Generally, nonresident alien individuals (NRAs) are not taxed by the US when they receive interest income from amounts on deposit with US financial institutions, including banks and savings institutions as well as on amounts held by insurance companies. This exception from income tax does not apply if the interest is connected with the NRA’s conduct of a US trade or business. Furthermore, prior to the issuance by the Internal Revenue Service (IRS) in 2012 of Treasury Regulations on the matter, US financial institutions were not required to report to the IRS with regard to interest income earned by NRAs on their US deposits. This exemption from tax and reporting had existed in the US tax laws for about 50 years and was designed to encourage NRAs to bank in the US thereby boosting the US economy. With the advent of the Treasury Regulations, the interest income is still not taxed to the NRA, but the Regulations mandate reporting to the IRS by US financial institutions of deposit interest paid on or after January 1, 2013 to nonresident alien individuals of certain countries.
The country list has been prepared and supplemented from time to time as more countries are added. The list identifies the countries with which the Treasury Department and the IRS have determined it is appropriate to have an automatic exchange relationship with respect to the information collected by US financial institutions. The latest country list issued in April 2017 can be found at Rev. Proc. 2017-31 which has supplemented earlier Revenue Procedures by adding countries that have been determined by Treasury to, among other things, have adequate legal and infrastructure safeguards in place for the transmission of such data.
Rationale Behind the Mandate of IRS Reporting
A careful reading of the preamble to the 2012 Regulations makes clear that the Regulations were issued in response to the more recent developments in international tax enforcement – “Foreign Account Tax Compliance Act” (“FATCA”) and the proliferation of treaties and tax information exchange agreements (TIEAs) throughout the world which provide for the exchange of information on tax matters between the signatories. The Regulations essentially enable the US to have information to “trade” with its treaty and TIEA partners about the foreign treaty partner’s citizens and residents.
One would think that the Regulations would surely facilitate the exchange of information between the US and other foreign governments since the information “should be” readily at hand in the IRS data files. A very recent report by the Treasury Inspector General for Tax Administration (TIGTA), unearths some startling news, however.
IRS Is Not Providing Information to Foreign Governments!
The TIGTA Report of September 11, 2017 (Report) revealed that the IRS is not up to speed in processing or using information sent to it from foreign countries, including bulk data from the automatic exchange of information. I blogged about this Report and the implications for FATCA bulk data sent to the IRS by foreign governments in my recent blog post “FATCA? Who Cares? Information CHAOS at the IRS.”
The TIGTA Report also provided a valuable nugget of information about the sending by the IRS of information to foreign governments about US-source payments such as interest on US deposits. In a few words, the IRS has not been sending the information since – get this – 2012! The information is still being gathered, but obviously something is amiss, because it is not being sent. It appears that information chaos reigns supreme over at the IRS. In response to the IRS’ not sending the information, some foreign governments have likewise halted their automatic information exchanges with the IRS! So, at the moment the US and some countries are at an information exchange “standstill”.
The Report (at page 5) reveals this:
“The United States paused sending information on United States source payments to treaty partners in 2012 to update the processes the IRS employs to assess whether United States exchange partners have the appropriate legal framework and infrastructure to safeguard the information exchanged, and implement these new processes. As of May 2017, the program continues to be paused, and there is no definitive timeline to restart the program. In the meantime, the IRS is still creating files for each country but is not sending them out. Because of the reciprocal nature of exchange-of-information relationships, it appears seven treaty partners have paused further automatic exchanges with the IRS pending resumption of IRS automatic exchange activity. Of the 21 treaty partners who were inconsistent in sending data, four partners stopped sending automatic exchange information after Fiscal Year 2012, and another three partners stopped sending information after Fiscal Year 2013.”
So, in summary, while the US demands timely and complete information be sent by its foreign partners about US account holders in the foreign country, the US (unsurprisingly) does not live up to its own obligations. Reciprocal is as reciprocal does…………and the US, well, it just doesn’t.
IRS Notice 2017-46
Along related lines, the IRS recently issued Notice 2017-46, which in part provided some welcome relief for US financial institutions with respect to their FATCA duty to collect foreign taxpayer identification numbers (FTINs). The new guidance delays the date on which US financial institutions must begin collecting FTINs to January 1, 2018. The Notice also provides a phase-in period for obtaining FTINs from account holders documented before January 1, 2018 that will end on December 31, 2019; in addition it circumscribes the circumstances when FTINs are mandated. For example, withholding agents will not be required to obtain FTINs from an account holder in a jurisdiction that has not entered a reciprocal tax information exchange treaty with the United States or in a jurisdiction that does not issue FTINs to its residents. FTINs need not be acquired for governments, international organizations, foreign central banks of issue, or residents of a US territory. (As an aside, just imagine the workload and cost for the financial institution to follow these mandates!). The Instructions for Form 1042-S, “Foreign Person’s U.S. Source Income Subject to Withholding,” will be revised to reflect the amended FTIN requirements.
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