Originally published May 7, 2009
Keywords: US tax reform, tax havens, offshore
accounts, qualified intermediary program, nonqualified
intermediaries, Foreign Bank and Financial Accounts reqirements,
IRS On May 4, 2009, President Obama and Treasury Secretary Geithner
unveiled two components of the Administration's plan relating
to US international tax reform. The first component relates to
certain changes to the deferral of foreign earnings and the foreign
tax credit rules. The second component generally relates to abusive
uses of accounts located in tax havens. This second point is further segregated into those rules
applicable to US businesses that utilize tax havens to avoid the
application of certain anti-deferral provisions (i.e., through the
use of the so-called "check the box" rules), and those
rules applicable to individuals who hold accounts outside the
United States, which may avoid current information reporting rules.
This Client Update will address this last point —
modification of the information reporting rules, the qualified
intermediary (QI) program and foreign bank account reporting. A
certain familiarity with the information reporting rules, foreign
bank account reporting rules, recent legislative proposals relating
to this subject and the QI program is presumed. The Obama Administration hopes to build on prior legislative
efforts relating to offshore tax havens in order to pass bipartisan
legislation that would likely take effect after 2010. The
Administration's proposal generally reflects the prior efforts
of Senate Finance Committee Chairman Baucus and Sen. Levin. The
highlights of the proposal are as follows: The Administration states that its entire international tax
proposal would generate approximately $210 billion over the next 10
years. The predominant amount of anticipated revenue is due to
amendments aimed at US-controlled foreign businesses (e.g., changes
to the anti-deferral, foreign tax credit and the so-called
"check the box" rules). Only a relatively small amount of
revenue, $8.7 billion, is anticipated to be generated by the
changes to the rules applicable to individuals (described below).
In this regard, it is possible that the Administration is seeking
to utilize public support of policies that would end offshore tax
avoidance by individuals in order to pass a sweeping series of
international tax provisions that predominantly affect
US-controlled multinational businesses and the subsidiaries of such
businesses located in low-tax jurisdictions. As a preliminary matter, it is interesting to note that the
Administration's proposal does not contain a so-called
blacklist. However, the proposal does reference the initiatives
undertaken by the G-20 with respect to certain countries with
inadequate information exchange practices, which suggests that the
Administration's proposal is in addition to whatever global
response is taken by the G-20, or presumably, the OECD or other
international organizations. In this regard, the proposal would
create certain presumptions that financial institutions that are
not QIs are facilitating tax evasion, and the burden of proof will
be shifted such that those institutions and their account holders
will need to prove that they are not improperly avoiding US federal
income tax. One apparent purpose of the Administration's
proposal is to force foreign financial institutions to become QIs
by penalizing NQIs and their QI affiliates while, at the same time,
imposing additional reporting duties on QIs. NQI Proposals The Administration has proposed that a withholding tax be
applied to payments made by an NQI to a US withholding agent. This
withholding tax would be imposed at a rate of 20 to 30 percent and
it is unclear whether it would be imposed in addition to or in lieu
of the current US withholding tax imposed on payments of US source
income to foreign persons. In order to avoid this additional
withholding tax, a client of an NQI would need to disclose such
client's identity and prove to the IRS that he or she is
complying with applicable US tax laws. It is unclear whether this
withholding tax would only be applicable to payments of US source
income (e.g., dividends paid by US corporations), or whether any
payment (e.g., sales proceeds, foreign source income payments made
by a US paying agent, etc.) made by a US withholding agent to an
NQI would be subject to the withholding tax. The Administration would also adopt a proposal, similar to Sen.
Levin's, to create a rebuttable presumption that any account
held by a US citizen at an NQI would satisfy the reporting
requirements relating to the FBAR. Moreover, the proposal would
presume that the failure to file an FBAR would be considered
"willful" for purposes of applying the associated
failure-to-file penalties, if the account has a balance of more
than $200,000 during the calendar year. Generally, the civil
penalty for a willful failure-to-file the report is at least
$10,000 or 50 percent of the balance of the account, whichever is
greater. Additionally, criminal penalties could apply with respect
to the willful failure to file an FBAR. The Administration's proposal also would impose information
reporting requirements on US persons who transfer money or other
property to or from an NQI. In this regard, the information
reporting requirement would be imposed on the US person as part of
that person's US tax filing requirements. Finally, the Administration intends to prohibit QIs from
utilizing NQI affiliates to avoid the applicable information
reporting rules. The proposal would revise the criteria by which a
financial institution may qualify as a QI by giving Treasury the
authority to prohibit a financial institution from qualifying as a
QI if it has commonly controlled affiliates that are NQIs. It is unclear whether this proposal would only apply to
financial institutions that act as an intermediary for clients or
whether these rules would be broad enough to cover trust or other
asset management businesses conducted by financial institutions
that do not operate as intermediaries for their customers. To the
extent that this proposal is applied broadly to all commonly
controlled affiliates of a QI, QIs and their affiliates will need
to determine whether QI status is warranted in light of the likely
increase in compliance costs associated with group-wide QI
status. Increased Penalties and Extension of Statute of
Limitations The Administration's proposal, similar to other recent
legislative proposals, increases the penalties applicable to
persons who fail to disclose offshore accounts. In this regard, the
proposal would double the penalties applicable to a US person's
failure to make a required disclosure of a foreign account. This
rule would seem to apply to FBAR filings, and might also apply to
other information filing requirements applicable to US persons. For
example, it is possible that this rule might also apply to
information reporting relating to the ownership or control of
certain foreign corporations (i.e., Form 5471 reporting) and
information reporting relating to foreign trusts (i.e., Form 3520
and Form 3520A reporting). In addition, the Administration's proposal, like other
recent legislative proposals, would extend the three-year statute
of limitations with respect to international items to six years
after the taxpayer submits required information. Modifications to QI Program Under currently applicable rules, there are limits on what
information a QI is required to report to the IRS, including
information regarding account holders that are US persons. In
particular, there are exceptions to the information reporting rules
relating to foreign source income or broker proceeds paid to US
persons outside the United States. Additionally, a QI is not
generally required to report information to the IRS with respect to
US persons who indirectly own assets through a foreign corporation,
which itself has an account at the QI. The Administration's
proposals would change these long standing practices. As a preliminary matter, the Administration proposes to require
that all QIs conduct information reporting relating to US persons
in the same manner as US financial institutions are required to
report such information. In other words, a QI would no longer
qualify for certain exceptions from information reporting that rely
on the foreign status of the QI. For example, under this proposal a
QI would be obligated to report US- and foreign-source dividends
paid to a US person. Similarly, all sales proceeds relating to the
sale of property that produces US-source income, as well as
property that produces foreign-source income, would be subject to
information reporting. Moreover, treating a QI as a US financial
institution for information reporting purposes also raises
information-reporting issues that are not traditionally addressed
by QIs, such as the reporting of bank deposit interest, or other
payments to US citizens (e.g., any amount exceeding $600). Similar to other recent legislative proposals, the proposal
would require information reporting with respect to a financial
institution's formation of a foreign business entity that is
owned by an individual that is a US person. Moreover, QIs would be
required to also conduct information reporting with respect to all
transfers of assets to or from a foreign financial account owned by
an individual that is a US person. The expansion of a QI's
obligation to conduct information reporting to all transfers to or
from a US person's QI account would represent a significant
increase in compliance costs as well as an increase in the volume
of information provided to the IRS. The Administration also proposes to modify the
information-reporting rules applicable to US persons who indirectly
hold accounts at a QI through a foreign entity that is treated as a
corporation for US federal tax purposes. Under current US federal
tax rules, a foreign corporation is generally considered the
beneficial owner of income paid to it. Therefore, a US person may
legitimately hold assets through a foreign corporation and avoid
information reporting with respect to such US person under the QI
agreement. However, the US person would need to also comply with
the applicable information return requirements relating to the
ownership of such foreign corporation. Learn more about our
Tax Transactions & Consulting and
Financial Services Regulatory & Enforcement
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