Congress enacted the Corporate Transparency Act (the “Act”) on January 1, 2021 to collect information on owners of and those who control corporations, limited liability companies (“LLCs”), and other entities in an effort to curb illegal activities such as money laundering, tax fraud, human and drug trafficking, financing terrorism, and other serious crimes.

Subsequently, regulations detailing the specific entities and individuals to which the Act applies, the timing of the reporting obligations, the information required to be reported, and other clarifying points were released on September 29, 2022. While these regulations provide certain helpful guidance for business owners, executives, and others, further guidance is likely.

This alert provides an overview on this new reporting regime, which becomes effective on January 1, 2024 (the “Effective Date”) and identifies potential effects on clients and advisors.

Companies and Individuals Covered by the Act

Under the Act, all “reporting companies” must submit a report to the Financial Crimes Enforcement Network of the U.S. Department of the Treasury (“FinCEN”) containing certain identifying information for each of the reporting company's “company applicants” and “beneficial owners.”

“Reporting companies” include all domestic and foreign LLCs, closely held corporations, and other entities created by or registered to do business in any state by filing a document with a secretary of state (unless an exception applies). Though the Act becomes effective on January 1, 2024, it applies to all reporting companies, regardless of when the entity was created.

It is anticipated that most limited partnerships, limited liability partnerships, business trusts, and other similar entities will be reporting companies. Entities not included in the definition of reporting companies are those companies that are already heavily regulated, such as publicly traded companies, banks, and insurance companies; tax-exempt entities; governmental authorities; large operating companies (i.e., those companies (a) with 21 or more full-time employees in the United States, (b) with a physical office with an operating presence in the United States, and (c) that reported more than $5 million in sales or gross receipts on the previous year's federal income tax return); and inactive entities, which are defined as those entities that (a) were in existence on or before January 1, 2020, (b) are not engaged in active business, (c) have no foreign owners, (d) neither had a change in ownership nor sent or received funds in excess of $1,000 over the preceding year, and (e) do not own any assets.

The “company applicant” includes the individual who either files the application to form or register the entity and the individual who supervises the filing. Often, this is the attorney or paralegal engaged to assist a client in creating a new business or as part of an estate plan.

A “beneficial owner” is each individual who, directly or indirectly, exercises substantial control over or owns or controls at least 25% of the ownership interests of a reporting company. For these purposes, “substantial control” means (a) serving as a senior officer, (b) having authority over the appointment or removal or any senior officer or a majority of the board of directors, (c) directing, determining, or having substantial influence over important decisions (e.g., the reorganization, dissolution, or merger of the company; compensation and incentive programs for senior officers; amendments of substantial governance documents, etc.), or (d) holding any other form of substantial control. Direct or indirect substantial control may be exercised through (a) board representation, (b) ownership or control of voting power or rights, (c) rights associated with a financing arrangement or interest, (d) control over one or more intermediary entities, (e) formal or informal financial or business arrangements or relationships, or (f) any other contract, arrangement, understanding, relationship, or otherwise.

The regulations clarify that a beneficial owner may also include (a) trustees of trusts that own or control 25% of a reporting company, where the trustee has the authority to dispose of trust assets, (b) a trust beneficiary when that beneficiary is either the sole permissible beneficiary of income and principal of the trust or where that beneficiary has the right to demand a distribution of or withdraw substantially all of the trust assets, and (c) the grantor of a trust who has the right to revoke the trust or otherwise withdraw trust assets.

An individual will not be considered a beneficial owner of a reporting company if the individual is:

  1. a minor child (and the relevant information of his or her parent or guardian is reported);
  2. a nominee, custodian, or similar agent acting on behalf of another;
  3. an employee whose control/economic benefits derive solely from his or her employment status and who is not a senior officer;
  4. one whose only interest is a future interest through a right of inheritance (until such time as the interest is inherite; or
  5. a creditor (that does not otherwise meet the control or ownership requirements).

Requirements Under the Act

Required Reports. Once it is determined that a company is a reporting company, the company is required to file a report with FinCEN, certified as true, correct, and complete, that includes the following information:

For the company:

  1. the company's full legal name;
  2. any trade or “doing business as” name;
  3. the complete address of the company's current principal place of business in the United States;
  4. the jurisdiction of the company's formation; and
  5. the taxpayer identification number (including foreign tax identification numbers and the name of the foreign jurisdiction issuing such number).

For each beneficial owner (regardless of when the company was created) and company applicant (for companies formed on or after January 1, 2024), his or her:

  1. full legal name;
  2. date of birth;
  3. current residential address for each beneficial owner and current business address for each applicant;
  4. identification number from (i) a non-expired United States or foreign passport, (ii) a non-expired state driver's license (no foreign driver's licenses), (iii) a non-expired identification document (issued by a state, local government, or Indian Tribe – no foreign identification documents), or (iv) a FinCEN identifier (issued by FinCEN upon request); and
  5. an image of the document from which the identification number was obtained.

Any entity that is not a reporting company is exempt from the reporting requirement under the Act unless it has an ownership interest in a reporting company. In that case, if the beneficial owners of the entity and the reporting company are identical, only the name and FinCEN identifier1 of the exempt entity, but no other information (such as the company applicant and beneficial owners), must be provided.

Updated and corrected reports are required to notify FinCEN of any change to previously provided in reports concerning the reporting company or its beneficial owners and to correct all inaccuracies.

Timing of Reports. The due date for the filing of a report to FinCEN depends on whether the company was formed prior to or on or after the Effective Date and whether the report is an initial report or an updated/corrected report.

Companies created on or after the Effective Date will generally have 30 days to file an initial report, measured from the date on which the company receives notice of its creation or registration. However, for reporting companies formed in 2024, the deadline for filing the initial report was recently extended to 90 days.

Companies formed prior to the Effective Date will have one year from the Effective Date (i.e., until January 1, 2025) to file their initial reports.

Any changes to or inaccuracies in a previously filed report (regardless of when the reporting company was formed) must be identified in an updated or corrected report within 30 days of (i) the date of such change or (ii) when the reporting company becomes aware or has reason to know of the inaccuracy.

Penalties. There are both civil and criminal penalties for willfully failing to comply with the Act and/or providing false or fraudulent information to FinCEN or attempting to do so. This includes civil fines of up to $500 per day for non-compliance and criminal fines of up to $10,000 and/or possible imprisonment of up to two years.

Government Storage and Confidentiality. FinCEN will store all information collected for each reporting company until at least the fifth anniversary of the date on which the reporting company terminates. Information reported as required by the Act is to remain confidential, unlike several other jurisdictions around the world where the information collected is publicly available. There are serious civil and criminal penalties imposed on anyone who knowingly discloses or uses the information.2 FinCEN has stated that it will engage in additional rulemakings to establish who may access beneficial owner information, for what purposes, and what safeguards will be required to ensure the information is secure and protected, including developing the necessary infrastructure and technology to administer these requirements.

Impact on Corporate and Tax and Wealth Management Clients

For most companies, it will be relatively simple to determine whether or not they fall within the definition of a reporting company. And for most individuals, it will be equally simple to determine whether or not their ownership interest or level of control brings them within the definition of a beneficial owner. However, due to some of the nuances in measuring ownership interests and determining control, more detailed analysis may be required. This is especially true when companies are multitiered and/or owned through trusts and when the ownership interest is something other than regular stock (such as a straddle, preorganization certificate, option, or convertible instrument).

The regulations make clear that the Act applies not only to corporations and LLCs, but also to most partnerships since they are required to file formation or registration documents with the secretary of state. Trusts and certain other entities are not required to file documents with the secretary of state to come into existence, and therefore are not reporting companies. However, particular attention must be paid to trusts and other entities to determine whether the trustee, beneficiary and/or grantor of a trust is a beneficial owner of a reporting company and whether other businesses are reporting companies.

Many individuals create trusts, limited partnerships, LLCs, corporations, and other structures for estate planning purposes. It is likely that most, if not all, of these closely held companies come within the definition of a reporting company. It is also likely that all or part of these companies are owned in large part by one or more trusts, which means that the trust, as well as possibly the client and the client's children, may be beneficial owners of the company.

In addition, many attorneys, advisors, and other authorized persons who are not shareholders, members, or owners regularly act as entity organizers for the sake of convenience. These organizers come within the definition of “company applicant” and, therefore, must be identified in the report filed with FinCEN. The regulations make clear that company applicants of entities formed prior to the Effective Date need not be disclosed, but company applicants of entities formed on or after the Effective Date must be included in the initial report. While the regulations also make clear that it is the responsibility of the reporting company to provide all of the necessary information to FinCEN, an attorney or other advisor assisting in the creation of a reporting company may want to consider completing the initial FinCEN report to be sure that all of the necessary parties, including advisor and/or the persons assisting the advisor, have been properly disclosed.

Possible Next Steps for Companies and Individuals

We are just under a month away from the Effective Date. For most companies and individuals, filing the initial report with FinCEN on or before January 1, 2025 (for existing entities) will be reasonably simple. However, as mentioned above, there are many existing entities that have complicated ownership and control arrangements, so it would be prudent to consider collecting the relevant information now for each such entity and beneficial owner. This preparation may prove especially useful for those individuals who are difficult to find or deceased (since, in many cases, the beneficiary of a deceased beneficial owner's estate steps into the shoes as a beneficial owner). Being prepared with the relevant information now will avoid a scramble later.

For situations in which current beneficial owners are preparing to make gifts or sales of significant interests in existing entities, it may be advisable to complete the transaction now, before the Effective Date. Completing these transactions now will avoid multiple filings with FinCEN (namely, an initial filing to comply and then a subsequent filing to report the change in beneficial ownership). While it is unlikely that multiple filings will pose a real hardship, effectuating anticipated transactions now might prevent confusion potentially caused by additional paperwork and filings, over and above all of the necessary “red tape” currently required by other laws.

Lastly, it may be possible to reduce the number of beneficial owners of existing entities between now and when the initial report for existing entities is due in order to protect privacy or certain estate plans. For instance, if a trust currently owns 30% of an LLC that will come within the definition of a reporting company, interests in the LLC may be distributed out to trust beneficiaries or purchased by the grantor from the trust so that the trust no longer owns 25% or more of the company and is therefore not a beneficial owner (assuming the substantial control prong is not otherwise separately met by the trustee, trust beneficiary, or grantor). Eliminating a trust as a beneficial owner can help protect the privacy of the family and help simplify the reporting.

In general, the new filing requirements imposed by the Act will apply to a wide range of companies and individuals. Anyone who owns or controls an LLC, limited partnership or a closely held corporation should consult with counsel to understand their obligations.

Footnotes

1. A FinCEN identifier is a unique number assigned to an entity or individual upon application to FinCEN. To obtain a FinCEN identifier, the entity or individual must provide the information otherwise required to be included in the report to FinCEN, identified above. For all reporting companies and beneficial owners with FinCEN identifiers, the FinCEN identifier can be used on the report filed with FinCEN in lieu of providing the information detailed above.

2. The Act permits disclosure in furtherance of the purposes of the Act, such as disclosure to a federal law enforcement agency upon request for use in its law enforcement activity or a request by a financial institution to ensure compliance with customer due diligence requirements.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.