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Every government wants to keep track of the income and investments of its residents to prevent them from evading taxes. But often, incomes and investments housed in foreign shores are not disclosed by residents, resulting in tax evasion.
Governments of major countries recently agreed to share financial information to help overcome this problem. The US had got cracking on this a few years back, when it put in force a law called FATCA or Foreign Account Tax Compliance Act.
The objective was to get US citizens and residents to report their financial assets held outside the country to the Internal Revenue Service (IRS), the US tax authority.
Modus operandi FATCA does not rely on the honesty of US taxpayers to achieve its goal. Rather, it requires foreign financial institutions (FFIs) — banks, mutual funds, insurance companies, and stock brokers, among others — that hold assets of such taxpayers to disclose these details to the IRS.
The reporting threshold for FFIs under FATCA is $50,000 in foreign financial assets. The limit though varies based on the taxpayer’s citizenship, resident and marital status.
Why should the FFIs co-operate? Because FATCA imposes a 30 per cent withholding tax on non-compliant FFIs, that is payments and receipts sourced from the US would suffer a sharp cut. That said, it could get quite cumbersome for FFIs to report directly to the IRS; data protection laws in countries may also restrict sharing of client information. As an alternative, the governments of many countries have entered into agreements with the US. So, the FFIs pass on the information regarding US-based clients to their local tax authorities which share the information with the IRS.
Information exchange India, for instance, has entered into an inter-governmental agreement with the US to implement FATCA. In return, India will receive reciprocal information from the US regarding assets held by Indian tax assesses in that country.
From January 2016, SEBI has made it compulsory for Indian investors, both existing and new, to comply with FATCA requirements. So, mutual funds and other financial institutions in India are expected to collect information such as investor’s country of tax residency, tax identification number or its equivalent and investor’s country-specific unique identification code.
Indian investors have to provide a FATCA self-certification form and meet additional KYC norms.
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