Paul Hess, Director + Co-Chair, Mergers + Acquisitions Practice

Smart Summary

• A proposed rule would require most existing and future entities (including corporations, limited liability companies and limited partnerships) to file reports containing certain beneficial ownership information to the Financial Crimes and Enforcement Network (FinCEN) of the U.S. Government.
• The filing would include certain personal identification information about their 25% beneficial owners.
• The filing would also include that personal information about their “company applicants,” which are often the attorneys that formed the entities.
• As proposed, included existing entities would have one year from the rule’s effective date to file their reports, and newly formed entities would have 14 days from the date of registration to make this filing.
• Civil and criminal penalties are proposed for willful violations, including both intentional acts and omissions.
• You should begin planning for compliance as soon as possible- stay tuned for updates on this proposed rule and for additional recommendations.

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On December 7, 2021, the Financial Crimes Enforcement Network (“ FinCEN”), which is an agency in the U.S. Department of the Treasury, issued a notice of a Proposed Rule, entitled “ Beneficial Ownership Information Reporting Requirements, ” to implement the beneficial ownership information reporting provisions of the Corporate Transparency Act (“ CTA”). The CTA was part of the Anti-Money Laundering Act of 2020, and requires FinCEN to, among other things, implement rules requiring legal entities organized in the U.S., or foreign entities doing business in the U.S., to report their beneficial ownership to FinCEN.

The CTA, including the Proposed Rule, is intended to help combat corruption, money laundering, terrorist financing, tax fraud, and other illicit activity by addressing what FinCEN refers to as, “the proliferation of anonymous shell companies that facilitate the flow and sheltering of illicit money in the United States.” FinCEN believes its Proposed Rule “would help stop bad actors from using legal entities to hide illicit funds behind anonymous shell companies or other opaque corporate structures.”

FinCEN is soliciting comments on its Proposed Rule until February 7, 2022. FinCEN has not yet set or proposed a date for issuing the final rule.

Because this Proposed Rule could become final soon and will affect most new and existing entities, including corporations, limited liability companies and limited partnerships, we call your immediate attention to this alert and recommend you begin planning for compliance as soon as possible.

Brief Summary

As discussed in more detail below, the Proposed Rule applies to “reporting companies,” the definition of which under the Proposed Rule includes corporations, limited liability companies, limited partnerships and any other entities created by the filing of a document with a secretary of state or similar office (with exceptions noted below), whether formed before or after the final rule becomes effective. The definition of reporting companies would include not only domestic entities, but also foreign entities registered to do business in the U.S.

These reporting companies would be required to file reports with FinCEN that identify themselves and provide certain beneficial ownership information about their “beneficial owners” and “company applicants,” including certain personal identification information for all, such as birth dates, personal residences, and, in most cases, drivers’ license or passport identification numbers. Beneficial owners would include 25% equity owners, as well as senior officers and others in substantial control of the reporting company. Company applicants would include persons involved in the actual filing or registration of the reporting company.

The Proposed Rule generates urgency, since the initial reports by reporting companies formed or registered on or after the effective date of the final rule would be due within 14 calendar days after the filing of their formation or registration document. Fortunately, for reporting companies formed or registered prior to the effective date of the final rule, their initial reports would not be due until one year from that effective date. However, that urgency continues after the initial report is filed, because the reports must be monitored for any changes or updates to filed reports, which must be reported within 30 days of the change or update, and any corrections necessary to filed reports must be reported within 14 days after an inaccuracy should have been discovered.

What Types of Entities Would Have to File These Reports?

Included Entities

Under the Proposed Rule, “ reporting companies” would include both domestic and foreign companies in the following categories:

• Domestic reporting companies would include corporations, limited liability companies or “other similar entities” created by the filing of a document with a secretary of state or any similar office under the law of a state or Indian tribe. While FinCEN did not define other similar entities, this category would likely include limited liability partnerships, limited liability limited partnerships, business trusts, and most limited partnerships, because these are typically created by a filing with a secretary of state or similar office. Certain trusts may be excluded, since they do not require such a filing, and FinCEN is seeking comments on this.
• Foreign reporting companies would include corporations, limited liability companies or other similar entities formed under the law of a foreign country, but only if they are registered to do business in any U.S. state or tribal jurisdiction.

Exempted Entities

The Proposed Rule exempts 23 types of entities from the definition of a reporting company because most of the exempt entities are subject to substantial federal or state regulation already and may already be required to disclose certain beneficial ownership information. The types of exempt entities include SEC reporting issuers, governmental authorities, banks, credit unions, bank and savings and loan holding companies, money transmitting businesses, broker-dealers, investment companies, investment advisers, venture capital fund advisers, insurance companies, public accounting firms, and public utilities. The Proposed Rule also exempts the following entities:

• large operating companies that employ more than 20 full-time employees in the United States and have a physical office within the United States, provided they have filed a Federal income tax or information return for the previous year showing more than $5,000,000 in gross receipts or sales;
• subsidiaries wholly owned, directly or indirectly, by another exempt entity (with exceptions);
• pooled investment vehicles operated or advised by a qualifying bank, credit union, broker-dealer, investment company or investment adviser, or venture capital fund adviser; and
• “inactive entities” that were in existence on or before January 1, 2020, are not engaged in active business, are not owned by a foreign person, have not experienced any change in ownership in the prior 12-month period, and don’t hold any assets.

Who Qualifies as a “Beneficial Owner“?

Under the Proposed Rule, a “ beneficial owner” of a reporting company would include any individual who, directly or indirectly, either (i) exercises “substantial control” over that reporting company, or (ii) owns or controls at least 25 percent of the “ownership interests” of a reporting company. The definition of the terms “substantial control” and “ownership interest” are discussed below. The Proposed Rule exempts minor children, nominees, employees, inheritors, and creditors from the definition of a beneficial owner.

Substantial Control

The Proposed Rule defines the following categories of persons as being included as beneficial owners by virtue of having “substantial control” over the reporting company:

• Senior officers;
• Individuals with authority over the appointment or removal of any senior officer or a majority or dominant minority of the board of directors (or similar body);
• Individuals giving directions, or making determinations, or decisions of, or otherwise exercising substantial influence over, important matters affecting the reporting company, such as mergers, compensation, business lines or ventures, major expenditures or investments, substantial contracts, amendments to material governance documents; or
• Individuals with any other form of substantial control over the reporting company.

Daily managerial authority alone does not make such person a beneficial owner, unless that person satisfies another element of the “substantial control” criteria.

Ownership Interest

The Proposed Rule’s definition of “ ownership interest” is broader than just traditional equity interests, such as stock in a corporation or limited liability company membership interests, and includes capital or profit interests (including partnership interests), convertible interests, and other options, warrants and rights to acquire equity interests. Even debt instruments may also be included if they provide similar rights to one of the foregoing interests. Under the Proposed Rule, a person may be deemed to own or control ownership interests not only directly owned or controlled by such person, but also by joint ownership with another person, or control of an entity, or with respect to a trust when the person has the right to demand a distribution of or withdraw substantially all of the assets of a trust.

Exceptions

Five types of individuals would be excluded under the Proposed Rule from the definition of a beneficial owner:

• A minor child, although the information would be required of the minor’s parent or guardian;
• An “apparent beneficial owner,” such as an individual acting as a nominee, intermediary, custodian, or agent on behalf of another individual;
• An employee of a reporting company (who is not also a senior officer);
• An individual whose only interest in a reporting company is through a right of inheritance; and
• A creditor of a reporting company.

What Constitutes a “Company Applicant”?

The reporting requirements of the Proposed Rule apply not only to reporting companies and beneficial owners, but also to the “ company applicant .” The Proposed Rule defines a “company applicant” as the individual who files the document that forms the entity or, for a foreign reporting company, the individual who files the document that first registers the entity to do business in the United States.

In addition, for both domestic and foreign reporting companies, anyone who directs or controls the filing of the relevant document by another would also be a company applicant. According to FinCEN, this provision is designed to prevent “the individual directing or controlling the formation of a legal entity [to] remain anonymous simply by directing another individual to file the requisite paperwork.” This means that when a corporate filing service, such as CT Corporation or CSC, is used to file the reporting company’s formation documentation, both the filer and the person who directed or controlled the filing would be deemed company applicants.

What Information Must Be Included in the Reports?

Under the Proposed Rule, the initial reports to FinCEN would need to contain the following information about the reporting company, every beneficial owner, and the company applicant.

Information on the Reporting Companies

Initial reports to FinCEN would include the reporting company’s full name and any trade name or “doing business as” name; business street address; state or jurisdiction of formation (for domestic reporting companies) or initial registration (for foreign reporting companies); and Taxpayer Identification Number (TIN), or if the reporting company hasn’t been issued a TIN, the reporting company could report either a Dun & Bradstreet Data Universal Numbering System (DUNS) Number or a Legal Entity Identifier.

Information on the Beneficial Owners and Company Applicants

Initial reports to FinCEN would include, for each beneficial owner and company applicant, such person’s full legal name; date of birth; current residential or business address; a unique identifying number from a non-expired U.S. passport, state identification document, or state driver’s license (or a foreign passport, if the individual does not possess any of the foregoing); and an image of the document showing the legible unique identifying number and recognizable photograph. In addition to the foregoing information, reporting companies have the option of submitting TINs of beneficial owners and company applicants if they consent.

Under the Proposed Rule, reporting companies and individuals would be able apply to FinCEN for issuance of a “FinCEN Identifier” that, upon issuance, may be submitted to FinCEN rather than the above information. The reports would need to be filed with FinCEN on a form to be created by FinCEN, and each person filing a report would be required to certify that the report is accurate and complete.

When Would Reports Need to be Filed?

Under the Proposed Rule, the timing of when a report would be due would depend on two factors:

1. when the reporting company was created (or, for foreign reporting companies, registered to do business in the United States), and
2. whether the report is an initial report, an updated report providing new information, or a report correcting erroneous information in a previous report.

A reporting company formed or registered before the effective date of the final rule would have one year from that effective date to file its initial report. A reporting company that is formed or registered on or after the effective date would be required to file its initial report within 14 days of its formation or registration. Finally, if an exempt entity ceases to become exempt, a report would need to be filed within 30 days after the exemption criteria no longer applied.

In addition, under the Proposed Rule, reporting companies would be required to update information within 30 days and to correct any inaccurate reports within 14 days after they discover or should have discovered the reported information is inaccurate.

What Penalties Would Be Imposed for Violations?

A willful violation of the reporting requirements under the Proposed Rule could lead to civil or criminal penalties, including civil penalties of up to $500 per day and criminal penalties of up to $10,000 and/or imprisonment of up to two years. The Proposed Rule provides that liability could be for direct or indirect violations, and for acts (such as reporting inaccurate information) or omissions (such as failing to provide or update any required information).

When Could This Proposed Rule Take Effect?

While a proposed effective date has not yet been set, FinCEN “is committed to identifying the soonest possible effective date after publication of the final rule.”

What Action Steps Should I Be Taking Now?

We recommend that anyone considering forming a new entity in the near future begin planning for the proposed rule immediately in light of the short filing deadline for new entities once the rule is finalized and becomes effective.

We also recommend that all existing entities consider beginning planning for their initial reports sooner rather than later, in light of the determinations and documentation that will be required, albeit with the benefit of a year from the effective date.

We will continue to provide updates on these developments, and will offer specific recommendations on action steps after FinCEN issues the final rule.