This article was first published in the May 2012 International edition of Accounting and Business magazine.
When critics accuse the US of wanting to run the world they are usually thinking of its soldiers rather than its tax collectors. But over the coming years US revenue officials will be spreading their influence across the globe. Financial institutions thousands of miles from the US will be forced to adjust to Uncle Sam’s tax rules and many governments will be compelled to change their laws.
The reason for this is the Foreign Account Tax Compliance Act – more commonly known as FATCA. The controversial law, passed by Congress in 2010, aims to clamp down on Americans using foreign accounts to evade tax in the US.
Part of the impetus for this assault on tax cheats came from a 2009 scandal in which Swiss bank UBS was fined $780m for helping Americans hide taxable money. While every nation wants to catch tax dodgers, the means employed by FATCA are considered extreme by many experts.
The core of the act is its requirement that foreign financial firms disclose the details of any account worth more than $50,000 that is held by a US citizen. Firms that fail to comply will be labelled ‘recalcitrant’ and a 30% withholding tax slapped on all their income and asset disposal proceeds from the US. This would be enough to bar any uncooperative financial firm from capital markets in the US – a draconian punishment indeed.
‘In essence this act attempts to turn the world’s financial institutions into US tax agents,’ says Steven Rosenthal, a tax lawyer and fellow at Washington’s Tax Policy Center. ‘America is trying to get stronger tax enforcement on somebody else’s dime.’
Complying with US dictates will not come cheap. Even after recent efforts by the US to make FATCA less onerous, accounting firm KPMG still expects the new rules to cost financial institutions between $20bn and $30bn globally over the coming five years. Meanwhile the US tax authorities are expecting a mere $800m a year in extra revenue from FATCA. This is scarcely a bonanza for the US tax take, which amounted to $1.9 trillion in 2010.
Adrian Harkin, who heads KPMG’s division focused on FATCA, explains the task that will be faced by CFOs and accountants at financial firms. ‘The sheer complexity of the rules is intimidating,’ he warns. ‘In several decades working in financial services I have never seen any regulation that requires such a broad skill set to handle. Non-US financial firms will need individuals with expertise in US tax law, the FATCA rules, data and IT systems as well as the full range of financial businesses.’
Even the first step of identifying US taxpayers will be no mean feat. ‘Current systems often don’t capture the citizenship of account holders,’ says Neil Bromberg, a principal at Ernst & Young in New York, who focuses on FATCA compliance. ‘On new accounts this can be changed but searching out Americans holding existing accounts may be harder.’
On some accounts, firms will be able to search digitally for ‘indicators’ of US citizenship, such as address, power of attorney, linked US bank accounts, or telephone prefixes. Occasionally, however, this work might have to be done manually. The Japanese Bankers Association, for example, has noted that its national banks will have to review more than 800 million accounts.
The trouble may not stop there, adds Harkin. ‘Once you suspect someone might be American you have to contact them through mail or phone,’ he says. ‘They may not answer. If they don’t, the firm will have to start withholding tax from the account, which is another bureaucratic headache.’
To make matters harder still, one unlucky individual at each finance firm will have to sign a document personally attesting that their company is complying with FATCA. This is rather like the US Sarbanes-Oxley legislation, which requires a company’s chief executive to guarantee personally the reliability of its financial statements. ‘Not many are likely to volunteer for this task,’ says Harkin. ‘Most people want to be able to fly to Florida for their vacation without worrying about ending up in a jail in Alabama.’
It may also be relatively easy for genuine tax cheats to continue to evade detection. Since accounts worth less than $50,000 will not be reported, it should be possible to split large fortunes into numerous accounts at various institutions.
Aside from the red tape, some nations make it illegal to hand over such information to foreign governments. Some nations have already tried to find a way around this. Under a recent deal struck with Britain, France, Germany, Italy and Spain, national governments will collect this data from their own financial institutions and only then pass it on to the US.
Harkin says that this will reduce the hassle but not eliminate it. ‘Other nations might have to modify their information privacy rules or adopt versions of FATCA themselves to avoid having their financial institutions locked out of the US,’ he says.
So FATCA is causing considerable resentment across the globe among governments and financial institutions, particularly as there are plenty of less intrusive ways for the US to cut down on tax evasion.
Some say a good starting point would be to stop cutting the Internal Revenue Service’s budget. The budget of the tax collection agency was reduced by 2.5% for 2012, forcing it to cull some 5,400 staff. Republican lawmakers have been pushing for even bigger cuts.
Such reductions make it harder for the agency to combat tax evasion, which costs the government up to $500bn a year, according to the Center for American Progress. Official estimates suggest that every extra dollar spent on the IRS can shrink the deficit by $3. In addition, the IRS could devote more resources to auditing the tax affairs of the super rich, who may be the only group able to squirrel away large sums of money overseas.
Few experts have anything good to say about FATCA. While it is sensible to try to ensure that Americans pay their proper share of tax, this law is an extremely onerous way of doing so. As a result the US is paying a heavy price in terms of international goodwill. Given the relatively modest sums US tax collectors are likely to recoup, it is arguably not a price worth paying.
- The Foreign Account Tax Compliance Act was signed into US law in March 2010 and was intended to catch US tax cheats who conceal overseas investments.
- The act insists that financial firms around the world hand over information on accounts worth more than $50,000 that are held by Americans. Insurance policies worth over $250,000 also need to be reported.
- Companies that refuse to comply will be hit with a 30% withholding tax, deducted from any funds transferred to the company from a US bank. The tax will also apply to the proceeds from the sale of any US property.
- The law not only affects banks but also brokers, dealers, hedge funds, asset managers and insurance firms.
- The rules come into force on 1 January 2013. In January 2014 ‘recalcitrant’ financial institutions – those that refuse to hand over information – will start to be charged the 30% withholding tax.
Christopher Alkan, journalist based in New York