GATCA: Brace for FATCA on Steroids

The US Internal Revenue Service didn’t make any friends among financial firms abroad when it imposed the Foreign Account Tax Compliance Act (FATCA) to make non-US financial institutions responsible for preventing tax evasion by US persons.

Yet it definitely caught the attention of tax authorities in other nations. Several dozen of the world’s largest markets — led by the UK — have jumped on the idea of establishing their own version of those same rules, which will add even more administrative and IT tasks for already overworked compliance, operations, technology and tax specialists.

The reason: the upcoming international network of bilateral agreements will require financial institutions to provide information on not just US persons, but others as well for more than only the US Internal Revenue Service. “They will be replicating the same work they have already completed for FATCA multiple times,” explains Jacob Braun, managing director for the corporate tax department Bank of New York Mellon, the world’s largest custodian bank with over US$28 trillion in assets under safekeeping. His warning: if you thought FATCA was hard enough, the new tsunami of bilateral agreements could be much worse.

The scenario has been coined GATCA, nickname for FATCA on a global scale, and it’s probably not coincidental that GATCA sounds a lot like “Gotcha!” The new reporting regime could be implemented by as many as 65 countries, whose governments want to nab tax evaders anywhere.

Stalking Tax Evaders Around the World

GATCA has been promoted by the Organization for Economic Cooperation and Development (OECD) as a global framework for the automatic exchange of tax information through common reporting standards (CRS). However, the OECD’s CRS, just released on July 21, don’t only define data types and formats. The lengthy document, called “The Standard for Automated Exchange of Financial Account Information,” also sets the standards for the due diligence required to track down and report on persons and entities that could be liable for taxes in other countries. Each nation which enter a bilateral agreement with other FATCA nationals could tweak the reporting standards. As of  January 2016, each of the forty or so early adopters of GATCA could each be imposing its own version of FATCA.

“Just how it will be implemented is still being worked out, but at the very least each non-US country would likely want to sign agreements similar to the Model One Intergovernmental Agreement (IGA), which helps foreign countries — and their financial institutions — implement FATCA,” explains Peter Stafford, director of the FATCA task force for DMS Offshore Investment Services Ltd., a Cayman Islands-headquartered FATCA compliance specialist.

Here is what FATCA and the Model One IGAs are all about in a nutshell: at its core FATCA requires foreign financial institutions to report on all US persons, their accounts, and earnings so that the IRS can collect its fair share of taxes. Until now, it has been relying on US persons — individuals and corporations — to pay their taxes voluntarily. It’s a stance which apparently hasn’t been all that successful since the IRS is now extending its enforcement arm overseas.

Under Model One IGAs, foreign financial firms do all the reporting to their local tax authority, which forwards information to the IRS. Such a scenario allows them to conform with their local tax authority’s data delivery requirements and formats. In the case of GATCA, the OECD’s CRS also includes a Model Competent Authority Agreement (CAA) that is similar to the US’s Model One IGA in enabling financial firms to report to their local tax authority, rather than multiple foreign agencies around the world. This would, ostensibly, simplify at least the reporting exercise for local financial firms and ease concerns over potentially violating local data privacy laws. So far, the UK already has these agreements with several UK crown dependencies, such as the Channel Islands and Isle of Man. Also in the lot are overseas territories, such as the Cayman Islands, British Virgin Islands and Bermuda– a scenario coined “son of FATCA.”

Similar but Not Equal

GATCA sounds reasonable, except for one key factor. Financial institutions don’t get a break from complying with FATCA. Although the US has agreed to CRS it won’t be among the early adopters on the GATCA bandwagon. More importantly, it isn’t planning to repeal FATCA. That means large global custodians, broker-dealers and fund managers will need to follow both FATCA through Model One IGAs and any additioanl bilateral agreements signed by the countries in which they are located and other markets. If FATCA resembles a hub and spoke model with the US at the hub and overseas markets as spokes, GATCA will resemble multiple wheels, all turning at the same time, one FATCA expert tells FinOps Report. However, based on the fact that different markets may adopt the OECD’s common reporting standards at different times in different ways, another expert compares the scenario to an intricate spider web trying to catch whatever crosses its path.

Following GATCA doesn’t mean firms will be mimicking what they do for FATCA. “Granted they will have two similar tasks: setting up new customer onboarding procedures to capture critical identifying data and checking existing customers to see if more data is necessary,” says Braun. “However, that’s where the overlap ends.”

For all the gripes foreign financial institutions (FFIs) have about the stress of complying with FATCA, the US IRS has tried to be accommodating. FATCA provides for significant exemptions for small local financial institutions, charities, pensions and some collective investment entities. The IRS is also granting FFIs some reprieve in assessing the status of preexiting account holders. It is not clear whether the rules of nations participating in GATCA will provide a similar timetable. Reading of the OECD’s CRS document suggests that any exemptions from complying may far more rare and unclear than in FATCA. It will depend on rather convoluted criteria of whether the entity is defined as a “non-reporting” entity under its domestic law and if that status “does not conflict” with the purposes of the CRS.

Tax experts tell FinOps they expect foreign institutions following the GATCA framework to collect information on each new account holder’s tax residency as of January 2016 and be prepared to report the following year.  They must also be prepared to report in 2017 on any “high-value” accounts of individuals held as of December 31, 2015 and all other pre-existing accounts in 2018.

The new bilateral GATCA agreeements could go live immediately upon implementation, with criteria for reporting persons being tax residency, not citizenship as is the case under FATCA. Just what tax residency really means is a multi-million, if not multi-billion-dollar question and tricky one at that. “Each country has its own set of rules for determining who is a resident for tax purposes and a single individual or institution can have multiple tax residencies,” says Kathleen Dugan, senior vice president and product manager for FATCA at global custodian Northern Trust in Chicago. “We are spending a lot of time educating our clients about the requirements of FATCA and we anticipate that GATCA will be at least as complex and confusing.”  Custodian banks must do this client education without crossing into giving tax advice.

With GATCA, enforcement penalties may vary depending on the country in which the foreign financial institution is located. FATCA’s primary enforcement  hammer is the involuntary levying of a 30 percent withholding tax on any payments or proceeds from the US for non-compliant individuals and organizations. In addition, there could be jail time for C-level officials at foreign banks which have certified to the IRS or their local authorities that they are compliant and then fail to provide correct information. The enforcement threats of other nation’s tax authorities in GATCA regulations is not yet known, but reportedly countries could terminate their bilateral agreements with other partners for one of a multitude of reasons, such as breach of data confidentiality.

Gearing Up Early

Given the potential for costly and embarrassing ramifications, financial firms have little choice but to start preparing for their new roles as global tax agents. January 2016 may sound like a lifetime away, but that’s not the case when it comes to allocating budgets and designing worfkow process. BNY Mellon is already gearing up for the change, says Braun. That means tweaking or recoding custody and tax reporting systems to classify not only US persons, but others as well depending on the number of new bilateral agreements under the CRS which must be followed. Customer onboarding technology and recordkeeping procedures must also be adapted to address not only US persons, but also persons that fall under other national tax agency agreements.

The work is made a lot more difficult by two unknowns which operations and IT staffers must keep in mind, First, each non-US tax authority could have different data fields and content to follow in its reporting requirements. The second and more alarming wild card is just if or when the US will join the GATCA bandwagon, and how that decision might impact the requirements it currently imposes on financial institutions.

US financial institutions which are already doing FATCA reporting face their own set of challenges. “Although it is clear that GATCA will not replace FATCA, it is unclear how US financial institutions will comply with both reciprocal Model One IGAs and bilateral agreements in terms of collecting and reporting information on non-US residents,” says Stafford.

Why would US firms be complying? Under the reciprocal version of Model One IGAs — signed between the US and UK, among others — US financial institutions do have to provide information to the IRS on foreign citizens with potential tax liabilities in the non-US countries which have signed the reciprocal agreement. However, the amount of information is far less than what would be required under the new bilateral agreements following the OECD’s CRS. Therefore, US firms may have to revamp whatever IT and workflow plans already in place for FATCA to address the new CRS, which could include data on investment income, account balances and sales proceeds.

One answer adopted by some large custodians, such as Northern Trust, is future-proofing client data IT systems to prepare for as many contingencies as possible. “We already expected FATCA to expand and based on the UK’s version of FATCA we are already collecting information on residents of the UK and crown dependencies,” says Dugan. “We have created placeholders for multiple tax residencies in different jurisdictions.”

Of course, it stands to reason that any existing FATCA steering committees will need to meet more frequently to discuss just how to handle the technological and operational changes for a multitude of new agreements with different countries. Those committees, were likely led by US units, as FATCA is a U.S. legislation, with a necessary sprinkling of participants from European and Asia-Pacific business lines. With the influx of new bilateral agreements, there could easily be far less US-centric control of such committees and far more input from European and Asia-Pacific business lines, says Braun. Such is the case with the BNY Mellon FATCA steering committee he leads.

For all of their preparedness for FATCA, even the most experienced tax experts are justifiably concerned about GATCA. FATCA requires foreign financial institutions to be identified by the IRS through GIINS, short for global intermediary identification numbers. FATCA experts are hoping they will be able to use these same IDs to comply with the OECD’s CRS. But some are predicting that regulators could well call for a new Taxable Organization Number for International Compliance, or TONIC. The upside: “The new TONIC might tonic might mix well with the GIIN,” quips Braun.