U.S. Tax Laws Change The Rules Of The Game

Ken Harvey & Pierre Noel - Forbes

Most advanced economies have tax evasion problems just as significant as those in the U.S., and it may be only a matter of time before other major countries begin to adopt similar legislation for offshore compliance regimes.

In March 2010, U.S. President Barack Obama and Congress enacted a game-changing piece of extraterritorial legislation--the Foreign Account Tax Compliance Act (FATCA)--as part of increasing efforts to reduce offshore tax abuses by U.S. citizens and residents.

When Obama's pen added Sections 1471 through 1474 to the Internal Revenue Code, financial executives could be forgiven for ignoring yet another addition to America's enormous and arcane body of tax law. But it is more than that; FATCA is an extra-territorial regulatory regime that enlists non-U.S. "financial institutions" in the tax collection efforts of the U.S. government.

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Perhaps not coincidentally, when spoken, FATCA sounds a lot like "fat cat", a word President Obama used to describe wealthy U.S. persons who were illegally avoiding their tax obligations. It all began with the revelations of the "Swiss Banking Scandal" where it was revealed that, allegedly, many wealthy Americans were stashing funds in unreported and therefore tax-evading accounts offshore in places like Switzerland, the Cayman Islands, Singapore and Hong Kong. The use of "secret" offshore bank accounts was surprisingly common. As details of the scandal emerged, financial services practitioners were astounded at the scope of the tax evasion that was apparently occurring. 

The U.S. public, engaged at the time in a rancorous debate of its own regarding the wealthy and taxes, were not amused. Congress and the President swiftly concluded that the current U.S. tax regime--which relies on self reporting of income and assets--was not sufficient to deter "fat cats" with the resources to hire helpful foreign bankers to invest their funds in secret offshore accounts. Something else was needed. The diabolical genius of FATCA is that it more-or-less forcibly enlists those very same foreign bankers in collecting the information the U.S. government needs to find all that money.

Essentially, a "financial institution" must sign a contract with the U.S. Internal Revenue Service (IRS) to identify any U.S. account holders and report them and their accounts to the IRS. In this context, a U.S. account holder is any U.S. citizen, resident, or a non-financial company with meaningful U.S. ownership. The institution must impose a 30% tax on payments or money transfers to any recalcitrant account holders who refuse to identify themselves, and to eventually close such accounts. 

It makes little difference if the institution in question has neither U.S. assets nor U.S. customers. Since any institution doing business in the U.S. will be required to comply, any institution doing business with any complying bank will need to comply as well, and so on. The definition of "financial institution" is also rather broad. Besides including the obvious suspects--banks--financial institutions include investment funds, insurance companies, pension funds, mutual funds, broker dealers, and private equity funds. Virtually anyone who handles or invests money for someone else is implicated.

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Organisations therefore need to consider the business implications of FATCA and of both the cost of compliance and of non-compliance. For foreign financial institutions, the most significant consideration is whether to comply with or attempt to avoid FATCA. Complying with FATCA may require revamping existing procedures such as KYC/Anti-Money Laundering (AML) and adjusting their underlying IT infrastructure. It means changing the way new customers are approved and documented. It also involves the daunting task of delivering the news to the existing customer base and asking them whether they are American citizens or residents and whether they will agree to have their personal details and account information communicated to U.S. tax authorities. 

Attempting to avoid FATCA means either reducing the exposure or limiting the impact. Reducing exposure requires ceasing doing business with U.S. citizens, residents or U.S. corporations’ altogether. This will not, however, eliminate the requirement that the organization document its policies and contract with the U.S. government to be audited in order to prove its compliance with these policies. 

Limiting the impact of FATCA may mean divesting any assets or operations in the U.S., and presumably, no longer being subject or having it’s customers subject to the 30% withholding tax. However, as long as the foreign financial organisation does business in U.S. dollars and has to transact with U.S. banks or with any international bank that is FATCA compliant, these correspondent banks may be instructed by the U.S. federal government to stop accepting business from institutions that are not FATCA compliant. In other words, non-compliance may not be possible for many institutions. 

Resolving the issues FATCA creates may be especially difficult in Asia, where attempting to obtain the necessary documentation is likely to be challenging--and annoying to customers. 

Despite the apparent extra-territorial overreach of the legislation, it seems unlikely that non-U.S. governments are going to make any serious attempt to intervene with the U.S. government to put an end to FATCA. Most advanced economies have tax evasion problems just as significant as those in the U.S., and it may be only a matter of time before other major countries begin to adopt FATCA-like offshore compliance regimes. To this end, the U.S. government and the OECD are already considering the development of future multi-national standards. 

FATCA may therefore lead to the end of banking secrecy as we know it, particularly if global reporting standards are eventually adopted. Financial executives should, accordingly, act quickly to identify the affected operational areas and determine the extent of potential FATCA compliance issues, as the law has significant implications across the business spectrum--for operations, IT, risk and tax.

Pierre Noel is Director Advisory, Head of FATCA services and Ken Harvey is a Partner in the International Corporate Tax Services Group at KPMG China.

Must Read: Invest Offshore Profits in U.S. Infrastructure

The beat-up state of America's last-century infrastructure – trains, roads, bridges, airports, electrical grid, Internet etc. – has become a national embarrassment (who among us isn't sick of hearing about China's sleek, gleaming airports and lightning-fast broadband?). It's also a strait jacket on the economic recovery and drag on long-term growth. Fixing it up will cost about $1 trillion. That money's not coming out of a deficit-obsessed Congress any time soon; nor is the private sector going to be ponying up, since infrastructure investment tends to be an unattractively large-scale and low-return proposition. So, what to do? Policy thinkers Reed Hundt and Thomas Mann, writing in the Washington Post, have an idea: American businesses have more than a trillion dollars in profits parked in bank accounts overseas, safely out of reach of the IRS but not doing anyone any good. What if Congress let firms bring back their overseas profits tax free – if, and only if, they put the money into an infrastructure bank for a certain period? The bank would then issue low-interest, long-term loans for infrastructure projects. Putting together two problems – neglected infrastructure, corporate tax evasion – might add up to "a solution that works for both sides of the aisle," Reed and Mann write, hopefully, "even in these sharply polarized times." Hmm, maybe. To me, it sounds far too sensible to get through Congress.

• 'Rebuild American infrastructure? Companies’ offshore profits can help'[Washington Post]

SPEAKER BOEHNER CALLS FOR "TERRITORIAL" TAX SYSTEM; WOULD EXEMPT CORPORATE PROFITS SHIFTED OFFSHORE

Addressing the Economic Club of New York on Monday, Republican House Speaker John Boehner told reporters that Congress should be “looking seriously at a territorial tax code,” according to CQ Today.

Under a territorial system, the offshore profits of a U.S. corporation would be exempt from U.S. taxes.

A recent report from Citizens for Tax Justice explained that this would cause serious problems.

First, corporations would have a greater incentive to engage in profit-shifting, meaning practices used to disguise U.S. profits as foreign profits. A common example is the manipulation of transfer pricing to shift corporate profits into tax havens (countries that do not tax, or that barely tax, certain types of profits).

Second, corporations would have a greater incentive to shift actual operations — and jobs — to other countries.

Our current system already encourages these practices because U.S. corporations are allowed to “defer” their U.S. taxes on their offshore profits. But the incentives would be even greater under a territorial system, in which corporations would NEVER pay U.S. taxes on their offshore profits.

Other countries that have adopted territorial tax systems are experiencing these problems, and the European Union is considering adoption of a different system to allocate profits among EU member states.

As CTJ’s report explains, the best alternative would be for Congress to repeal the rule allowing U.S. corporations to “defer” their U.S. taxes on offshore profits. Corporations could continue to get a credit for any taxes paid to a foreign government (just as they do now) which prevents any profits from being taxed more than once.

Possible Amnesty for Corporate Tax Dodgers

Some corporate leaders have argued that if Congress does not permanently exempt their offshore profits, then lawmakers should temporarily exempt them with the sort of tax holiday for repatriated corporate profits that Congress enacted in 2004. Boehner expressed openness to this idea on Monday.

Several studies of the 2004 effort showed the repatriated profits went to shareholders and not to job-creation, despite the promises made by corporate lobbyists. An economist with the U.S. Chamber of Commerce recently admitted that any attempt by Congress to attach job-creation requirements to the tax holiday simply will not work.

Read more about the proposed repatriation tax holiday.


Calls for Slashing Public Services, But No Revenue Increase from Profitable Corporations

Speaker Boehner also said that the corporate tax should be reformed but should not raise any more revenue than it does today. This came during a speech in which Boehner demanded that “trillions” be cut from public services — a goal that would be impossible without sharply cutting Social Security, Medicare, and Medicaid — but refused to consider any revenue increases.

A recent report from CTJ explains why corporate tax reform should be “revenue-positive,” meaning we should raise more tax revenue from corporations than we do today.

Almost two-hundred organizations have signed onto a letter urging Congress to adopt a revenue-positive corporate tax reform.

The letter notes that a 2007 report from President Bush’s Treasury Department found that the share of profits paid in taxes is lower for U.S. corporations than the average for OECD countries.

Sign your organization onto the letter urging Congress to raise revenue by reforming the corporate tax. (Deadline: End of Friday)

Send a letter on your own behalf urging Congress to raise revenue by reforming the corporate tax.

http://thehill.com/blogs/on-the-money/domestic-taxes/153947-geithner-administration-crafting-corporate-tax-reform-proposal#thecomments-form-message

Geithner confirms administration is crafting plan for corporate tax reform

By Bernie Becker - 04/05/11 12:44 PM ET

Treasury Secretary Timothy Geithner told lawmakers Tuesday that the administration is crafting a corporate tax reform plan that would eliminate some tax preferences in exchange for a lower corporate tax rate.

Geithner had previously said that he wants the administration and Congress to work together on overhauling the corporate tax code, but this appeared to be the first time he has mentioned an administration reform proposal.  

The secretary did not go into much detail about the plan or when it would be released. But he did say he thought the proposal would help get the process moving in Congress and that the administration had been consulting with lawmakers on the tax-writing committees. 

“I’m actually quite optimistic that we’re going to be able to start that process with a very strong pro-investment, pro-growth, pro-competitiveness proposal,” Geithner said, adding that the plan would be revenue-neutral.

Geithner’s statements come amid a flurry of action on the tax-reform front, which prominent policymakers on both sides have said should be examined.

The House GOP budget plan — crafted by Rep. Paul Ryan (R-Wis.), the chairman of the House Budget Committee — proposes reducing both the top corporate and individual tax rates to 25 percent. Rep. Dave Camp (R-Mich.), the chairman of the House Ways and Means Committee, also floated those figures in mid-March.

On Monday, Sens. Ron Wyden (D-Ore.) and Dan Coats (R-Ind.) introduced bipartisan legislation to comprehensively revamp the tax code. 

Geithner, testifying before a Senate Appropriations subcommittee, suggested Tuesday that he thought the corporate tax code could be revamped before the individual one, a different approach from House Republicans and the Wyden-Coats bill. 

The secretary also reiterated that the administration would be unwilling to examine a policy allowing multinationals to bring offshore profits into the United States at a reduced tax rate outside of broader corporate reform. Some lawmakers and a coalition of businesses have called for such a tax holiday in advance of tax reform. 

“What we want to do is improve incentives for people investing more of those resources here in the United States,” Geithner said. 

For their part, Camp and Sen. Orrin Hatch (R-Utah), the ranking member of the Senate Finance Committee, both praised the Ryan budget proposal for calling for major tax reform, which they said would help boost job creation. 

“We must focus on getting Washington out of the way so employers can do what they do best — innovate and create jobs — and that starts with comprehensive tax reform,” Camp said in a statement.

“We know our tax code is too complex, threatens our ability to compete in the world, and needs to be overhauled,” Hatch said in his own statement.

Treasury Secretary Timothy Geithner told lawmakers Tuesday that the administration is crafting a corporate tax reform plan that would eliminate some tax preferences in exchange for a lower corporate tax rate.

Geithner had previously said that he wants the administration and Congress to work together on overhauling the corporate tax code, but this appeared to be the first time he has mentioned an administration reform proposal.  

The secretary did not go into much detail about the plan or when it would be released. But he did say he thought the proposal would help get the process moving in Congress and that the administration had been consulting with lawmakers on the tax-writing committees. 

“I’m actually quite optimistic that we’re going to be able to start that process with a very strong pro-investment, pro-growth, pro-competitiveness proposal,” Geithner said, adding that the plan would be revenue-neutral.

Geithner’s statements come amid a flurry of action on the tax-reform front, which prominent policymakers on both sides have said should be examined.

The House GOP budget plan — crafted by Rep. Paul Ryan (R-Wis.), the chairman of the House Budget Committee — proposes reducing both the top corporate and individual tax rates to 25 percent. Rep. Dave Camp (R-Mich.), the chairman of the House Ways and Means Committee, also floated those figures in mid-March.

On Monday, Sens. Ron Wyden (D-Ore.) and Dan Coats (R-Ind.) introduced bipartisan legislation to comprehensively revamp the tax code. 

Geithner, testifying before a Senate Appropriations subcommittee, suggested Tuesday that he thought the corporate tax code could be revamped before the individual one, a different approach from House Republicans and the Wyden-Coats bill. 

The secretary also reiterated that the administration would be unwilling to examine a policy allowing multinationals to bring offshore profits into the United States at a reduced tax rate outside of broader corporate reform. Some lawmakers and a coalition of businesses have called for such a tax holiday in advance of tax reform. 

“What we want to do is improve incentives for people investing more of those resources here in the United States,” Geithner said. 

For their part, Camp and Sen. Orrin Hatch (R-Utah), the ranking member of the Senate Finance Committee, both praised the Ryan budget proposal for calling for major tax reform, which they said would help boost job creation. 

“We must focus on getting Washington out of the way so employers can do what they do best — innovate and create jobs — and that starts with comprehensive tax reform,” Camp said in a statement.

“We know our tax code is too complex, threatens our ability to compete in the world, and needs to be overhauled,” Hatch said in his own statement.