Investment Operations

LOWERING EXCESS TAX WITHHELD FOR NON-US INVESTORS

CBDC OFR

Infrastructure utility Depository Trust & Clearing Corporation (DTCC) has confirmed the launch of a new DTCC service, the 1042-S Classification Announcement. following recent U.S. Securities and Exchange Commission (SEC) approval. According to the depository, the new offering will enable issuers to directly provide DTCC’s subsidiary, The Depository Trust Company (DTC), with IRS Form 1042-S tax withholding information on distributions prior to the payable date, lowering the amount of tax withheld on distributions for non-US investors.

DTCC indicated that it had collaborated with BlackRock and Citi Securities Services on the launch of the service and to establish a formal process for providing interest-related dividends on bond ETFs at the time of distribution. Citi Securities Services said it was leveraging the new Announcement service to reduce the amount of taxes withheld on payments to its clients.

Today, while interest-related dividends are not subject to a withholding tax, due to information not being available at the time of distribution to non-U.S. investors, ETF distributions are treated as dividends and subject to a 30% tax on payments. At year end, when firms receive data on interest-related dividends, tax refunds are processed to investors that were over-withheld throughout the year. By providing interest-related dividend information on the 1042-S Announcement at the time of distribution, brokers and custodians will now have access to the required information and will no longer have to withhold 30% tax on payments. It is estimated that hundreds of millions of dollars are over-withheld on distributions at inception, tying up funding and liquidity, only to be refunded later in the year..

“This is a major step toward further automating tax processing and increasing efficiency,” said Ian DeSacia, Executive Director, Global Tax Services at DTCC. “Being able to source interest-related dividends directly from an issuer and provide it in an automated ISO 20022 format, leveraging fixed data formats and a standardized set of rules, will enable greater automation in the tax withholding process, creating new efficiencies, lowering upfront tax burdens and reducing risks,” DeSacia added.

Shawn Ormont, Vice President Tax Product, with Citi Securities Services, said that, by receiving interest-related dividends in the ISO 20022 format, they are able to automate an otherwise manual tax reclassification process and provide tax benefits to their clients on a timelier basis. “The 1042-S Announcement will increase straight-through processing on tax withholding and reduce risk, delivering tremendous value to the industry,” Ormont said.

The 1042-S Announcement capability was first launched with 12 payments on July 8th on BlackRock iShares ETFs, disseminating the number of interest-related dividends on those distributions.  The service is available to all DTC clients, and longer term, DTCC said it envisions that the 1042-S Announcement could be used for additional pooled investments and types of distributions that may have multiple components for 1042-S tax withholding purposes. According to a recent statement, the depository is also working with the industry to explore additional ways that the new Announcement service could be used to benefit investors.