What is FATCA in Mutual Funds? A Simple Investor Guide

Summary
This blog shares the importance of the FATCA act imposed by the US government to increase transparency and reduce tax evasion. It is a mandatory declaration for the US investors who hold assets overseas as well as other investors who invest in US based securities, to comply with the global financial regulations.

What is FATCA in Mutual Funds?

Foreign Account Tax Compliance Act, or FATCA, is a compliance requirement that helps financial institutions maintain transparency in financial transactions. It is a tax law introduced by the U.S. Government to prevent the tax evasion of U.S. taxpayers who hold assets overseas.

In India, FATCA is a one-time mandatory declaration form required to be completed while investing in mutual funds. Investors who trade in foreign securities, especially in the U.S., are required to follow this tax agreement to ensure financial transparency. It keeps a record of all assets and tax incomes, which makes it easier for the US government. All banks, mutual fund investors, and financial institutions are required to collect FATCA-related information from the investors to satisfy the rule made by the US government in agreement with many countries, including India.

Why is FATCA required for mutual funds investment?

The primary objective behind the FATCA Act is to track and keep records of the foreign assets and investments held by US taxpayers and to reduce tax evasion. 

As India is one of the many countries that signed this agreement, investors who invest in the mutual funds are required to share certain information with the US government. 

The FATCA compliance act also facilitates the investors in certain aspects, such as promoting financial transparency, preventing illegal underlying tax, verifying investors, complying with global financial regulations, and tracking overseas transactions.

Who needs to submit a FATCA declaration?

Two major groups need to submit the FATCA declaration. They are:

1. Foreign Financial Institutions (FFIs): Foreign Financial Institutions (FFIs) such as banks, mutual fund firms, brokerage firms, and other financial institutions that operate outside the US are required to track the data of investors. They must identify the US taxpayers and submit the information to the Internal Revenue Service (IRS) directly or to the local tax authority. 

In India, mutual fund firms and financial institutions collect FATCA-related information to comply with the international financial regulations.

2. Individual Taxpayers: Individual US taxpayers include US citizens, green card holders, and citizens who hold financial accounts or assets outside the country. This includes both taxpayers who live in the US and taxpayers who live abroad. They are required to submit a self-declaration form along with their annual income tax return if their investment income exceeds the limit.  

How to complete FATCA for Mutual Funds?

Step 1: Visit the Registrar’s Website: Visit the website of the mutual fund registrar. In India, CAMS and KFin technologies are popular for registering FATCA forms.

Step 2: Authenticate with PAN: Complete the PAN authentication by entering your Permanent Account Number (PAN), Date of Birth (DOB), and registered mobile number.

Step 3: Fill out the declaration form: After successful verification, fill out the form correctly. The form mostly includes 

• Country of birth,
• Citizenship,
• Residence,
• Occupation,
• Income status, and
• Tax Identification Number (TIN) if you are a tax resident outside India  

Step 4: Submit and verify: After completing the form, check all the details carefully and submit it. Once it is successfully verified, your FATCA status will be updated in your system, and you will receive a confirmation email or message.

Common FATCA mistakes investors should avoid

Many investors make minor mistakes that significantly affect their mutual fund transactions.

Common mistakes

• Incorrect details: Providing incorrect details might restrict you from further investment transactions.
• Wrong tax residency: This is a misconduct of not complying with the rules of the government.
• Neglecting to update account status: Ignoring the update of your account in the system might restrict you from future transactions.
• Ignoring communication from AMC: If the AMC requests updates or compliance with certain forms, ignoring their notice might not be a good idea.

How to avoid

• Review your form: Always review your form before submitting and check for any mistakes that might affect you in the future.
• Update your system: Regularly review and update your account details in the records. Always keep it updated with the latest changes, such as a new mobile number, residence, etc.
• Not providing necessary details: if you are holding both foreign securities and domestic securities, then you are supposed to provide information about both. 

FATCA vs CRS: Understanding the difference

FATCA and CRS are both international acts framed to reduce tax evasion and increase financial transparency. However, there are a few differences between them. They are mentioned below.

Basis	FATCA	CRS
Introduced by	The United States Government	Organisation of Economic Co-operation and Development (OECD)
Purpose	To enforce overseas tax transparency and reduce tax evasion by US taxpayers	To facilitate automatic global financial transparency across participating companies and reduce global tax evasion
Targeted audience	US citizens, green card holders, US taxpayers and citizens who hold assets and financial instruments outside the country	Global tax residents of participating countries holding assets in foreign countries
Reporting destination	IRS or local tax authorities	Local tax authorities, which automatically flow to the tax authorities of the account holder’s home country

How does FATCA impact investors and wealth building?

1. High compliance and administrative cost: Financial institutions such as banks, mutual fund houses, etc, are required to collect, verify, and maintain investor information as per the FATCA compliance act. This results in additional operating costs and administrative costs, accounting fees, etc., which need to be borne by the investor.

2. Joint account holders : If any US citizen has a joint holding in a foreign investment with their family or a non-US citizen, the US taxpayer is required to report the entire amount to the IRS for tax purposes. 

3. Double taxation and currency risk: Investors with foreign investments may have to comply with multiple tax regulations of different countries. This may lead to severe complications. Additionally, fluctuations in currency values can impact the actual income of the investors.

4. Severe penalties for errors: Incorrect information, incomplete declaration form, or failure to submit FATCA-related information may lead to transaction restrictions, heavy financial penalties, freezing your mutual fund folio, or compliance issues.

Conclusion

FATCA is a US tax compliance law made by the US government to track overseas financial assets and reduce tax evasion by US taxpayers. In India, FATCA has become mandatory for banks and financial institutions to maintain international financial transparency. As per the FATCA Act, investors are required to provide certain information, such as tax residency, citizenship, income status, etc., as part of the KYC process. Financial institutions collect and maintain this information to adhere to global reporting standards.

Although FATCA helps maintain transparency in the financial system, it also creates certain challenges for investors, such as additional compliance requirements, limited access to foreign investment, currency fluctuation, etc. An incorrect or incomplete FATCA declaration form may also lead to trade restrictions or freezing of the mutual fund folio. 

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