IRS Reporting Requirements you Need to Know if you’re Working in a Financial Institution Involved in the Stock Market – ViewTrade

Ross McGill is the Chairman of TConsult Ltd and a subject matter expert on cross-border withholding tax and anti-tax evasion regulation. The contents of this blog post are for general information only and should not be relied upon as the provision of tax, legal or investment advice or applying to any specific financial institution.

This is the first in a series of articles that I will be contributing. In each blog article, I will provide some reminders of what you need to be doing, thinking about and planning for. I will also write about some of the problems that are happening in the industry that can lead to failures or breaches of tax regulation. In this blog post I’m going to focus on US withholding tax i.e. Chapters 1 and 3 of the US internal revenue code. In future blog posts I will look at FATCA (Chapter 4) as well as DAC6, AEoI, CRS, TRACE and the EU Withholding tax code of conduct. If you don’t know what some of those acronyms mean, stay tuned for my future blog posts where all will be explained.

Do, Think, Plan in February

If you work in a financial institution that has exposure to the US securities market, you may very well have a reporting obligation to the IRS irrespective of whether you have QI or NQI status. Most people think of that obligation as something that happens in March.

It’s true that the IRS deadline for 1042-S information returns and the 1042 US tax return are both due on March 15th 2022 with respect to the 2021 US tax year. However, you can get extra time to file those returns. There are three you need to know about, but most people only remember two.

You can get a thirty-day extension to April 14th to file your information returns 1042-S to the IRS. You can get a six-month extension to September 14th to file your US Tax return (1042). You can also get a thirty-day extension of time to provide recipient copies.

It’s that last one that most people forget about or they think that their 1042-S extension at the IRS also applies to recipient copies – it doesn’t. Each of these extensions has a different form, format and delivery method. That’s why US reporting doesn’t start in March, and it certainly doesn’t end in April. It starts in February and ends in September

Still on the subject of US tax reporting, you should also now be reviewing what’s new this reporting period from the last reporting period.

There are usually some coding changes and, if you’re filing yourself, you should be checking out the what’s new section of Publications 515 and 1187. Remember that these publications are specific to a reporting year, so make sure you check out the right one. The IRS has also made some changes to the FIRE Portal (Filing Information Returns Electronically) and what you need to access it.

Be aware or be caught

Now, if you do happen to be a non-qualified intermediary and you have not disclosed your clients to another financial institution, you will need to report each of your clients’ US-sourced income, by income type, to the IRS. Many brokers we meet take the opinion that, since the IRS got the maximum tax (30%), either they don’t need to report or it won’t matter if they don’t because you can’t be caught.

Both are wrong. First, the IRS doesn’t get the tax, the US Treasury gets the tax. The IRS is an administrative arm and they are interested in the reporting of what was paid to the Treasury. Second, in fact, the IRS will know that you exist because your counterparty, from whom you received a 1042-S, will have reported you to the IRS as a non-qualified intermediary with “unknown recipients”.

That means that the IRS will be expecting your information returns and a US tax return. There are penalties for late filing and, in the case of failing to do so over several years, you could be what’s called in “intentional disregard”. Just because the IRS hasn’t caught up with you yet, doesn’t mean they can’t or won’t. The question is whether you are prepared to take the financial and reputational risk.

Do the right thing – become a QI

Many financial institutions near the top of the payment chain for US securities are encouraging their customers to become qualified intermediaries. This is a good thing, but we see many NQIs who obtain QI status without really understanding the consequences.

You should not just react to a suggestion from a counterparty by signing up at the IRS website then wondering what you should do next. There are many decisions you’ll need to make, actions you’ll need to take – before you make your application, some of which will be affected by which jurisdiction you’re in, how many and what kind of clients you have, and importantly when you apply. Right now, there is a window of opportunity that ends on March 31st, 2022.

If you get your QI application in by that date, it’s likely that the IRS will backdate your QI contract effective to January 1st, 2022. That has a knock-on effect both for the complexity of your first year’s reporting to the IRS and the date on which you’ll need to certify to the IRS that you have complied with the QI agreement you signed. These are great examples of how you need to know the nuances of US tax regulation to make your life easier while reaping the benefits of QI status. We commonly produce an Exposure Map Report (“EMR”) for financial institutions that are considering, or have been told, to become QIs. If you’re interested, head over to our website and submit a request.

They are a fixed price and typically take two weeks to complete. The benefit? – you can make more informed decisions about your QI application and status, understand the benefits and avoid some of the more common mistakes that will trip you up later on in your QI journey.

Handling US clients

More and more financial institutions are waking up to the fact that having US clients is not the horrendous problem everyone thought when FATCA first came out. There are some basic rules you should know about to minimize your compliance efforts.

The main one is to make sure that your US clients do not cause you a problem with what’s called “backup withholding” which is currently 24%. US income paid to a US client would normally be taxed at 0% (because they’ll be declaring that income and paying tax on it domestically). Having to withhold 24% will be operationally difficult so it’s important to understand how to prevent it. There are two ways this backup withholding could occur.

Either your US client tells you that they are subject to backup withholding on their form W-9 or the social security number (“SSN”) they give you on that W-9 does not match the IRS database. In the first case, you could always have a policy of not allowing US clients that are subject to backup withholding, to trade US securities. In the second case, you can just ensure that, before allowing them to trade US securities, that there is a match between their SSN at the IRS.

The other component of having US clients is that you’ll need to report them in FATCA and you’ll need to report their US-sourced income on forms 1099. Well, the reason that most firms are coming back to accepting US clients is that they often now have a CRS reporting obligation anyway, so adding FATCA reporting to CRS reporting is not that big a deal. 1099 reporting is similar (but not the same as) 1042-S reporting.

The issue this year, if you’re reading this now, is that the. 1099 reporting deadline is the end of this month. But that should not stop you from thinking about accepting US clients later in the year. We usually include that into any EMR we write.