An American law that will hit investors here

For many years, thousands of foreign investors have put their money into American shares or other investments. Now, however, a somewhat obscure law called the Foreign Account Tax Compliance Act (FATCA) may make investments in the United States for everyone, from billionaires to the man on the street, here in Singapore far less attractive.

And anyone considering investing in the US who has not heard about the FATCA may soon learn more about it.

"FATCA is a new US tax law designed to prevent US taxpayers from avoiding US tax on their income," is how Ernst & Young describes it.

Since a major focus of the law is to require financial institutions to report investments held by US persons to the tax authorities, the Internal Revenue Service (IRS), it might sound like it only affects American citizens. Yet it will affect Singaporeans and other non-Americans too.

While the FATCA regulations run to hundreds of pages, in a nutshell, it requires foreign financial institutions (FFIs) to report information on their US account holders or investors.

It also requires 30 per cent withholding on dividends, interest and asset sales unless the FFI has an agreement with the IRS or has identified the US owners of the asset.

The penalties for not following FATCA requirements correctly can be huge. FFIs that do not report or withhold taxes can be liable for all that withholding, plus interest and penalties. It may just be easier not to invest in the US at all and, indeed, asset management firm BlackRock says the FATCA "discourages foreign investment in US capital markets".

While the FATCA will not go into effect until 2013, modifying software and putting compliance in place can easily take a year or more. FFIs are already starting to act on the new law, so the effects of the FATCA will likely become more visible very soon. And even though financial institutions are responsible for compliance and the focus of the law is on US persons, the law may have major effects even here in Singapore.

For one, some banks or investment managers may advise customers not to invest in the US. As director of American Citizens Abroad Jackie Bugnion said in October, "private bankers are publicly advising their clients to clear their portfolios of all US securities".

A fund manager here told me his company is also advising clients to avoid US investments, and other companies may similarly start telling large clients as well as smaller ones the same story. Investors could then see recommendations not to invest in the US, and they may put their money elsewhere.

For another, it may become more difficult to invest in the US for anyone who still wants to do so. Financial institutions with US investments need to identify investors and provide a multitude of reporting about many of them to the US tax authorities.

As consulting firm PwC said, "some institutions could decide that complying with the due diligence and verification provisions may not be cost effective" so they may stop making investments in the US.

Banks or other asset managers may similarly decide it is easier not to offer US investments than to try and comply with the FATCA. That means putting money into US unit trusts, hedge funds or other investments may be more difficult for many investors.

Further, the FATCA could affect investment returns in the US. Prices of investments in the US such as bonds, shares and real estate are partially dependent on foreign demand. The US Treasury estimates that about one-third of its securities are owned by foreigners, for example.

While the impact of the FATCA is uncertain and it could be a small trickle amidst a flood of investments to the US, investment returns could be affected if enough foreign investors do not, or cannot, invest in the US.

It is easy to say that the impact of the FATCA will be minimal, since foreigners have continued to invest in the US regardless of how well or poorly US markets perform, and that could be true. What is different this time is that a brand new law makes it more difficult to invest than before.

While the FATCA will affect financial institutions most directly, everyone from the very rich to smaller investors may soon find it harder than ever to invest in the US - if they still want to invest there in any case.


Richard Hartung is a consultant who has lived in Singapore since 1992.

Source: TODAYonline.com, 13 December 2011