CRS vs FACTA: Cayman differences

The introduction of the Common Reporting Standard heralds the Brave New World of what has been dubbed “Global FATCA”, says Jennifer Parsons, Counsel with Mourant Ozannes.

The Common Reporting Standard (CRS), being coined “Global FACTA”, delivers a global reporting standard. CRS was developed by the Organisation for Economic Cooperation and Development (OECD) to facilitate the automatic exchange of financial information for tax purposes between countries that have adopted the standard (Participating Jurisdictions).

To date 95 jurisdictions have committed to the regime, and the early adopter jurisdictions, including the Cayman Islands which introduced the Tax Information Authority (International Tax Compliance) (Common Reporting Standard) Regulations, 2015 (the Cayman CRS Regulations) in October 2015, will begin exchanging information in 2017.

While these regulations are similar to the US Foreign Account Tax Compliance Act (US FATCA) and the 2010 arrangement between the UK and Northern Ireland and the Cayman Islands for the avoidance of double taxation and the prevention of fiscal evasion (UK FATCA, and together with US FACTA, FATCA), there are several differences and points of ambiguity that are bound to create difficulties for Reporting Financial Institutions (RFIs), which can include a Custodial Institution, a Depository Institution, an Investment Entity, or a Specified Insurance Company, as is also the case under FATCA.

An Investment Entity is defined in the Cayman CRS Regulations as any entity that primarily engages in activities or operations, including but not limited to trading in money market instruments, foreign exchange, transferable securities, or commodity futures trading; individual and collective portfolio management; or otherwise investing, administering, or managing financial assets or money on behalf of other persons. It is expected that the majority of Cayman Islands investment funds will be classified as Investment Entities for purposes of the CRS.

CRS will not apply to Non-Reporting Financial Institutions, including but not limited to governmental entities, international organisations, or central banks (except where such entities are involved in certain commercial activities); pension funds for governmental entities; qualified credit card issuers; exempt collective investment vehicles; or trusts whose trustee is an RFI.

“A greater number of entities will have CRS registration and reporting requirements than under FATCA.”

Under CRS, RFIs will be required to conduct due diligence on their clients, primarily for the purpose of identifying individuals or entities, also known as Reportable Persons, with assets and income in another Participating Jurisdiction. Reportable information would in the first instance be notified to the Cayman Islands Tax Information Authority (Cayman TIA), with such information ultimately being exchanged by the Cayman TIA with tax authorities in other Participating Jurisdictions. It will therefore be important for RFIs to establish policies and maintain procedures designed to identify Reportable Accounts and report certain information on those accounts annually to the proper Tax Information Authority. The first reporting deadline under the Cayman CRS Regulations will be May 31, 2017.

While the framework above is largely settled, there are certain conceptual differences between CRS and FATCA which are likely to present implementation challenges.

• CRS is based on tax residence, while US FATCA is based on the concept of “Specified US Persons”. As a result certain persons, ie, US citizens who are tax residents abroad, could be reportable for both US FACTA and CRS.
• A greater number of entities will have CRS registration and reporting requirements than under FATCA. This is due to the fact that the concept of “Sponsoring Entity” under FATCA is absent from CRS. A Sponsoring Entity effectively takes responsibility for all aspects of due diligence and reporting for an RFI under FATCA. Under US FATCA, a Sponsoring Entity would register with the US Internal Revenue Service as a Sponsoring Entity, rather than its “Sponsored Investment Entities” registering. Similarly, in the Cayman Islands, the Sponsoring Entity would report to the Cayman Islands TIA on behalf of any Sponsored Investment Entities. CRS does not offer a similar approach.
• The definition of Investment Entity varies under CRS and FACTA allowing entities to choose which definition to apply. The term is defined under the Model 1 intergovernmental agreement entered into between the US and the Cayman Islands. There are, however, two other definitions of Investment Entity discussed within the Guidance Notes on International Tax Compliance Requirements of the Intergovernmental Agreements between the Cayman Islands, the US, and the UK as issued by the Cayman TIA (the Cayman Guidance Notes). One definition is based on the CRS definition and the other is based under the US Treasury Regulations definition. These additional definitions are subtly different and introduce a test related to the sources of income of that entity. Entities have a choice as to which definition to apply. It is thought that, for varying reasons, some entities will prefer one definition over another. For example, where an entity would not be a Financial Institution under one definition but would be under another, the entity may choose the first definition in order not to be subject to the onerous obligations of a Financial Institution.
• US hedge funds, private equity funds, mutual funds, and real estate investment trusts will be required to complete self-certification forms and disclose their Controlling Person(s). Under all regimes, an entity that is not a Financial Institution is considered a non-financial foreign entity (NFE). NFEs are further classified as either Active NFEs or Passive NFEs. Under CRS, the scope of Passive NFEs is expanded, resulting in the US entities mentioned above having to disclose information on their Controlling Person(s).
• The definition of Controlling Person is itself an area where interpretation may prove challenging. For purposes of the Cayman Guidance Notes, “a Controlling Person means a natural person who exercises direct or indirect control over an entity”. This term corresponds to, and must be interpreted consistently with, the term “beneficial owner” within Recommendation 10 of the Financial Action Task Force Recommendations adopted in February 2012. In relation to trusts, Controlling Person includes the settlor, the trustees, the protector, and the identifiable beneficiaries and class of beneficiaries. In relation to NFEs, a 25 percent ownership threshold applies for companies, partnerships, trusts, and foundations. Official commentary on Controlling Persons, including the OECD's Commentaries on the CRS, does little to establish a single definitive test for identifying these persons. Rather, it provides alternative tests, including the 25 percent ownership test noted above (risk-based approach). Where no natural person(s) exercises control through ownership, the OECD Commentary provides “the Controlling Person(s) of the Entity will be the natural person(s) who exercises control of the Entity through other means.” However, these means are not specified. The OECD Commentary further provides “where no natural person(s) is identified as exercising control of the Entity, the Controlling Person(s) of the Entity will be the natural person(s) who holds the position of senior managing official.” Again, “senior managing official” is not defined nor the role elaborated on within the text.
• Finally, while the Cayman TIA has published a List of Participating Jurisdictions, it has yet to publish a List of Reportable Jurisdictions. As noted in the OECD Commentary, while the terms seem similar, there is a significant difference. Participating Jurisdiction refers to a jurisdiction with which the Cayman Islands has in place an agreement for the automatic exchange of financial account information, whereas Reportable Jurisdiction refers to a jurisdiction with which the Cayman Islands has an obligation to provide financial account information. This difference is best illustrated by considering whether the exchange of information between the jurisdictions is reciprocal or non-reciprocal, although the absence of a List of Reportable Jurisdictions makes a definitive comparison impossible.

The introduction of CRS heralds the Brave New World of what has been dubbed “Global FATCA”. It will take time for those entities subject to the multiple information regimes now in effect to fully comprehend all of the differences in their scope and implementation. Although UK FATCA will be phased out in 2017, for fiscal year 2016 at least, we can expect that juggling the requirements of all of the regimes in play will prove particularly challenging as well as the requirements for these new regulations.

Jennifer Parsons is Counsel with Mourant Ozannes. She can be contacted at: jennifer.parsons@mourantozannes.com