PART I. INTRODUCTORY NOTE
The Corporate Transparency Act (CTA) was enacted into law on 1 January 2020, as part of the Anti-Money Laundering Act of 2020. While the CTA established the basic statutory framework for the new beneficial owner information (BOI) reporting regime, the Financial Crimes Enforcement Network (FinCEN), a bureau of the Department of the Treasury, was tasked with implementing the CTA through regulations.
FinCEN issued proposed regulations (Proposed Regulations) on 8 December 2021, implementing the BOI reporting-related requirements and requesting general comments and specific comments on 40 questions. Over 240 comments were submitted by stakeholders.
When will Reporting Commence? – The effective date for BOI reporting is 1 January 2024.
So, in-scope reporting companies will have time to prepare for reporting. During this time period, reporting companies should determine what information is needed to comply and adopt systems to deal with initial and updated reporting.
FinCEN issued final regulations (Final Regulations) on 29 September 2022 relating to BOI reporting. The Final Regulations are lengthy, 330 pages, consisting of 32 pages that contain the text of the Final Regulations and the remainder that contains background, FinCEN’s thinking and analysis relating to adoption of the final rules and other regulatory analysis.
BOI reporting will encompass millions of pre-existing and new entities. Commencing in 2024, FinCEN estimates that over 32 million pre-existing entities and about five million new reporting companies annually over the next decade will be required to report. While the Final Regulations are an important step in implementing the CTA, FinCEN needs to complete a number of other actions prior to the CTA becoming operational.
- BOI reporting is only the first of three rulemakings planned to implement the CTA.
- On 15 December 2022, FinCEN published the second set of guidance, viz., proposed regulations governing the disclosure, access and safeguarding of B. Further analysis of these regulations is available here.
- The third set of guidance, viz., a revision of FinCEN’s customer due diligence (CDD) rule should be published by 1 January 2025 to align with the BOI rules. This latter rule-making eagerly will be awaited by covered financial institutions.
- FinCEN still has to develop the Beneficial Ownership Secure System (BOSS), the infrastructure that will be used to house, maintain and secure the BOI information.
- FinCEN still has to develop compliance and guidance documents to assist reporting companies to comply with the BOI reporting rules.
- FinCEN still has to draft and issue a Small Entity Compliance Guide to inform small entities about their reporting responsibilities.
- FinCEN still has to reach out to stakeholders, issue additional guidance and FAQs, establish helplines and provide other interactions to ensure that the BOI reporting regime is widely publicised and effectively implemented.
Comment: The foregoing tasks are ambitious undertakings. For FinCEN to implement the BOI reporting rules effectively and timely, sufficient personnel, adequate funding and stakeholder knowledge and understanding of the new reporting obligations will be required.
Overall Initial Reaction To Final Regulations
FinCEN retained the overall architecture of the BOI reporting provisions, as contained in the Proposed Regulations, and provided two particularly helpful modifications, related to the definition of company applicant and the elimination of the updating of company applicant information in general, thereby avoiding burdensome compliance obligations on reporting companies. Among other useful modifications were the clarification and streamlining of the definitions of substantial control, the revision of major portions of the 25 per cent ownership interests provisions, conforming reporting day requirements for updated and corrected reports, providing additional insight as to trusts and substantial control/ownership provisions, and providing other clarification and technical revisions of rules throughout the body of the Final Regulations.
PART II. BACKGROUND
What is the CTA?
The CTA is federal legislation applicable to states, territories and possessions, that, for the first time, will implement a national, centralised BOI register. The CTA represents the culmination of more than a decade of congressional efforts to adopt BOI reporting for selected entities.
Why was the CTA Enacted?
The prior lack of BOI reporting requirements and lack of a centralised database made the United States the jurisdiction of choice to establish shell companies to hide ultimate beneficial owners and move funds through the US economy, which was viewed by the Financial Action Task Force (FATF) and our trading partners as a significant loophole that weakened US efforts to combat money laundering, terrorism financing and other criminal activity.[i] Recent geopolitical events in the Ukraine and the imposition of US sanctions (and its enforcement) on Russian elites, state-owned enterprises and enablers have reinforced the need for a robust and verifiable BOI reporting system.
How Does the CTA Work?
Entities constituting “Reporting Companies,” as of 1 January 2024, will be required to provide selected BOI to FinCEN about their Beneficial Owners, as well as Company Applicants.
What will FinCEN Do?
FinCEN will oversee the overall national BOI register by collecting BOI information, maintaining the information in a centralised, secure database and limiting disclosure and use of BOI information to authorised parties.
Can the Public Access the BOI?
No (unlike many European Union BOI corporate registers).[ii]
Who Can Access the BOI?
Disclosure will be limited. As the recently issued proposed regulations have provided, in view of the highly sensitive and confidential nature of BOI, access will be limited to federal, state, local law enforcement agencies, foreign law enforcement and national security agencies, and financial institutions and their regulators for CDD purposes, subject to certain conditions.
What is the Overall Purpose of the CTA?
To protect US national security, to provide critical information to law enforcement, and to promote financial transparency and compliance.
What is the Ultimate Goal of the BOI Reporting Requirement?
To combat the proliferation of anonymous shell companies that facilitate the flow/sheltering of illicit money in the United States.
PART III. OPERATING RULES
What do the Final Regulations Do?
The final regulations set forth rules as to (1) who must file a BOI report, (2) what information must be reported, and (3) when a report is due, as well as other rules corollary to the application of the foregoing.
What type of an entity is a Reporting Company?
Corporations, LLCs and other similar entities, (usually smaller, non-regulated entities) to include:
- Domestic entities created by the filing of a document with a secretary of state or similar office under the law of a state or Indian Tribe; and
- Foreign entities formed under the law of a foreign country and registered to do business in the United States by the filing of a document with a secretary of state or similar office under the laws of a state or Indian Tribe.
Comment: Reporting Companies include both pre-existing and newly-formed domestic and newly-registered foreign entities, unless exempt from reporting.
What type of entity is exempt from reporting?
Currently, there are 23 exemptions (unchanged from the Proposed Regulations), including exemptions for heavily regulated companies (such as publicly traded companies, banks, money service businesses, insurance companies, large operating companies,[iii] tax-exempt entities, certain US-owned dormant companies and entities owned by an exempt entity).
Comment: FinCEN did not propose additional exemptions, although an option exists for additional exemptions to be added in the future.
What entities are not within scope?
Sole proprietorships, general partnerships, foreign entities not registered by a state to do business in the United States, unincorporated associations and wealth planning trusts (because these types of trusts typically do not involve the filing of formation document with a secretary of state or similar office).
Comment: Whether a foreign entity is required to register to do business is exclusively regulated by state law; thus, whether a foreign entity would be required to if it were to be used as a “blocker” or to conduct activities, would be a state law determination, which varies from state to state.
Who is a Beneficial Owner?
Any individual who exercises substantial control over a Reporting Company, or owns or controls at least 25 per cent of the ownership interests of a Reporting Company.
Four Indicators for Substantial Control Test:
- Serves as a “senior officer” of the Reporting Company through executive functions (e., nominal or de jure authority);
- The term “senior officer” means a president, CFO, general counsel, CEO, COO, or any other officer, irrespective of title, who performs a similar function.
- Final Regulations omit secretary and treasurer officers, which were included in the Proposed Regulations.
- Has authority over (i) the appointment or removal of any senior officer or (ii) a majority of the board of directors (or similar body) (e., functional or de facto authority);
- Directs, determines, or has substantial influence over important decisions (financial/structural/organisational matters) made by the Reporting Company (e., functional or de facto authority);
- A “catch-all” provision - any other form of substantial control over the Reporting Company.
- Includes an individual who, although not having “power” to direct or determine important decisions, has a significant role in decision-making process.
- Rule could apply to series LLCs and decentralised autonomous organisations.
Substantial Control can be Direct or Indirect. An individual may directly or indirectly exercise substantial control over a Reporting Company through, e.g., board representation, majority voting power or voting rights, financing arrangement rights, a trust arrangement, control of one or more intermediary entities that separately/collectively exercise substantial control over a Reporting Company, nominee arrangements, or any other contract, arrangement, understanding, relationship or otherwise. This formulation is broad.
- Final regulations adopted tests generally as contained in Proposed Regulations.
- Substantial Control does not require ownership in an entity; but relates to authority and decision making.
- The Substantial Control tests are intended to identify the key individuals able to make important decisions on behalf of, and direct actions of, the Reporting Company.
- FinCEN adopted this approach to seek to foreclose corporate structuring that obfuscates owners and decision makers, and thereby unmask anonymous shell companies.
- FinCEN is of the view that a Reporting Company will always be in a position to identify at least one beneficial owner under the substantial control test.
- FinCEN indicates that all individuals who exercise Substantial Control must be identified (to provide law enforcement with an accurate picture of controlling persons).
- FinCEN believes that limiting reporting of individuals in Substantial Control to one person, as in the 2016 CDD Rule, artificially would restrict reporting of beneficial owners, hence, that approach was not taken.
25 Per Cent Ownership Interest (Three Prongs to this Test):
- Arrangements that convey ownership interests. Broadly defined - g., equity, stock or similar instrument (irrespective of whether transferable or confers voting power or voting rights), capital or profit interest in an entity, convertible instruments, options (except those created by third party without knowledge of the Reporting Company), and a “catch all” provision - any other instrument, contract, arrangement, understanding, relationship or mechanism used to establish ownership.
- Ownership or control of ownership interests. An individual may directly or indirectly own or control an ownership interest in a Reporting Company through any contract, arrangement, understanding, relationship, or otherwise, including through (i) joint ownership, (ii) another acting as a nominee/intermediary/custodian/agent of such individual, or (iii) a trust or similar arrangement that holds such ownership interest.
- Trusts that hold ownership interests. Ownership can be through a (i) trustee or other individual with authority to dispose of trust assets; (ii) beneficiary who is the sole permissible recipient of income and principal from the trust or has the right to demand a distribution of, or withdraw substantially all of, trust assets; or (iii) grantor or settlor who has the right to revoke a trust or otherwise withdraw assets from the trust. As a result, multiple parties simultaneously could own or control ownership interests held in trusts.
- Intermediate entities. An intermediate entity that owns or controls a Reporting Company.
- No Ownership or control Through constructive ownership or attribution.
- Calculation of total ownership interests of a Reporting Company.
- Individual’s total ownership interests. Determined as of the present time and calculated as a percentage of the total outstanding ownership interests in the Reporting Company. Options and similar interests are treated as exercised.
- Reporting companies that issue capital and profits interests (including entities taxed as partnership). An individual’s total capital and profits interests are calculated as a percentage of total outstanding capital and profits interests.
- Corporations. Vote or value approach; e., an individual’s ownership interests is the greater of the individual's percentage of total voting power or value to total outstanding voting power or value of all classes entitled to vote, or of ownership interests, as the case may be.
- “Catch-all” rule. If the calculation cannot be performed with certainty, an individual is deemed to hold 25 per cent or more of total ownership interests provided the individual owns or controls 25 per cent or more of any class of ownership interests.
- This rule is intended to identify the true Beneficial Owners of complex ownership/investment structures.
- The term ownership interest is broadly defined to encompass interests owned directly or indirectly.
- All facts and circumstances are considered in making these determinations.
- The ownership rule recognises that something short of majority ownership can be indicative of beneficial ownership of a Reporting Company.
- FinCEN anticipates that the majority of Reporting Companies will have simple ownership structures and that the identification of Beneficial Owners should be straightforward. Unfortunately, that may not be the case in multi-tier trust and corporate structures.
Who are excepted from Beneficial Owner status?
Minor children, nominees, intermediaries, employees, inheritors, and creditors.
Who is a Company Applicant?
Definition: The Final Regulations revise the definition of a Company Applicant to include only two persons: (i) the individual who directly files the creation document of the entity, or, for a foreign company, registers the entity to do US business; and (ii) the individual who is primarily responsible for directing or controlling the filing of the document if more than one individual is involved in the filing.
- This revised definition includes only functions that are performed by one or at most two persons; viz., (1) the individual who is responsible for the creation of a Reporting Company through the filing of formation documents, and (2) the individual that directly submits the formation documents. These two functions could be performed by one person, or at most, two persons.
- If these functions were to be performed by one person, then there would be one Company Applicant; if performed by two persons, then there would be two Company Applicants.
- The purpose of limiting the reporting to these two functions in the Final Regulations is to reduce the potential reporting burdens associated with multiple persons becoming Company Applicants, which was the case under the Proposed Regulations.
- Nonetheless, some confusion remains as to who precisely is the person responsible for overseeing the preparation and filing of incorporation documents.
- In this first case, an attorney is primarily responsible for overseeing the preparation and filing of incorporation documents and a paralegal directly files the documents with a state office to create the Reporting Company. Here, both individuals are reported.
- In this second case, a business formation service provides software, online tools or applicable written guidance, employees of the services company are not company applicants; however, such employees may become company applicants if they were to be personally involved in the filing of a document to form the company.
Updating Reporting: The Final Regulations further reduce the burden of updating Company Applicants.
- Now, Reporting Companies existing or registered as of the Final Regulations effective date (1 January 2024) are not required to report their Company Applicants.
- Reporting Companies formed or registered after the effective date (1 January 2024) are not required to update Company Applicant information.
Comment: The foregoing changes in the Final Regulations have sought to minimise confusion, burdensome filings and updating of forms, which would have been the case under the Proposed Regulations
What information must a Reporting Company provide for itself?
Name, trade name or “doing business as”, business street address, state of formation, jurisdiction of formation, and IRS TIN (including an EIN),[iv] or FinCEN Identifier.
What information must be reported for the Beneficial Owner/Company Applicant?
Four items: (1) Full legal name, (2) date of birth, (3) residential address, and (4) a unique ID number from acceptable identification document (e.g., passport), or alternatively, a FinCEN Identifier.
What is a FinCEN Identifier?
If an individual/Reporting Company provides its BOI to FinCEN, that person (individual or company) can obtain a FinCEN Identifier,[v] which, in future reporting, is used in lieu of the items of information otherwise required.
- Note: An individual that has obtained a FinCEN Identifier is required to update or correct any information previously submitted to FinCEN in an application for its FinCEN Identifier.
- It is a reporting violation for any person (individual, Reporting Company) to willfully fail to report, complete or update BOI to FinCEN or to provide such information to another person for purposes of a report or application.
Form and Certification of Report?
- FinCEN to prescribe the form and manner of the Report.
- FinCEN is in the process of developing the Report.
- FinCEN anticipates most filing of the Report will be filed electronically.
- The Report will require a certification that the reported information is “true, correct and complete.”
- FinCEN has emphasised that it “believes that it is reasonable to require reporting companies to certify the accuracy and completeness of their own reports, and it is appropriate to expect that reporting companies will take care to verify the information they receive from their beneficial owners.”
- While it is an individual who files a Report on behalf of a Reporting Company, it is the Reporting Company that ultimately is responsible for the filing and the Certification.
Comment: The Final Regulations currently do not contain any mechanism to verify the accuracy of information reported. In the proposed access regulations, FinCEN recognises this is a key issue and has stated that within two years of the effective date of the reporting rule, a further evaluation of this verification issue will be undertaken.
When is a Report Due?
- A preexisting Reporting Company (formed prior to 1 January 2024) will have one year (until 1 January 2025) to file its initial report.
- A newly created Reporting Company (formed on or after 24 January 2022), must file its initial report within 30 days of the earlier of (i) the date on which a Reporting Company received actual notice that its creation (or registration) has become effective or (ii) the date on which a secretary of state or similar office first provides public notice, such as through a publicly accessible registry, that the Reporting Company has been created (domestic) or registered (foreign), as the case may be.
- This rule takes into account varying state filing practices, including automated systems in certain states, where no actual notice of creation or registration is provided and newly created entities receive public notice.
- For entities exempt as of the effective date but cease to be exempt during the first year after the effective date, there may be a longer period to report, , the remaining days left in the one-year filing period or the 320 calendar day period.
Within 30 days after the date on which the Reporting Company becomes aware or has reason to know of the inaccuracy.
- An updated report is required only where any change with respect to the information previously submitted to FinCEN concerning a Reporting Company or its Beneficial Owners (the four items of required information). The same rules apply to the ID document. Note, other changes, such as expiration dates or personal characteristics do not require an updated report.
- Updated Report required in cases:
- When the deceased individual was a Beneficial Owner by virtue of property interests or other rights subject to transfer upon death, and not solely because the deceased Beneficial Owner owned or controlled 25 per cent of the Reporting Company’s ownership interests. A successor is under an obligation to make a separate determination whether that person is a Beneficial Owner.
- When a minor child attains the age of majority.
- When a filing entity no longer is a Reporting Company.
- When a Reporting Company subsequently becomes eligible for an exemption after filing an initial report.
- Corrected Report: Errors in Reports filed must be remedied by filing a corrected report within 30 days of becoming aware or having reason to know of inaccuracies in an earlier Report.[vi]
- CTA places reporting responsibility on Reporting Companies to accurately report –– there is no modification of that standard, such as through good faith or other standard.
- There currently are no rules relating to extensions, but FinCEN may furnish guidance in the future.
- There is no requirement to file an updated report upon a termination or dissolution of a Reporting Company.
Company Applicant Reporting?
- Reporting Companies created or registered prior to 1 January 2024 must report that fact and provide information about the Reporting Company and its Beneficial Owners (by 1 January 2025) but are not required to report information with respect to any Company Applicant.
- Reporting Companies formed on or after 1 January 2024 are not required to provide an Updated Report about their Company Applicants, but are required to correct any inaccurate information previously reported about their Company Applicants.
- g. An Updated Report is required if individual Company Applicant uses a FinCEN Identifier and information reported on the FinCEN Identifier changes.
Comment: The foregoing changes will reduce compliance burdens.
- Overview of Penalties:
- Failure to report.
- Failure to update BOI.
- Failure to correct inaccurate BOI.
- Rule: It shall be unlawful for any person to willfully provide, or attempt to provide, false or fraudulent beneficial ownership information, including a false or fraudulent identifying photograph or document, to FinCEN in accordance with this section, or to willfully fail to report complete or updated beneficial ownership information to FinCEN in accordance with this section.
- Civil Penalty: US$500 per day in civil monetary penalties.
- Criminal Penalty: US$10,000 fine, imprisonment of no more than two years, or both.
- Safe harbour: This safe harbor applies if a person acting in good faith corrects inaccurate information submitted to FinCEN within 30 days of becoming aware or having reason to know of inaccuracies in an earlier report. For this corrected report to come within the safe harbour, it must be filed within 90 days of the inaccurate report.
- For purposes of the application of penalties:
- The term “person” includes any individual, reporting company, or other entity.
- The term “beneficial ownership information” includes any information provided to FinCEN under this section.
- A person “provides or attempts to provide beneficial ownership information to FinCEN if such person does so directly or indirectly, including by providing such information to another person” for purpose of a Report. (This is intended to alert individuals who are Beneficial Owners and/or Company Applicants that a penalty may apply if such persons willfully were to provide false or fraudulent information to a Reporting Company).
- A person “fails to report” complete or updated beneficial ownership information to FinCEN if such person directs or controls another person with respect to any such failure to report, or is in substantial control of a Reporting Company when it fails to report. (This is intended to alert specified individuals that a penalty may apply if such individual were to willfully direct a Reporting Company not to report or fail to report complete or updated BOI information to FinCEN).
- The foregoing amplifications were made to forestall bad actors from seeking to create new entities to replace old ones whenever an entity would be subject to liability, or to attempt to use the corporate form to insulate bad actors from consequences of willful conduct.
- FinCEN may issue further guidance and/or FAQs in the future.
PART IV. COMMENTARY
Challenges to FinCEN
(1) Creation of BOSS; (2) Preparation of forms; (3) Sufficient personnel to run system; (4) Preparation of compliance guides; (5) Outreach to Secretaries of State and stakeholders; (6) Formulation of additional guidance; (7) Sufficient funding and future appropriations to deal with the foregoing; and (8) Balancing collection of information with compliance burden on Reporting Companies.
Challenges to Business
- Reporting Companies will have new compliance burdens to gather and to update information relating to ownership, officer/board composition and other company events.
- Covered Financial Institutions will have to deal with the differences in rules between current CDD rules and CTA’s BOI rules until FinCEN adopts final regulations in that area.
- Private Equity/Venture Capital: Whether these types of entities are subject to the BOI rules will depend on the type and activity of the entity.
- Foreign Investors using LLCs: Query whether foreign investors will reconsider their use in view of required disclosures?
- Law Firms: Will firms continue to form entities? If so, will the new BOI reporting rules require a modification of engagement letters to address responsibilities during and after an engagement? These provisions should provide an opportunity for new services offering.
- Real Estate and Family Office Implications: Educate clients on new rules; again, how will these new rules impact use of LLCs?
- Private Wealth: An important concern of the HNW client is anonymity and confidentiality. It will be important to inform clients that BOSS is not a public register.
Challenge to Validity of BOI Reporting Regulation
On 15 November 2022, a federal lawsuit was filed to block FinCEN's implementation of the beneficial ownership information provisions.[vii]
[i] In that regard, Federal legislation providing for the collection of BOI was needed to bring the US into compliance with international (AML/CFT standards). In 2022, the United States moved from number 2 (surpassing Switzerland) to number 1 on the Tax Justice Network’s Financial Secrecy Index, which “ranks each country based on how intensely the country’s financial and legal system allows individuals to hide and launder money extracted from around the world.”
[ii] On 22 November 2022, the European Court of Justice rendered its judgment with respect to the compatibility of public access to ultimate beneficial ownership information with the fundamental right to protection of private life and the right to protection of personal data. Press Release No. 188/2022 (Nov. 2022). As a result of the decision, a number of EU beneficial ownership registers have been taken offline. The Governments of Guernsey, the Isle of Man and Jersey have jointly announced that they are delaying the implementation of legislation to provide full access of company BOI following the European Court of Justice decision.
[iii] A large operating company means a company that (i) employs more than 20 full time employees in the continental US, (ii) has a US physical office therein, (iii) files a Federal income tax return for the previous year reflecting more than US$5 million in gross receipts, excluding gross receipts or sales from sources outside US. This latter condition is problematic since to qualify for this exemption, a company will have to exclude foreign source gross receipts (even though these amounts are includible in the US tax base). Also included within this exception are affiliated groups that file consolidated federal income tax returns.
[iv] A Reporting Company with a principal place of business outside the US must provide a street address of its primary location in the US where its business is conducted.
[v] A FinCEN identifier is a unique identifying number assigned by FinCEN to an individual or Reporting Company.
[vi] If any report was inaccurate when filed and remains inaccurate, a safe harbour exists to any person that has reason to believe that any report submitted by the person contains inaccurate information and voluntarily and promptly submits a report containing corrected information NLT 30 days after the date on which the Reporting Company became aware or has reason to know of the inaccuracy. A corrected report filed within this 30-day period is deemed to satisfy the safe harbour provided it is filed within 90 calendar days after the date on which the inaccurate report was filed.
[vii] The lawsuit was filed in US District Court for the Northern District of Alabama by the National Small Business Association and a small business owner against Treasury Secretary Janet Yellen and acting FinCEN Director Himamauli Das; National Small Business United et al v. Yellen et al.