Corporate Transparency Act: What Florida Companies Need to Know

Much has been written about the Corporate Transparency Act (the CTA) in anticipation of its effective date of January 1, 2024. There are several important aspects of the CTA that Florida businesses should be aware of and consider.

Florida businesses should specifically take notice of the comments that the Florida Bar Tax Section (FBTS) submitted to the Financial Crimes Enforcement Network (FinCen) in May 2021 regarding the Proposed Rulemaking to the Beneficial Ownership Information Requirements pertinent to the implementation of the CTA.

Many of the FBTS’s comments were not adopted, which ultimately informed how the CTA will be implemented and its effect on Florida businesses. The following is a synopsis of some of the concerns that FTBS identified in its comments that persist and that all Florida Business owners should be aware of.

1. The CTA defines the “beneficial owner” of an entity, subject to certain exceptions, as “an individual who, directly or indirectly, through any contract, arrangement, understanding, relationship, or otherwise” either “exercises substantial control over the entity” or “owns or controls not less than 25 percent of the ownership interests of the entity.” However, is this definition, including the specified exceptions, sufficiently clear, or are there aspects of this definition and specified exceptions that FinCEN should clarify by regulation? https://www.federalregister.gov/d/2021-06922/p-106.

For instance, the term(s):

1. 1. 1. “Substantial Control” FBTS commented that the concept of exercising “substantial control” over an entity is too broad to be realistically workable because it decouples the control prong from the ownership prong. As such, it was rejected and FinCEN adopted the rule as proposed.The effect on Florida businesses of the adoption of the rule as proposed means that executive officers or senior managers who may not have an equity stake in an entity nor truly be deemed a beneficial owner may need to report as beneficial owners.
      2. “Community Property” FTBS proposed that the CTA clarify whether ownership of an entity that is legally titled in the name of one spouse that would be treated as community property requires the reporting of both spouses. The FTBS’s proposal for clarification was not adopted and FinCEN adopted the rule as Proposed. The CTA reporting rule provides that “beneficial ownership” includes an ownership interest through joint ownership with one or more other persons of an undivided interest in such ownership interest. see 31 CFR 1010.380(d)(2)(ii)(A)).The effect on Florida businesses means that ownership of an entity that is legally titled in the name of one spouse that would be treated as community property may require the reporting of both spouses.
      3. “Indirect Ownership” FTBS proposed that FinCEN clarify the meaning of “indirect” ownership and adopt a linear or proportionate ownership test as described in Internal Revenue Code (the “IRC,” e.g., IRC §§ 267, 707, 318, 958 and 1298), and the accompanying Treasury Regulations. FTBS proposed a “top down” approach in determining indirect ownership as opposed to a “bottom up” approach to avoid treating individuals as having a greater economic interest in the reporting company than they would be deemed to have under a bottom-up approach. FBTS warned against the adoption of constructive ownership tests “as they are generally very complex to administer and would result in administrative burdens for those trying to comply with the CTA.Unfortunately, FinCEN adopted the rule as proposed and failed to adopt any of the terms or clarifications requested by the FBTS. The end result, the CTA does not define the term “indirectly” as it applies to either the ownership test or the substantial control test. This means that an individual within a Florida business could be treated as a beneficial owner without any corresponding ownership interest and without the ability to exercise any substantial control over the entity.
      4. “Right of Inheritance” FBTS proposed that any definition of inheritance also include a beneficial interest under a trust created by another during his or her lifetime or upon death under the terms of such other person’s Will or similar testamentary document naming the subject person as a beneficiary.FBTS comments and recommendations were not adopted by FinCen once again. Instead, FinCEN adopted the rule as proposed. Section 5336(3)(B)(iv) of the CTA provides that an individual whose only interest in the reporting company is through future right of inheritance becomes a beneficial owner when he or she inherits the pertinent ownership interest. In other words, individuals “whose only interest in a corporation, limited liability company, or other similar entity is through a right of inheritance” are exempt from being a beneficial owner.Ambiguity still exists for Florida businesses in the implementation of the CTA with respect to the treatment of beneficial interest created by a right of inheritance through the intestacy laws of a prior deceased owner’s domicile and in failing to resolve the FBTS commented. As such, it is still unclear whether the CTA includes in the meaning of “beneficial owner” the beneficial interest under a trust created by another during his or her lifetime or upon death under the terms of such other person’s will or similar testamentary document naming the subject person as a beneficiary.

2. The CTA contains numerous defined exemptions from the definition of “reporting company.” Are these exemptions sufficiently clear, or are there aspects of any of these definitions that FinCEN should clarify by regulation? https://www.federalregister.gov/d/2021-06922/p-112
   1. “Foreign Entities” FBTS proposed that the exemptions clarify that non-U.S. entities need not report if not registered to do business in the United States, but that such company’s U.S. beneficial owners may be subject to reporting if the company holds an interest in a reporting company.FBTS proposed amendments were not adopted and FinCEN adopted the rule as proposed. The CTA defines Foreign Reporting Companies are entities formed under the law of a foreign country that have registered to do business in the United States by the filing of a document with a secretary of state or any similar office.Florida businesses should be aware that non-U.S. entities not registered to do business in Florida that hold an interest in an entity registered in Florida may be required to report the beneficial owners of the non-U.S. entity. The beneficial owners of foreign entities that hold an interest in a Florida entity should seek counsel regarding their reporting obligations and plan accordingly.
   2. “Administratively Dissolved Entities” FTBS proposed that the Regulations specifically exempt entities administratively dissolved by the Secretary of State of the applicable jurisdiction.FinCEN adopted the rule as proposed without addressing the concerns of commentators, including the FTBS regarding the treatment of temporarily or permanently dissolved or terminated entities. FinCEN reasoned that “the variety in types of termination and degrees of finality under state laws would require numerous special rules for small variations and would still result in confusion if any circumstance were inadvertently unaddressed.” https://www.federalregister.gov/documents/2022/09/30/2022-21020/beneficial-ownership-information-reporting-requirements at p. 4.The end result is that despite the FBTS comments that many of Florida companies that are administratively dissolved are in fact, inactive entities. Nonetheless, based on FinCEN adoption of the proposed rule, Florida business owners whose entities have been administratively dissolved for lack of payment of the annual fees payable to the Florida Secretary of State are not exempt from the reporting requirements of the CTA.
   3. “Small Business Exemption” FTBS proposed the adoption of a rule defining a small business exemption that would exempt from CTA reporting any business concern that: (1) employs at least 2 full-time employees in the United States, which employees have been employed by the company for at least 12 months; (2) files income tax returns in the United States demonstrating more than $100,000 in gross receipts or sales that are not derived from a passive activity; and (3) has an operating presence at a physical office within the United States. FBTS reasoned that a small business exemption would provide a safe harbor for legitimate small businesses entities whose proprietors may not be aware of the CTA, are not sophisticated enough to understand the CTA and are not in a position to retain an attorney to advise them regarding CTA compliance.Although FinCEN failed to adopt the rule as proposed, the proposed rule addresses many of the FTBS concerns regarding the effect that CTA’s implementation will have on small business.Unfortunately, despite the concerns about the lack of sophistication and ability to obtain legal counsel that a small business entity may have to know and comply with the reporting requirements of the CTA, small business entities registered in Florida will nonetheless be required to comply with the CTA.

3. Next Steps The FBTS in its comments to the Proposed Rulemaking to the Beneficial Ownership Information Requirements identified several concerns regarding ambiguities in the implementation of the CTA in the areas of the meaning of “beneficial ownership” and “exemptions” from the reporting requirements. Based on the need for further clarification and ambiguity in some of the definitions as noted above that were not adopted by FinCen, Florida business owners should seek counsel to understand their reporting responsibilities in these areas and comply with the CTA accordingly.