Foreign Account Tax Compliance Act and Captives: What You Need to Know

The exception for offshore payments of US-sourced income expires January 1, 2017; here’s what you need to know.

What is the Foreign Account Tax Compliance Act (FATCA)?

FATCA is a US law, effective January 1, 2015, aimed at ensuring that US citizens and companies with financial assets outside the US pay US taxes on the investment income from those assets.

How Has FATCA Impacted Captives?

A captive would be considered to be in FATCA’s scope if it receives US-sourced fixed or determinable annual or periodic income (FDAP[1]). Most captives writing only traditional property and casualty lines are expected to be considered non-financial foreign entities (NFFE). NFFEs obligations are fairly limited under FATCA.  However, if the captive is involved in life/cash annuity products, a further review should be undertaken to determine if the captive should be considered a foreign financial institution (FFI).

NFFEs, which include all non-US insurance companies that do not sell cash-value insurance and annuities, must provide Form W8-BEN-E or Form W-8IMY (W8) to payors of US-sourced FDAP income in order to certify their US tax status and perhaps to provide details of their ownership structure and any US involvement. US captives would be obliged to provide a W9 to the relevant payor.

Under FATCA, insurance premiums are captured by the extremely broad definition of FDAP.  Insurance premium payments are characterized as US-sourced if the insured risks are US-based.

If a captive is providing US FDAP income (including premium for US risk), it would be required to obtain a valid W8 or W9 (for US resident entities) from the payee, before making such a payment. If a valid W8/W9 is not received, withholding of 30% should be retained from the payment. The captive would also be required to report annually to the IRS payments made, to whom they were made, and whether taxes were withheld. Any withholding amounts would also be remitted to the IRS or locally through a Model 1 intergovernmental agreement (IGA).

Valid W8s should be retained by the captive and new forms requested when a previously reported status has changed. A W8 generally remains valid for three years, barring a change in such circumstances.

Foreign-to-Foreign Transitional Relief Until 2017

The regulations provided a transitional rule exception for “offshore payments” of US-sourced FDAP income with respect to “offshore obligations” through December 31, 2016, provided the payment is made by a person who is not an intermediary.

Effective January 1, 2017, any premium payment related to policies that contain US risk would be within scope for FATCA, regardless of the effective date of the policy.

What is “US Risk?”

Generally, it is considered that an insurance or reinsurance premium payment contains US risk for FATCA purposes if it is derived from an insurance contract in connection with (1) property in, (2) liability arising out of an activity in, or (3) the lives or health of US residents.

Property or activity would be considered to be in the US if it is either exclusively, “ordinarily” or “substantially” in the US.

Treatment of a risk as US source can also differ based on the type of insurance being placed.

Impact on Marsh-Managed Captives:

Expiration of the exception for offshore payments of US-sourced FDAP income should not have an impact on how Marsh currently manages captive compliance with FATCA. To date, we have taken the view that all US risk, wherever it is (re)insured, should be subject to FATCA compliance and therefore all related premium or FDAP payments should only be released upon receipt of a valid FATCA from the payee. However, other firms may now look to captives to provide copies of the captive’s FATCA forms before it will make onward premium or FDAP payments.

Marsh Captive Solutions’ teams will continue to work with clients to ensure that all relevant forms are in place or arrange for updated forms to be completed on behalf of captive clients.

It is also a good time for organizations to consider if any of the arrangements within their captive have changed and if its captive FATCA status is still valid. For non-US resident W8-BEN-E forms are valid for three years only and therefore current forms may need to be updated starting in 2017. Any forms obtained by Marsh Captive Solutions will be subject to automatic renewal requests and this will be facilitated by a centralized team.

_{[1] FDAP – Fixed or Determinable Annual or Periodic Income. Examples include:
Dividends, interest, insurance premiums, pensions and annuities, sales commission paid or credited monthly, commission paid for a single transaction.}