Document 6513422

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Special Report
HOW TO PREPARE FOR FATCA
IF YOU ARE A NONFINANCIAL
U.S. COMPANY
Kimberly Tan Majure, Principal, KPMG LLP, Washington, D.C.
Bruce W. Reynolds, Managing Editor — International Tax, Arlington, VA
How to Prepare for FATCA If You Are a Nonfinancial U.S. Company
The Foreign Account Tax Compliance Act is a complex reporting and withholding regime that
was enacted to shed light on offshore accounts, investments, and income of U.S. people who may
not have been rigorously reporting those holdings in the past. At a high level, FATCA imposes a
30% withholding tax on what are classified as “withholdable payments” made to a foreign person,
unless that person identifies its U.S. interest holders or owners, and discloses required U.S. tax
information. FATCA further requires those withholdable payments to be reported annually to the
Internal Revenue Service, regardless of whether withholding from the payment had been required
or done.
Since FATCA was enacted in March 2010,1 a great deal of attention has been paid to issues faced
by foreign financial institutions (FFIs), who in fact do have significant compliance obligations
involving review of existing accounts; establishing new “know your customer” requirements;
modifying systems to track customers, receipts and payments; and preparing for reporting of
taxpayer information at varying levels of detail. With the sturm und drang of FATCA surrounding
financial institutions, though, relatively little attention had been given until recently to explaining
in simple terms (as simple as this area can be made) what an ordinary business must do to ensure
that it will be in compliance when FATCA comes fully into force.
That point had been as little as six months away; by a notice issued on July 12, 2013, however, the
initial implementation of FATCA’s withholding obligations was postponed for another six months,
now generally starting on July 1, 2014. This gives everyone a bit more breathing room to deal with
compliance. The IRS has issued regulations that detail the fundamental rules2 (although they are
informally promising corrections and changes),3 and has issued at least some draft forms that will
be used for compliance.4 These set out at least a sketch of the landscape and a path to compliance.
A BIT OF BACKGROUND
Unusually, although it is structured as a withholding provision, FATCA itself is not actually
looking to impose the withholding tax that its provisions call for. When withholding is required,
it actually could fall on payments that either would not be taxable themselves, or would go to
payees who otherwise would not be subject to tax. The FATCA regime uses withholding only as
a penalty to force required information from foreign businesses, particularly focusing on their
significant U.S. account holders and U.S. owners, who otherwise might not be reporting their
foreign income or assets. The information disclosed by the foreign businesses will be used to check
the items reported on the U.S. investors’ tax returns. The revenue that is predicted from FATCA is
anticipated partly from FATCA withholding itself, but mostly from increased compliance by the
U.S. investors (particularly individuals) who may previously have resisted paying their dues to the
taxpayers’ club.
In some sense, FATCA withholding operates analogously to backup withholding. Upon receipt
of appropriate documentation (IRS forms or other permitted information) from a payee that
facilitates the required income-information reporting, the obligation to withhold is automatically
1
FATCA was enacted as part of the Hiring Incentives to Restore Employment (HIRE) Act of 2010, P.L. 111-147,
124 Stat. 71.
2
Regs. § § 1.1471-0 through 1.1474-7, T.D. 9610, 78 Fed. Reg. 5874 (1/28/13). Some modifications were
announced in Notice 2013-43, 2013-31 I.R.B. 113 All section references are to the Internal Revenue Code of
1986, as amended, or the regulations thereunder, unless otherwise specified.
3
Bennett, “Musher Says IRS to Issue Forms, Agreements for FATCA Compliance Soon,” 92 BNA Daily Tax Rpt.
G-11 (5/13/13).
4
W-8BEN (individuals), http://www.irs.gov/pub/irs-dft/fw8ben--dft.pdf; W-8BEN-E (entities), http://www.irs.
gov/pub/irs-dft/fw8bene--dft.pdf; W-8IMY, http://www.irs.gov/pub/irs-dft/fw8imy--dft.pdf; W-8ECI, http://
www.irs.gov/pub/irs-dft/fw8eci--dft.pdf; W-8EXP, http://www.irs.gov/pub/irs-dft/fw8exp--dft.pdf.
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How to Prepare for FATCA If You Are a Nonfinancial U.S. Company
eliminated.5 By contrast, chapter 3 — the provisions that require withholding from payments
to foreign persons6 — begins with the presumption that the payments are subject to 30%
withholding tax, and uses documentation to determine whether the foreign payee qualifies for a
substantive tax reduction or exemption.
In that context, the focus of nonfinancial businesses trying to be compliant should be on payee
documentation and payment reporting, rather than on withholding. Proper documentation
enables a withholding agent to perform the required reporting; proper reporting eliminates any
penalty for failure to report.7 Withholding, then, will be necessary only for certain payees lacking
proper documentation, and only with respect to certain limited payments. It is also easy to
lose sight of the reporting requirements, as a great deal of the spotlight has rested on the timeconsuming and expensive financial institutions’ systems changes that are necessary for those payees
to avoid FATCA withholding. For nonfinancials, which are largely making and receiving excluded
(but still reportable) payments, the stakes are very different.
Procedurally, FATCA joins an already existing, integrated system of documentation, withholding
and reporting. The relevant FATCA payee status will be documented using the same forms —
although enhanced in length and complexity — as the forms currently used to document status for
chapter 3 and backup withholding purposes.
Chapter 3 and backup withholding documentation operate much like two sides of one coin. As
a working summary of backup withholding, you must have a U.S. payee’s U.S. tax identification
number if you are required to send that person a Form 1099 (information return about income).
If you do not have a valid tax identification number, then you must backup withhold. You use
Form W-9 to document a payee’s U.S. status and also to get certification of the person’s tax
identification number. Under chapter 3, if you make a U.S.-source payment of FDAP (fixed or
determinable annual or periodical) income to a foreign person, that payment is subject to 30%
withholding unless a reduction or exemption can be claimed. Under regulations in effect since
2001, most income items are FDAP,8 and so within that category of income are many items that
would also be subject to reporting on a Form 1099 if paid to a U.S. person. A Form W-8 first
identifies a foreign person as a foreign person and turns off the possibility of backup withholding.9
It is also used to adjust the withholding tax rate (if a treaty rate reduction applies, for example)
or to negate it in appropriate circumstances (if a statutory exemption applies, or the income is
“effectively connected income,” for example, and taxed by return rather than withholding).
When FATCA joins this mix, the W-8 series of forms will be used by foreign payees to identify
themselves; indicate that they are foreign and whether they are a beneficial owner of a payment;
and certify to their FATCA reporting status as well as their chapter 3 status. Although the sheer
bulk of the revised forms may be intimidating to foreign payees, they will essentially be the same
forms that are currently used, just including additional information.
Until 2017 (or perhaps later), the payments encompassed by chapter 4 are the same as payments
5
§ 3406.
6
Especially § § 1441–1446, which are the provisions determining the amounts required to be withheld.
7
Chapter 3 and chapter 4 require a withholding agent to file a return (which is characterized as an income
tax return) on Form 1042 each year. Regs. § 1.1474-1(c)(1). Withholding agents are also required to file an
information return (Form 1042-S) reporting payments to each relevant payee, and to provide a payee statement (a
copy of Form 1042-S) to each payee. Regs. § 1.1474-1(d)(1). Potential penalties therefore include those for failure
to file an income tax return (§ 6651) and substantial understatement (§ 6662); failure to file an information
return (§ 6621) and failure to provide a payee statement (§ 6623).
8
Regs. § 1.1441-2(b)(1) [“all income included in gross income under section 61 … except for the items specified
in paragraph (b)(2)”]. The effective date was set by T.D. 8856, 63 Fed. Reg. 72183 (1998). See also T.D. 8881, 65
Fed. Reg. 32151 (2000).
9
Similarly, Form W-9 identifies a person as a U.S. person, and turns off the possibility of chapter 3 withholding.
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How to Prepare for FATCA If You Are a Nonfinancial U.S. Company
that currently are encompassed by chapter 3, although (when withholding becomes relevant)
lacking some of the exemptions from withholding that exist under chapter 3. That is, beginning
July 1, 2014 — and subject to payments exceptions discussed below — chapter 4 withholdable
payments are largely U.S.-source FDAP income paid to foreign persons.10
At the same time, withholding agents will continue to report payee and payment information on
Forms 1042 and 1042-S. Principally, Forms 1042-S will report payments to foreign beneficial
owners; if the foreign payee is not itself the beneficial owner and documents U.S. people for whom
it receives payments (e.g., the foreign payee is acting as a payment agent on behalf of U.S. persons),
Forms 1099 may be sent to the U.S. people.
The interaction of these three regimes is therefore like three roads that sometimes run parallel,
sometimes cross each other, and sometimes go in different directions, addressing similar kinds
of payments, classifying payees into one (or more) of the three regimes, and then applying
coordinated but separate rules for withholding and reporting.
Consequently, a FATCA compliance project should be approached as part of overall withholding
and reporting compliance. One of the three regimes is very likely to apply to any payment that
you make, and you will need documentation to support your treatment of it; you will need to
categorize it for reporting purposes; and you will need to track it for withholding, reporting, or
both. Some payments may be exempt from FATCA withholding, but still be subject to chapter 3
or backup withholding. Most payments, especially payments to foreign payees, will be subject to
some sort of reporting.
Two final points about the coordination of withholding and reporting systems are worth keeping in
mind. First, companies thinking about FATCA compliance tend to focus on the remaining periods
of validity for their existing Forms W-8, with the thought that the existing forms will provide an
efficient shortcut to completing FATCA documentation.11 The regulations strictly define (and
narrowly limit) what existing Forms W-8, by themselves, can be used to determine: a payee’s status
as a foreign individual, foreign government, or international organization.12 To determine the
FATCA status of any other foreign person or entity, the existing Form W-8 must be supplemented
with “documentary evidence,” which regulations define to include articles of incorporation; letters
from a foreign government; certain filings on government agency websites (such as the equivalent
of the SEC); some post-2011 documentation of preexisting accounts; and opinions of regulated
professionals such as attorneys — material unlikely to be lying around in preexisting or easily
accessible files.13 In addition to documentation generally identifying the payee, one must also
have additional documentation necessary to support a payee’s particular FATCA status, such as
identification of substantial U.S. owners of a nonfinancial foreign entity.14 Fulfilling the requirement
10
“Withholdable payments” under the FATCA rules consist of (a) payments of U.S.-source fixed or FDAP income,
as defined in Regs. § 1.1441-2(b)(1) or -2(c), but without exceptions allowed by that regulation; and (b) after
Dec. 31, 2016, gross proceeds from dispositions of property that could produce interest or dividends that would
be U.S.-source FDAP income. Regs. § 1.1473-1(a)(1). The July 1, 2014 withholding date is set by Notice
2013-43, which extends by six months most of the starting dates for withholding that were originally set by
the regulations. (The post-Dec. 31, 2016, starting date for withholding on “gross proceeds” was not affected by
the notice.) Sometime after Dec. 31, 2016, foreign financial institutions will also have to contend with “foreign
passthru payments,” which are presently undefined. Regs. § § 1.1471-4(b)(4), -5(h)(2). But, until calendar year
2017, while FATCA might apply to more items of U.S.-source FDAP income than chapter 3 does, among other
reasons because exemptions are not allowed, it applies to income of the same type as chapter 3.
11
Regs. § 1.1471-3(d)(1). Notice 2013-43 deems existing Forms W-8 that would otherwise expire on Dec. 31,
2013, to be valid through June 30, 2014, so that new chapter 3 documentation does not need to be secured for
the six-month extension period.
12
The latter two statuses are certified on a Form W-8EXP, which is a reasonably rare form in most U.S. companies’
operations.
13
Regs. § 1.1471-3(c)(5)(ii).
14
Regs. § 1.1471-3(d)(1).
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How to Prepare for FATCA If You Are a Nonfinancial U.S. Company
to supplement existing Forms W-8 with documentary evidence to comply with FATCA’s
requirements could easily become a process more burdensome than securing new Forms W-8.
Finally, absent any documentation, the final regulations set out presumption rules to determine
a foreign payee’s entity status, nationality, and liability to withholding. You should not, however,
view presumption rules as a saving grace. They are not intended to, and as a general rule they
do not, excuse payments from application of the withholding and reporting rules. Instead, the
presumption rules are designed to treat an undocumented payee as subject to one of the three
withholding regimes — either FATCA, or chapter 3 withholding, or backup withholding. The
presumption rules merely direct a withholding agent to the specific regime that should apply to
a particular payment.
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