U.S. LLCs and corporations1
, as well as certain non-US companies registered to do business in the U.S. (collectively, “Subject Companies
”), will soon be required to make a filing with the U.S. Department of Treasury (“Treasury
”) disclosing the names of, and certain personal information regarding, Subject Companies’ “beneficial owners.”2
This disclosure requirement represents a fundamental shift in the business entity formation
regime in the United States, particularly in Delaware, the most common and favored formation jurisdiction in the U.S. by an immense margin and one which traditionally required very little member or shareholder information
to form a business.
The requirement, codified as the Corporate Transparency Act (the “Transparency Act”), was enacted as part of the must-pass National Defense Authorization Act (the “NDAA”), a government funding measure that became law on January 1, 2021.3 Within a year of the NDAA becoming law, Treasury must issue regulations implementing the disclosure requirement and providing greater clarity on its requirements, scope, terms, and the mechanics of making the newly-required filings (the “Treasury Regulations”).
Our Past Writing on the Act
Harvard Business Services has been following the status of the Act closely for over a year, mindful of its substantial impact on our current and future formation and registered agent clients. The requirements of the Act have changed little over its various iterations. We wrote first about the Act in 2019
, when it failed to gain the approval of both houses of Congress, and again this past September
. The Act has not changed substantially since that early coverage, and we urge readers to refer to those posts for more detailed discussion of the development of the disclosure requirements.
Timing of the Required Reports
Entities formed after December 31, 2021, must make the required disclosure during their formation. Entities existing on such date must make their initial filing two years after such date. In each case, after a Subject Company’s initial filing, it must make subsequent annual filings to report any changes in its beneficial ownership.
Beneficial Owners Included in Required Reports
The disclosure obligation’s focus is not on record ownership, which can be held in the name of another person or entity, but the actual person receiving the economic or control benefit of his, her, or its ownership and/or position. Beneficial ownership does not require equity ownership of a Subject Company; instead, the term includes a person or persons who directly or indirectly, by any means (whether through contract, joint venture, informal understanding, or otherwise):
- exercise substantial control over the Subject Company (a term which will need to be further defined by Treasury Regulations);
- own twenty five percent (25%) or more of the equity interests of the Subject Company, meaning a membership interest in an LLC or shares of a corporation (it is unclear if voting control is required to count toward such equity, or whether the percentage is determined regardless of voting authority or other limitations on the equity interests); or
- receives substantial economic benefits from the entity’s assets (this will also be defined in greater detail by Treasury Regulations), generally seeking to capture control persons who have a substantial economic interest in managing, directing, or otherwise serving the Subject Company.
The Act’s beneficial ownership reporting requires a Subject Company to examine and trace through any intermediate entity members or shareholders to determine and report the identity of and personal information regarding the natural person(s) behind such intermediate entities. This look-through beneficial ownership disclosure is one of the more talked-about and ambiguous terms of the Act, although we and others believe that the analysis will be set forth in greater detail in the Treasury Regulations.
Companies Exempt from Reporting
Exclusion for Already-Regulated Businesses and Industries.
Certain regulated entities with a verifiable business, and which are already subject to significant reporting requirements, are exempt from the Act’s reporting requirements. These exempt companies include (a) financial industry companies, including broker-dealers, investment advisers, private funds, banks, insurance companies, and credit unions, among others, (b) tax-exempt entities
that have applied and qualify as such under the Internal Revenue Code, including churches and charitable organizations, among others, and (c) companies carved out by future Treasury Regulations.
Exclusion for Larger, Established Companies. The Act also excludes from the scope of the reporting obligations Subject Companies with more than twenty (20) full-time employees, a physical office in the U.S., and more than $5 million in gross receipts or sales. Congress felt that including such businesses was unnecessary, given that the Act focused on combatting the improper use of shell companies, which often have few or no employees, little physical footprint, and few reported sources of legitimate income or sales.
Required Information to be Reported
For each of its “beneficial owners”, a Subject Company will be required to provide a natural person beneficial owner’s full legal name, date of birth, current residential or business address, and a unique identifying number from some form of unexpired government-issued identification, such as a U.S. or non-U.S. passport, a driver’s license or a government-issued identification card obtained from a U.S. state or other jurisdiction, or a U.S. or non-U.S. military identification card.
Use of the Reported Material
The required reporting under the Act represents an erosion of the privacy rights the U.S. federal government and certain state governments (such as Delaware) traditionally afforded to Subject Companies’ beneficial owners. Access to the Act’s beneficial owner reports would be initially limited to (a) U.S. federal law enforcement, (b) a U.S. federal agency requesting access to such information on behalf of non-U.S. law enforcement, or (c) with the consent of the Subject Company, a financial institution conducting due diligence on the Subject Company for, among other potential reasons, opening a bank account or another legitimate purpose.
The Act also permits the Treasury Department to disclose ownership information to state and local law enforcement, so long as such agencies have obtained a court order authorizing the request for such information.
Clients and potential clients should begin to consider whether and/or how the new beneficial owner reporting requirements apply to their business, the nature of such business’s investors and equity holders in terms of reporting and the look-through analysis (subject to its clarification by the Treasury Regulations).
We will keep abreast of the interpretations and guidance regarding the Act, as well as the development and issuances of the Treasury Regulations, in order to determine how we can best serve our clients formation and filing needs and obligations.
1. The Act applies only to corporations and LLCs or their non-US equivalents. It is unclear whether reporting would include series of a “Series LLC”. Partnerships and other type of entities are still under review by the Treasury Department to determine if they are right for inclusion in the requirement.
2. The reports are filed with the Financial Crimes Enforcement Network (or FinCEN), a division of Treasury.
3. The NDAA was passed as a result of a Congressional override of President Trump’s veto. The NDAA, in its various annual iterations) is a recurring bill that sets the annual budget of the Department of Defense for a given year, making it a critical and extremely time-sensitive piece of legislation. The NDAA is traditionally “regarded as must-pass legislation” and has been signed into law by the close of the calendar year for 59 years without exception, save for this year. See Federal Computer Week, Senate Overrides Trump’s Veto; NDAA Becomes Law (January 1, 2021) available at https://fcw.com/articles/2021/01/01/ndaa-veto-overturned-senate.aspx (last visited January 6, 2021); See also Zachary Warmbrodt, Lawmakers Clinch Deal On Decade-Long Fight Against Shell Companies, Politico.com (November 25, 2020) available at www.politico.com/news/2020/11/25/lawmakers-fight-shell-companies-440618 (last visited January 6, 2021).