Solid US tax Fatca awaits banks, brokers

The United States will enforce the Foreign Account Tax Compliance Act, or Fatca, from January 1, 2013, mandating full disclosure of bank accounts held by US taxpayers in foreign countries including India.

The legislation directly affects deposits and investments made by non-resident Indians (NRIs) who are also taxpayers in the US.
Under Fatca, either the taxpayer or banks/institutions holding such deposits will have to disclose all details to the Internal Revenue Service (IRS), the agency responsible for tax collection and tax law enforcement in America, no matter the size of assets.

Data from the Reserve Bank of India (RBI) show Indian banks held NRI deposits worth $53.30 billion as of July 31 this year, tantamount to a sixth of India’s forex reserves.

How much of this comes from the US is not clear since the RBI does not provide disaggregated data.

All foreign financial institutions — including banks, non-banks and brokerages — will have to comply, apart from dollar taxpayers.
“Global banks have US account holders and the IRS is completely aware of that. What the US Treasury is doing is, saying, ‘Hey look, you have US account holders, you are making money out of them. You need to pay the US tax on it,’” said Milan Mandhani, a certified public accountant who runs Vimlan Tax Services LLC in Schaumburg, Illinois.

“Say an NRI owns a flat in India. And he has a mortgage (home loan) on it, which is paid to the State Bank of India or HDFC etc. Now, that NRI person doesn’t have any tax obligation in India, but he has a US tax obligation. The point is, an SBI or HDFC is not going to file tax on income sourced from the US. And the US thinks it is losing money on this. So, by law that US person has to withhold 30% of tax and pay to the US,” he told DNA Money.

Mandhani has spoken to many Indian bankers who, he said, will prefer to foreclose such accounts.

“Similarly, if they have NRI broking accounts at ICICI or Kotak Securities, the same rule applies,” he said.

“It’s my conjecture that public sector banks would easily fall in line since governments are involved on both sides. And ICICI, SBI, HDFC Bank… all have US operations. There are many different ways in which the US Treasury, the Department of Justice and the Securities and Exchange Commission can tie them down if there’s non-compliance,” Mandhani said.

The deadline for compliance is June 30, 2013, and will involve furnishing details of the account holders, their assets, their social security number, etc.

Under the Act, there are three key points that have to be borne in mind.

These include reporting by taxpayers holding foreign financial assets, reporting by foreign financial institutions and reporting of passive foreign investments (by US persons who are shareholders of foreign investment companies).

Non-compliance invokes extremely strong penalties.

“There is a $10,000 per incidence penalty (for any year starting after March 18, 2010) in addition to a possible $50,000 penalty for failing to comply with the new reporting requirements after IRS notification,” Milan and Vimal Madhani also wrote in a note to clients last week.

Any underpayment of tax attributable to non-disclosed foreign financial assets will also be subject to a penalty of 40%.
For example, if one has $75,000 in an Indian bank account which is not disclosed, the highest penalty would be $60,000 ($10,000 per incidence, and $50,000 after IRS notification) on the account alone.

And interest income earned on the account will first be subject to normal income tax plus a non-declaration penalty of 40% and statutory interest charged on the whole income tax and the penalty balance, the Madhanis said.

Indian banks are not ready to comment on the possible impact at this juncture.

But experts said this could lead to more stringent know your customer (KYC) guidelines.

Besides, some banks may also decide to reduce their exposure to US clients or start absorbing the 30% withholding tax as laid down by Fatca.

But the first step is to solve the problem is create awareness in the system.

“Proper awareness needs to be created about this, and also the manner in which this will come into effect. That has to be clarified through a series of communications as it will impact the financial services industry,” said Sandip Mukherjee, executive director (tax & regulatory services), PricewaterhouseCoopers.

The impact will not be just on non-resident Indian (NRI) accounts alone, say some.

“It is not just a question of just NRIs. Anybody who has an income in dollars will be affected. Banks have to ensure they capture details of any accounts that are US based and disclose that to the IRS in their annual returns,” said Abhay Gupte, senior director, Deloitte (India).

Mukherjee said this could mean US-based account holders will probably start dialogues with their banks and various other institutions and KYC norms may become a bit more stringent.

In fact many US-based customers may not want the bank to disclose their information. “If a customer does not want the bank to disclose, then they will have to shift. But then where will they go? Every bank will ask them the same thing,” said Gupte.

According to Rohit Mahajan, executive director and national head (forensic practice), KPMG India, banks may also reduce their exposure as they might decide to forgo such US clients.

“The other possibility is they do not comply with Fatca, but they start absorbing this 30% withholding tax,” he said.