Jan. 23 (Bloomberg) -- Americans already hate the Internal Revenue Service. If Congress has its way, the rest of the world may soon follow.
In an act of hubris that could cost banks around the globe billions of dollars, Congress has directed the IRS to impose new rules requiring foreign financial companies to determine who among their accountholders is an American citizen.
The Foreign Account Tax Compliance Act, a monster of a provision inserted into a jobs bill and enacted in 2010, will be phased in starting in 2014. Known as FATCA, it aims to build on recent successful crackdowns on Americans hiding their money overseas.
The law’s goals are laudable, but it is simply too costly, too burdensome and too impractical to be effective.
FATCA will require all “foreign financial institutions” -- a strikingly broad designation -- to make agreements with the IRS and declare which of their existing accounts holding $50,000 or more belong to Americans. Companies that don’t comply will be slapped with a 30 percent withholding tax on outbound profits on their U.S. investments -- including on sales of securities.
If a company can’t adequately demonstrate that a given accountholder isn’t an American, a withholding tax will be applied to that customer’s share of the company’s U.S. income. Same if the company makes a payment to a nonparticipating financial institution.
Costs to Banks
Needless to say, banks find the potential costs of this imposition intolerable. A letter published by the European Banking Federation and the Institute of International Bankers estimates the cost of compliance for a large bank at $250 million, and a total cost to the industry of “at least several billion dollars.”
Exaggeration is not unknown among bankers facing new regulations. But on this count, we think they have a point.
Reviewing every account to determine the citizenship of every client is a staggeringly complicated task for large companies. The Japanese Bankers Association notes that Japan’s banks alone would need to review more than 800 million accounts. In some countries, divulging such information to foreign governments is illegal.
Companies including Deutsche Bank AG have already closed American accounts in response to the law. Studies from companies such as BlackRock Inc. and PricewaterhouseCoopers LLP have said that the law could push financial institutions to avoid U.S. capital markets entirely. That sounds far-fetched. But Congress seems determined to test the proposition.
And for what? The Joint Committee on Taxation says FATCA will save the government about $8 billion over 10 years -- hardly a windfall, given that the IRS’s net tax collection in 2010 alone approached $1.9 trillion. The International Council of Securities Associations argues that the costs imposed on companies will probably “exceed any revenue benefit that the U.S. is likely to enjoy as a result of FATCA.”
Of course, the law isn’t intended just to increase revenue. It’s also meant as a deterrent. We applaud stricter rules to prevent tax cheats. The IRS estimates the net gap between taxes owed and taxes paid at about $345 billion annually -- decidedly not chump change. And the agency needs some mechanism to talk to foreign banks that have U.S. customers.
But there are plenty of steps Congress and the IRS could take to deter tax evasion without FATCA’s crushing costs and complexity.
To start, Congress should stop cutting the IRS’s budget while requiring it to do ever more onerous tasks. Nina E. Olson, the national taxpayer advocate, identified this imbalance as the most serious problem facing the agency in her 2011 report to Congress. The IRS’s civil investigators should also be given access to banks’ money-laundering information and to Treasury Department data on financial crimes, as Lee A. Sheppard of Tax Analysts has argued.
Second, the IRS should start conducting more -- and more substantial -- audits of the very rich, the only people with the means and inclination to stash their money overseas. (There’s some evidence the IRS is starting to do this.)
Third, Congress should enact legislation introduced by Senator Patrick Leahy, a Vermont Democrat, to make tax evasion a predicate offense to money laundering. That means the act of transferring money to evade taxes would become a crime in itself, and it would make both parties -- the tax evader and the bank that helped him -- potentially chargeable with a more serious crime.
Another step Sheppard has suggested would be for Congress to require paying agents to withhold taxes on all outbound payments. If foreign customers want to get their money back, they can file a U.S. tax return and prove their citizenship. That’s a meddlesome step that we’d hesitate to endorse, but it’s far simpler for the banks involved.
If Congress is determined to make FATCA the law of all the world, at a minimum it should do everything in its power to better synchronize the needed data collection with what is required under existing money laundering and anti-terrorism laws. It should streamline the paperwork required of Americans living overseas. Most crucially, it should make the law applicable only to new accounts.
Doing so would do nothing to penalize those already evading their taxes. But it would make life extremely difficult for the next generation of tax cheats while avoiding FATCA’s most excessive requirements. Combined with the IRS’s current anti-evasion efforts, this could be a very effective measure at far less cost.
And it would make clear to cheaters everywhere that the taxman’s reach is growing ever longer.
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