Beginning July 1, 2014, a new federal income tax law will come

into effect that will greatly increase the administrative burden

for many companies. If your business makes payments to foreign
companies or if you are a foreign company that receives payments
from U.S. companies, this new tax law may apply to you. It is a
shame that the new tax law is written so broadly and can poten-
tially apply to so many companies. The new tax law is also riddled
with exemptions that can only be claimed by meeting numerous
compliance requirements. Failure to comply with this new tax
law will be a very expensive tax cost for your business in the form
of 30% additional tax.
This new tax law is called FATCA, which stands for the Foreign
Account Tax Compliance Act. After understanding the implica-
tions of this new tax law, you may come to realize that the letters
comprising the acronym FATCA are the most hideous letters in
the English alphabet. In short, FATCA imposes a 30% withhold-
ing tax on withholdable payments made to foreign entities. In
operating your business, it is very likely that you make payments
to foreign entities. FATCA will require your business to determine
the tax residency of every recipient of a payment from your busi-
ness. And if you determine that the recipient of the payment is a
foreign entity, your business will need to determine whether the
payment is a withholdable payment. In general, a withhold-
able payment includes payments of interest, dividends, royalties,
commissions and sales of stock or debt. Care must be made in
performing this due diligence. The reason is that if your business
makes a payment that was subject to FATCA, and your business
fails to withhold 30% of the payment, your business will be re-
sponsible to the Internal Revenue Service for such taxes. Another
factor to consider is that this due diligence process of determin-
ing the tax residency of the recipients of your business payments
and the character of the business payments is an ongoing process.
Payments your business may have believed were exempt from
FATCA may become subject to FATCA because the activities of
the recipient have changed such that FATCA now applies.
If your business includes foreign entities, your concern will be to
avoid the imposition of the 30% withholding tax on the receipt of
a payment. There are numerous exemptions that can potentially
apply in order to avoid the 30% withholding tax. But your busi-
ness must determine which exemption could potentially apply
and must determine what requirements need to be met in order to
qualify for the exemption. Failure to qualify for an exemption will
result in the imposition of the 30% withholding tax. There are ex-
emptions that could apply to foreign entities if they make certain
flings with the Internal Revenue Service, are a publicly traded
company (or have a publicly traded company in their affliated
group), or have limited amounts of investment assets. And even
if an exemption applies, the exemption may impose due diligence
requirements on your business, the requirement to appoint a com-
pliance offcer, and/or the requirement to make certifcations and
other tax flings with the Internal Revenue Service. After fully un-
derstanding all of the exemption requirements, you may feel that
the Internal Revenue Service has ingeniously transferred its tax
audit responsibilities to your business on your dime.
The reach of FATCA can be illustrated in an example. Suppose
you are a U.S. company that licenses intellectual property from a
foreign entity as part of your business operations. Your royalty
payments are potentially subject to FATCA and your business may
be required to withhold 30% of the royalty payments and remit
such amounts to the Internal Revenue Service. If your business
fails to withhold and remit such amount to the Internal Revenue
Service, the Internal Revenue Service may require your business
to pay such taxes. Your business will need to create and impose
policies to track the royalty payments and determine whether
an exemption from FATCA applies. Your business can request
certain tax forms from the recipient to determine whether an ex-
emption applies. Once such forms are received, your business will
need to examine and determine whether the form can be relied
upon. In addition, you will need to check your records to deter-
mine whether you have any information on fle that could indicate
that the form is false and cannot be relied upon.
In another example, suppose your business is a private investment
fund and includes foreign entities. Your foreign entities will need
to register with the Internal Revenue Service, perform due dili-
gence to identify U.S. investors, report certain information regard-
ing the U.S. investors, and appoint an offcer to develop policies to
satisfy the compliance requirements under FATCA.
The imposition of FATCA will undoubtedly increase the tax com-
pliance costs of your business. Unfortunately, there is no option
other than to comply. Otherwise, your business faces the prospect
of paying a 30% tax on certain payments, which must be remit-
ted to the Internal Revenue Service. This new tax law will have a
sweeping effect on most businesses. Are you prepared?
Benedict O. Kwon is a shareholder in Stradlings tax and fund forma-
tion practices.
A New SweepiNg TAx LAw ThAT wiLL AffecT Your BuSiNeSS-ANd NoT iN A good wAY
BY BeNedicT o. kwoN
www.Thedeal.com
AS FEATURED oN
TheDeal.com(ISSN1547-7584) is publishedby The Deal.
Copyright 2014The Deal. The Copyright Act of 1976prohibits the reproductionby
any means of any portionof this publicationexcept withthe permissionof the publisher.
B Y L I N E