BY JOHN "CHRIS" KAROW and MIKE C. WEINBERG
The insurance industry is facing a looming regulatory compliance deadline for a complex rule that could have substantial consequences for its core business activities. Yet, the industry as a whole is behind in its preparations.
With a Jan. 1, 2014 deadline, insurers have only a few months to design and implement a plan to comply with the U.S. Foreign Account Tax Compliance Act (FATCA), and many have yet to begin the process.
Given this extremely low level of preparedness and the potentially significant impact on operational processes, systems, distribution channels and customers, FATCA implementation may pose major challenges for the insurance industry.
According to a recent Ernst & Young poll of both life and property and casualty (P&C) insurers, nearly 60 percent of respondents said that FATCA would have a moderate or significant impact on their business.
However, only 5 percent have begun to implement the changes necessary to become compliant with FATCA, and 17 percent have not even begun planning.
Nearly one-third of respondents said they deferred all activities until the regulations were officially released on Jan. 28, 2013. However, there is still time to install critical changes to the client onboarding processes and systems, even for companies that are just beginning or have yet to start their planning.
FATCA requires U.S. insurers to meet new client onboarding requirements as well as new documentation and withholding processes for financial services payments. If an insurer fails to meet these requirements, it faces a 30 percent withholding penalty on its activities and those of its customers. Since life insurers sell annuities and cash value insurance contracts with income and payments that are covered by FATCA, they will be affected more than P&C firms.
P&C firms, however, will still be impacted: Both life and P&C firms will have to ensure the compliance of the entities with which they do business across a range of financial services related activities including payments for reinsurance, investments and derivatives.
Life and P&C insurers will also have to gather information on these entities to validate their participation in FATCA, and implement withholding mechanisms for those that do not provide required documentation. Both also must file detailed annual reports and additional customer tax reporting with the Internal Revenue Service.
Part of the challenge for insurers in moving forward with a FATCA compliance program is reflected in internal ownership of the programs.
Of the insurance executives who participated in EY's poll, nearly 40 percent said that the Tax Department is in charge. A further 31 percent indicated they don't know who is running the FATCA program.
This lack of business ownership may be contributing to the limited number of companies that are prepared to move into implementation. While the complexity and multi-disciplinary nature of managing a FATCA implementation belongs in the hands of departments used to running large initiatives, as well as direct involvement from the C-suite, insurers must act decisively today -- regardless of which part of the organization is charged with implementation.
FATCA's requirement that financial institutions document and classify clients and other payees will have a significant impact on business relationships, client and counterparty onboarding, the back office, and other operations.
If not handled prudently, this could damage relationships with existing customers, or make new customers turn away at the door. The combined involvement of businesses, operations and technology teams is required to avoid this -- and bringing these resources together means the C-suite should be a key sponsor of this program.
The sheer number and complexity of the tasks to be accomplished argues for leadership from the top. We suggest that insurers follow the nine-step process outlined here to move forward with implementation:
1. Analyze existing populations of clients and relationships with other financial institutions, as well as the volume of new contracts, to help determine the scale of FATCA's impact.
2. Clearly understand product and payment scope to identify each legal entity's responsibilities.
3. Designate FATCA "Responsible Officers" for your firm's foreign entities, and begin planning out the process of registering those entities with the IRS.
4. Organize the effort and address governance across businesses as well as tax, compliance, legal, operations, and technology departments; then analyze the impacts of FATCA on your business and develop an implementation and resource plan to meet the required deadlines.
5. Identify critical path activities, dependencies and resourcing gaps.
6. Translate the final regulations into business and functional requirements that are meaningful to your business unit, including:
* Changes to new account onboarding and account monitoring processes;
* Changes in counterparty and financial services payment processes;
* Payment withholding processes for U.S. onshore activities; and
* FATCA compliance program and FFI certification process.
7. Establish a robust communication program around FATCA -- internally to key stakeholders and customer-facing staff as well as externally to clients, client distributors, and relevant training programs.
8. Inventory, analyze and revise third-party service provider agreements. Review provider, customer policy/subscription, distributor and other legal agreements to determine what revisions are needed for withholding and reporting activities.
9. Plan for 2014 and beyond to develop additional reporting and withholding processes.
The time has come for insurance companies to begin implementing their FATCA plans, which first begins with establishing oversight of their FATCA program at the top of the management hierarchy. There's still time to make significant progress ahead of this important deadline.
"Chris" Karow is a partner at Ernst & Young LLP.
Mike C. Weinberg is a senior manager at Ernst & Young LLP.
June 28, 2013
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