The D-Day for the Foreign Account Tax Compliance or FATCA is looming closer. From 1st of July 2014, FATCA requires Foreign Financial institutions (FFIs) outside the United States (US) to pass information about their US customers to the US Tax Authorities, the Inland Revenue Services (IRS). A 30% with holding tax is imposed on anyone who fail to comply.
FATCA has intensified huge international interest in tax information reporting. In 2015, the OECD is set to introduce their Common Reporting Standards program to which 40 countries have already signed up. The program will see these countries sharing tax information amongst each other. From 2016, British Crown Dependencies (Isle of Man and Channel Islands) and Overseas Territories (Anguilla, Bermuda, The BVI, Cayman Islands, Gibraltar, Montserrat, and Turks and Caicos Islands) will exchange appropriate tax related information with HMRC.
On 12 September 2012 the UK and the US signed a Treaty to implement FATCA in the UK (“The UK-US Agreement to Improve International Tax Compliance and to Implement FATCA”). Under the terms of the Agreement, UK Financial Institutions will provide HMRC with the required information. HMRC will then forward that information to the US Internal Revenue Service.
The Agreement sets out that Financial Institutions are responsible for the identification and reporting of Financial Accounts held by Specified US Persons. They can do this in three ways:
- Indicia search – the Financial Institution can identify Reportable Account’s by searching for US indicia by reference to documentation or information held or collected in accordance with maintaining or the opening of an account; this may include for example information held for the purposes of compliance with UK AML/KYC rules.
- Self-certification – by obtaining a self-certification from an account holder or Controlling Person.
- Publicly available information (for entities only) – a Financial Institution may be able to determine, using information publically available, the FATCA status of an entity account holder
So, in practice, what does all this means for financial services firms?
Recently a panel organised by Reuters, came together to discuss the key challenges that banks and other financial services firms face in implementing the FATCA and other equivalent tax regulations, specifically with respect to client on-boarding processes. We take a look at some of the likely challenges firms will face:
1. Move to Self Certification
Self-certification by clients is likely to be the preferred choice for most financial services firms, who will pass the compliance burden onto clients as far as is possible. Clients will want advice from their firms they deal with. However, lack of as yet, detailed guidance and absence of any case law, means that firms will shy away from giving advice, at the risk of being sued and facing non-compliance issues. Where does this leave their clients? Will HMRC and other authorities provide comprehensive guidance for such clients? Will law firms step up to the mark and provide the advice?
2. OECD Will Cause more Headaches
FATCA and UK tax reporting requirements are difficult enough. OECD’s Common Reporting Standards introduces even more headaches. OECD standards are mere guidelines for the 40 odd countries signing up to the standards. Each country will have discretion to implement these standards in the way that is most suitable to them. This could create inconsistencies and place huge burden on firms. FATCA forms are long and complicated enough. Will clients have to complete forms for other jurisdiction? How will financial services firms ensure full compliance with multi jurisdictional and disparate requirements?
3. On-boarding Clients – a Longer and More Complex Process
According to some financial services firms, their clients are beginning to understand compliance requirements. However this does mean that they are taking longer to read through documentation or seeking appropriate advice before submitting documentation. FATCA forms are also only in English which may pose a challenge for some non-English speaking clients. Due diligence requirements on the part of financial services firms also mean that on-boarding times are much longer. For now there doesn’t seem to be a mass exodus of clients, but would high net worth individuals and corporations choose rather to invest in less regulated markets?
4. Pressure on Front Office
The front office usually knows their clients and it’s reasonable to expect them to ensure proper checks and balances are in place, right? Not quite, many clients have multiple touch points with the firm across different jurisdictions and the client facing personnel won’t always know about these interactions. This will necessitate a more central coordination to ensure a single view of a customer across all parts of the business. More advanced firms have implemented a “trigger” process, which is activated whenever the relationship with an existing client changes. Such triggers will activate additional checks and the system updated, so that the new information is available to all client-facing personnel across the organisation. This will necessitate data and systems that provide a single view of a customer. This could be a huge challenging
5. The Data, Technology and Processes Challenge
From the above its clear that organisations will need a centralised client database and some data processing capability to have a single view of their client across all parts of the business. New technology will be needed to pull this information from unrelated systems. Easier said than done. To get to this point could take upwards of three years. How is FATCA compliance addressed in the mean time? Of course the significant cost implications of such a technological, process and organisational change will have to be balanced with revenues already under pressure. Moreover, there are only a handful of FATCA technical solutions providers, Reuters being one of them, whilst between 20,000 and 50,000 firms will be affected by FATCA compliance. This could increase implementation timelines and perhaps increase costs.
6. On-going Compliance
FFI will be required to identify where their client’s income is earned and sourced on a quarterly basis. They will also need to identify incoming funds that may be subject to with holding tax, in which case, systems will need to carry out proper calculation of the appropriate tax to be withheld. This will require the implementation of additional systems and processes, and potentially opens the firm to greater risk of non-compliance through failed systems and processes or negligence on the part of employees.
7. Education, Education, Education
Generally there is little awareness of full FATCA requirements and implications, across all levels of the organisation. Particularly, front office will have to be careful not to get pushed by their clients into giving advice, for the reasons mentioned above. Senior executives will need to know about the implications for them personally. There is an equal need to make clients aware of the FATCA compliance requirements. To ensure the training is embedded and effective in de-risking the organisation against non-compliance, any training programme will have to be driven from the very top, and refined on a regular basis to ensure it remains effective.
8. Data & Documentation
Every stage of client on-boarding and on-going interaction with clients will need to be carefully documented, ensuring a robust audit trail and evidence in the case of regulatory scrutiny. Any audit enquiry or regulatory scrutiny may only come years down the line, and therefore, additional snap-short circumstantial data and documentation will need to be collated and stored, so that evidence can be contextualised under the circumstances at the time. Documentation is usually one of the most significant challenges for most financial services organisations and will need a comprehensive change programme to ensure that everyone in the organisation understands the importance of documentation and does it consistently.
9. Oversight & Senior Management Assurance
Ultimately, the Board members will individually and collectively be held accountable for any FATCA compliance breaches. If their “heads are on the line”, they will need regular assurance that everything is on track. This will necessitate new governance and oversight processes and an effective and quick process for the escalation of any regulatory breach (once we know what these could look like). How will Boards get assurance of compliance? What information will they need and how frequently? These are difficult questions to answer at the moment. It’s clear however that the Board will have to place great faith on their senior directors to ensure compliance. Many Boards won’t be as trusting and will require formalised attestations from business leaders.
10. Who Owns FATCA Compliance
Although seemingly simple enough, organisationally, where does FATCA and other tax reporting compliance sit? Especially the larger multinational FFIs seem to be struggling to answer these questions. Does FATCA responsibility sit with KYC team, the Tax Team, or Risk and Compliance? Is it a central team or a hub and spoke model? Clearly, the need for one view of the client eliminates a purely federated model where individual businesses take responsibility for their own FATCA compliance. Once an owner is found, what should the governance process look like? Should the firm have a separate FATCA / Tax Reporting oversight function? Is there a need for local and Group oversight committees? Getting the organisational aspects around FATCA compliance right is crucial as it will ultimately be the determining factor between compliance versus non-compliance.
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