FATCA Compliance: To Withhold or Not To Withhold? That is the Question
- Industry Insights
- February 16, 2015 | Melissa Sargeant
How well do you know FATCA, the Foreign Account Tax Compliance Act? As part of the Hiring Incentives to Restore Employment or HIRE Act of 2010 (aka “the jobs bill”), FATCA is designed to help the IRS collect taxes owed by foreign individuals and entities that receive payments from U.S. businesses. Failure to comply with FATCA withholding regulations can result in increased tax liability, penalties and fines for non-compliant companies.
In July 2014, FATCA went into effect, and some companies likely still haven’t fully processed the new rules. Since the IRS is expected to start auditing companies for FATCA compliance this year, it’s important your company understands and complies with the new regulations related to foreign payees.
In this post, we’re going to address some frequently asked questions about FATCA we hear from our clients. Then, we’ll follow up with a second article outlining other areas you really need to understand to be compliant.
How is FATCA withholding different from existing withholding requirements?
It’s important to understand that FATCA and existing withholding rules are independent of each other. However, under the new rules, FATCA must be applied first. While existing rules impose a 30 percent tax withholding on selected payments to non-U.S. persons and entities, the new regulations have broadened the range of payments that require withholding.
What types of payments are subject to FATCA withholding?
Under FATCA, your foreign payees are likely to be subject to the 30% withholding tax. Withholdable payments commonly include U.S. source dividends, rents, interest, royalties, salaries, wages, annuities or other fixed, determinable, annual or periodic income; gross proceeds from the sale or disposition of U.S. property that could produce interest or dividends; or interest paid by a foreign branch of a U.S. bank.
What can I do now to prepare for FATCA?
There are several things you should consider doing now to prepare for a FATCA audit:
- Identify a person (or team) within your organization who is going to take responsibility for FATCA.
- Assess the impact on your organization and earmark appropriate budget needed to comply.
- Develop a process to capture, track and maintain the data and documents required for FATCA reporting. You should consider using an automated solution to help execute and manage this process.
- Determine the classification of each of your foreign payees. FATCA focuses on two types of foreign payees: Non-Foreign Financial Entitles (NFFEs) and Foreign Financial Institutions (FFIs). Due to its breadth, FATCA impacts nearly all non-U.S. entities that receive most types of U.S. source income.
While many of your foreign payees probably qualify as NFFEs, they should be classified as FFIs if they do any of the following:
- Accept deposits as a banking or financial business
- Hold financial assets on behalf of others
- Are engaged in the business of trading, managing or investing financial assets
- Act as a holding company in connection with an investment vehicle
- Are a foreign-regulated insurance company
- Collect the new W-8 form for each foreign payee, and use the new W-9 (updated as part of FATCA) for U.S. payees. The W-8BEN form is for foreign individuals, and the W-8BEN-E form is for foreign businesses.
What should I expect from a FATCA audit?
While FATCA-specific audits are just starting, the typical approach the IRS takes when auditing foreign withholdings its to determine:
- Who are your foreign payees?
- What payments to your foreign payees are covered under FATCA?
- Which payments are subject to withholding?
The auditor likely will presume that a 30% withholding applies to your foreign payments. Additionally, you should expect the auditor to ask you to provide accurate documentation using the new W-8 and W-9 forms. In the past, if you collected the data, you weren’t required to show the W-9 form. Going forward, you should expect the auditor to want to see the actual W-8 and W-9 forms.
In our next post, we’ll go into more detail on things you need to know about collecting, validating and managing W-8 and W-9 forms as part of your FATCA compliance process.