On demand 1h 2m 59s Intermediate

Beneficial Ownership Reporting Under the Corporate Transparency Act

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Beneficial Ownership Reporting Under the Corporate Transparency Act

This CLE will provide an in-depth look at the final beneficial ownership reporting rule under the Corporate Transparency Act. It will cover issues such as who needs to report beneficial ownership information, who is a beneficial owner, what information needs to be reported, and in what form the information should be provided. Michael Rosensaft will also discuss FinCEN’s response to commenters' concerns. It will cover the possible changes to the rule, that FinCEN accepted or rejected, and the possibility of future rulemaking.

Transcript

- [Michael] Hello, my name is Michael Rosensaft and today I'm gonna be presenting to you on a new rule that's coming into what's going to be coming into effect, the beneficial reporting rule that's gonna be done through the Department of Treasury and was instituted as part of the AML Act and under that, the Corporate Transparency Act. Before I get into the rural and proposed requirements, I wanted to tell you a little bit about myself. I'm a partner at Katten Muchin and Rosenman. I work in New York, although we have offices in Chicago and across the US, London and in China as well. I was also a former assistant United States Attorney in the Southern District of New York. When I left the office, the senior unit I was in was the International Narcotics and Terrorism Unit where I prosecuted individuals for money laundering and related federal crimes. I became very familiar with us with the difficulty at getting behind companies about who the owners were. I worked on cases worldwide where wrongdoers tried to hide their ownership interests and I'll talk about that a little bit as we go through this slideshow. I prosecuted also, when I was at the US Attorney's Office, the former president of Guatemala, Alfonso Portillo for money laundering. And once I entered private practice, I joined the law firm of Katten Mucin Rosenman, where I advised firms financial institutions, cryptocurrency firms, and other businesses on anti-money laundering, sanctions compliance and reporting requirements. And I've gotten a lot of questions recently about the beneficial reporting rule. Although it's not in effect as of today, businesses are preparing for it as they should and trying to understand it. Today we'll be covering a number of aspects of the beneficial ownership reporting rule, that chief lies in the Department of Treasuries proposed rule, and then what their response was to comments and the final rule they issued. We'll be talking about who is required to report beneficial ownership information, who exactly are beneficial owners? Who's going to have to submit the information, and how should it be submitted? What are the rules on the timing of the report? When do companies need to start reporting this information? And as I said, we'll be talking about the proposed rule that was issued, the comments and the final rule as the Treasury Department has attempted to give some early guidance on what companies will be looking at. So, lemme provide a brief summary of the rule as, and then we'll get into more detail. So, as part of the National Defense Act, Congress enacted the Corporate Transparency Act, which requires disclosures about beneficial ownership information. And this was spurred by concerns that wrongdoers and people who are trying to avoid paying taxes as the IRS has been involved, often hide behind companies that hide behind companies, that makes it difficult for law enforcement and other agencies to go up the chain and find out who actually owns these companies. The information that will be required to be reported includes the full legal name of the owners, the residential or business address, unique identifying numbers, and some other information we'll talk about. Beneficial owners under the act or those that exercise substantial control over an entity or owns or controls 25% or more of the ownership of the entity. We'll talk about during this course what substantial control means and what exactly is 25% or more of ownership interest in an entity, especially in structures outside the typical or more simple corporate model. The information will be placed in a FinCEN in database that's available to federal law enforcement, regulators, intelligence agencies, some state agencies and other financial institutions. In addition, we'll talk about how it may be accessible or may be provided to foreign law enforcement agencies, foreign courts, which raises some serious concerns for some businesses. The purpose by the guided FinCEN's rule is that this reporting should enhance the ability of FinCEN and other agencies to protect US national security and the US financial system from illicit use and provide essential information to national security, intelligence, law enforcement agencies, state, local, tribal officials and financial institutions to help prevent traffickers, fraudsters and corrupt actors. And they included in their oligarchs as there's a special concern now about sanctions, especially as it relates to the Russia-Ukraine conflict. And there you go, those are the different institutions that they're concerned So they went on with the purpose. At the same time, the rule aims to minimize burdens on small businesses. I'm not sure that's correct as we'll talk about, but FinCEN said as it anticipated, it will cost reporting companies with simple management and ownership structures, approximately $85 a piece to prepare and submit a beneficial ownership report. And treasury actually broke it down in terms of how much time they expect businesses to spend on gathering this information and issuing these reports. I found it a little humorous and I only say that because, under a simple structure they decided that it would cost $85 an intermediate structure, 1,350. And having advised companies with reporting requirements, it's gonna be much more than that. Companies are gonna need lawyers or specialized institutions, they're going to have to do due diligence on customers, run reports in some cases face difficult decisions about what questions to ask. They'll have to institute policies that provide their inability to get this information. So, I think the Treasury Department is overly optimistic about the effect this rule will have. And they anticipate there will be 32.6 million reporting companies in the US. That's a lot. And we'll go through what is a reporting company, what will not be a reporting company, and how FinCEN reached that number. Now, the final rule that they issued, you can see here about six pages long of small print, three columns each very complicated. And this is just initial guidance. FinCEN has said it's going to come out with additional guidance that I'm sure will be pages and pages. But let me go through what they have said. We're gonna be talking about who is a reporting company, who are the beneficial owners, who is a company applicant, which is another category of information that companies must provide information on what report should be be filed and when that report should be filed. So, let's take these one by one. So, we'll start with who is the reporting company. So, here's the final rule and this tracks the statute a lot. A reporting company is domestic reporting company or a foreign reporting company. And breaking that down, domestic reporting company means a corporation, a limited liability company, or a company created by the filing of a document with a secretary of state or any similar office under the law of a state or Indian tribe. Foreign reporting company means an entity that is a corporation formed under the laws of a foreign company and registered or country and registered to do business in any state or tribal jurisdiction. Again by the filing of a document with the Secretary of State or any similar office under the law of the state or Indian tribe. So, let's break that down just a little bit and FinCEN will provide some examples as well. We'll talk about the comments that were proposed or the comments that were proposed by different entities and how FinCEN responded to those comments. So, corporations, that's fairly simple, although there could be complex structures set up. Limited liability companies, self-explanatory in most cases. And then you have the third category, this catch-all. Any entity created by the filing of a document with the Secretary of State or any similar office under the law of a state or Indian tribe. That created a lot of comments because it depends on state law or Indian tribe law, as in who and what kind of structures have to file these reports. Foreign reporting companies basically must do business and have a presence within the United States and must have to file those same kind of documents. FinCEN provided some examples. I'm not sure how helpful they are. They're fairly general. But they said that they expect reporting companies will include limited liability partnerships, limited liability limited partners, business trusts, most limited partnerships in addition to corporations and LLCs because those entities are generally created by filing with a secretary of state or similar office. They went on to say that other types of legal entities will include certain trusts, although certain trusts they will exclude from the definitions to the extent that they are not created by the filing of this document. So, with the definition of a domestic reporting company, again, this corporation living liability company or entity created by filing a document with the Secretary of State, the Department of Treasury received a number of comments. Some requested an enumeration of the types of legal entities included within the scope of other similar entity. And you'll see their corporation, LLC or these other similar entities. They ask for comments on if certain states that do not require the filing of these documents such as sole proprietorships and general partnerships, would those be included? They wanted clarification on the term similar office, what does that mean? What office under state laws are included in filing these documents? And then there were concerns that reliance on state law would provide opportunities for evasion and forum shopping. So, here's the Department of Treasury's response. First, defining other similar entity. FinCEN noted that state law corporate formation practices and nomenclature vary among states. And this variety makes it difficult to identify types of entities that are or are not categorically covered by the definition in every state or scenario. In short, FinCEN understands that whether such a document's required to be filed with the state differs. In certain states, corporations typically we'll have to file these. But when we get to other similar entities and how that's defined, states are gonna vary in whether they require these filings or not. With response to whether sole proprietorships should be excluded, which was a concern of many commentator. FinCEN observed that sole proprietorships in many, if not most circumstances, are not created through filing a document with the Secretary of State or similar office and thus would not be a reporting company. If the entity registers for a business license or similar permit, FinCEN said it does not believe that it falls under the rule. Again, I think this is too simple because there are a lot of different filing states requests of businesses and although here, FinCEN clarified that business licenses and similar permits would not bring corporations or sole proprietorships under the rule. There are a lot of different forms that companies must file with states and they really haven't provided a lot of guidance to sole proprietorships. And this is important because sole proprietorships are ones who will probably be least familiar with these filing requirements will require the most time to understand them and will not necessarily have the structure in place to easily identify beneficial owners or how to report them. FinCEN though has provided no serious guidance for sole proprietorships and they have not excluded sole proprietorships. We'll see if they develop more regulations as time passes. They have said that they intend to put out more guidance as more questions come in. There also will be a process once the rules in effect, a continuing process for request for clarification. So, we'll see if this holds up, but this is an issue for sole proprietorships who do not have this infrastructure in place. In response to comments about defining similar office. So, what is a similar office in a state? FinCEN responded as with these types of entities, FinCEN declines to incorporate into the final rule either a one-size-fits-all definition or a list of qualifying officers that create entities given the varying state practices. In short, FinCEN recognized that states have a variety of practices, which is an inherent problem and the definition which brings a company under the rule. Again, they've said that they will issue further guidance, but unless we see a state by state guide that is updated, small businesses in particular are gonna have difficulty figuring out whether they need to file. And FinCEN responded to this issue about forum shopping. And it's a real concern. It's very common for businesses to incorporate in certain states for tax treatment because they do not have certain requirements for liability issues in Delaware for among other reasons, structures that exist that help companies. And in response to these concerns, FinCEN said, while potential differences in state law practices could provide opportunities for forum shopping, FinCEN does not make any changes in response to this comment. The Corporate Transparency Act is clear that the state corporate formation law and practices dictate whether an entity is a reporting company. So, we are gonna have forum shopping. States in which documents are required to be filed to form a corporation, my guess is that those laws may be changed, may be adjusted as states try to get corporations to file on their state to pay taxes in their state. And we'll have to see how that develops. So, who is not a reporting company. And as much guidance or little guidance as there was on who is a foreign company, there is a lot of guidance on who is not a reporting company. And this has come through the original Corporate Transparency Act where there was a lot of lobbying by different business communities to try to be excluded from this. So, let's go through who is not a reporting company, although we will not be covering every single one of these. You you can look on the screen, it's a lot. Now, a lot of these are excluded because they already are required to report beneficial ownership information or the beneficial ownership information is already known. Some of these on the list are there because it wouldn't be likely that reporting beneficial information would aid law enforcement given the risk of money laundering or other illicit conduct. But we'll go, we'll go through a few of them. And first I wanna start with large operating companies. So, these are companies of more than 20 employees and 5 million at least in gross sales and a physical office in the United States. Now this is going to exclude a number of companies and maybe the thought is, well there's already a lot known about these companies. It's a little ironic though because these companies are gonna be in the best position to report beneficial ownership information and to have structures in place compliance departments or at least legal advisors who would be able to easily adopt this rule, but they're being excluded. And there were a few comments that were offered. First, how the number of employees should be counted. Commentators wanted employees should be counted on a consolidated basis rather than an entity by entity basis. So, if you have multiple legal corporations, legal entities, even though it is run as a whole through maybe a parent or coordinating these legal entities, commentators wanted you to consider every employee. So, if you don't have one entity with five employees and another entity with 500 employees, that that entity with five employees should not have already have to produce this beneficial ownership information. Another comment was that growth sales should be worldwide and not limited to the United States. And then there were comments that were, I guess, unique to this time period and what COVID is brought and how people are working from home and remotely. And the requirement that there be a physical office in the United States does not really reflect the widespread use of shared workspaces and home offices. So, let's see what FinCEN said. In turn of the number of employees, FinCEN declined to permit companies to consolidate employee headcounts across affiliated entities. Now this may cause companies to shift the number of employees in terms of who actually is employing them, but if companies that are coordinating together with a single parent or other structures that have been set up, if one of those entities only has one employee, five employees, they're not gonna fall into this exclusion. In terms of gross receipts FinCEN also declined the suggestion by commentators to expand the consideration of revenue to include non-US sources. The tax of this exemption focuses on activity occurring in the United States and revenue reported on US income tax returns. So, you're not gonna fall under this exclusion if you have a hundred million of profits worldwide, but 4 million in the US. The exclusion is only going to apply to companies that have that amount of revenue within the US. And finally, in response to the requirement of physical presence, FinCEN and decided that most companies the size necessary to take advantage of this exemption are likely to have some operating presence in non-residential premises, which is probably right, things have changed, but they're likely is a physical presence. So, now let's go to subsidiaries, which is another exclusion of, and those subsidiaries are excluded or entities in which the ownership interests are owned or controlled directly or indirectly by one or more of certain exempt entities. So, if one company falls under those exemptions, the subsidiary may be excluded as well. One comment was that this should apply to majority owned subsidiaries and that it includes holding companies owning exempt entities. FinCEN declined to add majority owned is too expansive, it has to be owned or controlled, not majority owned. And with respect to exempting holding companies owning exempt entities, FinCEN responded that the Corporate Transparency Act provision does not provide for such an expansion and the subsidiary exemption focuses on subsidiaries not parents of exempt entities. Commentators also wanted to add state registered investment advisors who have to provide information, reporting information, beneficial ownership information in a lot of cases to a state. And this would be under the idea that if this information is already known to a state, they should be excluded. FinCEN responded that the extent of state supervision very significantly and FinCEN accordingly does not believe that seeking a blanket exemption for state registered entities is warranted at this time, T-I-M-E. Commentators also wanted more clarity on what a pooled investment vehicle is and whether other investment vehicles that are similar to pooled investment vehicles would be exempted. And just to go back so everyone can see on pooled investment vehicles, 'cause there was definitions that were given. The term pooled investment vehicle means any investment company as defined in section three A of the Investment Company Act or any company that would be an investment company under that section, but for the exclusions provided from that definition by paragraph one or seven of section three C of the act and is identified by its legal name, by the applicable investment advisor in its form ADV filed with the SEC or will be so identified in the next annual updating amendment to form ADV required to be filed by the applicable investment advisor pursuant to rule 204-1 under the Investment Advisors Act. And again, FinCEN Department of Treasury is tying this exclusion to these vehicles that already have reporting requirements. So, commentators want more clarity on what a pooled investment vehicle is, 'cause there are a lot of different structures that could be included. FinCEN declined to provide any furthering guidance. They noted that the term pooled investment vehicle encompasses a wide variety of investment products with a wide range of names and structures, which present a range of risk profiles. They said it is accordingly impractical for FinCEN into prospectively opine on the applicability of the exemption to specific structures that may not carry the technical name pooled investment vehicle. However, as a general principle FinCEN in noted that a vehicle's eligibility for this exemption does not hinge on its nominal designation, but rather on whether the vehicle or entity satisfy the elements articulated in the final regulatory text. Now given the amount of different structures that have been created that could be included as pool investment vehicles, FinCEN's lack of further guidance will cause a lot of uncertainty. I expect that FinCEN will continue to be asked questions about what investment vehicles are excluded under this exception. They may provide further guidance, but they've recognized, I think their limitations in understanding and anticipating all the different investment structures that are out there currently, or that may come to be to some extent once this rule goes into effect as companies attempt to either put it into effect or perhaps restructure their investment vehicles, restructure their companies so they do not have this reporting requirement. So, there are other comments on reporting upstream owners of exempt entities. The proposed rule said if an exempt entity has or will have a direct or indirect ownership interest in a reporting company and an individual is a beneficial owner of the reporting company, by virtue of such ownership, the report filed by the reporting company shall include the name of the exempt entity rather than the information required with respect to such beneficial owner. So, this talks about a situation where a company going upstream is owned by an exempt entity and whether even though this company is a reporting company, the fact whether the fact that it's owned by an exempt entity introduces additional requirements to report the beneficial owners of that exempt entity with the idea that you really don't know who owns this company if you only have to report the exempt entity. It could be placed in the corporate structure to prevent real information from being produced about the beneficial owner. There were a lot of comments about this proposed rule, about this possible requirement of reporting upstream owners, some of which were satisfied with the rule, some of which saw it as a way to hide beneficial ownership. And treasury responded. The final rule clarifies that it applies only when an individual is a beneficial owner of a reporting company exclusively by virtue of the individual's ownership interests through both exempt and non-exempt entities. And they gave an example, for example, it would not have been necessary to report an individual who holds, holds a 24% interest in reporting company through a non-exempt entity and a 1% interest in the same reporting company through an exempt entity for a total of 25%, including exempt and ex non-exempt entities under the proposed rule. The final rule language precludes this outcome. So, FinCEN has taken into account these comments on whether these loopholes could be created. And they looked at the situation where someone may actually own 24% in a reporting company and with 24%, if we're just looking at the ownership requirements, that doesn't reach that 25% threshold to make them a beneficial owner who must be reported. But the structure is such that they have 1% interest in the same reporting company through an exempt entity whose beneficial ownership information does not need to be reported. This structure could be set up to hide the beneficial owners. And FinCEN responded, no, this doesn't work. We're going to make this rule only about the exclusive, the exclusive interest. So, if you have 25% interests total, some exempt and non-exempt companies, you do have to report. If they're all non-exempt entities, you don't have to report, you can just report the exempt entity itself. There's also the question of we've talking about ownership interests, but it's ownership interests or substantial control. And there there were comments about what does this mean if someone owns 24% of a company, does that mean they have substantial control and does this ownership requirement, is it really superfluous in those situations? And FinCEN declined to exempt the reporting of beneficial owners who exercise substantial control through an exempt entity. So, the fact that an exempt entity is the parent is not going to have an effect on this substantial control requirement. FinCEN explained the statutory provision that this special rule implements is focused on an exempt entity having a direct or indirect ownership interest in a reporting company. This focus reflects an effort to relieve reporting burdens associated with ownership of exempt entities. But substantial control raises different concerns in light of the variety of ways in which such control may be exercised over a reporting company. So, this substantial control idea is not as definite as the ownership interests. It's more difficult to understand, it's more difficult for companies to understand what does substantial control mean, and we'll get into that a little bit later. Alright, so who's a beneficial owner? We've seen who must report who are excluded, and you saw the list of who are excluded as much greater than what we went over. But who is a beneficial owner? And a beneficial owner is any individual who directly or indirectly either exercises substantial control over the reporting company or owns or controls at least 25% of the ownership interest of the reporting company. So, let's start with ownership interests. Now we talked about what ownership interest means in terms of exempt to non-exempt entities, but there's a initial question, how do you even decide how ownership interests is calculated because we're not just dealing with corporations who were owned 25% by this person and 30% by this person, where it's pretty easy, but we're dealing with a lot of times complex corporate structures or individuals who are an income from the company but do not have shares in it, for instance. So, there's a whole section about what ownership interest is. And I won't read all of this, but you can see the categories. First, they have any equity stock or similar in instrument, certificate or subscription. And this gets to kind of the basic and I think easiest to understand idea of who has an ownership interest. For B, we have any capital or profit interest in an entity. So, we're not just talking about if you own through shares or certain amount of the entity, but we are gonna look at how much money you receive from the entity in some cases, which we'll talk about. The rule provides that any instrument convertible with or without consideration into any share or instrument described in these paragraphs, futures on such instrument or warrants or rights to purchase, sell, or subscribe to an interest described in this paragraphs are ownership interests. So, you're not gonna be able to get around the rule by having an interest through convertible instruments or future interest in it. D, ownership interest is includes any put, call, straddle or other option or privilege of buying or selling any of the items. So, you're not gonna be able to get around this by having an ability to exercise options for more than 25% of the company. That's you're gonna be then included as having ownership interests. E, any other instrument contract arrangement or understanding use to establish ownership. And here we have a catch-all that they go through. In short, who is an owner is very expansive and FinCEN has tried to limit the ability of corporations to structure themselves in a way where they do not need to produce these beneficial ownership reporting. FinCEN also provided guidance on how you calculate this 25% interest. And again, we're not talking about situations where someone just owns 25% of a company, but we're talking about more complex situations. And you'll see here, under a ownership interests of the individual shall be calculated at the present time and any options or similar interests of the individual shall be treated as exercised. So, we're talking about the current state of the vehicle or company, and we have to assume that future interests, the options or similar interests are exercised. B, for reporting companies that issue capital or profit interests. So, this is getting to the ownership interests that come from owning a company because you get profit or capital. The individual's ownership interests are the individual's capital and profit interests in the entity calculated as a percentage of the total outstanding capital and profit interests of the entity. So, if you receive 25% of the company's profits, regardless of whether you have an ownership interest as we commonly understand it, you are included as having an ownership interest. C, for corporations entities treated as corporations for federal income tax purposes and other reporting companies that issue shares of stock. The applicable percentage shall be the greater of the total combined voting power of all classes of ownership interests of the individual as a percentage of total outstanding voter power of all classes of ownership interests. So, you're not gonna be able to get around the rule by having different classes of ownership interests. They're gonna be consolidated for the purpose of this rule. Two, the total combined value of the ownership interest of the individual is a percentage of the total outstanding value of all classes of ownership interests. And indeed, if the facts and circumstances do not permit the calculations described above. So, if the company structure in a way where these rules do not make sense, any individual who owns or controls 25% or more of any class or type of ownership interests of a reporting company shall be deemed to owner or control 25% or more of the owner interest of the reporting company. It's a catch-all that treasury has tried to anticipate companies structuring their entities in ways to avoid this requirement. I expect there will be further guidance and further rules as FinCEN sees how companies react and what structures they actually are looking at. All right, so let's talk about substantial control. Ownership interest is one thing , who actually has substantial control? FinCEN is said in defining the contours of who has substantial control. The rule sets forth a range of activities that could constitute substantial control of a reporting company. So, FinCEN has provided some guidance and this list captures anyone who is able to make important decisions on behalf of the entity. FinCEN's approach is designed to close loopholes that allow corporate structures, that obscure owners or decision makers. And here's the rule that they have, the different factors that they will take into consideration to decide if someone has substantial control of a company. A, if they serve as a senior officer, B, if they have authority over the appointment or removal of a senior officer officer or a majority of the board of directors. C, if they direct determine or have substantial influence over important decisions made by the reporting company, including decisions regarding the nature and scope of the business, reorganization, dissolution of the company, major expenditures, investments, issuance of any equity selection or termination of business lines, compensation schemes, significant contracts, governance documents. So, this takes into account a lot of different people and who has substantial influence is the real question over these decisions. D, has any other form of substantial control over the reporting company, which is the catch-all they've put in there. I expect that again, we're gonna have further guidance, but we're gonna have to see, I think as this rule is implemented, unfortunately, who is fined, who is not fined, who FinCEN in does have concerns about and who they don't. We're gonna go through some of the comments in most cases, in looking at who has included, companies are gonna be best to be conservative and be over-inclusive and sometimes it'll be easy. The officers of a company are easy to identify and report. But the language here is very vague and it's gonna be difficult even to comply with this. So, multiple commentators raised concern with the first indicator, service as a senior officer of a reporting company. Some commentators asserted the secretaries and general counsels often have ministerial or advisory functions with very little control of a company. Do we have to report secretaries and general counsels? Of course there were a lot of lawyers that put forth comments of their clients and otherwise, so general counsels are here as well. FinCEN responded that the indicator of who senior officers are is a clear bright line rule on one category of persons who exercise significant degree of control. They're not going to let you not be reported if you're a senior officer, you're gonna have to report. However, FinCEN had agreed that corporate secretaries and treasurers entail ministerial functions with little control over the company and FinCEN has excluded these individuals. Unfortunately for the lawyers out there, they considered the role of general counsel to be more substantial and did retain that as one of the examples. General counsels will have to be reported. There were other comments. The proposed rule indicated an individual exercises substantial control if they have authority over the appointment of any senior officer or majority or dominant minority of the board of directors. And the question here is why are we included someone who has control over a dominant minority of the board of directors? They clearly do not control the company. FinCEN did accept this comment and removed the reference to dominant minority of board of directors with respect to the proposed rule section that a beneficial owner includes an individual who can direct, determine, decide or have substantial influence over important matters affecting the reporting company. That vague language, frankly that is difficult for a company to discern. Commentators either requested clarity or even oppose the use of this indicator because they believed it could significantly widen the definition of substantial control. It could encompass day-to-day business decisions that do not really meet the threshold of substantial control and sweep in silent investors. Employees are contractual counterparties. FinCEN declined to make a change to the proposed rule. They kept it vague a beneficial owner as someone who has substantial influence over important matters. They gave an example though that a sanctioned individual may direct an advisor to form a company to engage in business activities with instructions to omit the sanctioned individual from any corporate formation documents. They were concerned that the sanctioned individual through the advisor may have substantial control over important decisions even if the individual does not direct or determine those decisions. So, here FinCEN is concerned that looking at the rule as a whole, you may end up with an individual who does not meet the definitions of who has substantial control and the examples given, but they still have a substantial influence and maybe the individual directing activities. So, FinCEN's going to keep it vague. Some commentators inquired about the treatment of tax professionals and other similarly situated professionals with an agency relationship to a reporting company. Do they have substantial control? In particular, some tax and legal professionals may be formally designated as agents when they fill out IRS forum 2848. They may have power of attorney in order to submit the taxes of the corporation. FinCEN said they do not envision the performance of ordinary arms-length advisory or other third-party professional services to a reporting company would provide an individual with the power to direct or determine or have substantial influence over important decisions of a reporting company. So, outside tax professionals, outside advisors and consultants will be excluded. And in terms of the final catch-all provision has any other form of substantial control. Commentators argued this catch-all provision is too vague, renders the overall definition circular and introduces greater compliance uncertainty. Someone who has substantial control has a form of substantial control that's obviously very hard for a company to follow is guidance or is a rule? FinCEN responded that as they implement and ensure compliance with the final rule, they're going to gain greater experience and issue further guidance on this catch-all provision. My yes, given FinCEN's prior practices is we will see further guidance, but this substantially vague catch-all provision will remain in place and companies are gonna have to be conservative if they want to make sure that FinCEN doesn't use this catch-all provision to find them or worse. The rule does provide categories of who are not beneficial owners, minor children, which makes sense, individuals acting as nominee, intermediary, custodian or agent on behalf of another individual, which we'll talk about in a second. An employee of a reporting company acting solely as an employee whose control is derived solely from the employment status as long as they're not a senior officer. Individuals whose interests are of future interest only through inheritance and creditors. So, let me talk about I think what's the most interesting one, nominees, intermediaries, custodians and agents. And some commentators inquired about the treatment of the tax professionals, for instance is agents by filing that 2848 form. FinCEN again responded that they do not envision that the performance of ordinary arms-length, arms-length advisory services provides an individual with the power to direct and determine or have substantial influence over important decisions. I think tax professionals can find some consolation with their guidance. Unfortunately, nominees, intermediaries, custodians and agents, is not as clear, especially, when you look at FinCEN's examples of who do exert substantial control. Hopefully, FinCEN will provide further guidance on this as we move forward so individuals can have some final decision on whether they are included or not. And employees are not included, as you saw. There was concern expressed that senior officers could also be employees and thus exempted, although we did see in the final rule that it did take into that account. Individuals benefiting from this exception must be acting solely as an employee and derive control or economic benefits solely from their employment status. Accordingly, the final rule specifically provides that individuals can be treated as falling within the employee exception where they're acting solely as an employee, but only if they are not senior officers of a company exercise unsubstantial control. So, just because you're an employee does not necessarily exempt you from this rule if you are a senior officer or you fall into one or the other categories, defense enlisted. So, this is a small category, but information must also be reported about a company applicant. And a company applicant for a domestic reporting company is that individual who files the document that creates the domestic reporting company. For a foreign reporting company, it's the individual who directly files the document that registers the foreign company and whether for domestic or foreign reporting company, the individual who is primarily responsible for directing or controlling such filing if more than one individual is involved in filing the document. So, now getting into the nuts and bolts of what should filed. Now this is really preliminary at this point FinCEN has given some ideas. We do know the basics, legal name, address, the things that were included, but they've only given us preliminary thoughts on how this is gonna work. To remind you, the reports must include full legal name, trade name, d/b/a, the address, the jurisdiction of formation, the unique identifying number, the tax identification number, employer identification number, and for the beneficial owner, the full legal name, date of birth, complete address, and a unique identification number. Commentators questioned what level of due diligence was really required of the person certifying the report and observed that it would be burdensome if not impossible for reporting company to certify the accuracy of the beneficial owner's personally identifiable information. They suggested that changing the certification language to include various knowledge standards such as to the best of their knowledge or to the best of their knowledge after reasonable and diligent inquiry would be more appropriate. So, how much due diligence do you have to do if a customer provides you their name and date of birth, do you have to do your own checks to see if that's accurate? Do you have to run your own credit report? Do you have to look into that? For a business, do you have to go to their webpage and see if all this makes sense? Now, companies may have their own obligations already under AML procedures or otherwise to take some of these actions, but how much due diligence is required in reporting beneficial ownership information? FinCEN responded by recognizing that much of the information about beneficial owners and applicants will be provided by those other individuals. So, most of this information is coming through the beneficial owners and not the company. However, the structure of the CTA reflects a deliberate choice to place the responsibility for reporting this information on the reporting company itself. So, it's not gonna be as simple as getting information about the beneficial owner and including it in the report. There is going to be a level of due diligence that's required to verify that information. Some commentators also express concern about the certification of the information in light of civil and criminal penalties for willfully providing false or fraudulent beneficial ownership information. And this is pretty significant, particularly the criminal penalties. Any person that violates these paragraphs providing this beneficial ownership information, providing false ownership information shall be liable to the United States for a civil penalty of not more than $500 for each day that the violation continues or has not been remedied. And even more concern, and this is really what this comment is getting at, may be fined not more than $10,000, imprisoned for not more than two years, or both. So, filing false beneficial ownership information could lead to imprisonment and there's that level of due diligence that's required. So, where is that line? If an entity does not do their due diligence, does that mean they may face criminal penalties? Where is that line? What will lead to these criminal penalties? That's really what the question is about. FinCEN's response. Any assessment is to whether false information was willfully filed, and that's the key word, willfully, would depend on all the facts and circumstances surrounding the certification and reporting the beneficial ownership information. But as a general matter, FinCEN does not expect that an inadvertent mistake by reporting company acting in good faith after diligent inquiry would constitute willfully false or fraudulent violation. Now this word willfully in the criminal context, we we could have a whole CLE on it. It's been called a word of many meanings whose construction is influenced by its context. For instance, for structuring cases where individuals try to avoid reporting requirements by of the $10,000 triggering amounts and by putting in $9,000, $9,000, $9,000 by structuring their transaction in a way to avoid that reporting requirement. The Supreme Court has has said that the government must prove the defendant knew the structure he undertook was unlawful. So, it's such a specific requirement that an individual facing criminal penalties must know about the structuring statute that prevents that and must approve that the defendant knew the structure and he undertook was unlawful. So, there's a requirement here with willfulness of generally knowing that what you do is illegal. So, someone who in good faith files the beneficial reporting information, at least through legal precedent, although there's never been a case on beneficial reporting requirements, but through similar legal precedent will likely have a good faith defense. FinCEN has said they're not going to be recommending criminal cases if someone makes these filings in good faith. There are those criminal penalties though. So, companies have to take this seriously. They're not going to be able to turn a blind eye, for instance, to incorrect information being filed. The form of what is filed has not been created and it's gonna be going through an electronic system that FinCEN is creating. I've put here a similar form for beneficial owner information. I expect the FinCEN's final form and information that must be submitted will be similar to this. Finally, we get to timing. So, when should the report be filed? The rule provides that the initial report shall be filed for any domestic reporting company created after January 1st, 2024 within 30 calendar days of the earlier of the date, which it receives actual notice, its creation has become effective or the date on which the secretary of state or similar office first provides that notice. Again, we're talking about January 1st, 2024. We're still a year off or less than a year off. So, companies have a little bit of time to create structures to enable them to do the due diligence and make these filings. And two, any entity that becomes a foreign reporting company on or after January 1st, 2024 shall file a report within 30 calendar days. Again, the same as a domestic reporting company. So, we've gone through a lot today and I think it's clear from the proposed rule, from the comments and from FinCEN's waffling inability to provide further guidance in some areas, refusal to take away these catch-all provisions that companies still will have some uncertainty about whether they have to file this information and who a beneficial owner is. The proposed rule has provided a lot of good information to help companies. FinCEN has said there will be further guidance. We may have a new CLE part of the way or most of the way through the next year as we get closer to the date upon which companies must file this information. But there's still a lot of uncertainty. At this point, companies are best served by being conservative. If they have any question, obviously they can consult legal counsel, but if they have any question about whether they actually are a reporting company, they probably should act as if they are and start putting the infrastructure in place. And if further guidance set forth that makes clear they're not, then great. But this will require these structures in place. Discussions about what due diligence will be required, how they're going to conduct, how they're gonna contact their beneficial owners, if they're going to restructure their companies, if they're going to restructure their investment vehicles in light of this rule. And that work's gonna have to be done over the next year. So, companies are best served by thinking about it now.

Presenter(s)

MR
Michael Rosensaft
Partner
Katten Muchin Rosenman LLP

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