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US tax compliance agreement will cause problems for firms with international operations, says expert

An agreement on the operation of US tax compliance rules in the UK will make it easier for UK-only organisations to comply but will cause compliance problems for firms with business based in other jurisdictions, an expert has warned. 23 Nov 2012

HM Revenue & Customs' (HMRC's) consultation on the implementation of the US-UK Foreign Account Tax Compliance Act (FATCA) agreement ends this week. Insurers, fund managers and other financial institutions need to be considering the practical implications of FATCA and feeding any concerns in to HMRC, the financial services expert said.

HMRC is currently consulting on how the FATCA inter–governmental agreement (IGA) signed by the UK and the US on 12 September should be implemented into UK law. The IGA will mean that UK financial institutions will be able to meet their FATCA obligations without having to enter into an agreement with the IRS, by reporting information to HMRC. The consultation ends today.

Financial services expert John Salmon of Pinsent Masons, the law firm behind, said that that whilst the IGA offers significant advantages for an institution based only in the UK, there are major compliance issues for institutions based in a variety of different jurisdictions. It will be very difficult to put in place computer and other systems to gather the required information when the information that will be required, and the method in which it has to be transmitted, will differ from state to state, he said.

Salmon said that the questions raised in the consultation document show that HMRC is trying to implement the IGA in "as workable a way as possible" which he added is "welcome news for the financial services industry". However, he said that there are still quite a few areas of uncertainty, including how UK residence is to be determined and the position for some types of pension funds, and advised industry to respond to the consultation with any problem areas for their particular business.

One of the biggest issues for institutions will be working out how their various clients should be classified and working out who their ultimate beneficial owners are, said Salmon. This will be a particular challenge for insurance companies, who do not currently have to look into the beneficial ownership of their clients.

"Each group will have to consider the detail of the IGA, look at all its group companies, branches and products and work out which are within the scope of FATCA and the extent to which its systems and processes will need to be adapted so that it can comply with the new rules. Any uncertainties as to how the rules will apply or areas where major changes to procedures are needed should be identified as soon as possible" said Salmon.

Although the IGA will mean that UK institutions will not need to enter into a FATCA agreement with the IRS, there will still be an obligation to register with the IRS. The IGA does not clarify how this registration process will work and Salmon explained that there are concerns that the US will not get a workable system in place in sufficient time for US institutions to be able to make payments to UK institutions without having to make some sort of precautionary FATCA withholding.

FATCA is a US law designed to prevent tax evasion by US citizens using offshore banking facilities which will apply from 1 January 2013.

FATCA imposes a 30% withholding tax on payments of US source income made to non-US financial institutions unless they enter into an agreement with the US Internal Revenue Service (IRS) and disclose information about their US account holders.

FATCA compliance presents a number of problems for UK financial institutions because their information disclosure requirements under FATCA will not necessarily be permitted under data protection, confidentiality and bank secrecy laws. To counter some of these issues, the UK Government, along with those of Germany, Spain, France and Italy (the G5 countries), agreed to enter into bilateral arrangements with the US to allow FATCA compliance to take place at national level. The US/UK IGA is the first of these agreements to have been signed.

The IGA will apply to financial institutions resident in the UK, excluding any branches that are located outside the UK, and to UK branches of non-UK financial institutions. It is not clear from the IGA how residence is to be determined, where a company may appear to be resident in more than one jurisidiction.

UK financial institutions that comply with the requirements of the UK provisions enacting the IGA will not have FATCA withholding made on payments they receive. This applies whether the payments come from a US source payer or another FFI.

The IGA sets out in detail the due diligence requirements for identifying and reporting on specific types of accounts under FATCA. It also sets out a list of UK financial institutions that are FATCA non-reporting entities treated as "exempt beneficial owners".

Exempt beneficial owners do not have to comply with the FATCA requirements and include UK governmental organisations, such as local authorities, and the Bank of England. UK pension schemes or other retirement arrangements fulfilling certain conditions will also be exempt beneficial owners.

The IGA also lists the "deemed-compliant FFIs", another category of financial institutions which do not have to comply with FATCA. They include UK charities and "financial institutions with a local client base". These include credit unions, industrial and provident societies, friendly societies, building societies, mutual societies, investment trust companies and venture capital trusts. These financial institutions will only qualify if they have at least a 98% UK or EU client base, they have no fixed place of business outside the UK and they do not solicit account holders outside the UK.

The IGA contains a list of the types of UK accounts and financial products that a US person may hold for which UK financial institutions need not provide information under FATCA. These "exempt products" include registered pension schemes, ISAs, child trust funds, premium bonds, National Savings and Investments products, tax exempt savings plans, save as you earn share option plans, share incentive plans and company share option plans.

Salmon explained that one area where there is uncertainty and where it is hoped that HMRC will issue guidance is around the definition of pension funds, which should be excluded from the obligations.

"Although the intention seems to be for there to be a wide ranging exemption for pensions schemes, pensions commentators would like to see some clarification, particularly around employer financed retirement benefit schemes (EFRBs) and certain types of annuity," he said.

The consultation states that the legislation to implement the IGA will be in the Finance Bill 2013. However Jason Collins, a tax expert at Pinsent Masons, points out that as the draft Finance Bill is due to be published on 11 December and the consultation only ends on  23 November "it is unlikely that HMRC will have had time to digest the comments made by the financial services industry in time to issue detailed legislation in December".  He states that "it is most likely that we will get limited draft legislation in December, maybe just giving the power to make regulations, with the detail to follow in statutory instruments to be published early in 2013."

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