Anyone who is a U.S. citizen or green card holder (permanent resident) is subject to U.S. income taxes on all worldwide income whether living in the United States or abroad. It has been estimated that nearly $100 billion U.S. tax revenue was being lost due to tax noncompliance on foreign accounts.
1. What is FATCA?
The Foreign Account Tax Compliance Act (FATCA) was enacted in 2010 by Congress to target tax non-compliance by U.S. taxpayers with foreign accounts. Basically, FATCA requires foreign financial institutions, including banks and brokerage firms, to report to the IRS information about financial accounts held by U.S. taxpayers, or by foreign entities in which U.S. taxpayers hold a substantial ownership interest, and may require some income tax withholding.
2. How does FATCA work?
Under FATCA, foreign financial institutions must report account numbers, balances, names, addresses and U.S. taxpayer identification numbers or face a significant withholding of income tax on U.S. source income paid to them. Foreign entities must report the name, address, and U.S. TIN (tax identification number) of each substantial U.S. owner.
3. How far-reaching is FATCA?
FATCA affects a great many foreign entities, including foreign trusts, whether or not they are financial entities. In addition, the U.S. has developed model Intergovernmental Agreements (“IGAs”) for those countries that wish to have some input into how FATCA will affect to their entities. The latest figures from the U.S. Treasury indicate that more than 100 countries are in various stages of FATCA compliance: 58 countries have signed actual IGAs governing FATCA tax withholding and reporting for their financial institutions; 54 countries are still negotiating to put a formal FATCA IGA in place but have agreed in substance. Some of the participating countries are the United Kingdom, France, Germany, Denmark, Switzerland, Netherlands, Norway, Spain, Mexico, Bermuda, Canada, Cayman Islands, Australia, Japan and South Africa. But note that FATCA applies to nearly all foreign financial institutions regardless of whether their country signs an IGA.
4. How does FATCA affect an individual with foreign accounts?
Beginning with taxes filed for 2014 income, a U.S. citizen or permanent resident is now required to file a Form 8938 with his or her U.S. income tax return, reporting all foreign financial assets in excess of a reporting threshold.
- The threshold is a total value at or below $50,000 at the end of the tax year, unless the total value was more than $75,000 at any time during the year.
- The threshold is higher for individuals living outside the United States.
- The thresholds are different for married and single taxpayers.
5. What are the penalties, if any, under FATCA?
There are penalties for the individual for not complying with the new regulations under FATCA:
- Failure to report foreign financial assets will result in a penalty of $10,000. Continued noncompliance after notification by the IRS will result in a penalty of up to $50,000.
- Understatements greater than 25 percent of gross income are subject to a longer, six-year statute of limitations period.
- Taxpayers are now also required to report financial assets not held in custodial accounts, such as physical certificates of securities.
There are also penalties for non-compliance by Foreign Financial Institutions:
- If a foreign financial institution fails to comply, it will face a withholding tax of up to 30 percent on various types of U.S. source income, including dividends or interest, paid to them from U.S. accounts.
6. What exceptions are there to FATCA reporting?
Some accounts, such as retirement savings or other tax-favored products including term life insurance, may be excluded from reporting. Other exceptions or exemptions may apply to an individual’s situation, depending on where the assets are held and the type of agreement in place under FATCA. Therefore, it is important that any U.S. taxpayer speak with a tax advisor or attorney to fully understand the possible tax implications under FATCA.
7. What is GATCA?
GATCA is the Global Account Tax Compliance Act. GATCA’s purpose is not to change FATCA but to set a global standard for the automatic exchange and reporting of information. Under GATCA, other countries, following the lead of FATCA, would require foreign financial institutions to report similar information to them to ensure the tax compliance of their own citizens.
FATCA increases reporting of a U.S. taxpayer’s worldwide income by foreign financial institutions, and it may cause a taxpayer to pay additional tax due to proper reporting. It is, therefore, important that an individual with foreign income or assets discuss the issues and situation with his or her financial or tax advisor to evaluate possible available tax-deferral opportunities. Life insurance and annuity products may provide solutions and could be a valuable addition to an individual’s financial portfolio.
For more information on working with foreign national clients and their life insurance needs, visit Transamerica’s Foreign Nationals Connection website. You can also connect with the author on LinkedIn.