It is no secret that the banking sector in Kenya is going through a turbulent operating environment.
Profitability is on the decline due to numerous factors that include interest rate capping, which has significantly reduced their funded source of income. The prolonged electioneering period made the situation worse.
International Financial Reporting Standard (IFRS) 9 that comes into force on January 1, 2018 will add more pressure to banks’ performance. The standard will result in increased loan loss provisioning, which will negatively impact banks’ profitability.
The operating environment has been made even more challenging by a raft of regulations that are both locally and globally driven.
Unfortunately, in such tough operating environment, there is a tendency to focus on revenue generating initiatives while regulatory compliance takes a back seat.
These regulations are too important to ignore. Heightened regulatory activities regarding anti-money laundering and counterterrorism financing in the region has seen US regulators become ruthless to a point of shutting down a major commercial bank in the region.
Banking counterparties like correspondent banks are also pressurising local banks with their own compliance requirements.
They are auditing local financial institutions’ anti-money laundering controls to give them comfort they are worthy counterparties that can clear US dollars on their behalf. Local financial institutions with weak controls are being cut-off through a phenomenon called de-risking.
One of the US taxman’s driven regulatory compliance that seems to have been ignored is Foreign Account Tax Compliance Act (FATCA). This is one US regulation that has most far reaching impact on foreign financial institutions.
FATCA requires foreign financial Institutions and certain other non-financial foreign entities report on the foreign assets held by their US persons account holders. It is aimed at discouraging foreign financial institutions from being used by US persons to avoid US Taxation.
Some of the financial institutions that are supposed to be compliant with FATCA in Kenya include banks, some insurance companies, fund managers and stock brokers. Some pension funds and entities that are substantially owned by US persons are also supposed to be compliant.
This piece of legislation is complex, no wonder there have been significant instances of non-compliance by some Kenyan financial institutions.
One of the compliance requirement that has been ignored is the renewal of FATCA agreement. The initial FATCA agreement expired on December 31, 2016.The US taxman required financial institutions until October 24, 2017 to renew the agreements.
IRS released the list of institutions that complied with registration renewal as of Nov 24, 2017.Astonishingly , close to forty-five Kenyan financial entities failed to renew the agreement. This list includes some notable institutions.
Regrettably, US taxman is treating these institutions as having terminated their FFI agreement as of January 1, 2017.They are recalcitrant (This is term the US taxman like calling non-compliant financial institutions).
Implications of these lapses are dire. Non-compliant institutions will be slapped a 30 per cent withholding penalty on Fixed Determinable Annual or Periodical Incomes originating from the US. Example of these incomes include dividends, interest, royalties and sales commission.
The taxman will go after alimony, scholarship, and fellowship grants as well! The withholding tax will be deducted by withholding agents that includes US correspondent banks or Kenyan financial institutions that have control of such incomes.
Another issue that financial institutions are struggling with is how to handle the existing Americans bank account holders.
Some banks have resulted in closing the accounts of US persons in an effort to reduce the cost of doing the required due diligence, reporting and withholding of the penalties.
Closing bank accounts and not accepting to open new bank accounts to Americans is a short term fix. It should be noted that closing US persons account will in no way exempt banks from FATCA obligations.
Forward-looking banks are investing in robust systems that can support FATCA compliance responsibilities. After all, there are other automatic tax exchange regulations with other countries that are on the way.
Financial institutions will also be required to provide certifications to US taxman that they are compliant with FATCA.