What are the filing requirements of the CTA and FinCen?
The CTA and the proposed FinCen regulations require covered entities not exempt from reporting to report their senior officers, individual investors with 25% or greater holdings, and individual investors with substantial control (which under the proposed FinCen rules would include many investor common control features (such as board representation)), to FinCen along with listing certain information on these parties. Further, if the investment in the covered entity is through an entity, it may require filing by the company of information on individuals which own 25% or greater of the investor or control the investor. The proposed FinCen regulations require not only information on the covered company (such as business address and Tax identifier, and information on the person/company forming the entity), but also very specific information on individual beneficial owners of the covered company, such as name and address, number associated with a form of government issued identity document (such as passport or drivers license), and a photo of the document. This will require the company to gather this information from these persons. Since some people may object to providing this information, a company may need to educate its owners and control persons regarding these requirements. The proposed FinCen rules do not give any leeway from companies if the beneficial owners or controllers do not provide this information. In addition, companies have an obligation to keep these reports current as information changes. As such, a company will need to build into its process the gathering of this information if it takes a new investment if the new investment would trigger an update to its current report with FinCen.
What constitutes an investor with substantial control may also be surprising to small businesses. The proposed FinCen rules require the listing of individual investors which have considerably less than 25% ownership. For example, the proposed FinCen rules state that the following, among other things, may constitute substantial control:
• Representation on a board;
• Ownership of a majority or dominant minority of the voting shares of the company;
• Rights associated with any financing arrangement or interest in the company; and
• Through arrangements of financial or business relationships, whether formal or informal, with other individuals or entities acting as nominees or through any contract, arrangement, understanding, relationship, or otherwise.
Moreover, any right to exercise control, even if not exercised, is nonetheless considered to be the exercise such control and require that party to be reported. So, the right to appoint a director or control certain decisions of the company can require the individual which controls that decision to be listed. While creditors are generally not considered to be beneficial owners, if the “creditor” has any right to equity, such as a convertible note or SAFE note, they may be considered a beneficial owner if they could hold 25% or more equity or exert substantial control over the company.
When would filing be required?
Under the proposed FinCen rules, all covered entities in existence prior to the FinCen rules becoming final would have 12 months to file their initial report. In addition, under the proposed FinCen rules, covered entities which are created after the FinCen rules are final will have 14 days to file the required information with FinCen. However, these timeframes may change in the final FinCen rules.
What happens if you fail to file as required by the CTA?
Failure to file these reports will result in significant fines and potential jail time. The proposed FinCen rules also will require the company to monitor its beneficial owners and file information when it changes – which will require companies to establish systems to track their beneficial owners. Also, companies will need to add compliance with the proposed reporting requirements to any fund raise as existing and new investors may seek rights which may trigger the need for filing of an updated report and listing them as a beneficial owner. Moreover, companies will need to keep apprised of when information changes, either on itself or its beneficial owners or control persons.
What should companies do now?
The company should immediately begin the process of determining whether it will need to report its information or it is exempt. If it is not exempt, it will need to immediately examine its existing capital structure to determine which investors might be considered beneficial owners and seek the information on the individuals which own 25% of greater of the investor or have substantial control. Since investors may not be aware of these requirements and may push back, the company may need to educate their investors about the reasons for gathering the information and getting a commitment to update the company when information changes. In addition, the company will want to gather information regarding its existing senior officers and locate who filed to form its corporation or limited liability company as, under the proposed FinCen rules, this information also will be required to be filed at the time of the initial report.
The proposed FinCen rules are not yet final and may change. Klemchuk is closely following the FinCen rules as they get finalized and stand ready to assist clients in assessing whether they have to file the beneficial owner reports and to assist in such filings.
If you have any questions, please contact Mark Stachiw.
For more information on corporate law, see our Corporate and Commercial Legal Services and Industry Focused Legal Solutions pages.
