Many American citizens living abroad have recently been contacted by their U.S. brokerage firms to inform them that their accounts have either been frozen, such that they can no longer change their investments, or that they need to close their accounts entirely.
In many instances Fidelity, Wells-Fargo, Merrill Lynch and others no longer want to deal with non-U.S. resident clients through their U.S. offices. Often there is little in the way of explanation, just a letter in the mail or a phone call from a broker who is following instructions and really doesn’t understand the issue. At the same time, non-U.S. offices of these firms often do not have the knowledge or cannot accommodate accounts such as IRAs or 401ks, or do not offer good investment options or adequate investor protection for regular brokerage accounts.
There are two regulations that govern U.S. brokerage firms’ and banks’ reporting and due diligence responsibilities with respect to dealing with non-U.S. residents: The “Know Your Customer” (KYC) rule and FATCA (Foreign Account Tax Compliance Act) regulations. Each is intended to make financial institutions responsible for ensuring that their clients do not partake in money laundering or tax evasion activities.
Unfortunately, the vast majority of Americans living abroad who are simply trying to maintain U.S. bank or brokerage accounts are also affected since rather than comply with the additional reporting and surveillance burden imposed by these regulations, their financial institution may simply close their account. If the client has many millions of dollars to invest then it is worthwhile for the U.S financial institution to undertake the additional due diligence and reporting but the relationship may not be valuable enough for the large corporation to bother with the extra reporting and oversight.
The Know Your Customer rule mandates, among other things, that a financial institution know the identity and tax status of the account owner and anyone with power of attorney on the account. Furthermore, the transactions within the account need to be monitored for signs of money-laundering activity – which involves deciding what types of transactions are “normal” based on the profile of the account owner and questioning any transactions that do not fall within this criteria. As you can imagine, this is a somewhat arbitrary standard and this is where the difficulty lies for the financial institutions. In addition, it is not just the United States that has KYC rules; other countries have them as well and they may differ from the U.S. rules. So the financial institution also has to worry about the KYC rules in the expat’s country of residence, whereas for U.S.-based clients it is only the U.S. rules that apply.
Then there is FATCA. These regulations, which started phasing in at the beginning of 2013, but have really fully been put into effect in just the last year, are intended to assist IRS efforts regarding tax compliance for U.S. taxpayers with financial accounts outside the United States. In effect, FATCA seeks to turn non-U.S. financial institutions into reporting agencies for the IRS and compels participating institutions to report to the IRS on their U.S. taxpayer-owned accounts or on any account where the owner might be a U.S. person.
While FATCA was intended to help the IRS catch U.S. tax evaders it has actually turned into a global tax compliance effort by many participating countries. In order for FATCA to work there has to be agreement from the government of another country to make available information regarding owners of financial accounts in their jurisdiction to the U.S. government (specifically the IRS).
You may ask how this affects the non-U.S. resident with a U.S.-based account. The answer is that in many cases the agreement that countries have insisted on with respect to FATCA is reciprocal. In other words, a country will say that yes they are willing to exchange information on financial accounts with the United States but the key word is “exchange” – that is, in return, U.S. financial institutions must also agree to provide information regarding their clients who are citizens or residents of the country entering into the FATCA agreement with the United States. This reciprocity is the crux of the whole issue: U.S. banks and brokerage firms have to report to foreign governments on their accounts for residents of these other countries, and in many instances they would rather shut down the account instead of doing the reporting.
Merrill Lynch has recently been sending letters to many of their U.S. citizen clients living outside the United States saying that their accounts will be closed as of a certain date in the very near future. The letter typically states the following:
We have conducted an extensive review of our non-US resident client business to determine whether we had the ability to continue to effectively serve your wealth and investment needs under increasing business requirements and regulatory restrictions. Having completed this analysis, we believe you would be better served by a firm or firms that can meet your comprehensive wealth and investment management needs. Therefore we will no longer be servicing your Merrill Lynch Wealth Management account(s) and/or credit facilities effective _________.
The letter goes on to offer two options:
1. Transfer the accounts to another financial institution.
2. Have the assets distributed to you.
The two options in the letter are easier said than done. The second option may not be very attractive if it is a tax-deferred account like an IRA because there may be substantial tax and possibly early withdrawal penalties should the money simply be distributed. The first option may not be so easy either because there are fewer and fewer U.S. brokerage firms willing to deal with American expats.
So what can you do if you have received this letter or a similar one from another brokerage firm?
The best solution is the first option because if you can find a U.S. brokerage firm or investment advisor who will work with you then the accounts can simply be transferred electronically without tax consequences and without having to sell the underlying investments.
This article is for informational purposes only; it is not intended to offer advice or guidance on legal, tax, or investment matters. Such advice can be given only with full understanding of a person’s specific situation. Tom Zachystal, CFA, CFP™, is president of Individual Asset Management (IAM), a U.S. Registered Investment Advisor specializing in investment management and financial planning for Americans living abroad and is the current president of the Financial Planning Association of San Francisco. Zachystal and Yann Kostic, president of Atlantis Assets Management (AAMI), a U.S. Registered Investment Advisor specializing in investment management and money management for retirees, will give a presentation at Open Circle on Sunday, March 19, 10:30 a.m. They will also host an educational session at the Lake Chapala Society on Monday, March 20, 2 p.m. and present a seminar open to the public on Tuesday, March 21.