Paul Peter Nicolai
The Corporate Transparency Act
Updated: Aug 10, 2022
Congress has passed the Corporate Transparency Act of 2020 (“CTA”). Its core is a set of reporting requirements imposed on just about every small business organized or registered to do business in the United States through any limited liability entity. Reporting companies will be required to submit identifying information regarding their owners and individuals who participate in those businesses' formation and domestic registration.
Implementation of the CTA is primarily deferred. Its reporting requirements take effect on the date regulations prescribed by the Secretary of the Treasury become effective. No indication has been given as to when final regulations may be issued.
Who has to report?
Domestic or foreign companies may be required to report under the CTA. Domestic entities subject to reporting requirements include corporations, limited liability companies, and any other entity created by filing a document with a secretary of state or any similar office under the law of a State or Indian tribe. Thus, domestic reporting companies will also include limited partnerships, limited liability partnerships, limited liability limited partnerships, business trusts, and any other entity offering limited liability to its owners by a charter. Foreign entities registered to do business by filing with a secretary of state or similar office are subject to the exact reporting requirements as domestic entities.
The proposed regulations identify over 22 different types of exempt entities. The vast majority of these exempt entities are subject to state or federal supervision, like companies that report to securities, investment, insurance, and banking regulators. Exemptions are also extended to public companies, government authorities, venture-capital fund advisors, public utilities, pooled investment vehicles, tax-exempt entities, and entities assisting tax-exempt entities. Also exempt are large operating companies, as any entity that:
employs more than 20 full-time employees in the United States,
has an operating presence at a physical office in the United States, and
filed a federal income tax return or information return for the prior year reporting more than $5 million in gross receipts or sales, excluding gross receipts or sales outside the United States.
In the case of an entity that reports as part of an affiliated group under a consolidated return, the $5 million threshold applies to the amount reported on the consolidated return for the entire group. The bottom line is that any privately held, for-profit business operating through a limited liability entity in the United States will be subject to the reporting requirements of the CTA unless it satisfies the definition of a “large operating company” and or qualifies for another exemption.
Generally, existing entities get no relief. They are subject to the exact reporting requirements as new entities. However, certain inactive entities are exempt from the reporting requirements of the CTA. Entities are considered “inactive” if they were in existence on or before January 1, 2020:
are not engaged in active business,
are not owned by a foreign person (directly or indirectly, wholly or partially),
have not experienced any change of ownership in the preceding 12-month period,
have not sent or received any funds in an amount greater than $1,000 either directly or through any financial account in which the entity or any affiliate of the entity has an interest in the preceding 12-month period, and
do not otherwise hold any kind or type of assets (including an equity interest in any limited liability entity).
What must be reported?
The CTA requires reporting companies to disclose:
the full name of the reporting company,
any trade name or “doing business as” name of the reporting company,
the business street address,
jurisdiction of formation), and
the taxpayer identification number (TIN) the reporting company reports to the Internal Revenue Service. If the reporting company has not yet been issued a TIN. In that case, it may instead use the Dunn and Bradstreet Data Universal Numbering System Number of the reporting company or Legal Entity Identifier.
Which individuals are subject to disclosure by the reporting company?
In addition to the information regarding the reporting company that must be disclosed under the CTA, the reporting company must also provide information regarding every individual who is a beneficial owner and every individual who is a company applicant. The proposed regulations say a beneficial owner is any individual who, directly or indirectly, either exercises substantial control over such reporting company or owns or controls at least 25 percent of the ownership interests of such reporting company.
For defining a beneficial owner, substantial control over a reporting company is defined to include:
service as a senior officer of the reporting company,
authority over the appointment or removal of any senior officer or a majority or dominant minority of the members of the board of directors (or similar body),
direction, determination, or decision of, or substantial influence over, important matters affecting the reporting company as more specifically outlined in the proposed regulations, and
any other form of substantial control over the reporting company.
Regardless of office or title, substantial control over a reporting company includes the ability to direct, determine, decide, or exercise substantial influence over important matters affecting the reporting company. Such matters include:
the nature, scope, or attributes of the business conducted by the reporting company, including mortgage, lease, sale, or other transfers of its principal assets, reorganization, dissolution, or merger of the reporting company,
major expenditures or incurring significant debt,
issuance of any equity interests by the reporting company,
approval of the operating budget of the reporting company,
selection or termination of business lines or geographic areas in which the reporting company does business,
approval of compensation schemes,
adoption of incentive programs for senior officers,
approval, performance, or termination of important contracts,
amendment of any substantial governance documents of the reporting company, including the articles of incorporation, other formation documents,
amendment of important policies or procedures of the reporting company, or
exercise of any other form of substantial control over the reporting company.
The person executing the authority concerning a reporting company will be subject to the disclosure requirements of the CTA. The means through which an individual exercises such control is irrelevant, and control may be direct or indirect, formal or informal, including simple business relationships. An individual may be deemed to have substantial control for purposes of the CTA if the ability to exercise substantial control exists, even if such control is never actually exercised.
Disclosure of information on non-controlling owners is required if their ownership of the reporting company equals or exceeds 25 percent.
Ownership interest is broadly defined to include a variety of interests. Whether financial or simply voting, any equity interest — including participation in a profit-sharing arrangement is sufficient to be measured and considered to identify beneficial owners. In the case of non-corporate entities, any proprietary interest, any interest in capital or profits, including limited and general partnership interests, must be accounted for. Less direct interests are also considered ownership interests, including convertible debt, warrants, rights to purchase or subscribe to equity interests, and any put, call, straddle, or other option or privilege of buying or selling any ownership interest.
Measuring whether an individual owns or controls 25 percent of the ownership interests of a reporting company requires accounting for all ownership interests of any class or type, and the percentage of such ownership interests that an individual owns or controls is determined by aggregating all of the individual’s ownership interests in comparison to the undiluted ownership interests of the company. Consistent with the statute, the proposed regulations are clear that certain equity owners will be exempt and not subject to reporting, including:
minor children (provided the reporting company discloses the required information regarding the parent or legal guardian of the minor child);
individuals acting as nominees, intermediaries, custodians, or agents;
employees of reporting companies acting solely as an employee and not as a senior officer, whose substantial control over or economic benefits from such entity are derived solely from the employment status of the employee;
individuals whose only interest is an expectancy through a right of inheritance; and
creditors of the reporting company.
On creditors, the proposed regulations clarify that creditors who are not required to be disclosed are individuals whose beneficial ownership is derived solely through rights or interests in the company for the payment of a predetermined sum of money and the payment of interest on such debt.
If the right or interest in the value of the reporting company is a right or interest in its value or profits, it must be accounted for as an ownership interest.
An individual may be deemed a beneficial owner in a reporting company without holding an ownership interest in it. Not only are the equity and other interests described above sufficient to establish beneficial ownership, whether owned directly or indirectly, but beneficial ownership may also exist when the beneficial owner shares ownership or does not directly or indirectly hold the ownership interest. Specific examples include:
control of an ownership interest owned by another, and
holding an interest as a settlor, trustee, or beneficiary of a trust or similar arrangement that holds the ownership interest.
For an ownership interest owned or controlled by a trust, the trustee's identity or other individuals with the authority to dispose of trust assets will always require disclosure. In addition, if the trust has a single beneficiary that is the sole permissible recipient of income and principal from the trust, the identity and other reporting information regarding the beneficiary must be disclosed. In the case of a trust with more than one beneficiary, disclosure of the information is only required of those beneficiaries who have the right to withdraw or demand distributions of substantially all the trust assets. If the settlor of the trust can revoke the trust or otherwise withdraw trust assets, the identity and other information regarding the trust's settlor must be disclosed.
In the right set of circumstances, an ownership interest in a reporting company held through a trust may require disclosure of the trustee, one or more beneficiaries, and the settlor of that trust.
Who are “company applicants" requiring disclosure?
For professionals involved in entity formation, the most intrusive aspect of the CTA is the requirement for the disclosure of information regarding company applicants. The proposed regulations define the term “company applicant” to mean any individual who files the document that creates the domestic reporting company or registers a foreign reporting company, “including any individual who directs or controls the filing of such document by another person....” Thus, a company applicant is not only the lawyer or paralegal who files the articles of incorporation, certificate of a limited partnership, articles of organization, or similar document for establishing a domestic company (or the registration of a foreign entity) with a State or Tribal authority, but also a partner, senior lawyer, or any other person directing the activity of the paralegal or associate undertaking the organization or registration.
What information must be reported regarding beneficiaries and company applicants?
In the case of every individual who is a beneficial owner and every individual who is a company applicant concerning a reporting company, the reporting company must disclose:
the full legal name of the individual;
the individual’s date of birth;
the complete address of either:
the individual’s business, in the case of a company applicant who files the document organizing or registering the company in the course of such individual’s business, or, for any other individual, the residential street address used by that individual for tax purposes; and
either the passport number, driver’s license number, or another unique identifying number from a non-expired identification document issued to the individual by a State, local, or Tribal government for identification purposes
In addition to that information, the reporting company must also provide a picture ID for the beneficial owner or company applicant, including the disclosed identification number.
Instead of any beneficial owner or company applicant providing the information described above, the individual who is a beneficial owner or company applicant may provide a FinCEN identifier. The proposed regulations have no guidance on how an individual obtains a FinCEN identifier.
The proposed regulations require updating and correcting information submitted regarding beneficial owners and company applicants simultaneously and in the same manner as updated or corrected reports are required to be submitted by reporting companies.
When is reporting required?
The initial report for domestic or foreign reporting companies must be filed within 14 days of the date of formation or 14 days of registration. For entities that pre-exist the effective date of final regulations, the company's initial report is due no later than one year after the effective date of the final regulations. In the case of an entity that no longer meets the criteria for exemption, the initial report is due within 30 calendar days after the date the exemption criteria are no longer satisfied.
Initial reports must be updated in a variety of circumstances, including:
within 30 days of the date on which there is any change of any information previously provided, including changes of beneficial ownership, as well as any change of the information reported for any particular beneficial owner or applicant;
when the reporting company becomes an exempt entity; and
within 30 days of settlement of the estate of a deceased beneficial owner.
In addition to updating the initial reports for changes in the status of the company, its beneficial owners, and company applicants, reporting companies must also correct inaccuracies and information reported within 14 days after the reporting company becomes aware or has reason to know any required information previously submitted was inaccurate when filed and remains inaccurate. How reporting companies will know or compel disclosure of corrections to the reporting information of beneficial owners and company applicants is unanswered.
The proposed regulations do not dictate the manner or form under which reporting will be done other than to say it be done in the form and manner prescribed in the forms and instructions for the report or application.
What penalties apply to failures to report completely and accurately?
The proposed regulations do not lay out the penalty regime that will apply for failures to report or for inaccuracies in reporting. The proposed regulations say it shall be unlawful for any person to provide or attempt to provide willfully, false, or fraudulent beneficial ownership information or to willfully fail to report, complete, or update beneficial ownership per this section. The proposed regulations clarify that a willful failure to report is subject to a penalty. Persons who direct or control others with reporting obligations will also have violated the CTA.