Take-Away: The federal Corporate Transparency Act (the Act), which creates a national beneficial ownership registry, applies to certain business entities. Fortunately, the Act does not appear to apply to common law Trusts (yet.)

Background: The Corporate Transparency Act was enacted on January 1, 2021. The Act requires both (i) business entities (Reporting Companies) to report their beneficial owners and (ii) applicant’s their beneficial owners to FinCEN. The purpose of the Act reflects Congress’ effort to prevent the use of shell companies to evade anti-money laundering rules or to hide other illegal activities. With the recent revelation of how Trusts are use by the uber-wealthy to avoid taxation from the Pandora Papers, it is possible that the scope of the Act might soon be extended to include common law Trusts.

Effective Date: Reporting obligations under the Act will take effect on the effective date of the Regulations that will be adopted to interpret the Act. The Regulations must be in effect no later than January 1, 2022. However, those published Regulations may prescribe an even later effective date.

Enforcement: The Act provides for both civil and criminal penalties for the failure to comply with its reporting requirements, or for reporting false ownership information to FinCEN. Fines range up to $10,000 plus $500 a day if a required report remains outstanding. Prison sentences for violations can be up to two years.

Not Covered Entities: From an initial reading, it would seem that neither common law Trusts nor charitable organizations, including private foundations, are covered by the Act. However, some commentators believe that private trust companies established by ultra-wealthy families may fall within the Act’s ‘beneficial ownership’ disclosure requirements.

Covered Entities: Corporations, LLCs and other similar entities, so called Reporting Companies,  are covered by the Act. In general, any entity that is created by filing a document with the Secretary of State or similar office under the law of a state or Indian Tribe is treated as a similar entity.

  • Trusts Excluded: Because common law Trusts, i.e. estate planning Trusts, are not created by filing a document with the Secretary of State or similar state office, they are generally excluded from the Act. However, a statutory business Trust would probably fall within the reporting requirements of the Act.
  • Larger Organizations Excluded: Also excluded from the scope of covered entities under the Act, are corporations or LLCs with: (i) an operating presence at a physical office within the U.S.; and (ii) with over 20 full-time employees; and (iii) that filed in the prior year a Federal income tax return that reports more than $5.0 million in gross receipts or sales. [31 U.S.C. 5336(a)(11)(B)(xxi).]
  • Government Regulated Organizations Excluded: Also excluded from the Act are entities that issue securities, or that act with some governmental grant of authority, such as banks, credit unions, broker-dealers, clearing agencies, insurance companies, CPA firms, and organizations that are exempt from taxation, e.g. 501(c)(3) entities.

Applicant: The Act defines an applicant as anyone who files an application to (i) form a U.S. corporation, LLC or similar entity or (ii) register a foreign corporation, LLC or similar entity with a secretary of state or similar office of the state.

Beneficial Owner: The Act requires the reporting of a beneficial owner of a Reporting Company. “A beneficial owner is defined to be: any individual who directly or indirectly through any contract, arrangement, understanding or relationship exercises substantial control over a Reporting Company or owns or controls at least 25% of the Reporting Company.” [ 31 U.S.C. 5336(a)(3)(A).]

  • Excluded Beneficial Owners: Excluded from the definition of beneficial owner are: minors, so long as the parent or guardian’s information is reported;  nominees, intermediaries, custodians and agents; individuals whose only interest in a Reporting Company is through a right of inheritance; a creditor of the Reporting Company; and an individual who is an employee of a Reporting Company and whose control or economic benefits over the Reporting Company is solely from his or her employment.

Information to be Provided to FinCEN: Every Reporting Company must provide to FinCEN for each beneficial owner and applicant: (i) their full legal name; (ii) their date of birth; (iii) their current address, home or business; and  (iv) a unique identification number, which is either a non-expired US passport, a non-expired U.S. or state government ID, a non-expired driver’s license, or a foreign passport. This information can be disclosed to any federal agency that is engaged in national security or law enforcement, a state law enforcement agency, or the law enforcement agency of another country.

Hoped For Clarifications of the Act: The Act uses some technical terms that are not identified. Hopefully the upcoming Regulations will provide need definitions. Those clarifications include:

  • What is meant by the term similar entity?
  • What is meant by the term right of inheritance when determining when beneficial ownership reporting is not required?
  • Who is required within the Reporting Company to file the report with FinCEN?
  • Is a Reporting Company required to ‘look through’ an entity that owns or exercises substantial control over the Reporting Company, to report that entity’s ‘indirect’ or ‘individual’ owners, such as a Trustee owned entity?

Conclusion: You will recall that the STEP Act proposed earlier this year has Trusts with modest income levels annually filing financial statements with the IRS. While that proposed legislation did not made its way into the House Ways and Means Committee’s tax proposals now being debated before Congress, it is clear that some in Congress want irrevocable Trusts to report to the IRS each year. The STEP Act proposal may be a precursor to what we see in the next few years; if a Trust is required to file an annual report of its financial condition with the IRS, arguably it would then fall under the Act’s beneficial owner reporting obligation. Until then, while after a preliminary reading it appears that most estate planning Trusts will not have to comply with the reporting requirements of the federal Corporate Transparency Act, it is probably wise to not leap to any conclusions until the Regulations are published with regard to the scope of the disclosures required by the Act when it comes to common law, estate planning Trusts.