Last year’s legislation imposing new tax reporting burdens on financial institutions catering to US expats will add up to $40 per investor in terms of compliance costs, forcing big changes in how funds are distributed, Luxembourg’s funds industry warns.

The Foreign Account Tax Compliance Act, or FATCA, was enacted in March last year to root out tax evasion by US citizens and Green Card holders living around the world. The law takes full effect in 2013. Already, a number of banks and other institutions such as Société Générale, Withers and RBC Wealth Management, have pointed out that the legislation will add heavily to financial compliance costs.

The law affects funds invested in the US market including, but not limited to, funds of funds, exchange-traded funds, hedge funds, private equity and venture capital funds, other managed funds, commodity pools, and other investment vehicles. It means that foreign financial institutions must report investors who are taxable in the US to the US tax authorities. If they fail to do so, they pay a 30 per cent withholding tax.

Implementing FATCA could potentially mean that thousands of foreign financial institutions will have to sign agreements with the IRS.

“FATCA could fundamentally change the way funds are distributed,” said Charles Muller, deputy director general of ALFI, the Association of Luxembourg Funds Industry. “Implementation will be a long and costly process and it will be the European investor who pays the price as US investors are very rarely invested in European funds,” he said.

The legislation has been passed at a time when the US, for example, has been conducting a high-profile campaign to stamp out alleged tax evasion via countries such as Switzerland. Critics say, however, that the rules will make it harder for US expats, such as financial professionals working in London, to get access to financial services.  

“Our aim is not to stop FATCA - in any case, the law has been voted in - but to find ways to accommodate the law, to help the US achieve their goal of catching tax evaders, while at the same time finding ways to lighten the administrative burden that is put on us, and the subsequent cost burden that will be put on investors,” Muller said.  

“Whatever happens, evading FATCA is not an option for the European fund industry - or elsewhere in the world - firstly because the law has been passed, and secondly because the net has been cast so wide that it is hard to escape. Unless you never want to invest in the US again,” he added.