Does Your Business Make Payments to Foreign Entities? Attention: Deadline Approaching for Foreign Account Tax Compliance Act (FATCA)May 21, 2014
On July 1, 2014, the first phase of the Foreign Account Tax Compliance Act (FATCA) will go into effect with the goal of reducing tax evasion by United States persons holding assets in offshore entities and accounts. Businesses that make payments to foreign entities should begin efforts soon to comply with FATCA to avoid potential penalties.
FATCA requires U.S. payors (referred to as "withholding agents") to withhold 30% from certain types of payments to foreign entities,1 unless the foreign entity provides the U.S. payor with appropriate documentation which exempts the payment from withholding. This documentation requirement will often be satisfied by a Form W-8BEN-E given by the foreign entity to the U.S. payor.2 FATCA’s 30% withholding applies regardless of any other statutory or treaty exemptions or reductions of withholding under non-FATCA tax provisions.
Payments subject to potential FATCA withholding include U.S.-source interest, dividends, rents, royalties, gross proceeds from the sale of property which produces interest or dividends, investment advisory fees, custodial fees, and bank or brokerage fees. Significantly, FATCA withholding does not apply to many payments made by U.S. payors to foreign entities in the ordinary course of business operations including payments for services (including wages and other forms of employee compensation such as stock options), payments for the use of property, payments for office and equipment leases, payments for software licenses, and payments for transportation and freight expenses.
If a withholding agent fails to withhold appropriately under FATCA, such withholding agent will itself be liable to the IRS for the 30% FATCA withholding plus interest and penalties. Given that non-compliance with FATCA may generate significant tax liabilities, U.S. payors should pre-determine whether any payments they make to foreign entities are within FATCA’s purview.
Acknowledging the difficulty of complying with FATCA’s complex set of requirements, the IRS recently announced in Notice 2014-33 that calendar years 2014 and 2015 would be treated as a transition period. Accordingly, for IRS enforcement purposes during the transition period, the IRS will take into account a withholding agent’s good faith efforts to comply with FATCA. In determining "good faith efforts," the IRS likely will consider whether a withholding agent has modified its account opening practices and procedures to document a foreign entity’s FATCA status and whether a withholding agent has written practices and procedures in place with regard to FATCA. Conversely, withholding agents that have made no efforts at FATCA compliance prior to July 1, 2014 will not be given any leeway with regard to IRS enforcement during the transition period. Thus, while Notice 2014-33 gives withholding agents valuable time to bring their systems into full FATCA compliance, withholding agents must begin their efforts prior to July 1, 2014 to avoid penalties during the transition period.
Please contact any member of the Tax and Employee Benefits Team if you have any questions regarding FATCA compliance.
1This includes any foreign corporation, partnership, trust, or estate.
2The IRS made final Form W-8BEN-E available on March 28, 2014 (available at http://www.irs.gov/pub/irs-pdf/fw8bene.pdf); however, the IRS has yet to publish accompanying instructions to Form W-8BEN-E. Form W-BEN, which is a separate form from Form W-8BEN-E, is now only used to confirm the status of non-U.S. individuals.