FATCA – or the US Foreign Account Tax Compliance Act – requires foreign financial institutions (FFIs) to report financial accounts held by US taxpayers or by foreign entities in which US tax filers hold more than 10% ownership. The US Internal Revenue Service will slap non-compliant FFIs with a 30% withholding tax on income in the US that is being paid out to the foreign institution or any account holder who does not provide account information.
Ah, if it were only US citizens that were involved, then the banking industry would not be in its current state of panic over what to do. But FATCA regulations also cover green card holders.
The regulation will affect the considerable number of Chinese interested in moving to, working in or investing in the US. According to a study by the Hurun Report and the Bank of China, 46% of Chinese high net-worth individuals are interested in emigrating, and the US is the top potential destination. Many Chinese are already in the process of becoming US taxpayers, with Chinese accounting for 75% of US EB-5 visa applicants – visas that allow investors in the US to obtain green cards.
There is no doubt that the US is overstepping with FATCA in an act of folly. The regulation will be nearly impossible to enforce and could cost more tax revenue than it brings in. The regulation could also lead to the rise of shady “speakeasy” banks that have no operations or investments in the US, so they cannot be held to account when they look the other way on US-taxpaying clients that don’t report their accounts to the IRS.
I am one of the many US taxpayers who will be affected. I have accounts with Bank of India in both Hong Kong and China, and the bank knows that I am a US passport holder. My banking relationship with Bank of India has been wonderful for 18 years. Yet I fear that these days might be numbered because the bank may not want to spend the amount necessary to figure out just who must be reported and how they must be reported to the US Internal Revenue Service under FATCA.
The day of reckoning is approaching. The US Department of the Treasury issued Notice 2011-53 that gives banks and brokerage houses an extended set of deadlines:
-An FFI must enter an agreement with the IRS by June 30, 2013, to ensure that it will be identified as a participating FFI in sufficient time to allow withholding agents to refrain from withholding beginning January 1, 2014
-Withholding on US dividends and interest paid to non-participating FFIs will begin on January 1, 2014 and withholding on all other withholdable payments (including gross proceeds from stock sales) will be fully phased in on January 1, 2015
-Due diligence procedural requirements for identifying new and pre-existing US accounts (including certain high risk accounts) must be incepted by 2013 for reporting by 2014. Any account of US$500,000 or more is a “high risk account.” This leaves several questions. If you simply decide to have multiple accounts and no account is over this amount, are you no longer a high risk account? How much room for interpretation does a foreign financial institution have to determine this? Will there be any uniformity?
I’ve conjured up a scenario for how FATCA could play out.
Let us say, for example, that one of the banks I work with has decided that the costs of compliance with FATCA far outweigh the income they make from having US taxpayers or companies as clients. After years of banking, I am given my walking papers and told to seek banking relationships elsewhere. Where do I turn if the banks I have been used to working with decide that compliance simply isn’t worth it and that American clients are simply no longer welcome?
There are two choices: Either go to a local bank that does not have investments in the US or go to an international bank that dubiously advertises itself, making clear it has no US operations. You must conduct due diligence on this second type of bank unless you can afford to take a chance. The bank must be well managed, responsible and not a fly-by-night organization. I do not advocate choosing this type of bank, but there are many of you out there who might consider it. You can find a good one of these ”speakeasy” banks – but you could just as easily find a rotten one – unless you exert some diligence in your search.
There are some established, reliable financial institutions, ones who have no US involvement or commitment but getting them to take you on as a client in a world that requires “introductions” presents a challenge. There are many small investors and savers who are not going to be able to walk in off the street and start a new account at one of these banks.
But let's say that this obstacle is overcome and a new banking relationship is established. There remains a lot of uncertainty for people like me who declare everything “just in case.” What is the IRS going to do when I declare my interest or dividend income on my tax return or my Report of Foreign Bank and Financial Accounts (FBAR)? And what happens if it’s at a non-compliant FFI? If there are penalties, am I going to be penalized and told to stop investing with that FFI?
But not everyone will choose to declare. I am not required to ask a client to state whether he has revealed everything. If that client does not reveal everything, I have no qualms reporting what that client does give me. Of course, if I have difficulty believing the story that the client tells me, I might just raise my eyebrows to such an extent that the client gets the message to correct his story.
I predict that “renegade” banks and brokerage houses are going to flourish in the future because of FATCA and FBAR. We are entering an era of speakeasy banking and investing which frankly, will be an unmitigated disaster for the US, as there is simply no means of enforcing regulations on where a person puts his or her funds that are already outside of the US. The US is going to be spending a whole lot of money and in return, get far less tax income than it could ever imagine because of its naïveté in this area. For a country whose finances are in such disarray, this is frankly stupid.
I live in China, and I know all about the Great Wall of China. The IRS is building its own Great Wall of America. For those investing into the US from overseas or the other way around, this wall ensures that those transactions will soon be far more difficult.
This article is an excerpt adapted from “Larry's 2012 U.S. Tax Guide for Expats and Green Card Holders” by Larry Lipsher.