FATCA Causing Shock Waves Around the World

In 2010, Congress passed House Resolution (H.R.) 2847, the Hiring Incentives to Restore Employment Act, or HIRE Act.

This legislation included a number of tax breaks meant to encourage businesses to put people on the payroll.

This law also called for greater scrutiny of foreign accounts that U.S. citizens hold in an effort to improve tax compliance, thereby bringing in more tax revenue and helping to offset the tax breaks of the HIRE Act. This portion of the law is called the Foreign Account Tax Compliance Act, or FATCA.

So far, so good. The tax breaks went into effect quickly. Were more people hired because of them? Who knows?

The greater scrutiny of foreign accounts took more time to implement, and actually has yet to go into effect. It is slated to begin on July 1.

The reason for the long lead time was the complexity of the process…

The U.S. has essentially mandated that every foreign financial firm report back to the IRS on accounts that U.S. citizens hold. The scope of this can’t be overstated.

The idea that a government would demand foreign companies proactively report on accountholders is a huge change. Typically, governments require reporting from their citizens, not the institutions their citizens work with. That’s because a government has some sway over its citizens. It can impose fines and even send them to jail.

But the U.S. government has some leverage over foreign financial firms that other governments don’t have.

Since the U.S. dollar (NYSEARCA:UUP)is the currency of reserve, acting as the basis of so much trade, our government can penalize foreign firms who don’t comply with the new tax law. In essence, if the IRS determines a foreign bank hasn’t complied, it can withhold a portion of any proceeds, due the foreign bank, that travel through the U.S.

To avoid this, the foreign bank — or pension fund, or trust company, or whatever — must complete IRS documents about their accountholders, regardless of whether or not their American clients want their information released.

As a result, FATCA is causing shockwaves around the world. Some of them were expected, as people holding foreign accounts and evading taxes realize they have fewer places to hide, which was the point of the law.

Some shock waves are a surprise. Many U.S. nationals that are legally living and working abroad are being told by the banks where they live to “shove off.”