Understanding the Corporate Transparency Act: Implications and Challenges for Reporting Companies with a Deadline Looming

by Eugene H. Ho, Benjamin M. Shwartz, and Molly E. Strabley

After years of anticipation, the Corporate Transparency Act (“CTA”) finally went into effect on January 1, 2024. The landmark legislation aims to enhance existing anti-money laundering laws by requiring each “reporting company” (as defined by 31 U.S.C. § 5336(a)(11), excluding the 24 types of entities that are exempted, such as banks, publicly-traded companies that meet certain requirements, tax-exempt entities, and so-called “large operating companies”) to register with the Financial Crimes Enforcement Network (“FinCEN”), a bureau of the U.S. Department of the Treasury, by filing a Beneficial Ownership Information (“BOI”) Report. Pre-existing reporting companies (those that were created or registered to do business in the U.S. prior to January 1, 2024) have until January 1, 2025, to submit their BOI Reports, while those formed or registered in 2024 must file their BOI Reports within 90 days of their formation or registration. Reporting companies that are formed or registered in 2025 or later must file their BOI Reports within 30 days of their formation or registration. The process of preparing and filing a BOI Report can present practical challenges for a reporting company and its counsel tasked with assisting. This article discusses some of these challenges and provides suggestions to mitigate their effects.

Reporting Requirements: Determining Substantial Control

In the mandated BOI Report, the CTA requires a reporting company to disclose certain information about itself and certain personal identifying information (“PII”) about each “beneficial owner.” Critically, despite the title, a beneficial owner does not necessarily need to be an equity owner of the reporting company. Specifically, the CTA defines “beneficial owner” to mean any individual who, directly or indirectly, “through any contract, arrangement, understanding, relationship, or otherwise–(i) exercises substantial control over the entity; or (ii) owns or controls not less than 25 percent of the ownership interests of the entity.” 31 U.S.C. § 5336(a)(3).

Identifying those individuals who own or control 25% or more of a company’s ownership interest is often a relatively straightforward exercise (although for reporting companies with complex ownership structures, even that exercise can present significant challenges). Determining who exercises “substantial control” over the reporting company, on the other hand, is in many cases proving to be extremely nuanced. The CTA specifies that an individual exercises substantial control over a reporting company if the individual:

• serves as a senior officer (i.e., the company’s president, chief financial officer, general counsel, chief executive officer, chief operating officer, or any other officer who performs a similar function);

• has authority over the appointment or removal of any senior officer or a majority of the board of directors (or similar body);

• directs, determines, or has substantial influence over important decisions made by the reporting company, such as the sale, lease, mortgage, or other transfer of principal assets; or

• has any other form of substantial control over the reporting company.

31 C.F.R. § 1010.380(d)(1)(i). Notably, unlike a senior officer, a director is not automatically deemed to have substantial control over a reporting company, but rather, that depends on the particular facts and circumstances. In many cases, it will be easy to identify the individuals who exercise substantial control, particularly under the first two criteria. By contrast, there is no definition and limited guidance with respect to what it means to have “substantial influence” over important decisions, as described in the third criterion, or “any other form of substantial control” over the reporting company, as described in the purposely vague fourth criterion, which is meant to capture control scenarios that FinCEN has not specified. The statute provides a list of examples of how an individual could, directly or indirectly, exert substantial control over a reporting company—e.g., through rights related to financing arrangements, ownership of a majority of the voting power, or control over an intermediary entity that controls the reporting company. Id. § 1010.380(d)(1)(ii). This list of examples, however, is not exhaustive. What is uncertain, and what has so far been a challenge for reporting companies and their counsel, is the determination of when an individual’s influence rises to the level of being “substantial.” For company counsel, this may require additional legal analysis and a greater understanding of the reporting company’s organizational structure and hierarchy.

Further complicating this analysis is the possibility that a reporting company and its counsel may reasonably reach a conclusion that an individual exerts substantial control over the reporting company, while that individual may reasonably reach a different conclusion and be unwilling to provide his/her/their PII. Without a decisive definition or more guidance from FinCEN, reporting companies must grapple with a level of uncertainty and, possibly, internal disagreements.

Gathering Personal Identifying Information from Beneficial Owners 

Once a reporting company has identified its beneficial owners, it must be prepared to collect and submit the following PII from and with respect to each:

• Full legal name;

• Date of birth;

• Current residential address;

• Identification number from a valid State-issued driver’s license or another approved government-issued ID (e.g., a passport); and

• A photocopy or image of the ID document.

For certain reporting companies, particularly those with outside or passive investors, collecting such information may be challenging or problematic for any number of reasons. It may, for example, be practically difficult for the reporting company to gather necessary PII from certain beneficial owners, such as those who have not provided updated contact information or those who cannot readily obtain an approved government-issued ID (or renewal thereof). The requirement that reporting companies submit updates to FinCEN within 30 days of any change to the information reported in its BOI Report could prove onerous if there are many individuals involved or frequent changes in ownership. Beneficial owners may be recalcitrant or otherwise unwilling to share their PII or that of their controlling persons. An entity owner of a reporting company may claim that, due to confidentiality obligations, it cannot disclose any PII of its controlling persons. Other beneficial owners may be hesitant to provide PII due to information security concerns. Yet others might refuse to provide PII based on cynicism about what the government is going to do with it. Finally, as discussed above, a beneficial owner may not agree with the reporting company that it has substantial control. This hesitation or unwillingness can create unwanted tension between a reporting company, which would rather err on the side of overinclusion, and an investor. Moreover, because under the CTA only an individual can be a beneficial owner, if a reporting company is owned by another entity, the identity of the owning entity’s (and/or, if applicable, its parent company’s) controlling person(s) must be disclosed, requiring multiple layers of disclosure.

What can a reporting company do if it is unable to obtain the necessary PII from all beneficial owners? First, the reporting company should explain to any beneficial owner who refuses to provide such information that an enforcement action can be brought against any individual who willfully refuses to provide the required information. Penalties can be severe, and liability can be both civil and criminal. Second, a reporting company should consider incorporating provisions into its governing documents (such as its bylaws, shareholder agreement, operating agreement, partnership agreement, or the like, as applicable) and/or subscription documents with strict penalties that require those individuals who may qualify as beneficial owners, or who are deemed to be beneficial owners by the reporting company, to provide their PII in accordance with the CTA. Third, if a beneficial owner is reluctant to provide its PII because of concerns with sharing this information with the reporting company, the reporting company can advise the individual on how to apply for a FinCEN ID. This allows the beneficial owner to submit its PII directly to FinCEN and obtain a unique FinCEN ID. The beneficial owner is then required to share only its FinCEN ID with the reporting company. If a beneficial owner still refuses to provide the necessary PII or FinCEN ID, the reporting company should document its diligent efforts to gather the required information so that it can defend any enforcement action brought by FinCEN, which has made clear that it will only take enforcement actions against willful violations.

Conclusion

The CTA’s reporting requirements carry determinative and practical challenges for reporting companies and their respective counsel. With the January 1, 2025 deadline looming, reporting companies should take proactive steps to ensure their ability to comply with the CTA’s requirements. The complexities and ambiguities surrounding the identification of beneficial owners, particularly those who might qualify under the substantial control criteria, and the practical challenges many reporting companies will face in collecting their beneficial owners’ required PII, underscore the need for reporting companies (and counsel tasked with assisting such reporting companies) to act now. Reporting companies should explain the reporting requirements to owners and management, and should consider implementing obligations in their governing documents to facilitate CTA compliance. Reporting companies considering outside investments should similarly consider incorporating provisions into their subscription agreements that would require those individuals that the reporting company deems to be beneficial owners to provide their necessary PII.

Eugene H. Ho is a partner in the Boston office of Verrill and co-chairs the firm’s Business Law Group. 

Benjamin M. Shwartz is an associate in the Boston office of Verrill with a focus on business law, corporate governance, and mergers and acquisitions. 

Molly E. Strabley is an associate in the Boston office of Verrill with a focus on business law.