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Foreign Account Tax Compliance Act [FATCA]

Last Update Date : September 27, 2018
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Tax evasion is a major issue affecting every country. To tackle this problem, governments come up with various counter-measures. One such solution devised by the USA is FATCA or Foreign Account Tax Compliance Act.

What is FATCA?

FATCA is a law enacted by the US in the year 2010 to curb tax evasion. It stands for Foreign Account Tax Compliance Act. The provisions of this act aim to address the issue of tax evasion by the US persons through the use of offshore financial accounts. FATCA makes it mandatory for FFIs to deduct 30% TDS or withholding tax from US source payments made to them. However, they are exempt from deducting withholding tax if they enter into an agreement with the IRS to share information regarding accounts held or entities controlled by the US persons. In some sovereign countries like India, domestic laws do not permit FIs to share confidential information of their clients directly with the US. To overcome this hurdle, the US has entered into IGA with several countries including India. The IGA between India and USA was signed on 9 July 2015. It provides that the Indian FIs will provide necessary information to the Indian tax authorities, which will then be transmitted to the USA periodically. Under the IGA, USA will also provide substantial information about Indians having financial assets in the USA.

fatca explained in detail

What is AEOI?

Just like the US has FATCA to ensure tax compliance of the US persons having financial accounts, there is AEOI or Automatic Exchange of Information, which is an international standard followed by several countries. With the aim to curb tax evasion, this international standard governs how the tax authorities of the participating countries exchange data related to the bank and safekeeping accounts of taxpayers. The participants of AEOI include members of the G20, the OECD and several other key financial centres resulting in over 100 jurisdictions.

What is FATCA Notice?

FFIs which have entered an information sharing agreement with the US in accordance with the FATCA can send FATCA letter or notice to the taxpayers. FATCA notice is a form of warning sent to the taxpayers when the FFI is unsure if its client is a US taxpayer, lives in the US or maintains a foreign address in the US. Through this letter or notice, the FI tries to investigate its customers to find out if he is compliant with the FATCA laws or not. The FI tries to find out if necessary paperwork with the IRS and the Department of Treasury have been done by the client for FATCA compliance. It also enquires about other reporting requirements including FBAR, Report of Foreign Bank and Financial Accounts & Schedule B.

Tax Day 2018 for U.S. expats in India

Understanding Reportable Account & Person under FATCA?

Once an RFI has identified the Financial Accounts maintained by them, they are required to review those accounts to identify whether any of them are Reportable Accounts. If any of the financial accounts is found to be a reportable account, information in relation to those accounts must be reported in Form 61B.

What is a Reportable Account?

A Reportable Account means an account, which has been identified pursuant to the due diligence procedure, as held by

  • a reportable person; or
  • an entity which is located outside the United States of America and has one or more controlling persons who are specified U.S. persons; or
  • a passive non-financial entity (passive NFE) with one or more controlling persons that is a person described in sub-clause (b) of clause (8) of the rule 114F.

Who is a Reportable Person?

A Reportable person has been defined in the Rule 114F(8) and means

  • one or more specified U.S. persons; or
  • one or more persons other than:
    • a corporation the stock of which is regularly traded on one or more established securities markets;
    • any corporation that is a related entity of a corporation described in item (i);
    • a Governmental entity;
    • an International organisation;
    • a Central bank; or
    • a financial institution Guidance Note for FATCA and CRS 21

that is a resident of any country or territory outside India (except United States of America) under the tax laws of such country or territory or an estate of a decedent that was a resident of any country or territory outside India (except United States of America) under the tax laws of such country or territory.

Thus, generally speaking, there are two types of reportable persons. First one has been defined specifically for the USA. The second one is for other countries.

Who is a US Person?

U.S. Person means,

  • an individual, being a citizen or resident of the United States of America;
  • a partnership or corporation organized in the United States of America or under the laws of the United States of America or any State thereof;
  • a trust if,-
    • a court within the United States of America would have authority under applicable law to render orders or judgments concerning substantially all issues regarding administration of the trust; and
    • one or more U.S. persons have the authority to control all substantial decisions of the trust; or
    • an estate of a decedent who was a citizen or resident of the United States of America.

Who is a Specified US Person?

Specified U.S. person means a U.S. Person, other than the persons referred to in sub-clauses (i) to (xiii) of clause (ff) of Article 1 of IGA which is at Appendix A.

What kind of Payments are Subject to FATCA?

Payments which are defined as “withholdable” under the FATCA are subject to its provisions. “Withholdable payments” are defined as:

  • Any payment of interest (including any portfolio interest and original issue discount), dividends, rents, royalties, salaries, wages, annuities, licensing fees and other FDAP income, gains, and profits, if such payment is from sources within the United States.
  • Any gross proceeds from the sale or disposition of U.S. property of a type that can produce interest or dividends – Interest paid by foreign branches of U.S. banks

Income effectively connected with a United States business is generally exempt from withholding under FATCA. Other than the payments mentioned above, there are some “foreign passthru” payments on which the provisions of the FATCA are applicable. A foreign passthru payment is a payment that is attributable to U.S. source income. The IGAs contain a commitment of the U.S. and the signatory countries to work together to develop a practical and effective alternative approach to achieve the policy objectives of foreign passthru payment and gross proceeds withholding that minimizes burden.

Are Foreign Exchange Transactions Subject to FATCA?

Foreign exchange (FX) payments are not withholdable payments. Although gain on such contracts is generally reported as gross proceeds, the FATCA rules appear to only apply to proceeds from the sale or other disposition of any property of a type which can produce interest or dividends from sources within the United States. This could be changed by regulations.

What is the Effective Date for Exchange of Information under FATCA or AEOI?

Even though FATCA came into existence on March 18, 2010, and became effective on January 1, 2013, the withholding requirements didn’t start until July 1, 2014. FATCA withholding began on July 1, 2014, for US source fixed or determinable annual or periodical (FDAP) payments made on or after June 30, 2014. FATCA withholding for US source gross proceeds began on January 1, 2017. Passthru payments became subject to FATCA withholding on January 1, 2017.

What Should you do if you receive a FATCA Notice?

If you’ve received a FATCA letter from your bank and you’re compliant, you’re going to want to respond to the bank and tell them that you’re in the process of filing. It’s also a good idea to request to set up a timeline with them in which you’ll provide proof of compliance; usually anywhere from a month to 45 days is considered a reasonable request. You’ll want to make sure that all of your documentation is accurate – this is one of those times that you may want to have a professional review all of your information to ensure its correct.

If you have received a FATCA letter and you are not compliant while having earned overseas income, then you have two options. You can enter any of the two programs offered by the IRS which you can try to enter to get compliant namely the Offshore Voluntary Disclosure Program (OVDP) and the IRS Modified Streamlined Program.

What are the Consequences of not Responding to this Notice?

It is imperative to respond to this letter because if you fail to do so, IRS may take action against you. There are a number of fines and penalties including FBAR penalties (which can range upwards of 100% value of your foreign accounts) which can be levied on you.

By failing to respond, you also risk closure or even forfeiture of your account by the FFI which can result in the loss of money in the account.

Who Can Help you in Responding to this Notice?

If you’ve received a FATCA notice and are unsure what to do, contact us. We at H&R Block can help you. Any information you share with us will be kept confidential.

Not sure how to file your U.S. Tax Return? Let H&R Block help you file your taxes.

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