FATCA and the Nominee –

Part I of this post can be found here.

By brief background, under FATCA, foreign financial institutions (FFIs) must agree to verification and due diligence procedures – meaning they must be on the look-out for customers, owners or beneficiaries evidencing any “US indicia”. They must identify and report information on US account holders/owners directly to the Internal Revenue Service or to their own government via an intergovernmental agreement (IGA). They must look through their customers and counterparties’ ownership to find “substantial US owners” (generally, more than 10% ownership) of any entities holding accounts at the financial institution.

The goal of FATCA is to stop US tax evasion by requiring FFIs (and non-financial foreign entities) to provide information about financial accounts held by US taxpayers or foreign entities in which US taxpayers hold a substantial ownership interest. If they don’t agree to the due diligence and reporting, the institution/entity itself will suffer a 30% withholding tax on all US source payments, including sales proceeds on US stocks and securities. Simply put, the FATCA focus is on reporting information about direct and indirect US account holders and withholding is the “cost” of not reporting.

What happens when the FFI finds “US indicia” and subsequently treats the account as a US reportable account, sending information about the account to the IRS (or to the FFIs home government which will forward on such information to the IRS)? If a nominee arrangement is in place with the nominee being a US person and the beneficial owner being a non-US person, it seems inevitable that trouble may lie ahead. The reporting by the FFI will be inconsistent with the US taxpayer’s reporting. The IRS will come asking questions of the nominee, for example, about his failure to report the account, as well as any stock holdings in a foreign entity that owns the account. Typically, reporting of these assets may be required on the US tax return, Form 8938 and possibly other information returns, such as a Form 5471. (Form 5471 deals with ownership interests in a foreign corporation).

Holding a foreign financial account or an ownership interest in a non-US entity solely as a nominee may excuse certain tax filings. For example, holding strictly as a nominee means the income does not belong to the nominee and reporting of the income on Form 1040 would not be required. It is possible this position may also reasonably be taken, for example, with regard to Form 8938 and Form 5471. In today’s tax environment, however, I can see the IRS taking a contrary position.

As regards, Form 5471, the governing Treasury Regulations at Section 1.6046-1(h) provide:

”Actual ownership of stock. If any shareholder, referred to in this section, is not the actual owner of the stock of the foreign corporation, the information required under this section shall be furnished in the name of and by such actual owner. For example, in the case of stock held by a nominee, the information required under this section shall be furnished by the actual owner of such stock.”

With respect to Form 8938, language in the Treasury Regulations implementing the tax law relevant to the Form arguably indicate the Form is not required by one holding merely as a nominee. The form must be filed (assuming the dollar thresholds are met) only if the person has “an interest” in the specified foreign financial asset (SFFA) which means “if any income, gains, losses, deductions, credits, gross proceeds, or distributions attributable to the holding or disposition of the specified foreign financial asset are or would be required to be reported, included, or otherwise reflected by the specified person on an annual return.” Such language indicates the specified person must have the right to the underlying income, loss, deduction, gross proceeds or distributions from the SFFA. A nominee would not have such right, since this belongs to the beneficial owner.

On the other hand, an FBAR must be filed if the $10,000 aggregate accounts threshold is met when a party directly holds a foreign financial account only as a nominee for another party.

Keep Proper Documentation

A nominee relationship should always be properly documented. It should be prepared by a professional who will understand the tax ramifications of the arrangement and who is in a position to make sure that proper wording is used to help uphold a claim of nominee status in the event of an IRS challenge.

Don’t Look for Trouble

I advise my non-US clients to consider using a non-US person as the nominee whenever possible. In today’s tax climate, it is clearly best to avoid any US tax issues when it comes to foreign assets. Keeping the US family members at a very safe distance, sadly, seems to be the surest way. If this is not possible and a US person serves as nominee, the safest course of action may well be for the associated information filings to be undertaken, perhaps along with an explanation as to the nominee status attached to the form. Another helpful way to handle this type of situation, is ensuring that the name on the financial account (or other asset) clearly states that the individual’s name appear as a “Nominee”.

In accordance with Circular 230 Disclosure