PwC
On February 8, 2012, the long-awaited FATCA proposed
regulations were issued by the IRS. Ian Bridges and Paul Eldridge assess the next steps for fund managers.
The Foreign Account Tax Compliance Act (FATCA) was enacted as part
of the Hiring Incentives to Restore Employment Act of 2010, and imposed an information-reporting and documentation regime on foreign financial institutions (FFIs), which is to be enforced by a potential 30 percent withholding tax. FATCA was designed to detect, deter and discourage tax evasion by US persons using non-US structures and institutions.
Certain offshore investment funds which are considered FFIs are
required to enter into, and comply with, an agreement with the Internal Revenue Service (IRS) or be subject to a 30 percent withholding tax on “withholdable” payments such as payments of certain US-sourced interest and dividends, and gross proceeds of sales of US securities. An FFI which has an agreement with the IRS is considered to be a “participating” FFI and will not be subject to the withholding tax; it will, however, be subject to numerous reporting and record-keeping requirements.
Of interest to offshore investment funds was the expansion of
entities included as “deemed-compliant” FFIs. There are a number of advantages such an FFI has over a “participating” FFI as outlined below.
Participating FFIs An FFI which cannot satisfy the requirements to be deemed-compliant,
will be required to participate in the FATCA programme by entering into an agreement with the IRS, or be subject to the 30 percent withholding tax as a non-participating FFI. A participating FFI will have to determine the US, or non-US, status of its account holders, obtain appropriate documentation from account holders to support this classification, withhold on certain pass-through payments and report information on US accounts to the IRS. The benefit of becoming a participating FFI is the elimination of the FATCA withholding tax, but at a cost of implementing systems, processes and procedures to comply with various functions of the FFI agreement. A responsible officer of an FFI will be required periodically to certify to the IRS the FFI’s compliance with the FFI agreement.
Deemed-compliant FFIs In 2011, Notice 2011-34 provided initial guidance on FFIs that may
be classified as deemed-compliant. A deemed-compliant FFI may avoid the FATCA withholding tax, similar to a participating FFI, but without the necessity of an FFI agreement, and without the related administrative reporting and withholding requirements to comply with the agreement. However, deemed-compliant FFIs do not avoid all administrative requirements.
The proposed regulations provide for two types of deemed- compliant FFIs, including a registered deemed-compliant FFI, which is of particular interest to offshore investment funds.
Registered deemed-compliant FFIs Registered deemed-compliant FFIs are required to register with the
IRS and to satisfy certain “procedural requirements”. They will be required to comply with rules regarding information-gathering and
monitoring procedures to certify their status as registered deemed- compliant every three years, and ensure the requirements for deemed-compliant status remain accurate.
Included in this category are qualified collective investment vehicles (QCIVs), restricted funds and FFIs that comply with the requirements of FATCA under an agreement between the US and a foreign government via an intergovernmental approach, each of which is discussed further below.
QUALIFIED COLLECTIVE INVESTMENT VEHICLES In general, an FFI can qualify as a QCIV if:
• The FFI is regulated in its country of incorporation or organisation as an investment fund;
• All holders of record of a direct interest (debt in excess of $50,000 or equity interests) in the FFI are either participating FFIs, registered deemed-compliant FFIs, or exempt beneficial owners; and
• In the case when an FFI is part of an expanded affiliated group, any other FFI is either a participating FFI or a registered, deemed- compliant FFI.
RESTRICTED FUNDS A restricted fund is a deemed-compliant FFI that is regulated as an
investment fund under the law of its country of organisation, which must be a Financial Action Tax Force-compliant country such as the Cayman Islands. Each distributor (underwriter, broker, dealer, or other person who participates in the distribution of securities) of the investment fund’s interest must be one of the following:
• A participating FFI; • A registered deemed-compliant FFI; • A non-registering local bank; or • A restricted distributor. Agreements that govern the distribution of the restricted fund’s debt
or equity must prohibit the sale of fund interests to US persons, non- participating FFIs or non-foreign financial entities with one or more substantial (10 percent or more) US owners. In the event of any change, the fund would need to take remedial action or risk losing its status.
THE INTERGOVERNMENTAL APPROACH Alongside the proposed FATCA regulations, a two-page joint
statement was released indicating that the US, France, Germany, Italy, Spain and the UK were exploring an intergovernmental approach to FATCA compliance, under which domestic tax information reporting would be exchanged between participating countries. For example, an FFI in a participating country may be required to report domestically, as opposed to becoming a participating FFI.
CAYMAN FUNDS | 2012 33
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