BrianGarst.com

A key component in the implementation of the United States’ massive financial dragnet, the Foreign Account Tax Compliance Act (FATCA), was the promise of reciprocal information sharing with overseas governments. Without the promise to essentially spy and report on foreign investors participating in American markets, foreign governments likely would have expressed greater opposition to a law that represented a dramatic foray into unilateral fiscal imperialism by the U.S. government. It is now becoming increasingly clear however that, at least for the foreseeable future, the FATCA information flow will largely remain a one-way street, threatening the law’s future viability.

Flawed construction

FATCA’s unusual and convoluted implementation process was a direct result of the legislation’s many and significant flaws. Congress included FATCA as an afterthought to pay for an unrelated stimulus package, never giving the legislation any hearings or debate. Unsurprisingly, this resulted in an impractical law that could not be enforced as written. Specifically, the legislation gave institutions the impossible choice between violating local privacy laws to comply with FATCA, or facing FATCA’s stiff penalties and sanctions.

Responsible policymakers would have quickly responded to realization of the bill’s shortcomings either by offering a legislative fix or rethinking the wisdom of the effort entirely. But since members of Congress were barely even aware of having passed FATCA in the first place, no serious effort to address the situation has been forthcoming, with new calls for reform or repeal only trickling out.

With FATCA’s biggest ideological supporters inhabiting the White House and the Treasury Department tasked with its implementation, a solution to the law’s problems was devised — likely unconstitutionally — without Congressional input or authorization. Through implementation of intergovernmental agreements (IGAs), the United States would allow financial institutions to transmit the private financial data of American citizens and other U.S. persons first to foreign governments, who would then share it with the IRS. As foreign governments considered the agreements to be treaties, conflicting local privacy laws were changed to accommodate the arrangement and foreign financial institutions were let off the hook.

For many nations, pressure on governments from their financial institutions to extricate them from FATCA’s impossible choice was sufficient reason to sign on the IGA dotted line. Some, however, needed greater incentive. To justify the massive time and expense involved in what is basically a strong-arm attempt to require foreigners to enforce U.S. law on its behalf, these governments wanted something in return: reciprocal sharing of information on the U.S. held accounts of their own citizens.

Why reciprocation won’t happen any time soon

Despite what they may have led foreign governments to believe, the Treasury Department has no existing authority to collect and disperse FATCA-level information on foreign investors, a fact confirmed by the administration’s solicitation of such authority in recent years’ budget requests. Several significant obstacles make it unlikely that will change in the near future.

After FATCA was passed, Republicans gained control of the House and may soon take the Senate as well. Most Republicans would prefer the U.S. move to a territorial tax system, which would render FATCA largely moot. Anti-FATCA activists also recently succeeded in getting the Republican Party to add FATCA repeal to its official platform, though only a small number, such as Senators Paul and Lee, have openly made similar calls.

Compounding the administration’s uphill battle for reciprocal FATCA sharing is the likely entrance of the U.S. financial industry into the fight. American banks have sat on the sidelines until now. They don’t bear FATCA’s costs and would only draw unfavourable regulatory attention and make themselves political targets by getting involved prematurely. But should reciprocation gain steam, thus putting domestic institutions into the crosshairs of the same outlandish compliance burdens as their international peers, it’s a solid bet they will ramp up anti-FATCA lobbying efforts. And unlike overseas institutions, domestic banks have political clout in Washington D.C.

It is possible that Treasury might simply grant themselves the authority they need, but doing so in order to impose billions in new compliance costs on a fragile U.S. economy and financial system would awaken a sleeping Congressional giant. Even a relatively minor rule recently adopted by Treasury to require only the reporting of interest deposit information for non-resident aliens took over a decade to implement and sparked strong bipartisan opposition from elected officials. That rule was able to skate by because the impact was limited to only a few states. The same would not be said for domestic FATCA.

It remains to be seen how the international community will react if Treasury is unable to honour its promises for reciprocity. Can it spark enough international resistance to force the U.S. to scrap its unilateral initiative? Unfortunately, there may be insufficient self-awareness left in Washington for the serious soul searching that requires. But if there is, it’s past time for the injection of even basic respect for international comity and political boundaries into the FATCA debate.

FATCA Foreign Account Tax Compliance Act