A controversial new law, the Corporate Transparency Act, directs the U.S. Department of Treasury to promulgate sweeping new corporate beneficial ownership reporting requirements relating to U.S. companies. This law represents the most significant revision to the U.S. anti-money laundering/countering the financing of terrorism compliance framework in more than 20 years—since the USA Patriot Act of 2001, which introduced and imposed “Know Your Customer” regulations on all banks in the United States and requires financial institutions to comply with rules regarding a “Customer Identification Program” and “Customer Due Diligence.”
The CTA broadens reporting to U.S. authorities of information—and personal identification documentation—concerning beneficial ownership of nearly all U.S. companies as well as foreign companies doing business in the United States, with the exception of a handful of specifically exempted entity types. Treasury’s Financial Crimes Enforcement Network implemented the requirements through final regulations issued on Sept. 29, 2022. With regard to reporting for newly created entities, the requirements are currently slated to become effective on Jan. 1, 2024. Entities created before the Jan. 1, 2024 date will have until Jan. 1, 2025 to make their initial filing.
It bears noting there are still important aspects of the reporting scheme to be worked out, including who will have access to the database of beneficial ownership information and under what circumstances as well as the technical particularities and data security considerations around collection and retention of the information. There are also multiple ongoing lawsuits challenging various aspects of the legislation. In light of these open issues, it’s possible that the effective date of the rule could be delayed. However, FinCEN hasn’t yet indicated that it will delay the effective date.
What’s Considered a “Reporting Company?”
Reporting obligations will apply to U.S. domestic and foreign registered companies. Under these new rules, unless specifically exempted, beneficial ownership information will be required to be reported to FinCEN by any domestic entity “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” as well as foreign entities registered to do business through such filings.
While this will include most entity types, trusts will be largely excluded from the direct reporting requirements because they aren’t typically created by the “filing of a document with a secretary of state or similar office.” This is welcome news to estate-planning practitioners, although it bears noting that this exclusion won’t exempt entities owned by trusts from reporting.
FinCEN also specifically exempted 23 types of entities from reporting, including, U.S. Securities and Exchange Commission registered issuers, banks and other types of regulated financial institutions, pooled investment vehicles, tax-exempt entities, large operating companies (defined as entities with more than 20 U.S. employees, U.S. operations and greater than $5 million in annual gross receipt or sales) and inactive entities formed prior to Jan. 1, 2020, without foreign owners and that hold no assets. Subsidiaries of exempt entities are also largely exempted from the reporting requirements.
FinCEN will require a reporting company to report the following information regarding all individuals and entities identified as “company applicants” or “beneficial owners” under the rule: name; birth date; address; and unique identifying number and issuing jurisdiction from an acceptable identification document, along with an image of that document.
Company applicants include: (1) the individual who directly files the document that creates the domestic company or the document that first registers a foreign company; and (2) the individual who’s primarily responsible for directing or controlling such filing (if more than one individual is involved). In this regard, FinCEN has made clear its expectation that lawyers, paralegals and other service providers engaged in entity formations are likely to be considered company applicants in many circumstances, and their information (and personal documentation) will be required to be included with these filings.
“Beneficial ownership” is defined extraordinarily broadly under these new rules to include any—and all—individuals who, directly or indirectly, either: (1) exercise “substantial control” over a reporting company, or (2) own or control at least 25% of the ownership interests of a reporting company, to include contingent rights (that is, “put, call, straddle, or other option or privilege of buying or selling”). Substantial control individuals required to be reported under the rules explicitly include: (1) senior officers (for example, “president, chief financial officer, general counsel, chief executive officer, chief operating officer, or any other officer, regardless of official title, who performs a similar function”) and (2) anyone else who “directs, determines, or has substantial influence over important decisions made by the reporting company” or has “any other form of substantial control over the reporting company.”
Notably, FinCEN has provided explicit rules on how it will view beneficial ownership in the context of entities that are owned through trust structures. FinCEN will look through revocable trusts and single beneficiary trusts as well as many non-discretionary trusts. In that context, individuals who will be required to be reported as beneficial owners of reporting entities owned by trusts will generally include:
- trustees of the trust or other individuals (if any) with the authority to dispose of trust assets.
- any 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 the assets from the trust.
- Any grantor or settlor who has the right to revoke the trust or otherwise withdraw the assets of the trust.
While ambiguities as to application of these rules remain, it’s clear that FinCEN anticipates reporting to broadly sweep in the group of individuals associated with each reporting entity. These expectations raise significant privacy implications for individuals holding ownership stakes in reporting companies as well as vast numbers of individuals who are associated with such companies as senior officers, managers and company applicants.
Consequences of Non-Compliance
Violations trigger civil penalties of $500 per day for each day a violation is outstanding up to a maximum of $10,000 and criminal penalties of up to two years imprisonment. However, unlike most other AML/CTF reporting violations, penalties for violations of these rules will apply only regarding willful violations (for example, willful failure to file, willful provision of false or fraudulent information or willful failure to provide complete or updated beneficial ownership information). The CTA doesn’t provide for penalties in the case of negligent or reckless failures.
Notably, a “willful” violation could include circumstances involving “willful blindness” or “conscious disregard” that leads to a failure or false filing, substantially expanding the potential for inquiries and enforcement. Even more, the rules also provide for criminal or civil liability for “causing” a violation, increasing the pool of individuals who could be targeted for their role in failures beyond the individual or entity who technically files the report.
While the final rule doesn’t go into effect until Jan. 1, 2024, impacted individuals, family offices and entities should start preparing now. The best defense to potential allegations of willful violations under this rule will be robust procedures and documentation demonstrating good-faith in relation to compliance with the new regime.
*This article is an abbreviated summary of “Prepare to Comply With Upcoming Corporate Transparency Act Reporting Rules,” which originally appeared in the July/August 2023 issue of Trusts & Estates.