Significant Developments in US Financial Transparency

On 6 December 2021, FinCEN announced the publication of an Advance Notice of Proposed Rulemaking regarding reporting of real estate transactions in order to combat money laundering. At this stage, FinCEN is soliciting public comments to inform the content of future proposed rules.

The Financial Action Task Force has previously identified the absence of comprehensive real estate transaction reporting as a key weakness in the US antimoney laundering regime. United States real estate transactions financed through the US financial system are already subject to anti-money laundering safeguards, but all-cash transactions of real estate are subject to only limited oversight through geographic targeting orders and title insurance company reporting. The common use of corporations and trusts to hold US real estate and the decentralized nature of US real property title transfer recording are obstacles to financial transparency. Further, commercial real estate transactions and property management deals present numerous opportunities for money laundering and concealing the proceeds of tax evasion.

Proposed Regulations under the Corporate Transparency Act

The Corporate Transparency Act, enacted 1 January 2021 (“CTA”), requires corporations, limited liability companies, and similar entities to report beneficial ownership information to FinCEN. Proposed Regulations to implement reporting requirements under the CTA were issued on 7 December 2021 (the “Proposed Regulations”). A public comment period runs for 60 days. Following public comment, final regulations are likely to be issued next year.

Highlights of the Proposed Regulations include the following:

Covered entities (“reporting companies”). The CTA covers corporations, limited liability companies, and “similar entities”. The Proposed Regulations define “similar entities” as those entities formed by filing a document with a secretary of state of a US jurisdiction. FinCEN expects this standard to also likely include limited liability partnerships, limited liability limited partnerships, business trusts, and most limited partnerships. General partnerships, trusts other than business trusts, and sole proprietorships are not typically created by a filing and thus would not be covered categorically. FinCEN did not address foundations, which are still relatively novel within the United States.

Non-US entities are not covered by the Proposed Regulations unless the entity is registered to do business within the United States.

A wide variety of regulated businesses in the securities, insurance, utilities, and other industries are exempt from reporting, as are large operating companies. Large operating companies are defined to include companies employing more than twenty full-time US employees, with more than USD 5 million in gross receipts, and with an operating physical office in the United States.

Timing. Entities subject to these rules are required to file a report to FinCEN within one year of the effective date of final regulations. New entities formed after the effective date of final regulations must report within fourteen days.

Applicants. For a US entity, the individual filing the entity formation document (and anyone directing or controlling the filing) is the company applicant. For non-US entities, the company applicant is the party filing a registration to do business in the United States.

Beneficial ownership. Beneficial ownership is defined by ownership or control. Ownership or control of 25 percent or greater interest in the entity triggers reporting of such particular owner. A person exercising substantial control is also reported. Substantial control may be indicated by service as a senior officer of the company; authority over the appointment or removal of any senior officer or dominant majority of the board of directors (or similar body) of the company; direction, determination, or decision of, or substantial influence over, important matters of a reporting company; or other factors.

Although most trusts (other than some business trusts) do not appear to be reporting companies under the Proposed Regulations, a reporting company held by a trust may require analysis of the trust to determine the ownership and control of the underlying company. The Proposed Regulations potentially encompass as reportable beneficial owners the following: grantors/settlors, beneficiaries, trustees, or other individuals with authority to dispose of trust assets. Grantors/settlors who retain the right to revoke the trust or otherwise withdraw trust assets are considered beneficial owners of an underlying reporting company. Beneficiaries who are sole beneficiaries of a trust or who have distribution or asset withdrawal rights are considered to own or control an underlying company held by the trust. Trustees are generally considered to have substantial control over underlying companies and are thus reportable.

There are five exceptions to the definition of beneficial owner: minor children, nominees or other intermediaries, employees, inheritors, and creditors. These exceptions follow from the attempt to reach real parties in interest. With respect to inheritors, future interests do not trigger beneficial ownership, but once an interest becomes a present interest, the inheritor exception no longer applies. For creditors, so long as 25 percent ownership or substantial control tests are not otherwise applicable, status as creditor does not result in beneficial ownership. However, any capital or profit interest does not fall within the creditor exemption, even if structured as part of a debt instrument.

What is reported. The name, address, and taxpayer identification number of the entity is reported. (New entities not yet issued a taxpayer identification number are required to use a Dun & Bradstreet DUNS number or a Legal Entity Identifier number.) For each beneficial owner and company applicant, the name, date of birth, current address, and government ID information is reported (including an image scan). As a privacy safeguard, a beneficial owner or company applicant may submit personal data to FinCEN in exchange for a FinCEN issued identifier number. Then, in lieu of providing personal data to the entity, the beneficial owner or company applicant may provide their FinCEN identifier number to the entity. Updated reports must be filed within 30 days of any changes to the above.

Joint Committee on Taxation Report on Financial Transparency Issues Regarding US Trusts

On 6 December 2021, the staff of the US Congress’ Joint Committee on Taxation issued a technical report on the US federal taxation of US trusts for the benefit of the Subcommittee on Oversight of the House Ways and Means Committee.

The report identified some of the gaps in information reporting regarding US trusts, including the lack of beneficial ownership reporting for entities created under the laws of a US State. In the international context, this has hampered the ability of the United States to comply with information requests about foreign persons with interests in US financial accounts when such accounts are held indirectly by a US entity, such as a corporation or trust. The report argues that the Corporate Transparency Act (“CTA”) may alleviate this shortcoming, depending on how the law is implemented. It is not clear, however, that the CTA grants sufficient legal authority to the executive branch to bring the US into full compliance with international transparency standards.

House Ways and Means Oversight Subcommittee Hearing on the Pandora Papers and Hidden Wealth

The House Ways and Means Oversight Subcommittee (“Oversight Subcommittee”) held a hearing on 8 December 2021 on the Pandora Papers and hidden wealth. The hearing focused on the role of the US financial and regulatory system in keeping US and non-US wealth private.

Build Back Better Act

The Senate is taking up consideration of the House-passed Build Back Better Act, with an aim to pass the legislation before Christmas. As presently drafted, the bill will result in additional taxes and a significant increase in resources for tax administration and enforcement.