General Overview of the FATCA Compliance Program

Artem V. Narodenko

On 30 July 2014 the U.S. Foreign Account Tax Compliance Act (FATCA) came into force. The goal of FATCA is to implement a mechanism aimed at preventing tax evasion by persons associated with the USA (U.S. citizens, U.S. owned foreign entities, and some others) outside the USA.

Even though FATCA is aimed at U.S. tax residents, adoption of this law affected banking and financial sector worldwide, establishing reporting and withholding requirements for foreign financial institutions (the FFIs).

Non-compliance with FATCA requirements may have a major negative impact on the FFI’s business, including application of 30% withholding on payments for the FI’s clients, refusal to work with such FI by compliant FIs and reputational risks.

Thus, FATCA directly affects the interests of foreign financial institutions and financial intermediaries (including Ukrainian ones) such as banks, brokerage firms, investment funds, insurance companies and others.

Basically, FATCA creates an obligations for FFIs to register with the U.S. Department of Treasury, Internal Revenue Service (IRS), perform due diligence to identify U.S. tax residents among existing clients and modify their identification procedures for new clients. Furthermore, the FFIs will be required to report regularly on their U.S. clients to the IRS and withhold 30% tax from payments to recalcitrant account holders.

Many Ukrainian financial institutions (FIs) have already registered on the IRS portal, started due diligence of their accounts and adjusted their identification procedures for new clients. Still, the level of their FATCA compliance will be assessed during the FATCA reporting in the near future.

The United States and Ukraine have agreed on the substance of the Intergovernmental agreement on FATCA compliance (IGA). Therefore, Ukraine is already being treated as a country with Model 1 IGA “in effect” as of 26 June 2014, even though the text of the IGA has not yet been officially signed. Under the Model 1 IGA, the FATCA compliance will be enforced by the Ukrainian authorities (usually the State Tax Service). Therefore, reporting will be performed through a local Ukrainian body and actual submission of the reports to the IRS will be performed based on the mutual information exchange agreement between USA and Ukraine. The agreed deadline for submission of FATCA reports for the years 2014 and 2015 to the Ukrainian body under the IGA is September 2016.

Having the IGA should ease the administrative burden for Ukrainian FIs in the course of FATCA compliance. However, key requirements on identification of U.S. account holders and respective reporting remain a significant issue.

Moreover, if Ukraine fails to sign the IGA in the near future, the Ukraine’s FIs will be obliged to comply with stricter requirements of FATCA Regulations. The IRS monitors the efforts of each country towards signing the IGA and its implementation on a monthly basis. If a certain country fails to show a progress in preparation for signing the IGA, it may be removed from the list of countries with Model 1 IGA “in effect” as of 26 June 2014.

Even though, the IGA, unlike FATCA Regulations, is silent on the mandatory establishment of compliance programs for the FIs, having such a program in place is a major step towards proper FATCA compliance under the IGA.

The compliance program should include policies, procedures and processes sufficient for the FI to satisfy the FATCA requirements. Such written policies and procedures are used mainly to govern FATCA identification, due diligence procedures and reporting requirements.

To ensure smooth implementation of the compliance program into an FI’s operations, it should be integrated with certain existing polices/procedures (e.g. Know Your Client procedure, anti-money laundering policies). The key benefits of this approach are (i) existing infrastructure, which may be built upon and (ii) the FI’s personnel understanding the existing procedures. As practice shows, it is easier to adjust familiar procedures than develop new ones from scratch.

It is equally important to ensure that the compliance program meets the effective restrictions set out by Ukrainian law (i.e. banking secrecy, personal data protection, etc.). Moreover, until Ukraine adopts the relevant legislation, FIs have to resolve the majority of their legal issues with clients via contractual relations. Ukrainian law specifically prohibits unilateral contractual changes or unilateral contract termination. In each case, the contractual changes must be negotiated and agreed to by both parties. Therefore, the FIs should make the necessary amendments to their service agreements addressing the effective legal limitations, providing the consent of clients for transfer of personal data, disclosure of banking secrecy, etc.

The proper functioning of the compliance program relies heavily upon the relevant infrastructure, including appointment of the personnel/departments under the responsible officer, development/adjustment of IT infrastructure, certification programs, internal controls and monitoring procedures aimed at identifying any changes relevant to FATCA compliance process. Taking into account the complexity of the FATCA regulations, some organizations (especially large ones) have designated a high-ranking official within the organization as the officer responsible for providing guidance and oversight to various functional areas.

If a FI is part of an expanded affiliated group (EAG), the FI should consider establishing a consolidated compliance program and introducing one unified approach throughout the network. For this purpose, the EAG may choose a single FATCA compliance centre, which will be responsible for introduction of new policies and procedures throughout the EAG and conduct of consolidated control. Such an approach is especially reasonable for those EAGs whose FIs are located in jurisdictions with effective IGAs.

Additionally, we should keep in mind that FATCA compliance is an on-going process and should be monitored thoroughly. Flexibility of the compliance program and its timely adjustments are very important in a rapidly changing legal and political environment. Moreover, failure to comply with FATCA may be treated as an event of default and the FI’s FATCA registration may be cancelled. As previously mentioned, cancelation of the FI’s registration may have a major negative impact on the FI’s business (30% withholding tax, reputational risks, etc.).

Taking into account fact that the first reports shall be submitted in September 2016 as well as the complexity of the FATCA, this is the right time for review and evaluation of your FATCA compliance. This should ensure a smooth transition and minimal disruption of the FI’s usual operations at further stages of FATCA enforcement.