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FinCEN Proposed Regulations Put “Transparency” in the Corporate Transparency Act by Requiring Disclosure of Beneficial Owners of LLCs and Other Entities By EVAN J. DAVIS

The dirty little secret, that isn’t so secret after the release of the Pandora Papers (Pandora Papers – ICIJ), is that the United States is a tax and money-laundering haven for much of the world because, unlike most countries, many U.S. states allow persons to own entities without revealing their ownership to authorities.  Last month, Treasury’s Office of Financial Crimes Enforcement Network (“FinCEN”) issued proposed regulations to put meat on the bones of the 2020 Corporate Transparency Act (“CTA”).  The CTA, which was part of a larger anti-money-laundering act, was designed to address the lack of required reporting of beneficial ownership information.  Many states, such as South Dakota and Nevada, allow what amounts to anonymous ownership of limited liability companies (“LLCs”).  The CTA will eventually require that all new and existing businesses meeting certain broad standards report their beneficial ownership and those having “substantial control” to FinCEN, as well as who applied for entity, subject to civil and criminal penalties.  FinCEN has cast a wide net and built in “flexibility” to ensure they don’t miss anyone trying to fly under the radar.   But what FinCEN sees as flexibility, others will see as ambiguity that will leave advisors scratching their heads and prosecutors lamenting the lack of a bright-line rule that will make their jobs easier.  The only upside for business owners: Congress has effectively doubled FinCEN’s workload without increasing its budget, and no one does more with less.  The CTA merely spread FinCEN’s resources even thinner.   

Six months after the CTA was passed, I was on an ABA panel with the head of the Justice Department’s money-laundering section and a senior advisor to FinCEN’s Director, and the primary question was: what will FinCEN’s CTA regulations look like?  The panelists and audience were concerned with a number of topics:

  • what does “substantial control” mean, to trigger reporting obligations?
  • will the new reporting requirements be burdensome?
  • how would the IRS and others be able to use the information?
  • what safeguards would exist to protect the information from hackers? and
  • how will the new power to punish foreign banks with a US “correspondent account” (which they all have) for not complying with a subpoena be used?   

On December 8, 2021, FinCEN answered the first tranche of those questions with its proposed regulations.  https://www.federalregister.gov/documents/2021/12/08/2021-26548/beneficial-ownership-information-reporting-requirements.  The regulations establish two categories of reporting companies, namely domestic and foreign (non-US entities that have registered to do business here), and list 23 exemptions from the reporting requirements.  In answer to the question about how they will define beneficial owner and substantial control, the regulations set a test of owning or controlling at least 25 percent of an entity, or if the person exercises substantial control over the entity.  The regulations also define which “applicants” have to register, which generally means the individual who files the documents forming the entity (domestic) or registering it to do business in the United States (foreign).  Registration will only require name and “tax residential” address, but more-detailed information is “encouraged,” whatever that means.  However, FinCEN also will require an image of a passport or similar document that includes a photograph.  The rationale for requiring this sort of identification makes clear that FinCEN is looking for crooks, and wants the crooks to leave a copy of their passport with the feds.            

The most interesting part of the proposed regulations (you know you’re a lawyer when you say something like that) is the discussion of how to determine whether someone has substantial control.  FinCEN wanted to identify persons with both title-derived power as well as exercised or exercisable power over important decisions.  It rejected a proposal to limit beneficial owners to one person per entity, which had been proposed to minimize the reporting burden, further signaling that FinCEN wants the database to be as usable as possible for law enforcement purposes.  FinCEN also used its experience and public comments to anticipate and shut down ways in which persons could try to circumvent the 25% rule by avoiding ownership on paper but “controlling” more than 25% of a company. 

As much effort as regulators put in to anticipating how persons will try to avoid or evade regulations, the regulators know that they can’t anticipate the next innovation in crime.  FinCEN included flexibility in the regulations in the form of “catch-all” language that requires reporters to consider all the facts and circumstances.  On the face, these broad regulations will ensure that everyone who is supposed to report, will report.  But, inherent in broad language is ambiguity, and where the government can impose civil and criminal penalties, ambiguity means full employment for lawyers.

Speaking of civil and criminal penalties, one wonders whether all these regulations are simply the roar of a paper tiger.  Despite substantially expanding FinCEN’s obligations through the CTA, Congress hasn’t provided the additional funding needed to monitor enforcement and implement the CTA.  The resulting frustration was evident from my co-panelist, and the FinCEN Director has made his needs clear as well.  Meanwhile, FinCEN will roll out the second and third tranches of regulations while hoping that Congress puts its money where its CTA mouth is.    

EVAN J. DAVIS – For more information please contact Evan Davis – davis@taxlitigator.com or 310.281.3288. Mr. Davis has been a principal at Hochman Salkin Toscher Perez P.C. since November 2016.  He spent 11 years as an AUSA in the Office of the U.S. Attorney (C.D. Cal), spending three years in the Tax Division where he handed civil and criminal tax cases and eight years in the Major Frauds Section of the Criminal Division where he handled white-collar, tax, and other fraud cases through jury trial and appeal.  As an AUSA, he served as the Bankruptcy Fraud coordinator, Financial Institution Fraud coordinator, and Securities Fraud coordinator.  Among other awards as a prosecutor, he received an award from the CDCA Bankruptcy Judges for combatting Bankruptcy Fraud and the U.S. Attorney General awarded him the Distinguished Service Award (DOJ’s highest litigation award) for his work on the $16 Billion RMBS settlement with Bank of America.  Before becoming an AUSA, Mr. Davis was a civil trial attorney in the Department of Justice’s Tax Division in Washington, D.C. for nearly 8 years, the last three of which he was recognized with Outstanding Attorney awards.  He is a magna cum laude and Order of the Coif graduate of Cornell Law School and cum laude graduate of Colgate University.Mr. Davis represents individuals and closely held entities in federal and state criminal tax (including foreign-account and cryptocurrency) investigations and prosecutions, civil tax controversy and litigation, sensitive issue or complex civil tax examinations and administrative tax appeals, and white-collar criminal investigations including campaign finance, FARA, money laundering, and health care fraud.

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