FATCA is a major revision of the U.S. withholding tax system. It imposes a new 30% withholding tax on
certain payments made to Foreign Financial Institutions (“FFIs”) and
Non-Financial Foreign Entities (“NFFEs”) that refuse to identify U.S.
account holders and investors.
It does not matter whether the U.S. person invests in U.S.
securities or receives the U.S. source income directly. “Withholdable
payments” that are subject to the 30% tax include both U.S. source
income (e.g., interest or dividends paid by a U.S. corporation) and the
gross proceeds from the sale of securities that theoretically could
generate U.S. source income.
FFIs and NFFEs can avoid withholding, but only by following disclosure rules. FFIs must enter into an agreement with the IRS to identify their U.S. account holders, follow due diligence rules, and withhold on “recalcitrant account holders.” NFFEs must disclose any U.S. persons who own more than 10% of the NFFE, directly or indirectly.
The new rules impact not just the financial industry, but all withholding agents, including U.S operating companies. Failure to comply with the new rules may give rise to significant withholding tax liability on withholding agents.
Even when FFIs and NFFEs fully disclose their U.S. account holders and owners, the long-standing NRA withholding rules under section 1441 of the Internal Revenue Code continue to apply. Withholding agents will still be required to comply with all existing documentation, withholding and reporting rules. FATCA is simply an overlay on top of the NRA and Form 1099 rules.
FATCA gets its name from the Foreign Account Tax Compliance Act, where most of its provisions originated. Those provisions are now Title V of the Hiring Incentives to Restore Employment (“HIRE”) Act.
FATCA goes into effect for payments made on or after January 1, 2013, except that interest and gross proceeds from obligations outstanding two years after enactment are exempt. See the new implementation schedule.