This article is not meant to be a comprehensive review of what you need to know about compliance with the new Corporate Transparency Act (CTA). This week we look at beneficial ownership, control, and influence. Next week we will examine how to calculate ownership percentages for reporting purposes, the reporting requirements, the steps needed to accomplish compliance, and how to file your report.
The Corporate Transparency Act (CTA), effective January 1, 2024 (Effective Date), is intended to aid law enforcement in combatting illicit activity conducted through anonymous shell companies. It requires certain privately held entities to report beneficial ownership information (BOI) to the US Treasury Department's Financial Crimes Enforcement Network (FinCEN). The reporting requirements are intended to apply broadly and impact small companies.
Beneficial Owners:
A beneficial owner is any individual who, directly or indirectly, either exercises substantial control over the reporting company or owns or controls 25% or more of the ownership interests of the reporting company. Accountants and lawyers generally do not qualify as beneficial owners because ordinary, arm's-length advisory or other third-party professional services to a reporting company are not considered to be substantial control. However, the general counsel in a reporting company is a senior officer of the company and therefore a beneficial owner.
What does substantial control really mean?
The term substantial control under the CTA is not necessarily the same as the concept of control under other federal statutes, including the federal securities laws. A reporting company must identify any individuals who, directly or indirectly, have substantial control over the reporting company in its BOI report (31 C.F.R. § 1010.380(d)). FinCEN stated in the Final Reporting Rule that it expects all reporting companies to identify at least one individual with substantial control.
As a default answer, an individual exercises substantial control over a reporting company if the individual serves as a senior officer of the reporting company. Substantial control means that person has authority to appoint or remove any senior officer and/or a majority of the reporting company's board of directors or similar body.
Further, substantial control can be seen in someone who directs, determines, or has substantial influence over important decisions made by the reporting company or has any other form of substantial control over the reporting company.
Ask yourself this question to determine substantial control: Who is really pulling the strings? The person may not have a title or position as an officer or director, or even been seen walking the halls, but if that person’s desire is made known, whatever it may be, it gets done, no questions or pushback. That person has substantial control…. And must be reported.
Senior Officers
Typically, senior officers of a company are considered to hold traditional titles, such as President, Chief Financial Officer, General Counsel, Chief Executive Officer, and Chief Operating Officer. Keep in mind that any officer, regardless of title, who performs a similar function is considered an officer of the company.
FinCEN notes in the Final Reporting Rule that, for an individual who does not hold one of the officer positions listed above, an individual's title is not determinative of whether they are a senior officer. Rather, the determination is made based on whether the individual exercises authorities or performs the functions of a senior officer (31 C.F.R. § 1010.380(f)(8)). Entities such as LLCs and limited partnerships (LPs) do not have traditional officer roles like in corporations. Any individual within an LLC or LP exercising authority or performing the functions of a senior officer would still qualify as a senior officer under the CTA.
Substantial Influence
FinCEN’s FAQs state that determining whether a particular director of a reporting company has substantial control is made on a director-by-director basis. Substantial influence is exhibited in some of the following ways:
· Making decisions as to the nature and scope of the business,
· Selling or leasing assets,
· Making major purchases, expenditures, or investments,
· Issuing equity or incurring significant debt, and/or
· Determining geographic business lines or ventures.
These persons make important decisions that are consistent with substantial control like approving an operating budget, compensation schemes and incentive programs, entering into or terminating substantial contracts, or amending any reporting documents as to the company’s governing documents, policies, or procedures.
Substantial control can be seen in exercising control over one or more entities, intermediary or not, or collective control over the reporting company, as well as making financial arrangements, securing business relationships with persons or businesses, and any establishment of contracts, arrangements, understandings or substantial relationships with others that influence the reporting company or affects the reporting company.
These examples are set out in the Final Reporting Rule, which has a non-exhaustive list of examples where an individual may directly or indirectly exercise substantial control over a reporting company, including through board representation or as a trustee of a trust or similar arrangement (31 C.F.R. § 1010.380(d)(1)(ii)). Individuals may exercise substantial control over a reporting company through their ownership or control of the reporting company's entity owners by, for example, controlling the exercise of a veto or blocking right over important decisions the reporting company makes.
We are here to help.
Compliance with the CTA may seem overwhelming, considering this is one third of the information about this regulation. The Law Office of J.R. Smith has checklists, questionnaires, and templated forms for each entity required to comply with this required filing and our experienced professionals are here to facilitate understanding and compliance. Contact us today at info@lojrs.com or 682-900-1799 to schedule your CTA Compliance Meeting, a CTA compliance presentation, and/or speaking engagement on this topic.
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