Financial institutions face major new US tax avoidance charge

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A final regulation of FATCA was issued on January 17, 2013 and has seen several extensions on the timeline for imposition of the withholding tax. The final regulations apply broadly to any withholding agent (i.e. banks, trust, brokers and investment funds) and the law imposes major compliance requirements on financial institutions worldwide. There are still many uncertainties making it challenging for major financial institutions to fully implement changes to their operations and systems in order to comply with this law. The Vietnamese government has only started to look into the IGA discussion and all major banks, insurance and investment funds either domiciled in or outside of Vietnam having investment in the Vietnam market are of no exception.

The objective of FATCA is to reduce tax evasion by US individuals with respect to incomes derived from financial assets held outside the US. This law required all foreign financial institutions (FFIs) to report US owners to the US Internal Revenue Service (IRS). Failure of registration and compliance will result in FATCA imposing a 30 per cent US withholding on certain payments to the FFIs (including banks, brokers, custodians and investment funds). This is applicable to all such FFIs regardless of their nationality.

A lot of fund managers in Vietnam assumed this US law would not apply to them and when asked they have raised questions such as “does this law apply to me if my fund is established in Cayman Islands or Bermuda?” or “I’m not required to declare my overseas investors as these are outside the jurisdiction of US!” Sorry to say, under the FATCA, all foreign investment funds domiciled outside of the US will be treated as FFIs. As such, they were required to register with the IRS before the deadline of April 25, 2013 to avoid the withholding as of July 1, 2014. Otherwise, FFIs will be subject to 30 per cent withholding on all “withholdable US-source payments” (e.g. interest from US banks, interest received on US bonds or dividends from US securities, gross proceeds of sale of property in US and some financial payments). Beside this, by January 2017, “foreign pass-through payments” will also be liable to 30 per cent withholding if the investment funds failed to register and become a participating FFI (PFFI).

In summary, all FFIs will need to provide documentation of the registration to the withholding agents certifying their FATCA compliance to avoid the 30 per cent withholding charge. At present, there are four pathways available to comply with the FATCA for FFIs:

*Enter into a full FFI agreement with the IRS

*Satisfy one of the sets of requirements to be treated as FATCA compliant without entering into a full FFI agreement with IRS

*Fall into one of the categories of entities excluded from the definition of an FFI and

*Fall into one of the categories of beneficial owners exempt from FATCA withholding.

Based on the current model of the IGAs and for FFI outside of IGA countries, the exemption categories are very narrow and most non-US investment funds would not qualify for them. Hence, without the IGA in Vietnam, almost every investment funds will not qualify as an excepted FFI or exempt beneficial owner. The IRS portal for FATCA on-line registration open on 19 August 2013 and all FFI are required to register to obtain a Global Intermediately Identification Number (GIIN). Investment funds were required to enter into an agreement with the IRS and register before April 25, 2013 in order to be included in the list of FFI by June 2014 to avoid this 30 per cent withholding. The question now is: Did your investment funds prepare for this?

By Jeff Sea Tax Partner, Head of Financial Services - Tax, KPMG Limited, Vietnam

The views expressed by the authors here do not necessarily represent the views and opinions of KPMG Vietnam.