Determining Whether Your Entity is a Reporting Company: Selected Issues

The article was originally posted on November 29, 2023 and has been updated to reflect changes that went into effect in 2024.

Under the Corporate Transparency Act (CTA), more than 30 million “Reporting Companies” will need to register with FinCEN (a bureau of the U.S. Treasury Department) and file Beneficial Ownership Information (BOI) reports during 2024. With certain important exceptions discussed below, these BOI reporting requirements apply to all existing corporations, LLCs, or other legal entities that are formed in the U.S. or that have significant operations in the U.S.

Background

The CTA was enacted January 1, 2021 and took effect starting January 1, 2024. The Act is administered by FinCEN, an agency charged with combatting money laundering and other financial crimes. All BOI reports must be submitted through a FinCEN online platform that employs a questionnaire format to elicit the requisite information.[1] FinCEN will use that information to construct and maintain a massive data base to which law enforcement and financial institutions will have access but which otherwise is to be protected against public disclosure.

The BOI report must identify the various individuals who are deemed to be the Reporting Company’s “Beneficial Owners.” That status extends to senior officers and other control persons, as well as individuals who (directly or indirectly) own or control significant equity or voting interests in the entity. For each covered individual, the BOI report must contain or reference the following personal information: full legal name, date of birth, residence address, and a government ID number from a nonexpired driver’s license, passport, or other approved ID document, together with a legible image of that ID document. In the case of Reporting Companies newly formed on or after January 1, 2024 (but not older entities), the BOI report must also disclose similar personal information for up to two “Company Applicants” – defined to cover the individual who directly files the formation paperwork for the entity plus the individual (if any) who had primary responsibility for directing or controlling that filing.

Every U.S. entity (and every non-U.S. entity that registers to do business in at least one State) is presumed to be a Reporting Company under the CTA and the associated CTA Rule[2] unless the entity is exempt or excluded from such treatment. This article discusses how to determine whether an entity is, or is not, a Reporting Company under the CTA, and various complex issues that can arise in connection with that determination.[3]

Is Your Company an Exempt Entity?

The CTA lists 23 categories of entities that are exempt from the definition of Reporting Company and thus not required to file BOI reports. FinCEN’s Small Entity Compliance Guide provides a helpful explanation of these 23 categories.[4] A partial, simplified list follows:

a). SEC-reporting public companies;
b). “Large operating companies” with at least 21 full-time employees in the U.S. and more than $5 million in U.S. sales as reported in the previous year’s tax return or information return;
c). Banks and other regulated financial institutions; SEC-registered broker-dealers; SEC-registered exchanges and clearing agencies; SEC-registered or SEC-reporting investment advisers; and SEC-registered mutual funds and other SEC-registered investment companies;
d). Venture capital funds and other pooled investment funds if operated or advised by any of the foregoing regulated entities in (c) above;
e). Insurance companies and State-licensed insurance producers;
f). Tax-exempt organizations;
g). Governmental agencies or entities;
h). Subsidiaries that are wholly-owned or otherwise wholly-controlled by any of the exempt entities listed above, other than (d); and
i). Certain inactive entities with no assets whatsoever and no non-U.S. owners.

Here are further details on three of those categories:

(b) Large Operating Companies: This category will exempt many private companies.[5] A candidate for this exemption faces several points of possible disqualification:

• There must be at least 21 employees who (i) are true employees (not contractors or leased employees), (ii) are employed by the entity itself (and not by a parent or subsidiary), and (iii) work “full-time”[6] within the United States.
• The entity (i) must have filed (or been part of a consolidated group that filed) a federal income tax return or information return for the previous year[7] and (ii) must have had (or its consolidated group must have had) more than $5 million of gross receipts or sales (net of returns or allowances) as reported on such tax return, excluding gross receipts or sales from sources outside the United States (all as determined under Federal income tax principles).

If the entity starts out qualifying but later loses the exemption (for example due to a workforce reduction or the filing of a tax return showing inadequate gross receipts), it must file its initial BOI report within the applicable deadline. Conversely, if an entity (such as an early-stage startup company) experiences growth that then allows it to qualify for this exemption, it must promptly update its earlier BOI report to declare that it now is exempt.

Even if a particular company qualifies for this exemption, its parent company might not – such as where the parent company does not itself have at least 21 full-time U.S. employees.

(h) Subsidiaries: To qualify for this exemption, “the ownership interests” in the subsidiary must, directly or indirectly, be “controlled or wholly owned” by one or more qualifying exempt entities. Potential issues here include the following:

• The term wholly owned seems self-explanatory, and likely would apply even where stock in the subsidiary is pledged as security for a commercial loan – at least until such time as the lender asserts ownership or control of that collateral.[8]
• Control is not as clearly defined but would need to extend to “the” ownership interests, meaning all of them. If nominal ownership of stock is held by another – such as where directors are obligated by law to own at least some qualifying equity interest – but ultimate voting control on all significant matters resides within an exempt parent company, then the parent company would seem to have requisite control of the ownership interests.
• If two or more companies form a joint venture that operates through an entity that otherwise would be treated as a Reporting Company (for example, where they form an LLC), that jointly-owned entity should qualify as an exempt subsidiary if each co-venturer is itself an exempt entity.
• Note that the subsidiary exemption concept works in only one direction. Take the example of an exempt “large operating company” (discussed above). Its subsidiary will generally be exempt, but its parent company will often not be exempt unless it separately qualifies (such as if it too has at least 21 full-time employees in the U.S. and otherwise meets the conditions under item (b) above).
• Note also that the subsidiary exemption does not extend to subsidiaries of pooled investment vehicles (item (d) above).
• Note that a subsidiary of an excluded entity (such as a general partnership or most trusts) will not qualify for this exemption unless, for example, the excluded entity happens to qualify as a “large operating company” under item (b) above.

(i) Inactive Entities: This is a very narrow exemption, with many points of possible disqualification. The entity:

• Must have been in existence by January 1, 2021.
• Within the prior 12 months (i) must not have had any change in ownership and (ii) must not have sent or received more than $1,000 of funds, whether directly or through any financial account in which it or any of its affiliates had an interest; and
• Must currently have (i) no business activities, (ii) no assets whatsoever (including any ownership interest in another company), and (iii) no non-U.S. owners (directly or indirectly).

Is Your Company an Excluded Entity?

The term “Reporting Company” does not reach U.S. entities formed (as a matter of law) without filing a formation document with a State[9] governmental agency. Thus, a general partnership is an excluded entity, as are most trusts.[10]

What About Foreign Entities?

An entity formed under the law of a foreign country is an excluded entity under the CTA unless and until it first registers to do business in at least one State by filing a document with the secretary of state or similar official. A foreign entity doing business in the U.S. without any such registrations (even if in violation of State registration requirements) is not treated as a Reporting Company. Once registered, however, a foreign entity is deemed a Reporting Company unless (as discussed below) it qualifies for an exemption. A foreign Reporting Company must file a BOI report even if none of its senior officers or other Beneficial Owners are located in the U.S. A foreign entity that first registers in the U.S. on or after January 1, 2024 will also need to identify the Company Applicants who filed the first registration paperwork.

As with domestic entities, a foreign entity that has registered to do business in at least one State (and thus would otherwise be treated as a Reporting Company) can qualify for the various exemptions described above.

• For example, if the foreign entity has qualified to do business in at least one State, files a federal income tax return, reports on that return more than $5 million of gross receipts or sales from U.S. sources, and has at least 21 full-time employees in the U.S., then it should qualify as exempt from BOI reporting requirements.
  • • Most foreign companies that wish to do business in the U.S. find it convenient to form a U.S. entity (typically structured to be taxable as a C corporation) through which to conduct that business. In that case, the normal CTA requirements for domestic companies will apply to the affiliated entity, with one or more foreign individuals named as Beneficial Owners.
• Notably, a non-U.S. entity registered in at least one State can qualify for the “pooled investment vehicle” exemption but, if so, must still file a modified BOI report that contains all of the normally required information except that (i) the entity need not identify any Company Applicants and (ii) it can elect to identify just one Beneficial Owner, that being the one individual who has the greatest authority over the strategic management of the company.

What About Future Changes in Status?

If an exempt entity loses its exemption and fails to qualify under any other exemption category, then the entity must promptly file an initial BOI report, with all requisite information.

If, after filing its initial BOI report, a Reporting Company later qualifies for an exemption from Reporting Company status, this change triggers the need to file an updated report. To that end, FinCEN’s published draft form of BOI report includes a line item for a Reporting Company to report that it is a “newly exempt entity.”

If a Reporting Company dissolves or terminates, FinCEN has stated that it “does not expect a reporting company to file an updated report upon company termination or dissolution.” The published draft form of BOI report contains no line item for a Reporting Company to report that it no longer exists. It should be noted that dissolving and winding up a business can be a lengthy process. Along the way, many dissolutions involve a change in board composition, the departure of officers, and a change in address. All such changes must be reported promptly through an updated filing. Once final distributions have been made to shareholders or other owners, some or all of those who formerly were significant owners might no longer be Beneficial Owners of the entity, a change that should prompt an update. Eventually, the conditions for the “inactive entity” exemption may be met, but by that time there would typically be no entity left to make a filing.[11]

If a foreign Reporting Company withdraws all of its registrations to do business in the U.S., it arguably reverts to being an excluded entity. The draft form of BOI report has a line item for being newly exempt but not for being newly excluded. It is unclear whether the foreign entity can stop filing updates once it no longer has operations or an address in the U.S.

Summary Thoughts

It is unlawful for “any person” to willfully fail to report complete or updated beneficial ownership information to FinCEN in accordance with the CTA requirements. The Act provides for a civil penalty of up to $500 for each day that the violation continues or has not been remedied, and criminal sanctions consisting of a fine up to $10,000, imprisonment for up to 2 years, or both.

The entity is responsible for making a proper determination of reporting status and, if a Reporting Company, to file timely and accurate BOI data. Says FinCEN:

[T]he structure of the CTA reflects a deliberate choice to place the responsibility for reporting this information on the reporting company itself.

Even so, civil and criminal penalties under the Act can extend not only to the Reporting Company but also to its senior officers or to any other “person” (whether an entity or individual) found to have caused the Reporting Company to violate the CTA – including by withholding information or providing false information.

An entity that is uncertain about whether it qualifies as exempt or excluded should consult with legal counsel. Entities already existing before 2024 have until late 2024 to make these determinations and can hope to receive further guidance from FinCEN in the meantime. Newly-formed entities have a much shorter timeframe within which to make judgments[12] and should add these issues to their formation planning checklist. Whether already existing or yet-to-be formed, an entity that is or might be a Reporting Company should leave sufficient time to (i) determine what individuals will or might be considered Beneficial Owners, (ii) collect the requisite personal information from those deemed to be Beneficial Owners, and (iii) manage frictions that could arise from recalcitrant individuals who resist providing such information.