Capitalizing on the FATCA Deadline Delay

Now that the Treasury Department has announced there will be a phased-in time line for Foreign Account Tax Compliance Act (FATCA) compliance, starting in 2014 with a final deadline expected in 2015, many organizations may think they can relax. But this is not the case.

Global lending institutions with U.S. clients should be working now to achieve compliance with FATCA, an act created to improve tax compliance involving foreign financial assets and offshore accounts. The act will require foreign financial institutions to report to the IRS information about financial accounts held by U.S. taxpayers or held by foreign entities in which U.S. taxpayers hold a substantial ownership interest.

Failure to comply by the deadline will be costly and could result in a 30% withholding on tax payments. Identifying, reporting and classifying all clients that need to be assessed under FATCA guidelines will be a complex and time-consuming task. Financial institutions may be unable to determine the size of the challenge they face until they dig deep into their client data. In many cases, they don’t even know what they don’t know, and that could create compliance complications-—or worse—penalties at the time of reckoning.

Organizations will have to examine their accounts for U.S. indicators and, in some cases, will need to obtain information from account holders on their U.S. status, citizenship, residence and place of birth. Industry classification codes, ownership hierarchies, geographic locations and many other entities and attributes will be used to classify organizations or individuals in order to demonstrate compliance. This will prove onerous.

For example, a software provider recently took a representative sample of client data and uncovered approximately 10,000 records that needed to be examined under FATCA. This included some client records containing U.S. indicators and others containing conflicting or incomplete data. Extrapolating the numbers across their entire client base, this would result in more than 100,000 client records that need some level of review.

Once a client record is flagged as “of interest,” there will be a need for some degree of manual review to determine the appropriate remediation. Using a moderate estimate of two hours on average to review, assess and resolve each case equates to approximately 200,000 man-hours, or 125 man-years, of effort, illustrating the need for this to be addressed as soon as possible.

Another example is entity classification, which will require the determination of whether a client entity is a foreign financial institution, non-financial foreign entity or “exempt/deemed compliant” organization. This will require the business type of the entity to be identified first. Many organizations are planning to rely on their existing standard industrial classification coding of entity customers to drive FATCA classification. However, without any view on the completeness and accuracy of the SIC coding, it cannot be relied upon as a source of client business type. This is an area where institutions may be particularly challenged.

The examples provided give a clear illustration of the significant task at hand for FATCA compliance and the dependency on appropriate data to drive some of the key activities. In the cases mentioned, clients were surprised and incredibly concerned about the large number of identified suspect records. There was much conflicting information, and it highlighted the fact that these banks could not be completely confident in their own reporting systems.

Large institutions, and even mid-sized ones, have many systems and data repositories across multiple territories. Some territories will have higher error frequencies than others. This is because client information capture processes can be different or less rigorous based on region and regulations.

Firms operating in multiple jurisdictions face additional challenges as some operations will be covered by intergovernmental agreements that enable banks to report information on United States account holders to their own national tax authorities, even within countries that do not recognize these agreements. These organizations will have to manage multiple reporting regimes and processes to be compliant.

Institutions of all sizes can use tools to accelerate FATCA compliance while minimizing risks. The key starting point to assess all client data across your enterprise is to automate the identification of records with FATCA indicators and those with errors and data gaps. Taking this step early will help ensure deadlines are met. The sooner an organization understands where its client data issues lie, the quicker it can take the necessary corrective action to achieve compliance.