In 2016, a series of documents were leaked to the public that detailed the international money laundering schemes utilized by various specifically named politicians and celebrities across the globe. These documents, known as the Panama Papers, are considered by some to be the catalyst of the Corporate Transparency Act.[i] Although the Act failed to gain traction in 2017, it was revised and reintroduced in 2019. Subsequently, the Corporate Transparency Act (CTA) was eventually enacted in 2021 after several alterations and a presidential veto. To this day, the CTA faces relentless opposition since it hinders the United States’ reputation as a business haven.
Having gone into effect at the beginning of this year, the CTA strives to combat money laundering, terrorist funding, corruption, and tax fraud by requiring businesses to report information about the shareholders and directors of various legal entities.[ii] The CTA only requires disclosure from “reporting companies,” which it generally defines as any entity that must be created by filing a document with the state of incorporation. For now, it is clear that corporations and limited liability companies are considered reporting companies, whereas sole proprietorships, general partnerships, and charitable trusts are not. However, it remains unclear whether limited partnerships and non-charitable trusts fall under the CTA.[iii] Reporting companies are required to provide certain identifying information for each beneficial owner of the company to the Financial Crimes Enforcement Network (FinCEN). This identifying information consists of the beneficial owner’s full legal name, date of birth, current residential or business address, and a unique identifying number from a current passport, driver’s license, or identification card issued by a domestic government. Lastly, the Treasury’s regulations add that the reporting company must provide an image of the identifying document.[iv]
Not only do reporting companies have a duty to provide FinCEN with identifying information for all its beneficial owners, but they also have a continuing duty to update this information as necessary. Failure to comply with either of these duties may give rise to civil and criminal penalties, including fines up to $25,000 and two-year imprisonment. Thus, cost is one of the main criticisms of the CTA. The heart of the issue lies with the CTA’s broad definition of the term “beneficial owner.” The CTA defines two categories of beneficial owners. The first category is comprised of anyone owning a 25% or greater interest in the reporting company. Treasury regulation defines “ownership interest” broadly to include any puts, calls, or options to purchase stocks and equity.[v] The second category is even broader, consisting of any individual who “exercises substantial control over the entity.”[vi] Though “substantial control” is not defined within the CTA, the Treasury’s regulations conclusively state that senior officers and those with the authority to appoint or remove senior officers have substantial control. The regulations further provide a non-exhaustive list of authorities that constitute substantial control, including the authority to transfer or encumber business assets, authority to enter significant contracts for the business, and authority over the business’ reorganization, dissolution, or merger.[vii] These broad categories mean that businesses must spend a significant amount of resources to prepare these extensive reports correctly.
Alternatively, companies that desire to keep their ownership information as anonymous as possible will be required to spend even more money on creative lawyers to find loopholes in the CTA and cut corners. As such, anonymity is another criticism of the CTA. The most preferable legal strategies for holding investment properties typically involve incorporating companies in states that provide as much anonymity as possible, such as Wyoming.[viii] By requiring companies to provide FinCEN with beneficial ownership information, the market for such legal strategies is undermined. Yet, this concern is counterbalanced by the CTA’s requirement that FinCEN maintain the confidentiality of beneficial ownership information. Specifically, FinCEN may only disclose beneficial ownership information pursuant to a request from a federal law enforcement agency or, alternatively, a court-approved request by a state or local law enforcement agency. Overall, the requirements for disclosure of beneficial ownership information facially appear to balance the CTA’s crime-catching purpose with a legitimate interest in privacy; but whether this balance will remain in practice remains to be seen.
Although these criticisms were insufficient to prevent the CTA’s enactment, businesses are continuously fighting the CTA until the end. In National Small Business United v. Yellen, an association of small businesses prevailed in their constitutional challenge of the CTA by arguing that Congress lacks the express power to regulate the incorporation of their businesses.[ix] In its ruling, a United States District Court held that neither the Commerce Clause nor the Necessary and Proper Clause authorized Congress to regulate incorporation, and the court permanently enjoined the government from enforcing the CTA against any member of National Small Business United. The court noted that the founders of our country expressly refused to authorize any federal power of incorporation out of fear that it may “allow concentrations of economic power, which they visualized as a government-sponsored monopoly.”[x] While the founders of our country may have held this sentiment, the CTA merely affects incorporation by requiring uniform reporting of the company’s owners rather than affirmatively controlling the entire process of incorporation. Though such disclosures may have been less desirable at the time of our country’s founding, the modern advances of the Internet and globalism have connected the world in an unprecedented fashion. This interconnectedness facilitates the incorporation of shell corporations in other states or countries, which inevitably has a substantial effect on interstate commerce by contributing to money laundering, tax evasion, and overall anticompetitive business practices.[xi]
Despite these substantial effects on interstate commerce, the District Court declared the CTA unconstitutional because the economic effects of money laundering are too attenuated from incorporation to be considered “direct.” In A. L. A. Schechter Poultry Corp. v. United States, the Supreme Court stated that the distinction between activities that directly affect interstate commerce and activities that are too attenuated “can be drawn only as individual cases arise.”[xii] In the same case, the government argued that Congress has the power to regulate wages because the wage market has a direct, substantial effect on interstate commerce.[xiii] The Supreme Court rejected the government’s wage argument, even though it inherently suggests a more direct economic effect than the government’s argument in National Small Business United. Thus, it seems unlikely that the government would prevail on appeal. As such, it will be important to remain updated on any new cases that may challenge the constitutionality of the CTA since they may eventually lead to the entire CTA being struck down.
[i] See Brendan O’Leary, Note, The Corporate Transparency Act: A Step Toward Broken Shells, 47 J. Legis. 133, 133 (2021) (providing background on the Panama Papers); see also Diane Ring, The 2021 Corporate Transparency Act: The Next Frontier of U.S. Tax Transparency and Data Debates, 18 Pitt. Tax Rev. 249, 261–62 (2021) (citing the Panama Papers as one of the reasons for the CTA’s eventual enactment).
[ii] See Beneficial Ownership Information Reporting Requirements, 87 Fed. Reg. 59498, 59498 (Sept. 30, 2022) (summarizing the purpose of the CTA and the Treasury’s corresponding regulations) (codified at 31 C.F.R. pt. 1010).
[iii] See Robert Wilson Downes et al., The Corporate Transparency Act – Preparing for the Federal Database of Beneficial Ownership Information, A.B.A. (Apr. 16, 2021), https://www.americanbar.org/groups/business_law/resources/business-law-today/2021-may/the-corporate-transparency-act/.
[iv] See 31 C.F.R. § 1010.380(b)(1)(ii)(E) (2024).
[v] 31 C.F.R. § 1010.380(d)(2)(i)(D).
[vi] 31 U.S.C. § 5336(a)(3)(A)(i).
[vii] See 31 C.F.R. § 1010.380(d)(1)(i).
[viii] See Mark Pierce, Learn the Facts About Wyoming LLC Privacy, Wyo. LLC Att’y, https://wyomingllcattorney.com/Form-a-Wyoming-LLC/Privacy-and-Anonymity (last visited Mar. 18, 2024).
[ix] See Nat’l Small Bus. United v. Yellen, No. 5:22-CV-1448-LCB, 2024 WL 899372, at *1 (N.D. Ala. Mar. 1, 2024).
[x] Allen D. Boyer, Federalism and Corporation Law: Drawing the Line in State Takeover Regulation, 47 Ohio St. L.J. 1037, 1041 (1986).
[xi] See Beneficial Ownership Information Reporting Requirements, 87 Fed. Reg. 59498, 59498 (Sept. 30, 2022) (“[S]hell and front companies can shield beneficial owners’ identities and allow criminals to illegally access and transact in the U.S. economy, while creating an uneven playing field for small U.S. businesses engaged in legitimate activity.”) (codified at 31 C.F.R. pt. 1010).
[xii] A. L. A. Schechter Poultry Corp. v. United States, 295 U.S. 495, 546 (1935).
[xiii] See id. at 549.
