The National Small Business Association and one of its affiliates have challenged the constitutionality of the Corporate Transparency Act, alleging invasion of privacy. 

The Corporate Transparency Act (CTA), recently adopted in the U.S. as a mechanism against money laundering and tax evasion, has opened a legal battle in the country amidst the debate it has generated regarding the collection of sensitive data from companies and the alleged violation of privacy. Integro Advisers, a firm specializing in regulatory compliance and risk management, shares the details of the case.

The federal law aims to promote transparency at the corporate level, and requires organizations to submit reports on their beneficial owners or BOI. However, in the path of its implementation, it has encountered various legal barriers and was recently declared unconstitutional by a court in Alabama ( National Small Business United v. Yellen, No. 5:22-cv-01448).

The application of the CTA and the beneficial ownership reporting regime has been challenged  after a U.S. District Court judge in Alabama ruled the law unconstitutional. Although the recent ruling has raised questions about the viability of the CTA, it is key that organizations comply with the regulations as they remain in force to avoid fines ranging from $500 to $10,000 and even involve prison sentences.

“The Alabama decision should not be viewed as invalidating the CTA and should not serve as a reason not to comply with the CTA, which remains in full force,” says Alberto de la Portilla, CEO of Integro Advisers.

What are the origins of the lawsuit against the Corporate Transparency Act?

The case dates back to a lawsuit filed in November 2022 against the CTA by the National Small Business Association (NSBA), representing some 65,000 companies, and Isaac Winkles, owner of a small business. Their main arguments focus on the fact that the CTA requires the disclosure of “sensitive personal information to FinCEN (Financial Crimes Enforcement Network) for law enforcement purposes” and therefore runs the risk of violating privacy protection by providing personal information.

In 2022, the plaintiffs requested an injunction to stop the application of beneficial ownership reports and in early 2023 requested summary judgment. In response, the court ended up accepting their motion in March of this year, denying the Government’s intentions to dismiss this measure, and subsequently issued an injunction against the adoption of CTA, but specifically in the case involving NSBA and Isaac Winkles.

The Alabama ruling against the Corporate Transparency Act

Judge Liles C. Burke ruled that the CTA “exceeds the limits of the Constitution on legislative power”, despite the U.S. Government defending that the law is within the powers of Congress. The judge further considers that the law “does not have sufficient connection with the powers listed in it to be considered a necessary means for Congress’s objectives in policy matters”, Reuters reported.

The ruling, in addition to setting a precedent on the application of these instruments, opens several legal questions in the country, to the extent that it prevents FinCEN from applying the law against the plaintiffs in that case. However, since it is not a national injunction, the regime remains in force for other companies.

The latest development in this case to date is that the Department of Justice filed a notice of appeal on March 11 and the process is ongoing, while FinCEN has stated in a press release that it “will continue to implement the Corporate Transparency Act as required by Congress, while complying with the court order.”

Details of the Corporate Transparency Act: What does it entail and who must comply?

This CTA was passed by the U.S. Congress as an instrument to promote the fight against money laundering in the country and prevent other financial crimes by U.S. legal entities as well as foreign entities operating in the U.S. The scope of the law involves various business structures such as Corporations (C Corp or S Corp), Limited Liability Companies (LLC/LLP), commercial trusts, among others.

With the CTA, legal entities formed in the U.S. began reporting their beneficial owners to FinCEN.

According to FinCEN, companies that were established before January 1, 2024 have until January 1, 2025 to submit their initial reports, while those created or registered after that date will have 30 days from their establishment or registration to do so.

For the purposes of the law, a beneficial owner is defined as “any individual who, directly or indirectly, exercises substantial control over such reporting company or owns or controls at least 25% of the ownership interests of such reporting company”.

The CTA is a result of the efforts of the Anti-Money Laundering Act of 2020 (AMLA), which seeks to combat a scourge that each year represents up to 2.7% of world Gross Domestic Product, according to a FACTI Panel report.

In the U.S., according to a recent report by the Department of the Treasury, “criminals currently use both traditional and novel money laundering techniques, depending on availability and convenience, to move and conceal illicit proceeds and promote criminal activities that harm Americans.”

In the United States, various risks related to money laundering persist, according to the 2024 National Money Laundering Risk Assessment report from the U.S. Department of the Treasury. These include:

• Abuse of legal entities
• Opacity in real estate transactions
• Involvement of merchants and professionals in illicit activities under complicity

The package of measures contained within the CTA is considered one of the greatest advances by the U.S. in this area in this century after the 2001 Patriot Act, which aims to counter terrorist financing and terrorist actions through money laundering. However, the background of these measures dates back to at least 1986 with the Money Laundering Control Act, which classified the activity  as a federal crime.

Legal advice, as well as support in regulatory compliance and risk management will be key to navigating the regulatory changes that organizations are currently facing, amidst a landscape in which countries also compete to be jurisdictions increasingly shielded from money laundering, tax evasion and other rising financial crimes.

“Staying up to speed on the evolution of the Alabama case and other legal challenges is critically important. At the same time, regardless of the legal issues, qualifying entities should remain committed to submitting the necessary information to FinCEN on a timely basis to avoid compliance violations,” says Mr. de la Portilla.