Andrew Weiner joins host Joel Simon for the first of two episodes devoted to the Corporate Transparency Act (CTA). In this episode, Weiner discusses the CTA’s purpose, what led to its passage, and how it intersects with Customer Due Diligence (CDD) rules and the FinCEN’s Know Your Customer (KYC) requirements.

(Editor’s note: transcript edited for clarity.)

A Deep Dive into the CTA (Part 1)

Hi, and welcome to Pillsbury’s Industry Insights podcast, where we discuss current legal and practical issues in finance and related sectors. I’m Joel Simon, a partner at the international law firm Pillsbury Winthrop Shaw Pittman. Today, I’m joined by Andrew Weiner, a partner in Pillsbury’s real estate group. Andy represents domestic and foreign clients in equity and debt transactions, the creation of real estate funds and joint ventures, and transactions involving distressed real estate. He has deep experience in the hospitality and REIT sectors and in leasing. Andy’s clients have included funds, family offices, institutional lenders, universities, non-U.S. investors, and New York City developers. Welcome to our podcast, Andy.

Andrew Weiner: Hello. It’s great to be here, Joel, thank you for having me.

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Joel Simon: I know you’re a real estate transactions lawyer, but today I’m really interested in learning about a new legal development that spans multiple practice areas and is industry agnostic. And I know from reading some articles you’ve written and a presentation I attended, that you’ve really gotten a jump on this evolving story? What can you tell us about the Corporate Transparency Act?

Weiner: Historically, except for regulated companies and industries, the creation and administration of private legal entities in the United States was a simple act and did not require disclosure publicly or to any governmental authority of the entity’s ultimate beneficial ownership and control. This allowed efficiency and privacy, both legitimate and perennial goals. However, increasingly since 9/11, the shielding of this information has been seen as a problem. The concern is that secrecy facilitates money laundering, financing terrorism, and tax evasion, both within the U.S. and internationally. The trend has been for increased disclosure. The fact that the U.S. was graded as non-compliant, the lowest rating, by FATF, the preeminent international intergovernmental agency in the field, has pressured the United States to seek a more robust disclosure regime, as have complaints by law enforcement entities in the in U.S.

One major development was the institution of government mandated customer due diligence rules, or KYC [Know Your Customer], which financial institutions had to adopt in vetting their customers. The Financial Crimes Enforcement Network, or FinCEN, a bureau of the U.S. Department of the Treasury, has been tasked with much of the administrative burden of this disclosure. This was not considered adequate by many. For several years, there has been a behind-the-scenes tug of war among concerned parties, particularly as to whom should bear the costs and liabilities of disclosure. In particular, financial institutions objected to their role as gate keeper for disclosure under the customer due diligence rules. Attorneys successfully lobbied, more or less, to keep themselves out of the line of fire. And regulated industries argued for exemptions from any new obligations on the basis that they already were adequately supervised. The bubble burst with the adoption by Congress on January 1 of this year, 2021, of the Corporate Transparency Act as part of the National Defense Authorization Act of 2021. As the tail on a massive defense funding dog, there was not much advance public discussion. The CTA will effect the broadest expansion of disclosure obligations in two decades since 9/11. This upshot is that business entities themselves are now the parties who will bear the brunt of the disclosure obligations.

Simon: What does the CTA do?

Weiner: The CTA instructs FinCEN to create a beneficial ownership registry—a secure, non-public database containing information provided by reporting companies (a defined term) naming individuals who are direct or indirect beneficial owners (another defined term). While the database is not publicly accessible, it is available to FinCEN and other federal, state and, with some limitations, non-U.S. law enforcement agencies, including tax authorities, subject to some exceptions and provisions intended to facilitate security of this information. Financial institutions will also be entitled to access information if their borrower consents. The information to be provided as to each individual beneficial owner is full legal name, date of birth, current address, and a unique identifying number such as a passport or driver’s license. Among other things, this will centralize information about each individual by providing a one-click a list of the entities in which he or she has a material ownership or control interest. This of course has raised privacy concerns since the information is unverified and not subject to Fourth Amendment constitutional law of scrutiny. Moreover, the information needs to be collected and stored by the reporting entity and may be subject to subpoena issued to or means unauthorized by the entity. Note that lending institutions are already beginning to require potential borrowers to agree to a forward consent to disclosure of database information. This is likely to become a near universal requirement.

Simon: This sounds like it could affect pretty much every small business and probably every new entity that is formed. My understanding is that it does not apply to larger or more established companies. But it would seem that funds, new investment vehicles, and almost any typical startup business would be required to report information that has historically been kept secret. Why is this such an important development?

Weiner: Joel, your question is the right one, but it can’t be answered without a fuller description of the CTA. The CTA will not become effective until regulations are issued, which is directed to occur by the end of 2021. It is also only a skeleton of the actual disclosure requirements. Many important issues, some of which we will discuss, will only be clarified in the regulations. With that caveat, on the top of my list of questions is what entities must make disclosure. Only so-called reporting companies must disclose their beneficial owners. The statute defines this term as a corporation, limited liability company, or similar entity. The term similar entity is to be clarified in the regulations. It is virtually certain that limited partnerships must disclose, but the rules as to trusts, non-U.S. companies, etc. are up in the air. Most interestingly, as to non-U.S. companies, a non-U.S. company is not a reporting company and has no need to disclose unless it has qualified to do business in the U.S. This could be a substantial loophole since it could make non-U.S. parent companies a blocker whose owners and control parties need not be disclosed. This is one of the most significant matters to be clarified in the regulations.

On top of this, there are at least 23 classes of entities exempt from the obligation to disclose. The theory is that these entities are already adequately regulated or too harmless to bother with. Perhaps it also indicates the strength of their lobbyists. Here are a few examples. Public companies who file under enumerated provisions of the Securities Exchange Act of 1934 are exempt, thus many foreign public companies are not necessarily exempted. Another exemption—an entity that is (1) a U.S. person, (2) employs more than 20 full-time employees in the U.S., (3) files income tax returns showing that more than $5 million in gross receipts or sales, and (4) has a U.S. operating presence in a physical office in the U.S. is exempt. Note that newly formed entities will not have filed tax returns and, at least on a read of the exact language, would not be exempt. Other exempt entities—banks, investment advisors, insurance companies, public utilities and many not-for-profit entities, registered investment companies, and investment advisors. Now as to funds, pooled investment vehicles operated or advised by these exempted entities are exempted themselves, which will be very important for the funds industry. And 100%-owned subsidiaries of most exempted entities are themselves exempt. Note that involvement of an exempt company in a reporting company will generally still have to be reported, even if no individual must be named. But the exempted entity’s owners and control parties will generally not have to be disclosed.

A special requirement is imposed on entities that would act as a government contractor. Within two years of the effective date of the CTA, any contractor or subcontractor subject to the reporting requirements of the Federal Acquisition Regulation must disclose its beneficial ownership prior to issuance of the contract award. The exemptions above do not seem to apply here, but regulations will clarify this.

Simon: This is a great start for a discussion on an important topic. With so much more to talk about on the CTA, let’s make this a two-part episode and continue our conversation next week.

Weiner: Thanks for having me join you, Joel.

Simon: And here’s one last bit of news. Now, for the first time, you can catch all our podcasts episodes on some of your favorite podcast streaming apps, Spotify, Apple Podcasts, and Amazon Music. With more to come soon. Until next time, thank you for listening to Pillsbury’s Industry Insights Podcast.