Financial Institutions failing to register may face penalties

The Model 1B Intergovernmental Agreement signed between the Cayman Islands and the United States, sees those entities considered Financial Institutions (FI) that fall under FATCA, and have not registered with the IRS (to obtain a Global Intermediary Identification Number (GIIN), prior to 22 December 2014) now facing possible penalties (withholding) imposed by certain counterparties on US sourced income.

Maples law firm published a piece that stated, “Following the 1 January 2015 deadline, an entity that is an RFI (whether in the Cayman Islands or in the BVI) that has failed to register with the IRS is likely to have any future receipt of US sourced income subject to a 30 per cent withholding by the payer under US law. Failure to comply with the legislation (of which failure to register will be one factor) can lead to financial penalties and a possible custodial sentence being imposed against the entity, its directors and/or other officers under Cayman Islands or BVI law (as the case may be).

With the above in mind, careful consideration needs to be made as to whether any Cayman Islands or BVI trustee or trust is an RFI for the purposes of US FATCA. The Cayman Regulations define an RFI as a “Financial Institution which is not a Non-Reporting Financial Institution”. The intergovernmental agreement entered into between the US and the BVI (“US-BVI IGA”) contains an identical definition.

If an entity is not a Financial Institution, it is regarded as a non-financial foreign entity (“NFFE”). While NFFEs do not need to register with the IRS, FATCA specific advice should still be obtained as an NFFE is required to determine its FATCA status and where necessary self-certify to other RFIs (for example with banks where they hold accounts) and to US withholding agents. Failure to provide the appropriate self-certification to US withholding agents can result in the imposition of withholding tax. Certain NFFEs may also need to obtain self-certification from their Controlling Persons.”

The article went on to explain FI’s and Private Trusts and the UK FATCA, noting that, “ In addition to the above, it is also important that consideration be given to the potential application of the United Kingdom’s own version of US FATCA (“UK FATCA”). Whilst UK FATCA does not impose a requirement to register with Her Majesty’s Revenue & Customs there is, pursuant to both Cayman Islands and BVI law, the potential for penalties and a custodial sentence to be imposed for non-compliance.”

With their final advice being “UK FATCA has a similar scope and adopts similar definitions to US FATCA (with some subtle differences). We would therefore encourage Cayman Islands and BVI trustees to have regard to both UK and US FATCA.”

According to an article by Andrew Morehouse, Ross Munro and Kate Taft, “A typical Cayman fund will fall within the definition of a Financial Institution, however there are many other Cayman entities and structures which may be caught by the FATCA definition which is wider than the normal meaning of the expression.” The article also stated that, “All Cayman entities should consider their classification for FATCA purposes.”

Of note the authors stated that, “In relation to US FATCA, entities which fall within the definition of a Financial Institution but which have either no US sourced income and/or no Specified US Persons (as defined under FATCA) as shareholders, partners, unitholders, investors, or other account holders (each an “investor”) will still need to comply with the requirements set out below. Similarly, entities which fall within the definition of a Financial Institution but which have no Specified UK Persons will still be required to comply with UK FATCA.”

Not only is the FI’s required to registered but they must also appoint a Responsible Officer (RO) to deal with the IRS online registration, and certify that information entered as part of the online registration is accurate. In addition the RO must certify that the entity will comply with its FATCA obligations.

Other obligations to be met by the Financial Institution are; implementation of a compliance programme which includes due diligence on investors to meet the reporting requirements and they must report relevant FATCA information to the Cayman Islands Tax Information Authority (CITIA).

An article published by Harneys leading law firm located in the British Virgin Islands states that, “The definition of a “Financial Institution” (FI) (equivalent to a Foreign Financial Institution (FFI) in the FATCA Regulations) is key to the application of the Intergovernmental Agreement (IGA).

The IGA defines a FI as a Custodial Institution, a Depository Institution, an Investment Entity or a Specified Insurance Company. In the funds context, Investment Entity is the most relevant. The term is clearly defined in the IGA itself. However, the Guidance Notes provide flexibility for entities to elect to apply the IGA definition of Investment Entity or the definitions used in the FATCA Regulations or the CRS. In other words, an entity may avoid treatment as an Investment Entity unless it falls within all three of the definitions.

The IGA definition of Investment Entity is any entity which conducts as a business (or is managed by an entity that conducts as a business) any of a variety of financial activity for or on behalf of a customer including managing funds or money. The IGA definition also captures managers, advisors and administrators of funds. The CRS and FATCA Regulations definitions are generally narrower and refer to gross income of the entity being primarily attributable (more than 50 per cent) to investing in Financial Assets. In practice, the majority of Cayman investment funds fall within all three definitions and must be treated as FIs under the IGA.”

With the first filing deadline mere months away, there are guidelines set out for those entities that are not registered and consider themselves not to fall under the FATCA regulations.

According to section 18.2. of ‘The Cayman Islands, Guidance Notes on the International Tax Compliance, Requirements of the Intergovernmental Agreements between the Cayman Islands and the United States of America and the United Kingdom’ Version 2.0 Date of Issue: 15 December 2014 entitled,

Significant non compliance;

“Significant non-compliance may be determined by the IRS (in respect of the US Agreement), HMRC (in respect of the UK Agreement) or the TIA. In any event the relevant Competent Authorities will notify the other regarding the circumstances. Where one Competent Authority notifies the other of significant non-compliance there is an 18 month period in which the Financial Institution must resolve the non-compliance. Where the TIA is notified of or identifies significant non-compliance by a Reporting Cayman Islands Financial Institution, the TIA may exercise any compliance measures under the Regulations.

The TIA will also engage with the Reporting Cayman Islands Financial Institution to:

• discuss the areas of non-compliance;

• discuss remedies/solution to prevent future non-compliance;

• agree measures and a timetable to resolve its significant non-compliance.

The TIA will inform the Competent Authority of the other party of the outcome of these discussions.

The following are examples of what would be regarded as significant non-compliance:

• Repeated failure to file a return or repeated late filing.

• Ongoing or repeated failure to register supply accurate information or establish appropriate governance or due diligence processes.

• The intentional provision of substantially incorrect information.

• The deliberate or negligent omission of required information.

In the event that the issues remain unresolved after a period of 18 months then the Reporting Cayman Islands Financial Institution will be treated as a Non-participating Financial Institution under the US Agreement. Details of how such an entity can correct status will be published at later date. There is no equivalent sanction under the UK Agreement but compliance measures may be exercised by the TIA under the Regulations.”

The first reporting year being 2014, registered FI’s will be required to supply CITIA with information by 31 May 2015 in relation to US FATCA. However, if a Cayman entity that falls under the guidelines that have been given, deem themselves to have “no reportable investors ” they are still not free for business as usual, they must still file to that effect.