FATCA: A firm-wide compliance effort

The US Foreign Account Tax Compliance Act may seem a tax bill at heart, but its impact will reach all functions of the firm write Ernst & Young members Jeffrey Hecht, Jun Li and Jim Kickham.  

At 544 pages, the Foreign Account Tax Compliance Act (FATCA) is a challenging, complex read for tax practitioners, with wide-ranging consequences for the private equity industry.

Yet FATCA is more than merely a tax concern. Compliance with FATCA will have a significant impact on a private equity firm’s operations, processes and systems, and the internal data management obligations thereof. Key stakeholders in this effort thus extend beyond tax to include operations, legal, investor relations, risk management and information technology.

All these functions need to be aligned to assist the timely collection, analysis and reporting of investor information to arrive at a single source of data truth for FATCA compliance purposes. While some firms have solid connectivity in this regard, others do not.

Why is this important? Because FATCA is a “live document” and not a once-and-done deal, investor information must be captured and monitored closely on a go-forward basis. While tax certainly needs the requisite data related to investments and investors in non-US jurisdictions, so do the other groups involved.


From a tax standpoint, FATCA requires a tax advisor to sift through its nuances that are of importance to particular fund structures. Additionally, tax advisors can help determine which private equity fund entities should be registered as Participating Foreign Financial Institutions (PFFI) or provide documentation on its non-financial foreign entity (NFFE) status, an exercise that should be completed by January 1, 2014.

Working with other functions, tax advisors can help create a compliance framework to make the registration process more efficient. Certainly, they can further assist in the development of a consistent interpretation of FATCA throughout the organization. Nevertheless, from an organizational standpoint, FATCA’s implications extend well beyond tax.

Any type of entity that would commonly be understood as an investment fund, hedge fund, private equity fund, venture capital fund or the like is considered a financial institution under FATCA. The obligations for asset managers vary with the type of entity, e.g., PFFI requirements differ from those that apply to an NFFE. The requirements for an FFI that is resident in a country sharing an intergovernmental agreement (IGA) with the US will continue to evolve into 2014, as more foreign governments complete their negotiations with the US Treasury Department. These jurisdictions are discussing such issues as IGA Model 1 versus Model 2, as well as writing their own versions of FATCA into their respective tax regulations.

Additional considerations must be accorded to a portfolio company of private equity funds. If it is deemed an NFFE, US-sourced withholdable payments would be subject to FATCA withholding, unless the NFFE is a) either exempt or certifies to the payor that it does not have any substantial US owners; or b) provides the payor with the required information on each substantial US owner. As this example illustrates, the specific type of fund entity, as well as its investor base, investments and country of domicile, dictate the extent of organizational challenges for fund managers.

Timing is of the essence. To comply with FATCA’s July 1, 2014 effective date, offshore, non-US funds must register with the US Internal Revenue Service as PFFIs no later than April 25, 2014. On June 2, 2014, the IRS will publish the first list of registered PFFIs. It is vitally important to be on the list, given the financial and reputational risks.

Beginning July 1, 2014, firms are expected to have onboarding processes in place to enable the accurate classification of new investors, in addition to processes for monitoring these investors for circumstantial changes.


FATCA’s significant organizational challenges require clear internal processes for the collection, aggregation and validation of wide-ranging data for reporting purposes to the IRS or applicable IGA country. All subscription documents, counterparty agreements and legal agreements, for instance, will need to be updated.

A broad range of other data is required to address FATCA compliance. These include a fund’s plan to reduce the risk of a compliant investor being subject to FATCA withholding, and having a strategy in place to ringfence non-compliant investors’ potential FATCA exposure to the rest of the fund.

These demands necessitate the development of new internal processes and the upgrading of systems, as well as the proof-testing of both. A governance and compliance framework should be established to identify and monitor non-US entities that must be registered with the IRS. New onboarding procedures should also be instituted. This way, a clear process is in place for the responsible fund’s officer to certify to the IRS that the firm has erected the necessary compliance framework and has proof-tested its policies, systems and procedures.


Certainly, for firms that do not have a central location to electronically collect and store the requisite data required to address FATCA compliance, the development of a database attending to this is critical. It also seems prudent to configure systems and processes to address other current and prospective regulations that have arisen in the aftermath of the financial crisis, each posing similar challenges for fund managers from an information-gathering standpoint.

Among these regulations are the Securities and Exchange Commission’s Form PF rule, requiring private fund advisors to report regulatory assets under management to the Financial Stability Oversight Council, and the European Union (EU) Alternative Investment Fund Managers Directive, which seeks to put hedge funds and private equity funds under the supervision of an EU regulatory body.

All these regulations (and others in the works) involve the collection and storage of comparable data for reporting purposes, such as the classification of legal entities and onboarding of new investors. Without reinventing the wheel, the creation of a single database can efficiently meet these needs.

These various operational demands to achieve FATCA compliance require dedicated personnel and financial resources. Because of this, firms would be well served to have an internal champion for FATCA change management — a concept not always easy to execute, of course, given the competing priorities in many firms for people and capital.

While many firms may consider tax as the logical candidate to spearhead this effort, the CCO, COO or CFO is the most appropriate person. He or she should consider assembling a cross-functional team composed of operations, tax, investor relations and IT to assess FATCA compliance from the standpoint of policies, systems and procedures. This internal champion should then broadly communicate the scope of FATCA’s wide-ranging impact – beyond the tax implications.

Ideally, funds should are already be in the thick of these critical projects: identifying specific legal entities for participating versus deemed-compliant FFI status; designating a responsible officer to come up with a compliance framework; documenting all direct investors and payees; and establishing a process to report on US account holders to the IRS. FATCA is perhaps the most complex set of tax-related regulations to impact the private equity industry in recent memory. Private equity executives who are working to build a robust compliance framework now can seize the opportunity to make their firms more efficient and effective for years to come.