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A massive new filing requirement designed to crack down on shell companies and fraud is coming for certain small businesses with fewer than 20 full-time employees or less than $5 million in revenue.

It’s relatively easy to set up legal entities in the U.S., and it’s also rather anonymous to do so, with a minimal amount of information required in many states. For these reasons, the U.S. is home to tens of millions of corporations, limited liability companies, partnerships, and trusts. Most of these entities, of course, are law-abiding. Some are not. The federal government doesn’t have an effective system in place to help law enforcement identify who owns and operates these entities as suspicions of fraud arise. That’s where the new Corporate Transparency Act (CTA) enters the picture.

The CTA was passed in 2021, but plans for enforcement are just now coming together. The Financial Crimes Enforcement Network (FinCEN) issued proposed regulations outlining reporting requirements in December. The comment period has since closed, and now we wait. In the meantime, it’s critical for certain small business stakeholders to understand how the reporting requirements may affect them and their entities.

“Although the CTA was intended to make it more difficult to operate anonymous shell companies for criminal or tax evasion purposes, the broad net it casts means that, for the first time in history, there are now federal reporting requirements for small companies that will require the annual collection and reporting of ownership information,” the National Law Review points out.

The requirement sweeps in those small businesses that have otherwise escaped strict reporting regulations: entities with fewer than 20 full-time employees or that report revenues less than $5 million, for instance. These applicable businesses must disclose the names, addresses, and other identifying information of their beneficial owners for inclusion in a FinCEN database accessible to law enforcement. Loosely defined, beneficial owners are those who either exercise substantial control over the company or with at least 25% ownership interest.

Specifics within these parameters aren’t yet set. For instance, FinCEN proposes that the reporting company include the residential address for tax residency purposes of each beneficial owner instead of their business address. FinCEN has also floated the idea of requiring the submission of scanned images from beneficial owners and company applicants to further prove their identities.

What about entities with trust ownership? Those owners are included, too. Foreign trusts are no exception.

“It is clear that FinCEN views the use of trusts with some skepticism…The new law will have an impact on any entity with an ownership interest in a U.S. company, including foreign trusts. Under the proposed rule, reporting companies must report to FinCEN each owner that owns more than 25% of the company, including trusts, regardless of where the trust is domiciled and whether it is registered with any secretary of state,” Attorney Ian Herbert states in Bloomberg Tax. “In its proposed rule on beneficial ownership reporting, FinCEN said that it considered a narrower reporting requirement for trusts that would have required trusts to report only the trustee as the beneficial owner but concluded that doing so ‘would promote the misuse of trusts to hide beneficial ownership interests and complicate the ability of reporting companies to comply with the CTA and the proposed rule.’”

As we await a final rule, take a moment to ask your legal team and financial adviser about how the requirement may affect your business. Feel free to contact us with questions.

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