Foreign Account Tax Compliance Act (FATCA): The Death of All Banking Freedom

In 2010, Congress passed FATCA (Foreign Account Tax Compliance Act) which forces foreign banks to report on American clients, even if doing so would violate the banking and privacy laws of their country. Implementation of FACTA will be coerced by withholding 30% of US income from banks not in compliance. The arrogance and brutality of the legislation is apparent. The penalties are severe and disproportionate. Economic blackmail of foreign banks is disgraceful. All of these actions will have repercussions, probably not intended. - Monty Pelerin, When Government Becomes a Predator, American Thinker, April 5, 2011

The Death of All Banking Freedom?

April 24, 2012

fff.org - Last week, the Internal Revenue Service (IRS) extended its reach and tightened its grip on every cent Americans earn or try to preserve anywhere in the world. The final regulations of the Foreign Account Tax Compliance Act (FATCA) were announced.

Enacted in March 2010 as part of the Hiring Incentives to Restore Employment (HIRE) Act, FATCA seeks to have foreign financial institutions report on accounts held by any American living in the United States or abroad. You can take your money and run, but you cannot hide from an IRS that functions as a taxation clearing house to the world. If you have never lived in the United States but have American parents, then you will still fall under the jurisdiction of the IRS and the Department of the Treasury. Only the costly and cumbersome act of renouncing American citizenship can provide protection.

Americans are already required by tax law to disclose any foreign accounts that total more than $10,000; that controversial requirement is called the Report of Foreign Bank and Financial Accounts, or FBAR. (FATCA broadens the sort of assets that must be reported and raises the reporting requirement to $50,000 for an individual or $100,000 for a couple.) But using FBAR to rake in money that has fled to more friendly environs relies too much on the voluntary compliance of foreign-account holders.

FATCA is supposed to bypass this need and supplement FBAR. And it is expected to do so by January 1, 2014, when the final regulations are slated to go into effect.

The final regulations

Law professor Alan Appel provides an example of one "incentive" that will be applied to financial institutions. Appel explains,

These foreign banks, which are called foreign financial institutions, or FFIs, and also foreign entities that are not banks — called non-financial foreign entities, or NFFEs [for example securities brokerages] — have to enter into a compliance agreement with the IRS starting Jan. 1, 2013 … they’ll agree to basically [disclose] the names, Social Security numbers and account balances of U.S. [account holders] every year. … And if they don’t enter into this agreement and they invest in U.S. stocks or securities, or have any U.S. source income, then there’s going to be a 30 percent withholding tax on all payments, including interest, rents, royalties, and things like that.

To make foreign governments more receptive, the IRS has a new ruling, Treasury Decision 9584, “Guidance on Reporting Interest Paid to Nonresident Aliens.” It aims at achieving at least three goals:

• to forge information-sharing agreements with foreign governments;
• to “persuade” foreign institutions to cooperate;
• and thereby to reduce the number of stubborn Americans who still refuse to comply.

TD 9584 states,

Under present law, the measures available to assist the United States in obtaining this information include both treaty relationships and statutory provisions. The effectiveness of these measures depends significantly, however, on the United States’ ability to reciprocate.

In short, the IRS seeks a worldwide sharing of information on all money owned and invested, a sharing that would “benefit” other governments as well. The document continues, “In many cases, however, the implementation of FATCA will require the cooperation of foreign governments in order to overcome legal impediments to reporting by their resident financial institutions.” The IRS wants foreign governments to change their laws — for example, ones that protect financial privacy — in order to facilitate a more efficient tax grab.

Nevertheless, if a nation does not wish to change its laws for the IRS, TD 9584 notes,

Under this global standard [the OECD Model Tax Convention and other accords] a country cannot refuse to share tax information based on domestic laws that do not require banks to share the information. In addition, under the global standard, a country cannot opt out of information exchange based on the fact that the country does not itself need the information to enforce its own tax rules.

To ferret out the last of the tax scofflaws, TD 9584 explains,

The reporting of information required by these regulations will also directly enhance U.S. tax compliance by making it more difficult for U.S. taxpayers with U.S. deposits to falsely claim to be nonresidents in order to avoid U.S. taxation on their deposit interest income.

Of course, Americans living abroad often pay taxes to the land in which they reside, but the IRS wishes to impose an additional tax; in this policy, the United States is almost unique. If the global sharing of financial information materializes, however, other cash-strapped nations will almost certainly follow suit.

The world reacts

Many nations are resisting. On April 23, the Asian Investor stated a common criticism: “some say the new legislation will make foreign financial institutions de-facto tax enforcement agents of the IRS.”

Meanwhile, others are signing on board. Several weeks ago, France, Germany, Italy, Spain and the UK issued a joint statement with the U.S. Treasury Department expressing support of FATCA. It is difficult to predict how successful the IRS will be in its game of carrot and stick.

But even a bungling attempt to enforce this statist horror could dramatically change the world's banking and financial practices, sweeping away the remnants of privacy.

It would have other devastating impacts as well. American tax attorney Phil Hodgen expresses one of them,

It is obvious hypocrisy to allow U.S. banks to hide U.S.-source income information while strong-arming other countries (and their banks) into disclosing information about U.S. taxpayers.

The IRS has backed itself into this corner and must force disclosure of interest paid to nonresidents or be laughed out of the diplomatic room. The move will have predictable consequences for U.S. banks. I would expect capital flight to commence. I already encourage nonresident clients to bank outside the United States, as much for the paperwork problems as anything else. This will add one more reason for them to avoid bringing capital to the United States.