Federal Court Strikes Down the Corporate Transparency Act as Unconstitutional

Federal Court Strikes Down the Corporate Transparency Act as Unconstitutional

On March 1, 2024, the federal judge presiding over the lone case testing the validity of the Corporate Transparency Act (CTA) struck down the CTA as unconstitutional. As we have explained, through the CTA, Congress imposed mandatory reporting obligations on certain companies operating in the United States, in an effort to enhance corporate transparency and combat financial crime. Specifically, the CTA, which took effect on January 1, 2024, requires a wide range of companies to provide personal information about their beneficial owners and company applicants to the U.S. Department of the Treasury’s Financial Crimes Enforcement Network (FinCEN). More than 32.5 million existing entities are expected to be subject to the CTA, and approximately 5 million new entities are expected to join that number each year. By mid-February, approximately a half million reports had been filed under the CTA according to FinCEN.

The CTA’s enforceability is now in doubt. In National Small Business United d/b/a National Small Business Association v. Yellen, the Honorable Liles C. Burke of the United States District Court for the Northern District of Alabama held that the CTA exceeded Congress’s authority to regulate interstate commerce, and that the CTA was not necessary to the proper exercise of Congress’ power to regulate foreign affairs or its taxing power. The Court issued a declaratory judgment—stating that the CTA is unconstitutional—and enjoined the federal government from enforcing the CTA’s reporting requirements against the plaintiffs in that litigation. A nationwide injunction, which would have raised its own enforceability concerns, was not included in the Court’s ruling.

The Court focused on three aspects of the CTA. First, the Court highlighted that the CTA imposes requirements on corporate formation, which is traditionally left to state governments as matters of internal state law. Second, the Court observed that the CTA applies to corporate entities even if the entity conducts purely intrastate commercial activities or no commercial activities at all. Third, the Court concluded that the CTA’s disclosure requirements could not be justified as a data-collection tool for tax officials as that would raise the specter of “unfettered legislative power.”

What the Decision Means for Entities Subject to the CTA

The Court’s decision creates uncertainty on entities’ ongoing obligations under the CTA.  Although the Court purported to limit its injunction to the parties in the litigation before it, the lead plaintiff in the suit is the National Small Business Association (NSBA). In its opinion, the Court held that the NSBA had associational standing to sue on behalf of its members. Based on precedent, this means the Court’s injunction likely benefits all of the NSBA’s over 65,000 members. If so, the government is prevented from enforcing the CTA’s reporting requirements against any entity that is a member of the NSBA.

Regardless of membership in the NSBA, however, the Court’s declaratory judgment that the CTA is unconstitutional also raises serious doubts about the government’s ability to enforce the CTA’s reporting requirements. This could amount to a de facto moratorium on CTA enforcement, depending on the government’s view of the decision.

What Happens Next

The government will likely appeal this decision, but the Court’s injunction and declaration will remain in effect unless a stay is granted. To receive a stay, the government will first likely need to file a motion in the district court, which will consider (1) how likely it is that the government will succeed on appeal; (2) whether the government will be irreparably harmed without a stay; (3) whether a stay will injure other parties interested in the litigation; and (4) whether a stay would benefit the public interest. If the district court denies a stay, the government will be able to seek a stay from the Atlanta-based United States Court of Appeals for the Eleventh Circuit.

The government has 60 days to appeal, though it will likely file its appeal sooner given the grant of an injunction and decision’s far-reaching consequences. The grant or denial of stay should be resolved in the coming weeks, but the timing of any final decision from the Court of Appeals is uncertain. In 2023, the median time for the Eleventh Circuit to resolve a case was over 9 months. However, the key deadline by which tens of millions of companies otherwise must file their initial report under the CTA is January 1, 2025.

Varnum’s Corporate Transparency Act Task Force will monitor all developments in National Small Business United.  Contact any member of Varnum’s CTA Taskforce, or your Varnum attorney to learn more.

Corporate Transparency Act: Reporting Challenges for Foreign-Owned Companies

Corporate Transparency Act: Reporting Challenges for Foreign-Owned Companies
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On January 1, 2024, the beneficial ownership information reporting rule (BOI Rule) issued under the Corporate Transparency Act (CTA) came into effect, ushering in new reporting requirements for companies formed in the U.S. or registered to do business in the U.S. (collectively, reporting companies). 

The CTA and BOI Rule require the collection and disclosure of information identifying the individuals who beneficially own or exercise substantial control over reporting companies. While this task will be a burden for all types of reporting companies, the CTA and BOI Rule pose unique challenges for some foreign-owned companies, which often have complicated beneficial ownership structures, regular changes to management teams, a strong commitment to compliance measures, and a desire to avoid corporate liability and personal liability for members of their management team.

New CTA Reporting Requirements

As explained in a prior advisory, the new beneficial ownership information (BOI) reports will include: (a) for the reporting company, the name, trade name, address and employer identification number (EIN) or taxpayer identification number (TIN) of the reporting company; (b) for each individual who beneficially owns or controls 25% or more of the equity of the reporting company or exercises substantial control over the reporting company (each, a beneficial owner), his or her full legal name, date of birth, complete U.S. residential address, and information from (along with an image of) the individual’s unexpired U.S. passport, state driver’s license or other government-issued identification document; and (c) for certain individuals responsible for the formation of a reporting company on or after January 1, 2024, similar information to that required of beneficial owners.

The CTA and BOI Rule require reporting companies formed or registered to do business in the U.S. on or after January 1, 2024 to file a BOI report with the Financial Crimes Enforcement Network (FinCEN) of the U.S. Department of Treasury within 90 days of its formation or registration (or, if formed or registered to do business in the U.S. on or after January 1, 2025, within 30 days of its formation). Reporting companies formed or registered to do business in the U.S. prior to January 1, 2024 receive a slight reprieve – they need to file a BOI report on or before January 1, 2025.

Once a reporting company has filed an initial BOI report, it must file an updated BOI report within 30 days of any change in the information required to be reported to FinCEN, including changes to reported BOI.

Limited Exemptions for Foreign-Owned Companies

The CTA includes 23 exemptions from the BOI reporting requirements; however, only a handful of them are likely to apply to foreign-owned companies, including the following:

Large Operating Company

Entities that directly employ more than 20 full time employees in the U.S., have an operating presence at a physical office in the U.S., and have filed a federal income tax return or information return demonstrating more than $5 million in gross receipts or sales from sources within the U.S. are classified as “large operating companies” and are exempt from BOI reporting. However, any failure to maintain employment or revenue figures will trigger filing requirements. Additionally, the company will need to be the owner or lessee of real property in the U.S., distinct from unaffiliated businesses, at which it conducts business to satisfy the “physical office” requirement—post office boxes and registered agent addresses will not suffice.

Publicly-Traded Company

Entities that have issued securities registered under Section 12 of the Securities Exchange Act of 1934 (1934 Act) or that are required to file supplementary and periodic information under Section 15(d) of the 1934 Act are exempt; however, this exemption will not cover entities that are listed only on a foreign exchange that do not have reporting obligations under the 1934 Act.

Subsidiary of Exempt Company

Entities whose ownership interests are entirely controlled or wholly owned, directly or indirectly, by certain enumerated exempt entities are themselves exempt, meaning that if a qualifying parent company is exempt, its subsidiaries may also avoid reporting requirements.

Importantly, no “upward” exemption to BOI reporting requirements exists for holding companies.

Reporting Challenges for Foreign-Owned Companies

Foreign-owned reporting companies that are not eligible for an exemption should keep the following issues in mind as they work with advisors to build a compliance plan for CTA reporting:

Analyzing all Members of Corporate Family

Foreign companies often establish a U.S. corporate presence by creating a holding company organized under the laws of Delaware or another U.S. state, with operations conducted through one or more subsidiaries. A compliance plan will be necessary for each entity formed under the laws of a U.S. state or registered to do business in a U.S. state to ensure that it is either exempt or that proper measures have been taken to comply with reporting requirements. Because privately held holding companies do not qualify for an exemption, reporting may be required at that level even if operating entities lower in the family tree are exempt as a “large operating company” or (for lower-tier entities) a “subsidiary” of any large operating company.

Monitoring Triggers for Updates

  1. Some foreign-owned companies rotate executives through director, officer and managerial roles with their U.S. subsidiaries after a limited period of time. These changes will trigger requirements to file updated BOI reports within 30 days of the change. Further, regular changes in U.S. leadership underline the importance of having a compliance plan in place for incoming executives to ensure that all necessary updates to BOI reports are timely filed.
  2. For purposes of filing BOI reports, beneficial ownership of equity is reported by looking through legal entities to identify individual owners or controllers of equity. Changes to a capitalization table of a parent entity organized and operating entirely outside of the U.S. may therefore trigger an obligation to file an updated BOI report in this country.

Inactive Entities

Foreign companies may own U.S. subsidiaries that were previously active but no longer conduct substantial business. While there is an exemption from reporting requirements for certain inactive entities, it is not available to companies owned by foreign persons. Owners of inactive entities should consider dissolving these entities prior to the deadline of any BOI report to avoid incurring reporting obligations or penalties for non-compliance.

Data Protection and Confidentiality

Reporting companies should consider how they will comply with data protection obligations and confidentiality requirements associated with the collection of personally identifiable information gathered pursuant to the CTA. It may be beneficial to designate a third-party provider to collect and store this information or direct persons to obtain a FinCEN identifier to mitigate risks associated with data protection, which can be costly. Companies may also need to consult local counsel in certain foreign jurisdictions to ensure that the collection and transmission of sensitive data from persons outside the U.S. is conducted in accordance with local law.

Access to Information for Disclosure

Foreign-owned reporting companies should consider including language in their formation and governance documents, employment agreements and employee handbooks that requires individuals to provide information necessary to facilitate CTA compliance. As changes to ownership of foreign parents may trigger update reporting obligations, similar measures may need to be considered with respect to parent companies. The reporting company should be prepared to take action to compel such disclosure, where possible, to avoid liability to the company and personal liability to senior officers.

Penalties for Non-Compliance; Personal Liability for Senior Officers

Those who disregard the CTA may be subject to civil and criminal penalties. A person who willfully fails to file a correct and complete initial BOI report or an updated BOI report required by law is subject to a fine of $500 per day (up to a maximum fine of $10,000) and is subject to imprisonment for up to two years.  FinCEN has stated that senior officers of entities that willfully violate the CTA and BOI Rule may be held liable under these penalty provisions.

Varnum’s Corporate Transparency Act Taskforce of attorneys and other professionals can assist you. Contact Greg Wright of our Business and Corporate practice team, any member of Varnum’s CTA Taskforce, or your Varnum attorney to learn more.

 

 

Corporate Transparency Act: Beneficial Ownership Challenges for Business Startups

Corporate Transparency Act: Disclosure and Reporting Requirements for Startups
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For newly formed businesses (startups), the first few years of operations are integral to the company’s success. Founders are concerned with hiring the right employees, developing intellectual property and products or service offerings, fundraising, investor relations, and now, they will also need to be concerned with the compliance requirements of the Corporate Transparency Act (CTA).

Congress passed the CTA in January 2021 to provide law enforcement agencies with further tools to combat financial crime and fraud. The CTA requires certain legal entities (each, a reporting company) to report, if no exemption is available, specific information about themselves, certain of their individual owners and managers (beneficial owners), and certain individuals involved in their formation to the Financial Crimes Enforcement Network (FinCEN) of the U.S. Department of Treasury. The beneficial ownership information (BOI) reporting requirements of the CTA took effect on January 1, 2024. Those who disregard the CTA may be subject to civil and criminal penalties.

As explained in a prior advisory, a startup formed on or after January 1, 2024 is unlikely to fall into one of the CTA’s twenty-three (23) exemptions from the reporting requirements, so such startups will need to file a BOI report with FinCEN within ninety (90) days of its formation (or, if formed on or after January 1, 2025, within thirty (30) days of its formation), with updated BOI reports due within thirty (30) days of any change in the startup’s BOI as reported to FinCEN.

With complex capitalization tables, demanding investors and bespoke management structures, CTA compliance will present some unique challenges to startups, founders and officers.

Challenges in Disclosure

  1. 25% Owners: Nonexempt startups must disclose information about each individual that (directly or indirectly) holds 25% or more of the fully diluted equity of the startup. In order to calculate the fully diluted equity of the startup, a reporting company must consider the total number of shares that would be outstanding if all derivative instruments were exercised. This would include instruments such as stock options, simple agreements for future equity (SAFEs), convertible debt, and warrants. But the initial BOI report is just the beginning, as the set of persons whose details must be disclosed may change each time a derivative security expires, equity interests are sold, additional funds are raised, or the ownership structure of a corporate investor changes. Any such change may trigger an obligation to file an updated BOI report within thirty (30) days.
  2. Substantial Control: Nonexempt startups must also disclose information about any individual that (directly or indirectly) exercises substantial control over the startup. This includes:

    1. Senior officers of the reporting company;
    2. Persons who have the authority to appoint or remove certain officers or a majority of the board of directors of the reporting company;
    3. Persons who direct, determine or have “substantial influence” over important decisions of the reporting company, including decisions about its business, finances or structure; and
    4. Persons who otherwise exercise substantial control over the reporting company.

In the case of startups, this may require the disclosure of information about all members of the board of directors, as the relatively small size of most startup boards and the broad authority held by their members could bring those individuals within the definition above.

In addition, certain investors (including investors owning less than 25%) may get captured by the “substantial control” definition based upon their voting rights as owners of preferred stock, their negotiated veto rights over important decisions or actions, or other forms of influence over key appointments and decisions of the startup. The list of individuals who need to be included in the report will vary based upon the governance structure designed and negotiated by investors in the process of formation and fundraising, and each further round of investment or change in management will need to be scrutinized as a potential trigger for an updated report.

Challenges in Reporting

Each beneficial owner (including those who exercise “substantial control”) will need to provide his or her name, date of birth, current address, and photocopy of an acceptable identification document.  While this seems like information that would be easy to obtain, startups will face challenges.

    1. Structural Challenges: If the direct “beneficial owner” is an entity instead of an individual, the startup will need to conduct multiple levels of due diligence to determine the ownership structure and exercise of control at the level of that entity-owner. This may involve collecting detailed information about the ownership and management of complex investment funds and ownership vehicles, many of whom may be reluctant to provide details to founders.
    2. Reluctant Investors: Some investors may be hesitant or refuse to provide their details for personal or data privacy reasons. Others may take the position that the startup’s legal analysis that they qualify as beneficial owners is unsound. There is no good faith exemption for attempting to comply with the BOI reporting requirements. If the startup fails to comply with the CTA for any reason (including the acts or omissions of an uncooperative investor, director or officer), the startup will be out of compliance. Those that willfully fail to comply may face civil and criminal penalties.

Tools for Compliance

    1. Monitoring Triggers for Updates: As startups continuously raise funds, the ownership structure of the startup is constantly subject to change, and the resulting update requirements under the CTA are likely to be time-consuming and tedious for founders and investors. To meet this challenge, the startup will need to have protocols in place to monitor events likely to trigger an update requirement.
    2. Data Protection and Confidentiality: startups should consider how they will comply with data protection obligations and confidentiality requirements associated with the collection of personally identifiable information gathered pursuant to the CTA. It may be beneficial to designate a third-party provider to collect and store this information or direct persons to obtain a FinCEN identifier to mitigate risks associated with data protection, which can be costly.
    3. Ability to Gather Information for Disclosure: startups should include language in their formation and governance documents that requires investors, directors and officers to provide information necessary to facilitate CTA compliance as a condition to investing in or serving the startup. startups should also disclose the repercussions for investors and senior officers if an investor, director or officer fails to provide required BOI. Existing and potential investors, directors and officers may resist disclosing the necessary information, and the startup should be prepared to take action to compel such disclosure, where possible, to avoid liability to the company and personal liability to senior officers.

Varnum’s Corporate Transparency Act Taskforce of attorneys and other professionals can assist you. Contact Mallory Field of our Venture Capital and Emerging Companies team, any member of Varnum’s CTA Taskforce, or your Varnum attorney to learn more.

Beware of Corporate Transparency Act Scams and Fraud

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The Corporate Transparency Act’s (CTA) Beneficial Ownership Information reporting requirements are set to take effect on January 1, and bad actors are already using the CTA’s requirements to solicit unauthorized access to Personally Identifiable Information. To that end, the U.S. Department of Treasury’s Financial Crimes Enforcement Network (FinCEN) recently issued a warning regarding such scams. FinCEN describes these efforts as follows:

“The fraudulent correspondence may be titled “Important Compliance Notice” and asks the recipient to click on a URL or to scan a QR code. Those e-mails or letters are fraudulent. FinCEN does not send unsolicited requests (emphasis added). Please do not respond to these fraudulent messages, or click on any links or scan any QR codes within them.”

Be on guard against such fraud and stay abreast of key developments involving this new law by visiting Varnum’s CTA Resource Center.

Corporate Transparency Act: Implications for Business Startups

Corporate Transparency Act: Implications for Business Startups
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Congress passed the Corporate Transparency Act (CTA) in January 2021 to provide law enforcement agencies with further tools to combat financial crime and fraud. The CTA requires certain legal entities (each, a “reporting company”) to report, if no exemption is available, specific information about themselves, certain of their individual owners and managers, and certain individuals involved in their formation to the Financial Crimes Enforcement Network (FinCEN) of the U.S. Department of Treasury. The beneficial ownership information (BOI) reporting requirements of the CTA are set to take effect on January 1, 2024. Those who disregard the CTA may be subject to civil and criminal penalties.

A recent advisory explaining the CTA reporting requirements in further detail may be found here.

While the CTA includes 23 enumerated exemptions for reporting companies, newly formed businesses (Startups) may not qualify for an exemption before the date on which an initial BOI report is due to FinCEN. As a result, Startups (particularly those created on or after January 1, 2024) and their founders and investors, must be prepared to comply promptly with the CTA’s reporting requirements.

As an example, businesses may want to pursue the large operating company exemption under the CTA. However, among other conditions, a company must have filed a federal income tax or information return for the previous year demonstrating more than $5 million in gross receipts or sales. By definition, a newly formed business will not have filed a federal income tax or information return for the previous year. If no other exemption is readily available, such a Startup will need to file an initial BOI report, subject to ongoing monitoring as to whether it subsequently qualifies for an exemption or any reported BOI changes or needs to be corrected, in either case triggering an obligation to file an updated BOI report within 30 days of the applicable event.

Startups also should be mindful that the large operating company exemption requires the entity to (i) directly employ more than 20 full time employees in the U.S. and (ii) have an operating presence at a physical office within the U.S. that is distinct from the place of business of any other unaffiliated entity. Importantly, this means that a mere “holding company” (an entity that issues ownership interests and holds one or more operating subsidiaries but does not itself satisfy the other conditions of this exemption) will not qualify. Startups may want to consider these aspects of the large operating company exemption during the pre-formation phase of their business.

Fundraising often requires Startups to satisfy competing demands among groups of investors, which can lead to relatively complex capitalization tables and unique arrangements regarding management and control. These features may cause BOI reporting for Startups to be more complicated than reporting for other small and closely held businesses. Founders, investors, and potential investors should familiarize themselves with the CTA’s reporting requirements and formulate a plan to facilitate compliance, including with respect to the collection, storage and updating of BOI.

By ensuring all stakeholders understand the BOI reporting requirements and are prepared to comply, your Startup can avoid conflicts with current and potential investors and ensure that it collects the information that it needs to provide a complete and timely BOI report.

Varnum’s Corporate Transparency Act Taskforce of attorneys and other professionals can assist you. Contact your Varnum attorney or any member of Varnum’s CTA Taskforce to learn more.

Corporate Transparency Act’s Reporting Requirements: Impact on the Private Client

Cooperate Transparency Act: Impact on the Private Client
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Private clients and family offices commonly create legal entities, such as limited liability companies, limited partnerships and corporations, to facilitate investment, asset management, tax planning, business succession planning, privacy, liability protection and many other purposes.  Such planning will be impacted by disclosures required by the Corporate Transparency Act (CTA), set to take effect January 1, 2024. The CTA, enacted to combat illicit financial activities, brings significant regulatory changes and effectively creates a national registry for law enforcement and certain other entities of the beneficial ownership information (BOI) for many legal entities formed or registered in the U.S. (Reporting Companies).

A recent advisory explaining the CTA reporting requirements in further detail may be found here.

Under the CTA, Reporting Companies include limited liability companies, corporations, and any other entities created by the filing of a document with a secretary of state or other similar office, whether or not the legal entity engages in any business or other commercial activity. If a legal entity meets the definition of a Reporting Company and does not qualify for an exemption, the Reporting Company will be obligated to disclose to the U.S. Department of Treasury’s Financial Crimes Enforcement Network (FinCEN) specific information about itself and the BOI of its beneficial owners and company applicants, including their full name, date of birth, complete address, and other identifying information. The CTA defines “beneficial owner” as an individual who either, directly or indirectly, exercises substantial control over the Reporting Company or owns or controls at least 25% of the ownership interests of the Reporting Company.

A trust itself is not a Reporting Company if it is not created by the filing of a document with a secretary of state or other similar office (which is often the case). Regardless, if a trust exercises substantial control over the Reporting Company or holds an ownership interest in a Reporting Company and the other requirements are met, at least one individual associated with the trust will be a beneficial owner. The CTA contains specific rules under which an ownership interest held by a trust or similar arrangement is attributed for determining the individual(s) subject to the BOI disclosure requirement. The Reporting Company should attribute such ownership as follows:

  • To any individual trustee that has “the authority to dispose of trust assets.”

  • To any individual beneficiary who “(i) is the sole permissible recipient of income and principal, or (ii) has the right to demand a distribution of or withdrawal substantially all the assets from the trust.”

  • To any individual grantor or settlor who “has the right to revoke the trust or otherwise withdraw the assets of the trust.”  

For many trusts, more than one individual will meet these criteria, and, in such cases, each individual’s BOI must be reported. Even if a trust owns or controls less than 25% of the ownership interests of the Reporting Company, the Reporting Company must assess whether the trustee exercises substantial control over the Reporting Company, such as through board representation.

As noted above, certain Reporting Companies are exempt from the CTA, including certain tax-exempt entities, certain entities subject to other federal reporting, and certain large operating companies. Additionally, certain individuals who may otherwise qualify as a beneficial owner will not be required to disclose BOI if an exception applies, including minor children (if applicable, the Reporting Company may instead report information about the parent or legal guardian of the minor child). The failure to timely comply with the reporting requirements could result in civil and criminal penalties.    

The disclosure of BOI for private clients and family offices may be counter-productive to privacy and other goals and may in some circumstances necessitate further analysis and planning. Each private client, family office, and small business owner should prepare now.  Varnum’s Corporate Transparency Act Taskforce of attorneys and other professionals can assist you. Contact your Varnum attorney or any member of Varnum’s CTA Taskforce to learn more.

Corporate Transparency Act Reporting Requirements: What Steps Can Companies Take Now?

Corporate Transparency Act Compliance: Key Steps Companies Can Take Now
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Congress passed the Corporate Transparency Act (CTA) in January 2021 to provide law enforcement agencies with information that may be used to combat financial crime and fraud. The CTA requires certain legal entities (each, a “reporting company”) to report, if no exemption is available, specific information about themselves, certain of their individual owners and managers (“beneficial owners”), and certain individuals involved in their formation (“company applicants”) to the Financial Crimes Enforcement Network (FinCEN) of the U.S. Department of Treasury.

A recent advisory explaining the CTA reporting requirements in further detail may be found here.

Reporting companies formed or registered in the U.S. on or after January 1, 2024 that do not qualify for an exemption will need to comply with the new CTA reporting requirements promptly upon formation or registration, while non-exempt reporting companies in existence before January 1, 2024 will need to file an initial report on or before January 1, 2025. Reporting companies will be required to file updated reports within 30 days of any change to the reported information and must promptly correct any inaccuracies in their disclosure to avoid penalties.

Fines of $500 per day can be levied for failure to timely comply with the new reporting requirements. Criminal penalties (including imprisonment) are also available to regulators in certain circumstances, including where a person willfully fails to file the required reports.

Existing companies should familiarize themselves with the CTA’s reporting requirements and formulate a plan to facilitate compliance. Actionable steps that businesses can take now include the following:

  1. Get organized.
    Businesses should determine whether their legal entities will be required to file reports with FinCEN under the CTA and, if so, what information they will need to collect in order to comply. This will require a review of your legal entity structure chart, current capitalization table(s), governing documents, and equity and debt documents. While ownership and control may be relatively straightforward for certain companies, others will require a more detailed analysis. Each legal entity within an affiliated group must be assessed.

    Keep in mind that there is no exemption for holding companies. Many private businesses are legally structured with one or more operating entities under a holding company. If applicable, careful attention should be given to the requirements of the large operating entity exemption for assessing its availability.

  2. Make a plan for filing your initial BOI Report, if necessary.
    If your business is subject to BOI reporting requirements, you will need to consider how to collect and handle the information from direct and indirect owners, senior officers and others in control of the business. This task may present certain practical challenges that you should be ready to address, including:

    Such individuals may be reluctant to provide their personal information as part of a BOI Report on privacy grounds. There is currently no statutory or regulatory relief for failure to file a complete BOI report on the grounds that one or more required persons refused to provide the required disclosure, so their failure to cooperate will prevent the reporting company from complying with the CTA. The company may wish to consider what actions it is willing and able to take to compel compliance, including repurchase of equity or termination and removal of noncompliant persons.

    Such individuals may be willing to provide disclosure to FinCEN but not to the reporting company itself. FinCEN will allow individuals to provide their disclosure directly to FinCEN and obtain a unique FinCEN identifier. The individual may then provide the FinCEN identifier to the reporting company in lieu of the underlying information. With respect to changes to such individual’s information, the burden shifts from the company to the individual to file any updated reports.

    Certain of the information required to be included in BOI Reports may constitute personal identifiable information (PII) that is entitled to special protection or that triggers further reporting or compliance obligations on the part of the entity that collects and stores it. Reporting companies may prefer to engage a third-party service provider or ask their beneficial owners or company applicants to obtain FinCEN identifiers to minimize this risk.

    The Beneficial Ownership Secure System (BOSS), which FinCEN is creating to collect and store BOI Reports, will be accessible by reporting companies; however, third-party service providers may help facilitate compliance by allowing required persons to provide their information separately from the company filing and by storing their personal information. You may wish to consider whether the additional features provided by these service providers will help your company in its compliance efforts.

  3. Make a plan for monitoring events that may require you to file an initial or updated BOI Report.
    You will need to continuously monitor for changes that may trigger reporting requirements. Reporting companies will need to promptly report any change in information reported to FinCEN, including changes in beneficial ownership and control. Beneficial owners will need to provide updates to their names, addresses, or filed government documents. Companies with complex beneficial ownership structures may want to designate a CTA compliance officer who can monitor these issues and provide the necessary training to individuals whose cooperation will be required to facilitate compliance.
  4. Dissolve any inactive entities before January 1, 2024 to avoid unnecessary costs.
    There is a limited exemption from BOI reporting requirements for inactive entities, but entities do not qualify if, among other things, they (i) were formed on or after January 1, 2020, (ii) are owned in whole or in part by a foreign person, or (iii) hold assets or equity interests. Unless this or another exemption from BOI reporting requirements applies, you may wish to consider dissolving entities that you do not intend to use in the future to avoid incurring unnecessary costs under the CTA.
  5. Form new entities now that you believe will be needed after January 1, 2024.
    Entities formed or registered in the U.S. prior to January 1, 2024 will not be required to file an initial BOI Report until January 1, 2025, and they will not be required to disclose their company applicants. Therefore, if you intend to engage in a transaction or restructuring, or any new business that will involve the creation of one or more new entities, you may wish to form those entities before January 1, 2024.
  6. Review and, if appropriate, amend your governance documents to facilitate CTA compliance.
    To comply with BOI reporting requirements, reporting companies will need to collect and report up-to-date information with respect to each of their beneficial owners. Reporting companies should consider amending their shareholder agreements, operating agreements and/or other governance documents to require affirmative cooperation with respect to CTA compliance obligations. Recourse for any failure to provide or update reporting information should also be considered, including by way of indemnification.
  7. Reach out to Varnum.
    Varnum’s Corporate Transparency Act Taskforce stands ready to assist you with every stage of the compliance process. Please contact us if you are interested in engaging Varnum to represent you regarding compliance or reporting under the Corporate Transparency Act.

Corporate Transparency Act: ESOP and Deferred Compensation Implications

Corporate Transparency Act: ESOP and Deferred Compensation Implications
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Congress passed the Corporate Transparency Act (the CTA) in January 2021 to provide law enforcement agencies with further tools to combat financial crime and fraud. The CTA requires certain legal entities (each, a “reporting company”) to report, if no exemption is available, specific information about themselves, certain of their individual owners and managers (“beneficial owners”), and certain individuals involved in their formation (“company applicants”) to the Financial Crimes Enforcement Network (FinCEN) of the U.S. Department of Treasury.

As the CTA comes into effect, there are many important considerations for businesses and this advisory focuses on two: ESOPs and deferred compensation.

For companies that are not exempt from the CTA’s reporting requirements, a crucial aspect of the company’s compliance is assessing its beneficial owners. This key term goes beyond equity ownership. A “beneficial owner” is any individual who, directly or indirectly, (1) owns or controls at least 25% of the ownership interests of the reporting company (by vote or value) or (2) exercises substantial control over the reporting company.

An individual’s ownership interest will be determined by examining ownership of equity, stock or voting rights; capital or profits interests; convertible instruments (as if converted); options or privileges (as if exercised); and any other instrument, contract, arrangement, understanding, relationship or mechanism used to establish ownership. Reporting companies will need to “look through” ownership interests held by intermediary companies to identify the individuals who beneficially own such interests. Special rules apply to interests held by trusts.

An individual will exercise substantial control over the reporting company if such person is:

  • a senior officer of the reporting company;
  • a person who has the authority to appoint or remove certain officers or a majority of the board of directors;
  • a person who directs, determines or has substantial influence over important decisions of the reporting company, including decisions about its business, finances or structure; or
  • a person who otherwise exercises substantial control over the reporting company.

Any individual holding the position or exercising the authority of a president, chief financial officer, general counsel, chief executive officer or chief operating officer is a “senior officer.” On the other hand, whether an individual serving on the board of directors (or equivalent body) exercises substantial control over the reporting company is a question that must be analyzed under the above criteria on a director-by-director basis.

Employee Stock Ownership Plan (ESOP) Implications

ESOP ownership of a company, in whole or in part, does not automatically change the analysis or conclusion about whether the company must file reports under the CTA. However, ESOPs can impact the CTA analysis for non-exempt reporting companies in two ways. First, the ESOP trustee may be a beneficial owner for purposes of the CTA because an ESOP trustee may have the right to exercise certain aspects of control over the company, such as the right to appoint or remove board members. Not all ESOP trustees will be beneficial owners. Rather, ESOP companies should conduct an analysis of whether reporting requirements are triggered based on the specific circumstances. Second, an ESOP participant may be a beneficial owner for purposes of the CTA because a participant may be allocated shares that exceed 25% of the voting power or value of the company. As with the ESOP trustee, an analysis of the specific circumstances relating to the company’s capitalization table and ESOP will be important to determining if reporting is required and if so, what that reporting requires.

Deferred Compensation Implications

In many circumstances, deferred compensation and executive compensation (such as options, phantom stock and stock appreciation rights) will not change the reporting requirements under the CTA, but there are a few potential exceptions. First, deferred compensation could result in an individual owning (by vote or value) 25% or more of the company, triggering reporting requirements about that individual. Second, if the value of a company cannot be determined with enough certainty, reporting requirements can include individuals who own 25% or more of any class of equity (equity is broadly defined for this purpose and will include not only stock and ownership units, but also options, convertible instruments and other similar agreements and arrangements). If deferred compensation is designed in a way that creates a new class of equity, those who have 25% or more of that class of equity may need to report under the CTA. In many circumstances, with advanced planning, deferred compensation can be drafted to avoid creating a new class of equity, helping to simplify the CTA compliance analysis.

Conclusion

If your company maintains an ESOP, or awards deferred compensation or equity compensation, you should consider how this could impact your company’s CTA compliance. The analysis may evolve over time as an entity’s circumstances change and additional CTA guidance is released.

Varnum’s Corporate Transparency Act Taskforce of attorneys and other professionals can assist you. A recent client advisory explaining the CTA reporting requirements may be found here. Contact a member of Varnum’s Employee Benefits and Executive Compensation Team or any member of Varnum’s CTA Taskforce to learn more.