The Corporate Transparency Act (the “CTA” or “Act”), enacted as part of the National Defense Authorization Act for Fiscal Year 2021, marks a significant shift in the regulatory framework for businesses in the United States. Presented as a tool to combat money laundering and illicit financial activities, the CTA mandates unprecedented reporting requirements for most businesses in this country. There are real questions as to whether the Act’s benefits will outweigh its potential drawbacks, particularly for smaller businesses that will bear the brunt of the compliance burden.

The Act’s intent to peel back the layers of anonymity in business is commendable, yet it raises concerns about the efficacy and reach of its implementation. Critics point out that the CTA may inadvertently ensnare well-meaning businesses in a web of bureaucracy, potentially stifling their operations with stringent reporting obligations. The delicate balance the CTA attempts to strike between transparency and administrative burden may prove to be an overcorrection that hinders the dynamism of the American business landscape.

Moreover, while the CTA aims to align the U.S. with international standards on financial transparency, the broader implications for privacy cannot be ignored. The Act requires a level of personal detail disclosure that is without precedent in this country, sparking debates about privacy rights and the risks of such a centralized trove of sensitive data. In the pursuit of transparency, the Act may, in fact, open new avenues for data breaches and misuse of personal information, exposing individuals to unforeseen vulnerabilities.

The CTA, for all its potential as a tool against financial crimes, stands on contentious ground. Its introduction has undoubtedly shaken the corporate world, but the question remains: will the Act truly enhance corporate accountability, or will it be remembered as an overzealous attempt that created more problems than it resolved? Keep in mind that the largest of financial crimes in the 20th and 21st centuries have tended to involve entities and people that were already subject to extensive reporting requirements. One must also consider that the Act’s exemption of 501(c)(4) entities is a true missed opportunity as the CTA will have no impact on “dark money” in American Politics.

Unfortunately, at this point there is little that can be done except to educate oneself on the new requirements and begin the process of preparing to comply. How long a business has to comply is a question of formation date. All non-exempt entities in existence before December 31, 2023 will have until December 31, 2024 to prepare to file with FinCEN. New non-exempt companies formed between January 1, 2024 and December 31, 2024 will have 90 days from their formation date to file. Every entity formed after 12/31/24 will have 30 days from their formation date to file. In the sections below we will give a brief overview of what must be reported, who must report, and the penalties for failing to comply with the CTA.

Information that Must be Reported to FinCEN

While the actual forms to submit information are still not public, it is clear that the CTA necessitates that Reporting Companies and Beneficial Owners disclose extensive personal identifying information (“PII”) and company-related information to FinCEN. At the corporate level this includes the full legal name, any trade names or d/b/a names, and a complete current U.S. address that corresponds to the principal place of business or, for foreign entities, the primary location where the company conducts business in the United States. Additionally, a Reporting Company must report its state, tribal, or foreign jurisdiction of formation, and its IRS Taxpayer Identification Number (“TIN”), typically an Employer Identification Number (“EIN”). In the case of a foreign Reporting Company without a TIN, a tax identification number issued by a foreign jurisdiction along with the name of that jurisdiction is required​​. On the human level, every Beneficial Owner and Company Applicant (which includes lawyers and paralegals that help their clients form new businesses) must also provide the Reporting Company with their full legal name, date of birth, and complete current address. The documentation needed to substantiate identity is extensive, requiring a unique identifying number and issuing jurisdiction from, as well as an image of, one of several non-expired documents. Acceptable forms of identification include a U.S. passport, state driver’s license, state, or local government-issued ID, or for those without U.S. documentation, a foreign passport.

The CTA stipulates that this information must be accurate, which places a continuous obligation on Reporting Companies to update this information whenever it changes. This includes any changes in beneficial ownership or Company Applicants, which must be reported to FinCEN within 30 calendar days after the Reporting Company becomes aware of such a change. While we will discuss the definition of Beneficial Owners in more detail in the next section, the magnitude of the CTA’s requirements can be illustrated by the following example. If a Beneficial Owner’s stake in a company increases from 26% to 27% (no matter the reason) the change must be reported to FinCEN… within 30 days. The sheer volume of paperwork that will be generated by Reporting Companies and submitted to FinCEN each year will be staggering​​.

The burden of compliance is substantial, as it necessitates that businesses not only collect and file a significant amount of PII but also maintain vigilance over the accuracy of this information over time. The CTA’s reporting requirements, therefore, introduce an ongoing process of monitoring and reporting that will require businesses to invest in processes and systems to manage this data effectively.

 Beneficial Ownership

The CTA provides a specific and inclusive definition of “beneficial ownership.” A Beneficial Owner, as defined in the CTA, is an individual who, either directly or indirectly, wields substantial control over an entity or owns a significant portion of its equity interests. This definition covers a wide spectrum of control and interest scenarios, indicating a broad approach to identifying individuals who have meaningful influence over a corporate entity.

There are instances where individuals might be Beneficial Owners without realizing it. For instance, individuals holding equity interests (25% or more) with little say in a company’s operations or those with substantial decision-making powers who have no ownership will both be deemed to be Beneficial Owners. This broad definition means that individuals in complex ownership structures, such as family trusts or layered corporate entities, will be classified as Beneficial Owners even if they are not actively managing the business of which they have been deemed to be an owner.

The CTA does explicitly exclude certain individuals from being classified as Beneficial Owners. These include minor children, individuals acting as nominees, intermediaries, custodians, or agents on behalf of another person, and employees who do not possess substantial control or economic benefits from the entity outside of their employment compensation.

The Act’s shotgun approach to defining beneficial ownership aims to prevent individuals from using corporate entities to conceal illicit activities while ensuring that those with legitimate interests and roles are not unduly burdened. Understanding who qualifies as a Beneficial Owner is crucial for legal compliance and operational transparency.

Exemptions to the CTA

The CTA does provide some exemptions from its reporting requirements. These exemptions are designed to reduce the reporting burden on certain types of entities that are already subject to substantial regulation or that purportedly pose a lower risk of being used for illicit purposes. Among the exempted types of entities are issuers of securities regulated under the Securities Exchange Act of 1934, various financial institutions such as banks and credit unions, and governmental authorities. The stated reasoning behind these exclusions is that such entities are subject to their own stringent disclosure requirements and are, in theory, less likely to be channels for financial misconduct.[1]

Further exemptions apply to entities such as licensed broker-dealers, registered securities exchanges, and insurance companies. These are entities for which transparency is integral to their regulatory compliance, and as such, they are under continuous scrutiny by their respective regulatory bodies. In addition, the CTA also exempts certain public utilities and public accounting firms, recognizing that these entities operate under conditions of public trust and oversight that safeguard against their use for illegal activities.[2] Pooled investment vehicles and tax-exempt organizations, such as those described under IRC 501(c) are also exempt.[3]

A truly wild exemption is for “large operating companies,” defined as those meeting specific criteria related to the number of employees, physical presence, and revenue generation within the United States. This exemption seems designed to exclude entities that, by virtue of their size and economic role, are less prone to be conduits for illicit activities.[4] The CTA carves out space for these larger entities, acknowledging the existing regulatory frameworks that govern them and the lower risk they generally pose in the context of financial crimes.

Lastly, the Act exempts “inactive entities” that have not engaged in business since before January 1, 2020, and do not hold any assets. This exemption addresses concerns that otherwise dormant entities would be unduly burdened by the reporting requirements.

Ultimately, the CTA’s burdens will fall on the businesses least prepared to deal with them and those least likely to cause significant financial harm to society writ large. Most business in the US will not be subject to any exemptions detailed in this section. If, after careful analysis, a business does believe it falls under one of these emptions it is essential that they  remain vigilant as their circumstances change. The exemptions are specific and detailed, and misinterpreting them could lead to non-compliance, fines, and potentially criminal penalties.

Who Will Have Access to the CTA Information

The CTA mandates that beneficial ownership information (“BOI”) reported is kept from public access, ostensibly limiting its availability to authorized government agencies for narrowly defined purposes such as law enforcement, national security, or intelligence operations. While this restricted access is designed to protect sensitive personal information, the aggregation of such data in a single repository managed by FinCEN presents potential risks to privacy that almost certainly outweigh any benefits created by the CTA.

The security measures surrounding the FinCEN database, despite being robust on paper, have not been without criticism. The concentration of detailed personal information in one location creates a potentially attractive target for cybercriminals. Data breaches in recent history have given rise to a healthy skepticism about the ability of even the most secure databases to withstand determined and sophisticated cyber-attacks. There is an underlying concern that the risks to privacy and personal security may outweigh the benefits of aggregating this information, especially if the safeguards fail to evolve alongside escalating cyber threats.

Moreover, the use of this information by government agencies, while regulated, also raises questions about overreach and the potential for misuse. Although the CTA specifies the conditions under which the BOI can be accessed, the expanding capabilities for data analysis mean that once the information is out of the individual’s hands, control over its use and dissemination is significantly diminished. The assurances of confidentiality provided by the CTA may offer little solace in an era where data, once compromised, can lead to irreversible privacy violations.

Penalties for Non-Compliance

The CTA imposes stringent penalties to enforce compliance, underscoring the gravity with which the law regards the concealment or non-disclosure of BOI. For unauthorized disclosures or use of BOI, the penalties are severe. Individuals face fines of up to $250,000 and imprisonment for up to five years. This penalty escalates if the violation occurs alongside another federal law violation or as part of a pattern of illegal activity involving more than $100,000 within a 12-month period, leading to potential fines of up to $500,000 and imprisonment for up to ten years​​.

The breadth of these penalties extends beyond just the individual making an unauthorized disclosure; they encompass Beneficial Owners, Company Applicants, and the Reporting Company itself if they fail to provide the necessary information for the completion of the BOI reports. The Act’s reach suggests an all-encompassing approach, holding all parties within the reporting chain accountable. These penalties reinforce the CTA’s commitment to ensuring the integrity of reported information and the accountability of all entities involved in the reporting process​​.

Moreover, the act criminalizes the willful provision of false or fraudulent BOI, as well as the willful failure to report complete or updated BOI. Fines can reach up to $10,000 and are coupled with the possibility of imprisonment for up to two years. In cases where criminal sanctions are deemed inappropriate, violators may still incur civil penalties of up to $500 for each day the violation continues or remains uncorrected. These rules apply to any person involved, not just the Reporting Company, reflecting the CTA’s intent to hold individuals personally accountable for the accuracy and completeness of the information they provide to FinCEN​​.

The CTA does offer a safe harbor in certain cases, aiming to protect persons from civil and criminal penalties. This provision applies if the individual voluntarily and promptly corrects a reporting violation, demonstrating the law’s recognition of potential genuine errors in reporting. Nonetheless, the overarching message is clear: non-compliance with the CTA can result in significant legal and financial repercussions, a stark warning that compliance is not optional and FinCEN is prepared to enforce these new rules.

The penalty regime under the CTA places a particularly heavy burden on small businesses. These entities often lack the resources and infrastructure to efficiently navigate the complexities of the Act, especially when dealing with uncooperative Beneficial Owners who may withhold necessary information, or try to leverage the company’s need for such information for personal gain. This situation can leave small businesses in a precarious position, struggling to fulfill their reporting obligations and potentially facing severe financial consequences for any oversight or mistake.

The risk of incurring up to $500 in civil penalties for each day a violation continues can be financially crippling, especially for small businesses operating with narrow margins. In a scenario where a business inadvertently fails to report accurate information for an extended period, say six months, the accumulated penalties could be financially devastating, potentially leading to insolvency This aspect of the CTA highlights a disconnect between the intention of the Act and its practical implications, particularly for smaller businesses who are disproportionately impacted by these stringent requirements and penalties. The CTA’s rigid penalty structure, in this light, appears to be less of a deterrent and more of an existential threat to the smaller players in the business community.

The Takeaway

The CTA represents a significant regulatory shift for U.S. businesses. The Act imposes a substantial compliance burden, particularly on smaller businesses, which may struggle with the extensive reporting obligations and the continuous updating of BOI. The emphasis on transparency, while aligning with international standards, also raises concerns about privacy and data security, given the volume of sensitive PII that businesses are now required to collect and report.

The CTA’s broad definition of Beneficial Ownership is going to produce some unexpected results and subject people who have no business reporting to FinCEN to its intimidating oversight. This inclusiveness, while aimed at preventing illicit use of corporate entities, will undoubtedly place an unintended strain on legitimate business operations. Furthermore, the Act’s exemptions, though meant to reduce burdens on certain entities, will leave smaller, non-exempt businesses disproportionately affected by the reporting requirements. The rationale for granting exemptions to the entities that will benefit from such exemptions is laughable at best considering the public record on these matters.

Access to the information collected under the CTA is tightly controlled, intended only for use by authorized government agencies for specific purposes. Nevertheless, the centralization of such a wealth of personal data in a single repository, managed by FinCEN, poses significant risks in terms of potential data breaches and privacy violations. These concerns are particularly acute for small businesses, and the service providers that help them run that may not have the resources to rigorously protect the data they are required to collect and report. Of particular note, security breaches resulting in inappropriate disclosure of PII carry the most severe penalties enumerated in the Act. Accordingly, small businesses may be left with a Hobbesian choice: to run the risk of substantial penalties for data security breaches; or to pay excessive fees to ensure PII remains secure.

The penalties for non-compliance with the CTA are severe, encompassing both civil and criminal repercussions. This strict penalty regime places an additional layer of pressure on businesses, particularly small entities that may find it challenging to keep pace with the CTA’s requirements. The potential for substantial financial penalties, even for inadvertent non-compliance, underscores the need for businesses to thoroughly understand and rigorously adhere to the Act’s mandates. While the CTA seeks to enhance corporate transparency and combat financial crimes, its implementation will undoubtedly have many negative unintended consequences, especially for smaller businesses. We strongly suggest that ALL businesses reach out their counsel in 2024 to better understand their obligations under the CTA and to develop a comprehensive action plan to maintain compliance.

 

 

 

 

Footnotes

[1] If the stated purpose of this Act is to reduce financial crime including “money laundering and illicit financial activities,” exempting institutions responsible for the largest such crimes in history seems naïve at best and proof that these requirements are merely an excuse to invade Americans’ privacy to increase the reach of the surveillance state at worst. Deutsche Bank still holds the record as largest money launder and terrorism financier in the world, with enormous fines and sanctions in 2015, 2017, and 2023. Then of course we have Lehman Brothers, Merrill Lynch, Bear Stearns and the rest of the 2008 belligerents, “highly regulated” institutions that nearly destroyed the world economy in 2008 and 2009.

[2] Excluding public accounting firms simply because they “operate under conditions of public trust and oversight that safeguard against their use for illegal activities” also results in some cognitive dissonance. One need look no further than former “Big Five” accounting firm Arthur Anderson for an example of how easily these institutions can abuse the public’s trust.

[3] See above for a discussion on the Act’s failure to curb “dark money” in politics, perhaps the one place where this country could have truly benefited from some regulatory daylight, because of this particular exemption.

[4] Where to start with this one? Let’s go with some of the largest: Enron in 2001, World Com in 2002, Volkswagen in 2015, Facebook in 2019, 2021, 2023… If you believe that the fact that a company is very large somehow precludes it from engaging in illicit activities that can have serious consequences for society, I have some beach front property in Arizona that would love to discuss with you.

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