A FATCA for all

US fund managers may have been looking towards their overseas counterparts with a mix of sympathy and relief when it came to the US Foreign Account Tax Compliance Act (FATCA). But those feelings may have been misplaced: turns out the US government has been promising foreign tax authorities a quid pro quo arrangement on the bill’s controversial reporting requirements.  

As part of its plan to clampdown on tax dodgers using overseas accounts, the US originally envisioned having foreign financial firms directly report tax information on their US investors to the Internal Revenue Service (IRS). But now the US has begun negotiating agreements with foreign governments that would relay tax reports on their domestic firms’ behalves – a more practical system in part designed to address issues of firms subject to FATCA being forced to violate local data privacy laws. 

Over the summer the US unveiled what those “intergovernmental” partnerships could look like, which included a basic tax information exchange agreement that countries could use as a starting point in negotiations. One notable and overlooked element of that model agreement was a promise by the US to provide a reciprocal level of information on US accounts held by “FATCA partners” home residents.

Rand Paul, a Republican senator from Kentucky, saw that promise as cause for alarm. In a letter to the US Treasury, the Tea Party favourite asked if FATCA would force US financial firms to enter into their own reporting relationships with overseas tax authorities. Earlier this month the government attempted to calm his concerns by replying that only information that is already being collected by the IRS would be shared with foreign officials, as the US tax code allows them to do. 

US fund managers may read that and feel safe for now, having avoided the hassle of needing to rethink their reporting processes or what information they collect from incoming LPs to satisfy tax authorities’ curiosities. But as readers of our November magazine – which features a roundtable discussion on FATCA – will learn, the promise by the US to “reciprocate” tax information with FATCA partners effectively forces US private equity firms to deal with the same problems being dealt with overseas. Most significantly, that includes the challenge in identifying the tax residency of individual investors, which becomes complex when commitments are coming from large insurance firms, banks, endowments and foundations. FATCA, which was largely written with banks and their retail customers in mind, has seemingly failed to recognise the way private equity funds work. 

More worrying is the prospect of other governments launching their own FATCA bills in response to what FATCA critics describe as an overreach of US power. A UK government committee has already recommended that approach. “Baffling” is how one of our sources described an outcome in which various governments passed their own FATCA bills, all with their own legal definitions and sanctions. Some suggest an international body such as the Organisation for Economic Co-operation and Development, which has the ear of tax agencies around the globe, for it to work. No matter which entity leads the effort to curb tax avoidance, the complexity of a project of this size would likely prove overwhelming – perhaps in part why the US has once again pushed pack key FATCA deadlines another year. 

The US private equity industry therefore should track FATCA developments just as closely as all other investment firms. It will affect them. And compared to foreign GPs, their words carry more weight with US officials, allowing the industry a chance to better voice any concerns.