The Institute of International Bankers (IIB) has submitted a comment letter (available through Bloomberg BNA here; subscription required) to the Internal Revenue Service addressing various issues arising under the FATCA regulations. According to its website, the IIB is described as follows:

Founded in 1966, the IIB is the only national association devoted exclusively to representing and advancing the interests of internationally-headquartered banking/financial institutions operating in the United States. Its membership is comprised of internationally headquartered institutions from over 35 countries around the world. Collectively, the U.S. branches, agencies, banking subsidiaries, securities affiliates and other operations of the IIB’s member banks are an important source of credit for U.S. borrowers and enhance the depth and liquidity of U.S. financial markets. IIB member banks also inject billions of dollars each year into the economies of major cities across the country through the direct employment of U.S. citizens and permanent residents, as well as through other operating and capital expenditures.

The IIB begins its letter by stating that “[w]e are writing to highlight and suggest ways to resolve issues that our member banks are encountering in connection with implementing certain requirements of the Foreign Account Tax Compliance Act (FATCA).” In summary, the issues, and the proposed resolutions, identified by the IIB are as follows:

• Remediating pre-existing accounts after the June 30 deadline. The IIB contends that participating foreign financial institutions (PFFIs) should be allowed to treat pre-existing accounts as “cured” for reporting purposes if the curative documentation is received after the applicable June 30 deadline, but before the reporting deadline in the following year.
• Reporting requirements for closed or transferred accounts. The IIB suggests that pre-existing accounts (individuals and entities) subject to a remediation period, and not yet identified or documented for FATCA purposes, should be reported as follows:  (1) If the account is closed or transferred prior to the expiry of the remediation period, the account should not be subject to reporting since the account holder’s status has not been determined; and (2) If the account is closed or transferred after the remediation period expires and the account is not cured, the account is subject to reporting based on the applicable presumption rules (although the PFFI may still try to cure the account based on the proposal above).
• Clarifying treatment of “professionally managed” entities. The IIB suggests that the IRS should clarify the application of the “managed by” test that will require certain passive entities to be treated as investment entities (and, consequently, as foreign financial institutions (FFIs)).

The IIB suggests that all of these proposed clarifications could be made through the FAQs published in the IRS website.

Remediating pre-existing accounts after the June 30 deadline

The IIB notes that PFFIs are generally required to remediate pre-existing accounts held by individuals that have U.S. indicia. For pre-existing accounts held by individuals, the remediation deadlines are June 30, 2015, for high-value accounts (balance or value greater than $1 million) and June 30, 2016, for other accounts (assuming the effective date of the FFI Agreement is June 30, 2014). If uncured by the applicable June 30 deadline, such accounts are reclassified as recalcitrant (or non-consenting under a Model 2 IGA). Treas. Reg. §1.1471-5(g)(3).

Subject to certain exceptions, PFFIs also are required to remediate pre-existing financial accounts held by entities in order to determine if the entity is a nonparticipating FFI (NPFFI). For entities other than prima-facie FFIs, the remediation deadline is June 30, 2016. If uncured by this date, the entity will generally default to NPFFI status.

Recalcitrant accounts and NPFFIs are subject to reporting under FATCA on Form 8966. It is unclear, however, if such reporting is required if the PFFI obtains curative documentation after the remediation deadline has passed.

The IIB’s proposal to address this issue is as follows: To clarify the consequences of the expiration of the remediation period, the IIB proposes the following approach:

• If a PFFI receives curative documentation after the remediation deadline, but before the due date (plus extensions) to file Form 8966, the PFFI may treat the account as cured and not subject to reporting on this form. A financial institution may also rely on the curative documentation for purposes of reporting the chapter 4 status on a Form 1042-S. Furthermore, the affidavits described in the refund procedures of Treas. Reg. §1.14713(c)(7) should not be required, unless withheld tax is to be refunded.
• The above proposal would not apply to any recalcitrant account holders subject to FATCA withholding due to their status as recalcitrant or NPFFI account holders.

Reporting requirements for accounts that are closed or transferred before remediation period expires

The IIB comment letter notes that PFFIs are required to report certain information to the IRS regarding financial accounts held by specified U.S. persons, U.S.-owned foreign entities or owner-documented FFIs that are closed or transferred during the year.

It is unclear how the above reporting requirements apply to a pre-existing account (individual or entity) that is not yet identified or documented for FATCA purposes and that is closed or transferred before the expiration of the applicable June 30 remediation deadline. The regulations do not clearly require reporting in such a case. Furthermore, since the PFFI does not know the account holder’s status at the time of the account closure or transfer, reporting does not seem appropriate. The regulations simply do not require a PFFI to reclassify an account holder of a closed or transferred account as recalcitrant or as an NPFFI after the expiration of the remediation period.

The IIB’s proposal to address this issue is as follows: The IRS should provide guidance clarifying that a PFFI is not required to file Form 8966 with respect to an unremediated pre-existing individual or entity account that has been closed or transferred prior to the expiration of its remediation period.

Post-expiration of the remediation period, if a pre-existing account is closed or transferred and is not cured, it would remain subject to reporting based on the applicable presumption rules. (As proposed above a PFFI would treat the account as “cured” for reporting purposes, if the documentation is subsequently received prior to the reporting deadline.)

Clarifying treatment of professionally managed entities

According to the IIB comment letter, there has been some confusion about the treatment of certain passive entities that are managed by other financial institutions. In general, such an entity will be an FFI if: (1) the entity’s gross income is primarily attributable to investing, reinvesting, or trading financial assets; and (2) the entity is managed by another entity that qualifies as an FFI (other than certain investment entities) (“professionally managed”). Treas. Reg. §1.1471-5(e)(4). The regulations also provide examples of the management test, illustrating that a trust managed by a trust company and a fund managed by an entity investment advisor should each be treated as an FFI. Treas. Reg. §1.1471- 5(e)(4)(v) (examples 3 and 6).

Based on these regulations and the related examples, the IIB is concerned that a passive NFFE certification is unreliable if the account holder invests in financial assets and there are indicia that the account holder is managed by a financial institution. Such indicia may include, for example:

• A corporate trustee for an account holder that is a trust, foundation, or similar entity, and the trustee’s name reasonably indicates it is a financial institution;
• A corporate director for a client that is a corporation, company, or similar entity, and the director’s name reasonably indicates it is a financial institution; or
• An individual who, as part of his or her duties as an employee of an entity, acts under a power of attorney for the account holder, and the entity’s name reasonably indicates it is a financial institution.

This list is not exclusive, but it illustrates the type of indicia that may result in a questionable passive NFFE certification.

The IIB comment letter sets forth a potential cure for this problem: where a financial institution suspects (but does not know) that an entity is being professionally managed, the IRS should allow a financial institution to perform additional due diligence and “cure” the types of indicia described above if the entity claiming passive NFFE status also indicates in a written statement that it is not managed by another financial institution. Requiring this additional statement will help ensure that professionally managed entities will not improperly claim passive NFFE status. The written statement could be incorporated as part of the self-certification used by the financial institution opening the account, or provided separately.

Furthermore, in many cases, a financial institution may have actual knowledge that a passive NFFE certification is invalid if the entity making such a certification receives management services from that same financial institution (e.g., through a “discretionary account” or “managed account” in which the financial institution has full discretion over investment decisions) and the entity’s account holds financial assets. Except as noted below, the financial institution receiving the passive NFFE certification may not rely on it. It would be helpful, however, for the IRS to confirm this understanding in order to establish a level playing field in the industry.

Nevertheless, a financial institution may rely on a passive NFFE certification if the entity providing the certification also confirms in a written statement that it is a passive NFFE despite the fact that it is professionally managed (e.g., because it does not meet an applicable gross income test because, for example, most of its assets are real estate, or because it resides in a country that classifies certain entities as passive NFFEs, even if they are actively managed (e.g., Canada)).

If an entity maintains the view that it is a passive NFFE despite being professionally managed and fails to provide a written statement, a financial institution should have the option of: ( I) asking the entity for a new Form W-8 indicating an FFI status; or (2) treating the entity as an owner-documented FFI (“ODFFI”) and reporting all its specified US owners and certain debtors on Forms 8966 as long as the financial institution has the information it needs to report.

The IIB’s proposal to deal with this problem: The IIB proposes that the IRS issue an FAQ that provides guidance consistent with the comments above, namely that:

• Potential indicia of management by another financial institution may be cured by obtaining an additional written statement from the passive NFFE that it is not professionally managed; and
• Providing a discretionary mandate or similar service will generally result in the financial institution having actual knowledge that the entity is an FFI (in which case the financial institution has the option to collect a new tax form or treat the entity as an ODFFI), unless the entity provides an additional written statement establishing that it is a passive NFFE despite being professionally managed.