment arrangements and determine whether third-party FFIs intend to be FATCA-compliant. For FFIs that do not intend to be compliant, the MNC should consider whether such arrangements and relationships should be maintained.
What are the timelines?
The timeline for FATCA compliance is short. The first wave of FATCA requirements begins next January when affected businesses must have certain identification and documentation procedures in place. Withholding requirements run through 2014 and 2015, while reporting requirements progress from 2014 through 2017.
While FATCA’s phased approach provides some relief in the compliance process, the complexity of reviews and onerous due diligence requirements have already persuaded many affected businesses (both financial and MNCs) to begin FATCA impact and FATCA minimisation projects.
For Singapore-based MNCs, a complete understanding of the organisation’s cash-flow processes is crucial for FATCA compliance. For example, a MNCs future cash management strategy may be primarily influenced by whether third-party FFIs intend to be FATCA-complaint.
For payments of US sourced income, a MNC also may need to reconsider the organisations payment strategy, determining which entities will perform FATCA’s due diligence requirements and which entities will be responsible for the payment of US income.