United States (US) Legislation called the Foreign Account Tax Compliance Act (FATCA), which came into law in the US on March 18, 2010. The Act, which is part of the Hiring Incentives to Restore Employment (HIRE) Act, is aimed at combating tax evasion by US persons holding investments in offshore accounts. Chapter 4 HIRE Act requires a wide-range of non-U.S. financial intermediaries – such as financial institutions, brokers, investment vehicles (hedge funds, private equity funds) that own U.S. investments to obtain and report information pertaining to U.S. accounts to the U.S. Treasury. Where intermediaries do not hold accounts for US persons but hold U.S. investments, they must comply or suffer the withholding tax.
The aim of this Act is to require Foreign Financial Institutions (FFIs) to identify and report to the Internal Revenue Service (IRS) U.S. persons who have accounts outside of the U.S to the U.S. Treasury.
There are 2 ways of FFIs fulfilling their FATCA obligation. In view of the extra territorial reach of this Act and the consequences of non-compliance, most countries are dealing with FATCA on a country specific basis using the Intergovernmental Agreement rather than have each of their financial institutions enter into a separate agreement with the IRS.
A. Intergovernmental Agreements(IGA):
This is a bi-lateral agreement between a country and the U.S. government. There are two models of this agreement
- Model 1:
Under this agreement, Countries will be able to report information on U.S. account holders directly to their national authorities, who in turn will report to the IRS. The requirements under this model are not as stringent as should financial institutions be rendering the report to the IRS directly. There are two versions to this agreement—the reciprocal and non-reciprocal agreement. The reciprocal version requires an exchange of information between the IRS and the respective country entering into the agreement with respect to information about account holders in each country’s financial institutions that are residents of the other country.
- Model 2:
Under this agreement, the FFIs will report information directly to the IRS rather than through their national authorities but local laws will be modified to facilitate information exchange.
B. Registration with the IRS:
Under, this arrangement, FFIs are to register and report directly to the IRS as Participating Foreign Financial Institutions without recourse to their local authorities.
The implementation of FATCA is bound to have a significant impact on the Compliance, Operational and IT processes of Tanzanian financial institutions and will be best driven by the financial institutions to ensure uniformity from a country perspective as well as to alleviate the issues of international financial institutions that are FATCA compliant refusing to do business with Tanzanian financial institutions that are not FATCA compliant.
The new FATCA rules commenced in June 2014 and it is crucial for the financial institutions in Tanzania to have an in-depth understanding of the regulations as well as the implications posed by them to the banking industry as it would necessitate not just reviewing the account opening process but also ensuring that financial institutions are able to identify qualifying existing customers.
The effects of non-compliance with FATCA are punitive: the refusal or non-compliance by an FFI may result in a 30% withholding on U.S. sourced income received by the non-compliant financial institutions. Income subject to withholding tax includes but is not limited to dividends, interests, rent, royalties, sale of assets, salary, wages, premiums, annuities, compensation, emolument and pass-through payments.
To this end, it is highly recommended that the Model 1 IGA is adopted and that Tanzania through the central bank (BOT) should consider applying the reciprocal approach which appears to have been adopted by several countries that are FATCA compliant (U.K. Spain, Mexico, Japan, Spain, Ireland).