The Final Rule issued under the Corporate Transparency Act (CTA) is, as forecast, a sweeping and significant update to the U.S. anti-money laundering laws, estimated to affect over 32 million entities by requiring new reports of beneficial owners. The Rule is long and detailed, yet includes many exceptions from reporting. This article summarizes key changes and updates to reporting requirements and recommends compliance coverage to prepare for requirements effective in 2024.
What is the CTA Final Rule
On September 29, 2022, the U.S. Treasury Department’s Financial Crimes Enforcement Network (FinCEN) issued its Final Rule implementing the CTA’s requirements to report beneficial ownership information.1 The CTA became law in January 2021, and FinCEN issued a proposed rule in December 2021. The CTA’s goal is to strengthen the anti-money laundering regime by increasing transparency, primarily by requiring numerous business entities to report their beneficial owners for the first time. Although the Rule exempts many companies from reporting obligations, FinCEN estimates that the CTA and the Rule will affect over 32 million entities, imposing significant new compliance burdens. Failure to comply with the CTA’s reporting requirements can lead to civil and criminal penalties, including a maximum civil penalty of $500 per day (up to $10,000) and imprisonment for up to two years.
Who Must Report
The Rule requires reporting by a broad swath of “reporting companies,” which includes existing and future domestic and foreign companies, subject to certain exemptions.
- Domestic Companies: A domestic reporting company is any corporation, limited liability company, or any other entity created by filing a document with a secretary of state or similar state or tribal office. FinCEN expects this will include a variety of non-corporate entities such as limited liability partnerships, limited liability limited partnerships, business trusts, or limited partnerships.
- Foreign Companies: A foreign reporting company is any corporation, limited liability company, or any other entity formed under the law of a foreign country and registered to do business in any state or tribal jurisdiction by filing a document with a secretary of state or similar office.
- Exemptions: The CTA exempts 23 categories of entities from the definition of “reporting company” and empowers FinCEN to create new exemptions. Despite having that authority, FinCEN declined to adopt any additional exemptions at this time. Exempted entities include the following, which each have detailed definitions:
- Large operating companies — companies with more than 20 full-time U.S. employees, more than $5 million in U.S.-sourced revenue, and a physical operating presence in the U.S.;
- Issuers registered with the Securities and Exchange Commission;
- Banks, bank holding companies, savings and loan holding companies, credit unions, financial market utility entities, and money services businesses registered with FinCEN;
- Registered Commodity Exchange Act entities, registered investment companies or investment advisers, broker-dealers, and registered venture capital fund advisers;
- Insurance companies or state-licensed insurance producers;
- Accounting firms;
- Public utilities;
- Certain pooled investment vehicles;
- Tax-exempt entities or certain entities that assist tax-exempt entities; and
- Inactive companies.
The Rule also provides a reporting exemption for subsidiaries that are controlled or wholly owned, directly or indirectly, by one or more exempt entities. This exemption does not extend to subsidiaries of money services business, pooled investment vehicles, or entities assisting a tax-exempt entity. According to FinCEN, it limited this exemption to wholly-owned subsidiaries to prevent “entities that are only partially owned by exempt entities from shielding all of their beneficial owners.”2
Who Are Beneficial Owners
Under the Rule, beneficial owners are defined as “any individual who, directly or indirectly, either exercises substantial control over such reporting company or owns or controls at least 25 percent of the ownership interests of such report company.”3 An individual can exercise substantial control over a reporting company if they serve as a senior officer in the reporting company, have authority over the appointment or removal of senior officers or a majority of the board, have “substantial influence over important decisions” of the reporting company, or have any other form of substantial control over a reporting company. The broad definition may include third parties.
There are a few limited exceptions to who qualifies as a beneficial owner. Under the Rule, minor children (provided a parent or legal guardian is reported as a beneficial owner), nominees, employees (excluding senior officers), future inheritors, and creditors do not qualify as beneficial owners.
When to Report
The Rule takes effect on January 1, 2024. Any reporting company existing or registered before January 1, 2024, must file its initial report with FinCEN by January 1, 2025. Any reporting company created or registered after January 1, 2024, must file its initial report within 30 calendar days after creation or registration. And if any reporting company no longer meets the criteria for a reporting exemption, the company must file its initial report within 30 calendar days of when it lost its exemption status. After filing an initial report, any reporting company that has a change in its beneficial ownership information must file an updated report within 30 days of the change. In addition, if a reporting company meets the criteria for an exemption after filing its initial report, it must file an updated report, notifying FinCEN of the change, within 30 days.
The proposed rule had contemplated a 14-day filing requirement for new, updated, or corrected reports. The Final Rule harmonized the reporting timeframes at 30 days for initial, updated, and corrected reports. FinCEN acknowledged that a number of time delays, particularly obtaining the employer identification number for a reporting company, made a 30-day timeframe enough time for reporting companies to resolve various issues with sufficient time to file reports.
How to Report
FinCEN is in the process of creating the forms by which reporting companies will report beneficial ownership information to FinCEN. FinCEN is expected to publish the proposed reporting forms in the Federal Register well in advance of January 1, 2024, for public comment.
When it does come time to report, reporting companies’ initial reports to FinCEN must contain information on the reporting company itself, its beneficial owners, and for reporting companies created or registered after January 1, 2024, its company applicants. The Rule describes in detail the report contents and requirements.
Importantly, if an individual is a beneficial owner of a reporting company exclusively through their ownership of another company that is exempt from reporting, the reporting company does not have to report that individual’s beneficial ownership. Rather, the reporting company must provide only the names of the exempt entities in lieu of providing information on the beneficial owners who meet this criteria.
Also notable, reporting companies created or registered after January 1, 2024, must provide information about their company applicants. The information required is the same information as a beneficial owner. A company applicant is any individual who files the document that creates a company, as well as any individual who is primarily responsible for directing or controlling the filing. Accordingly, a reporting company may have more than one applicant. A reporting company does not have to provide updates on the company applicants after including such information in its initial report to FinCEN.
The CTA and the Final Rule present a significant update to the U.S. anti-money laundering laws. According to FinCEN, the vast majority of the 32 million companies estimated to fall under the Rule will be small businesses, single-owner LLCs, or other types of reporting companies with four or fewer beneficial owners. FinCEN further estimates the cost of compliance will total approximately $21.7 billion for the first year and $5.65 billion per year thereafter.4
Although many companies will clearly fall within an exemption, complicated beneficial ownership information reporting situations will still arise. For instance, a corporation that does not qualify as a large operating company may have four or more beneficial owners, four beneficial owners with substantial control (e.g., CEO, CFO, COO, and general counsel), and members of an outside consultant as the company applicant. As another example, certain private funds or portfolio companies may have to report, even if the portfolio company wholly owns a large operating company that is itself exempt from the reporting portfolio company. The definitions and exemptions are detailed, and sizable penalties should encourage careful examination before making any decision whether or not to report.5
To prepare for compliance with the Rule, companies will have to develop internal policies and procedures to assess their reporting obligations, identify beneficial owners, and identify company applicants, which could include third parties such as consultants. Further, companies will need to develop policies and procedures to monitor changes to their reporting status or beneficial ownership on an ongoing basis to avoid potential penalties.
For any companies involved in M&A activity, it will be important to ensure target companies have fulfilled their reporting obligations. This is a new risk area to consider during due diligence.
More broadly, companies should expect law enforcement agencies to deploy increasingly sophisticated data mining approaches to look for suspicious activity among the trove of data FinCEN will collect. This brings a heightened risk that companies will be swept into anti-money laundering or other corruption investigations, even if they are not wrongdoers. This amplifies the need for companies to vet their vendors and customers properly.
1 Beneficial Ownership Information Reporting Requirements, 87 Fed. Reg. 59498 (Sept. 30, 2022).
2 Id. at 59543.
5 Violations of the CTA, including the failure to report beneficial ownership information or the reporting of false or fraudulent information, may lead to civil or criminal penalties. Civil penalties can be up to $500 for each day the violation continues. Criminal penalties include fines up to $10,000 and/or imprisonment for up to two years.