Facts About the Foreign Account Tax Compliance Act

In March 18, 2010, president Obama signed the “Hiring Incentives to Restore Employment Act of 2010″ (HIRE Act) into law. It included as a financial offset the Foreign Account Tax Compliance Act (FATCA), which dramatically modified the US withholding tax and information reporting regimes for US persons, non-US banks and other financial institutions. A new 30 percent withholding tax was mandated on payments to foreign financial institutions (FFIs) that do not comply with disclosure requirements for US-based account holders.

Imposing draconian reporting requirements on the rest of the world does not serve American interests. FATCA will make it more difficult for Americans to raise foreign capital, prevent law-abiding Americans from investing in the institutions of their choice, and potentially spark reciprocal action by other governments against US banks.

Revenue Gains are Questionable: “Better” enforcement of high tax rates on saving and investment have the same economic impact as increasing tax rates. This means a reduction in saving and investment, which leads to slower growth and a smaller tax base. Thus, FATCA’s use as a revenue offset for the HIRE Act may prove to be misleading and ineffective.

Double Standard on Financial Privacy and Its Possible Blowback: The U.S. has long benefited from favorable laws which grant non-resident aliens the kind of financial privacy rules which FATCA helps deny our own citizens. Should other nation’s choose to retaliate or adopt similar policies of their own, trillions of dollars in foreign investment in the U.S. would be affected.

Reporting Provisions Will Mean Less Investment in the US: FATCA broadly defines the term “financial institution,” which means the new reporting requirements will hit not only banks, but also hedge and private equity funds, and possibly certain privately owned investment vehicles. The new rules act as a disincentive for all of these institutions to invest in the United States. Banks that struggle to implement convoluted reporting and withholding requirements, or are unable to do so because of domestic privacy and confidentiality laws, may divest in securities and other US assets. This will negatively impact the competitiveness of the US economy and reduce job growth.

FATCA Makes American Clients Toxic: FATCA treats as US-owned any foreign entity that has at least one “substantial United States owner.” Substantial ownership is defined by the bill as any US person who owns, directly or indirectly, a 10% or greater interest in a corporation or partnership. FATCA rewards entities that allow US investment with burdensome reporting and compliance costs. By further targeting those who simply “assist” U.S. nationals, the law places the burden on institutions to determine the tax status of their clients. This leaves managers in the difficult position of attempting to determine where their clients fall within the complicated U.S tax system, while holding them liable for any mistakes. The likely response will be to exclude US persons from participating in partnerships or joint-ventures and fewer banking options available to Americans overseas who wish to engage in routine financial transactions.

Protecting Financial Privacy Promotes Human Rights: FATCA may violate privacy and confidentiality laws in some countries. In many nations, ethnic, religious, racial, sexual and political minorities are persecuted by those in control of government. The availability of banks and other financial institutions which respect financial privacy protects assets from being subject to unlawful confiscation or as a tool for persecution. They are a refuge for people trapped in nations suffering from high levels of crime, extortion and corruption.

Recommendations: Congress should repeal FATCA outright. Absent that, regulators should carve out widely held collective investment vehicles such as pensions and hedge funds from FATCA reporting requirements. It should also be sufficient for institutions to meet the existing Qualified Intermediary requirements, rather than a yet more burdensome threshold. Furthermore, a cost-benefit analysis should be conducted to illuminate the issue, so that lawmakers may weigh the degree to which such burdensome rules instituted in order to catch a few possible tax cheats negatively impacts other aspects of the economy and American competitiveness.

 

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