The Corporate Transparency Act (the “CTA”) is designed to combat illegal financial activity by identifying individuals who utilize complex corporate formalities to obscure their illegal purposes. When it becomes effective on January 1, 2024, it will impose new transparency reporting requirements on most individuals organizing businesses in the U.S., including real estate investors and business owners in Colorado.
- Quick Facts.
- Malign actors use shell companies in the U.S. to participate in illegal activities like money laundering, terrorism, fraud, and human trafficking.[1]
- Approximately 30% of high-end, all-cash, real estate purchases in six major U.S. metropolitan areas involved a company whose Beneficial Owner FinCEN previously linked to suspicious activities.[2]
- Overview of the CTA.
At its core, the CTA requires certain companies, particularly smaller businesses and those with a limited physical presence, to disclose their Beneficial Owners to the Financial Crimes Enforcement Network (“FinCEN”), a bureau of the U.S. Department of Treasury.
- Which Companies Need to Report Beneficial Ownership Information?
Corporations and LLCs formed under a state statute and foreign corporations and LLCs that are registered to do business in the U.S. must report Beneficial Ownership Information (“BOI”) to FinCEN.[5] The CTA defines those corporations and LLCs as “Reporting Companies.” [6] In other words, most businesses registered with one of the Secretaries of State are required to report information pursuant to the CTA.
However, 23 entities that would otherwise be categorized as Reporting Companies are exempt from the reporting requirements, including the following:
- Businesses that are already heavily regulated, like banks, insurance companies, or registered investment companies;
- Large businesses meeting specific criteria, like companies with a significant number of employees, a substantial operating presence, and substantial gross receipts or sales; and
- Businesses or entities formed under specific conditions or for particular purposes that are deemed lower risk for illegal activities, like governmental authorities or charitable non-profits.[7]
- Who is a Beneficial Owner?
A “Beneficial Owner” is an individual. [8] In other words, a Beneficial Owner must be a natural person and not an entity. An individual is a Beneficial Owner if he or she (1) exercises “Substantial Control” over the Reporting Company, or (2) owns at least 25% of the ownership interests of a Reporting Company.[9]
- Substantial Control.
The CTA does not define “Substantial Control,” however FinCEN has issued guidance that clarifies its definition.[10] An individual has Substantial Control over a Reporting Company in four different ways:
- Holding a senior officer position, like a President, CEO, CFO, General Counsel, or an equivalent role;
- Having the power to appoint or remove senior officers or a majority of the company’s directors;
- Being an important decision-maker for the company; or
- Having any other significant form of control as detailed in FinCEN’s Small Entity Compliance Guide.[11]
A Reporting Company must report all individuals who exercise any of the four different forms of control, so there is no limit on the number of individuals a company can report.[12]
- Ownership.
An individual is also a Beneficial Owner if he or she owns at least 25% of a Reporting Company, which includes a broad list of arrangements like equity, voting rights, profit interests, convertible instruments, options to buy any of the foregoing, and any other instrument that may establish ownership.[13]
- Tracing the Chain to the Beneficial Owners.
To the extent multiple companies own a Reporting Company, the Reporting Company must trace the ownership chain back to the individual level.[14] To trace the chain, a Reporting Company must determine whether an individual, at any level of ownership, either directly or indirectly owns 25% or more of the Reporting Company or exercises Substantial Control over it. This determination continues through each layer of ownership until the Reporting Company has identified all Beneficial Owners. To illustrate how to trace the chain of ownership, we’ve included an example below for a fictitious Reporting Company, “Mountain View.”
In the foregoing example, Emily White and John Doe are both indirect Beneficial Owners of Mountain View, by virtue of their ownership interests. Emily White owns 30% of Mountain View via her interest in Valley Tech, which, in turn, has an interest in Alpine Holdings; and John Doe owns 40% of Mountain View via his interest in Summit Enterprises.
However, Alice Johnson and Bob Smith are not Beneficial Owners. Via their interests in Peak Finance Corp, which, in turn, has an interest in Alpine Holdings, Alice Johnson only owns 9% of Mountain View and Bob Smith only owns 21%; both of which are below the 25% threshold. We traced the chain of ownership to Emily, John, Alice, and Bob because there were no “individuals” at the first level of ownership of Mountain View, and we repeated the process until we identified all Beneficial Owners.
While tracing the chain of ownership is relatively straightforward, tracing a chain of Substantial Control is murkier. For example, it is unclear whether a Reporting Company must report individuals who indirectly exercise Substantial Control over a Reporting Company by virtue of their ownership interest in, or Substantial Control over, an entity that exercises Substantial Control over the Reporting Company. However, a Reporting Company can minimize its risk, by erring on the side of reporting such individuals.
- What Information Must be Reported for Beneficial Owners?
Reporting Companies must provide FinCEN with identification information for each of their Beneficial Owners. The report with FinCEN must include the following for each Beneficial Owner:
- Full legal name;
- Date of birth;
- Current residential or business street address on the date of the report; [15] and
- Either:
- A unique identifying number from an identification document (like a passport or driver’s license); or
- A FinCEN identification number. [16]
- Company Applicant.
The CTA also requires Reporting Companies to report their Company “Applicants” to create a record of the individuals responsible for creating companies.[17] A Reporting Company will only have between one and two Company Applicants.[18] The Company Applicants are the individuals who directly file the documents to create a Reporting Company (e.g. the individual actually filing articles with the Secretary of State) and the individual directing or controlling the foregoing filing (e.g. a business partner, an attorney, or accountant).[19] Company Applicants are distinct from Beneficial Owners, but the Reporting Company is required to provide the same information about its Company Applicants as its Beneficial Owners.[20]
- Deadlines.
Reporting Companies are subject to three different deadlines for reporting their Beneficial Owners, depending on the date their Company Applicants organized them:
- Companies existing before January 1, 2024: These companies must file their initial Beneficial Ownership information report by January 1, 2025.[21]
- Companies organized between January 1, 2024, and December 31, 2024: These companies must file their initial report within 90 calendar days of receiving notice that the company is effective.[22]
- Companies organized on or after January 1, 2025: These companies must file their initial report within 30 calendar days of receiving notice that the company is effective.[23]
- Ongoing Reporting Requirements Under the CTA
In addition to the initial reporting obligations, the CTA imposes ongoing reporting requirements. Reporting Companies must update their Beneficial Ownership Information within 30 days of any changes in Beneficial Ownership,[24] including the owners of the company, the company’s name, or even changes to a Beneficial Owner’s identification information.[25]
- Implications for Your Business in Colorado
For small business owners and real estate investors in Colorado, particularly those using LLCs for transactions, the CTA introduces mandatory transparency obligations with regard to ownership and control. Deliberate failure to comply with these obligations exposes violators to civil penalties of up to $500 per day and criminal penalties of up to two years in prison.[26]
Particularly in the Mountain Communities of Colorado, such as Pitkin County and Eagle County, the CTA’s implications could be significant. These areas, known for their high-value real estate markets, often attract a considerable amount of foreign investment. The CTA could play a role in increasing transparency in these transactions. By mandating the disclosure of Beneficial Owners, the CTA may ferret out potentially nefarious actors who are participating in these markets. The enhanced scrutiny could lead to a more transparent, trustworthy, and secure investment environment in our mountain communities.
Whether you’re starting a new business or managing existing real estate in Colorado, understanding the CTA’s requirements is crucial. Please contact Garfield & Hecht if you have questions about its implications to your business or investments.
[1] Corporate Transparency Act, H.R. 6395, 116th Cong. § 6401 et seq. (2020).
[2] Financial Crimes Enforcement Network, FinCEN Renews Real Estate “Geographic Targeting Orders” to Identify High-End Cash Buyers in Six Major Metropolitan Areas (Feb. 23, 2017) (https://www.fincen.gov/sites/default/files/2017-02/Renewed%20GTO%20NR%20FINAL%20%28Posting%29.pdf).
[3] Wollan, Malia, How to Set Up a Shell Company, N.Y. Times (Nov. 7, 2019), https://www.nytimes.com/2019/11/07/magazine/how-to-set-up-a-shell-company.html.
[4] Azrilyant, Jacob, Shell Game: How the Corporate Transparency Act Aims to End the Illicit Use of Shell Companies, Public Contract Law Journal, 51(1), https://www.americanbar.org/groups/public_contract_law/publications/public_contract_law_jrnl/51-1/shell-game-how-corporate-transparency-act-aims-end-illicit-use-shell-companies/?login#51 (2022) (citing Shima Baradaran et al., Funding Terror, 162 U. Pa. L. Rev. 477, 493 (2014)).
[5] 31 U.S.C. § 5336 (a)(11)(A) (defining “Reporting Company”).
[6] Id.
[7] Id. § 5336 (a)(11)(B) (listing exempt entities).
[8] Id. § 5336 (a)(3) (defining “Beneficial Owner”).
[9] Id.
[10] Financial Crimes Enforcement Network, U.S. Dep’t of the Treasury, Beneficial Ownership Information Reporting Requirements: Small Entity Compliance Guide, Version 1.0 (Sept. 2023) (hereinafter “FinCEN BOI Compliance Guide”).
[11] Id. § 2.1.
[12] Id.
[13] Id. § 2.2.
[14] Tracing the chain of ownership is not explicitly required by the statute, but it is implied in the CTA by its definition of “Beneficial Owner” in 31 U.S.C. § 5336(a)(3) (i.e. an “individual” with Substantial Control or a 25% owner).
[15] Per Section 4.1 of the FinCEN BOI Compliance Guide supra note 11, Reporting Companies may only report the businesses addresses of their Company Applicants, and must report the residential addresses of their Beneficial Owners. However, the Code makes no such distinction. See 31 U.S.C. §5336 (b)(2)(A)
[16] 31 U.S.C. § 5336 (b)(2)(A).
[17] 31 U.S.C. § 5336 (b)(2)(A).
[18] FinCEN BOI Compliance Guide § 3.2.
[19] 31 U.S.C. § 5336 (a)(2) (defining “Applicant”).
[20] 31 U.S.C. § 5336 (b)(2)(A).
[21] 31 C.F.R. § 1010.380 (a)(1)(iii) [Effective 1/1/2024].
[22] 31 C.F.R. § 1010.380 (a)(1)(i)(A) [Effective 1/1/2024]. Note that FinCEN recently distinguished this category of companies from those organized on or after January 1, 2025, in order to extend their reporting deadline. Beneficial Ownership Information Reporting Deadline Extension for Reporting Companies Created or Registered in 2024, 88 Fed. Reg. 83499 (Nov. 30, 2023).
[23] 31 C.F.R. § 1010.380 (a)(1)(i)(B) [Effective 1/1/2024].
[24] 31 U.S.C. § 5336 (b)(1)(D).
[25] FinCEN BOI Compliance Guide § 6.1.
[26] 31 U.S.C. § 5336 (h)(3)(A).
