United States: IRS Issues Notice Signaling 2014 And 2015 As FATCA "Transition Period"

On May 2, 2014 the Internal Revenue Service ("IRS") issued Notice 2014-33 ("Notice") announcing that calendar years 2014 and 2015 will be regarded as a "transition period" for purposes of enforcement and administration of the Foreign Account Tax Compliance Act ("FATCA"). The Notice also previews certain transition rules that will be included in forthcoming regulations amending the current FATCA rules.

With the official start of FATCA just around the corner, the Notice appears to be an extension of the proverbial olive branch by the IRS to appease requests for a further postponement of FATCA by financial institutions, withholding agents and other entities that are scrambling to implement the complex regulatory scheme before July 1, 2014. To that end, the transition period is "intended to facilitate an orderly transition" for financial institutions struggling to achieve FATCA compliance, according to the IRS.

What the Notice does not do, however, is postpone the current FATCA withholding effective date, due diligence and registration requirements. Indeed, the legal obligations imposed by FATCA remain essentially untouched. Rather, the Notice appears to be an attempt to assure the financial community that "good faith" compliance during the first 18 months of FATCA will be "good enough." This is welcome news, since the IRS just released form W-8IMY, and is still in the process of releasing instructions to a number of forms in the W-8 series, such as Forms W-8BEN-E and Form W-8IMY (the IRS just released instructions to Form W-8EXP on May 5, 2014). Additionally, the number of countries entering into Intergovernmental Agreements ("IGAs") continues to grow, and the Treasury Department has also published a list of countries that have in substance reached, but not yet signed, IGAs.

While the IRS will approach FATCA administration and enforcement with a degree of leniency during 2014 and 2015, the Notice is quick to point out that an entity that fails to make "good faith" efforts to comply with FATCA will not benefit from any enforcement relief. In other words, the Notice does not give financial institutions and withholding agents carte blanche to brush off FATCA until 2016. In addition, the transition period will not apply to the traditional U.S. withholding, backup withholding and information reporting rules to the extent they were not modified by recently released coordination regulations. For example, the IRS will not provide transitional relief when it comes to assessing whether a withholding agent has properly determined the character and source of payments for withholding and reporting purposes.

The Notice states that, during the 18-month period, the IRS will "take into account" whether a foreign financial institution ("FFI") or a withholding agent has made "reasonable efforts" to comply with FATCA. In the case of an FFI, for example, the IRS will consider whether the FFI has made "good faith efforts" to ensure that each entity in its expanded affiliated group has registered with the IRS. With respect to withholding agents, the IRS will take into account whether the withholding agent has made "reasonable efforts" to modify account opening procedures and identify the FATCA classification of payees. Beyond this, the Notice doesn't provide specific guidance as to how an entity can demonstrate "reasonable efforts" to comply with FATCA (reserving the IRS considerable discretion), and an FFI should be forewarned about reading too much into the Notice.

Finally, the Notice previews a few substantive changes designed to ease FATCA compliance during the transition period. Perhaps the most significant transition rule that the IRS intends to include in forthcoming amendments to the FATCA regulations concerns obligations held by an entity that are issued, opened or executed on or after July 1, 2014 and before January 1, 2015. Under the transition rules, FFIs and withholding agents may treat these obligations as "preexisting obligations"1 under FATCA, which are generally subject to more lenient withholding requirements (e.g., no withholding for certain payments made prior to July 1, 2016 with respect to a preexisting obligation where the withholding agent does not have documentation indicating the payee's status as a nonparticipating FFI, and the FFI is not treated as a "prima facie FFI") and due diligence (e.g., additional time to determine an account holder's FATCA status). The Notice, however, does not provide transitional relief for obligations of individuals entered into after June 30, 2014, nor does it expand the current withholding exemption for "grandfathered obligations" outstanding on July 1, 2014. As a result, obligations held by individuals entered into on or after July 1, 2014 will neither be grandfathered obligations nor preexisting obligations. Also, the Treasury Department and IRS intend to issue regulations modifying the standards of knowledge for determining the identity of U.S. account holders by withholding agents, as well as the registration obligations of FFIs that are members of an expanded affiliated group with other FFIs located in jurisdictions that prohibit FATCA registration.


1 Under the FATCA regulations, a "preexisting obligation" is broadly defined to include any account, instrument, contract, debt or equity interest maintained, executed or issued by a withholding agent that is outstanding on June 30, 2014, or, with respect to an FFI, any of the foregoing that is maintained, executed or issued by the FFI that is outstanding on the effective date of the FFI agreement. Treasury Regulation § 1.1471-1T(b)(104).

Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

© Morrison & Foerster LLP. All rights reserved

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David N. De Ruig
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