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Asset Protection Blog

IRS Reporting Requirements for Offshore Trusts

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Introduction

This post addresses the IRS reporting requirements applicable to a U.S. taxpayer following the establishment of a foreign trust.  Foreign trusts discussed herein and subject to the reporting requirements include foreign trusts where a U.S. person is the Settlor/Grantor and/or Beneficiary of the trust, including many “Asset Protection Trusts”.

A foreign trust may be an excellent tool for asset protection purposes, but please understand and be prepared to follow all I.R.S. reporting requirements, and pay all taxes due to the I.R.S. even though the trust is domiciled overseas and trust assets are located offshore.

Overview of the Reporting Requirements

If you are a U.S. person and you have established a foreign Asset Protection Trust, you are the “Grantor” (also known as the “Settlor”) of the trust and your reporting responsibilities include:

In addition, the foreign trustee must file:

  • IRS Form 3520-A, and if the Trustee does not file this form, then you must.

If you are a beneficiary of a foreign trust, and you receive a distribution from the foreign trust, then your reporting responsibilities include:

  • “Checking the box” on IRS Form 1040, Schedule B, Part III;
  • IRS Form 3520; and
  • IRS Form 8938.

In addition, if you receive more than 50% of trust income or assets, you must also file:

  • FinCEN Form 114 (the “FBAR”).

The various reporting requirements and forms are discussed more in depth immediately below.

Reporting Requirements – Grantors

As a threshold matter, a U.S. taxpayer who creates (“Grantor” or “Settlor”) or makes a transfer to (“Transferor”) a foreign trust must “check the box” on his or her individual IRS Form 1040, Schedule B, Part III, for the year of transfer to, or creation of, the foreign trust.  The Schedule B line item then refers the taxpayer to IRS Form 3520 (further discussed below), on which the U.S. taxpayer will report further information regarding the trust creation and transfer to the trust.

A U.S. grantor of a foreign trust is also required to file Form FinCEN 114, Report of Foreign Bank and Financial Accounts (also known as the “FBAR”), if the grantor has an ownership interest in the trust for U.S. federal tax purposes.1  Because foreign asset protection trusts are considered “Grantor trusts” under the Internal Revenue Code, the grantor of a foreign trust is deemed to own the Trust assets for U.S. tax purposes and must annually file the FBAR.  The FBAR must be filed electronically on FinCEN’s (Financial Crimes Enforcement Network, a division of the United States Treasury Department) website.

In addition, pursuant to IRC § 6048(a) and IRS Notice 97-34, the Grantor, Transferor or executor of a decedent’s estate (the “responsible party”2) must file Form 3520, Annual Return to Report Transactions with Foreign Trusts and Receipt of Certain Foreign Gifts, upon the following “reportable events”3: (1) the creation of the foreign trust, (2) any transfers to the foreign trust from U.S. persons, and (3) the death of a U.S. citizen who was an owner of the foreign trust or whose estate included any portion of the foreign trust.  Pursuant to IRC § 6048(a)(2), the amount of money or other property transferred to the trust must be reported, along with the identity of each trustee and beneficiary (or class of beneficiaries).

Form 3520 requires the provision of the following information: name, address and identification information of the foreign trust, beneficiaries (including their percentage interests) and the value of cash or other property transferred to the foreign trust.

Form 3520 is required to be filed by the due date of the taxpayer’s annual income tax return, including extensions. Form 3520 must be sent to the IRS Service Center, P.O. Box 409101, Ogden, Utah 84409.

 Additional Reporting Requirements – Owners

In addition to the reporting requirements imposed on Grantors and “responsible parties” discussed above, pursuant to IRC § 6048(b), the “United States owner”4 of any portion of a foreign trust must insure that:

  1. the trust annually files Form 3520-A, Annual Information Return of Foreign Trust with a U.S. Owner, which sets forth a full and complete accounting of all trust
  2. The trust furnishes copies of the Form 3520-A that was filed with the IRS to each of the U.S. owners of the foreign trust and U.S. persons who received distributions from the foreign trust.

A trustee may file Form 3520-A for the foreign trust.  However, if the trustee fails to file Form 3520-A, the responsibility will rest with the U.S. owner to file the form and provide the required annual statements to the foreign trust’s U.S. owners and U.S. beneficiaries.  In the case of a foreign Asset Protection Trust, the “owner” of the foreign trust responsible for making sure the Form 3520-A is filed is any U.S. person who transfers property to the foreign trust, where the foreign trust has at least one U.S. beneficiary; see also footnote 1, section (f).   The 3520-A is due March 15.

In 2010, the IRS implemented additional reporting requirements for foreign accounts and assets by U.S. taxpayers.7  Under the IRS’ additional requirements, an owner of a foreign trust may also be required to file new Form 8938, Statement of Specified Foreign Financial Assets.  Form 8938 reports the specified foreign financial assets8 held by the part of the foreign trust in which the owner has an ownership interest.9  The owner is required to file Form 8938 if the total value of those assets exceeds an applicable threshold amount.10

However, the owner does not have to report any of the specified foreign financial assets held by the trust if: (I) the owner reported the foreign trust on a Form 3520 that was timely filed with the IRS for the same year; and (ii) the foreign trust timely files Form 3520-A.  Instead, the owner must then identify on Form 8938 the form(s) on which the owner reported the specified foreign financial assets and how many of each form the owner filed.

Form 8938 is due at the same time as the taxpayer’s annual income tax return, including extensions.  The form should be sent to the IRS attached to the taxpayer’s annual income tax return.

As noted earlier, the Treasury Regulations also require the owner to file an FBAR reporting the owner’s interest in the foreign trust11.

 

Additional Reporting Requirements – Beneficiaries

Pursuant to IRC § 6048(c), a beneficiary12 of a foreign trust who receives (directly or indirectly) any distribution13 from the foreign trust during the taxable year must file Form 3520, disclosing the amount and source of the distribution, by the due date of the beneficiary’s income tax return for the year of the receipt of the distribution.  In addition, a U.S. taxpayer who has received a distribution as a beneficiary of a foreign trust is also required to disclose this on IRS Form 1040, Schedule B, Part III.

An additional reporting requirement is imposed where a taxpayer, who is not considered an owner, has an interest in a foreign trust.14  The taxpayer is required to report the interest in the foreign trust on Form 8938, if the taxpayer knows or has reason to know based on readily available information of the interest.  If a taxpayer receives a distribution from the foreign trust, the taxpayer will be considered to know of the interest.  Note that this is different from the FBAR requirement applicable to beneficiaries who have a present beneficial interest in 50% of trust assets (see below).  In other words, the FBAR is required for trust beneficiaries who have the right to receive a present distribution, whereas Form 8938 seemingly applies if the trust beneficiary actually receives a distribution.

However, such a taxpayer is not required to report specified foreign financial assets on Form 8938 if the taxpayer reported the assets on one or more of the following forms that was timely filed with the IRS for the same year: (I) Form 3520 (discussed above); (ii) Form 5471, Information Return of U.S. Persons With Respect to Certain Foreign Corporations; (iii) Form 8621, Information Return by a Shareholder of a Passive Foreign Investment Company or Qualified Electing Fund; (iv) Form 8865, Return of U.S. Persons With Respect to Certain Foreign Partnerships; and (v) Form 8891, U.S. Information Return for Beneficiaries of Certain Canadian Registered Retirement Plans.  Instead, the taxpayer must identify on Form 8938 the form(s) on which the taxpayer reported the specified foreign financial asset.

A beneficiary with a greater than 50 percent present beneficial interest in the assets or income of the foreign trust must also file an FBAR reporting such financial interest.15  A beneficiary of a purely discretionary trust, i.e., where trust distributions are made solely in the discretion of a trustee, does not have a “present” interest.  Most foreign asset protection trusts are discretionary trusts.  However, a beneficiary who receives more than fifty percent of a trust’s annual income, or fifty percent of trust assets, has a present beneficial interest that is reportable on the FBAR.

Conclusion

Creating a foreign trust and transferring assets to the foreign trust can provide valuable asset protection advantages.  At the same time, U.S. taxpayers with interests in foreign asset protection trusts must comply with all IRS reporting requirements, including: Form 1040, Schedule B, Part III; FinCEN 114 (the “FBAR”); Form 3520; Form 3520-A; and new Form 8938.  These reporting requirements are complex and penalties for non-compliance can be severe.

Please contact us if you have any questions.

 

FOOTNOTES:

1 An “owner” is defined under Internal Revenue Code (IRC) §§ 671-679 as:

(a) Where the grantor has a reversionary interest exceeding 5% of the foreign trust’s principle or income, if, at the inception of that portion, the value of such interest exceeds 5 percent of the value of such portion. This does not include a reversionary interest that takes effect upon the death of a lineal descendant who hold present interests in a portion of the trust before such beneficiary attains age 21;

(b) Where the beneficial enjoyment of the principle or income of the trust is subject to a power of disposition, exercisable by the grantor or a non-adverse party, or both, without the approval or consent of any adverse party;

(c) Where the grantor has the power to purchase, sell or otherwise deal with or dispose of trust principle or income for less than adequate consideration; power to borrow from the trust without adequate security or interest; has borrowed from the trust and has not completely repaid the loan; and general powers of administration (i.e. power to vote stock/securities of a corporation where the holdings of the trust and grantor are significant, power to control the investment of the trust funds and a power to require the trust corpus by substituting other property of an equivalent value);

(d) Where the grantor or non-adverse party has the power to revoke transfers of property to the trust (but not if revocation only affects beneficial enjoyment of income after the occurrence of an event such that a grantor would not be treated as an owner under section 673); or

(e) Where trust income may be distributed to the grantor or the grantor’s spouse, or held for future distribution the grantor’s spouse, or applied to the payment of premiums on policies of insurance on the life of the grantor or the grantor’s spouse – except those for a purpose under section 170(c), without the approval or consent of any adverse party or in the discretion of the grantor or a non-adverse party.

(f) A U.S. person who directly or indirectly transfers property to a foreign trust, excluding deferred compensation trusts and charitable trusts, if there is a U.S. beneficiary of any portion of such trust for such year.

2 IRC § 6048(a)(1) imposes the duty to provide written notice of a reportable event regarding the foreign trust on the “responsible party”.  A “responsible party” is defined under IRC § 6048(a)(4), as either:

(a) The grantor, in the case of the creation of an inter vivos trust;

(b) The transferor, in the case of a transfer of money or property to a foreign trust, including a transfer by reason of death; or

(c) The executor of a decedent’s estate, in any other case.

3 A “reportable event” is defined under IRC § 6048(a)(3).

4 See footnote 1.

5 Pursuant to IRC § 6048(b)(2) and IRS Notice 97-34, where a foreign trust with a U.S. owner does not have a U.S. agent, the Secretary of the Treasury may determine the amounts with respect to the foreign trust to be included by the U.S. owner under the grantor trust rules.  The Secretary can make the determination based on its own knowledge or information obtained through testimony or otherwise.  If appointed, the U.S. agent is responsible for responding to (1) requests by the Secretary to examine records or produce testimony related to the proper treatment of amounts to be required to be taken into account with respect to such foreign trust by a U.S. person under the grantor trust rules; and (2) any summons by the Secretary.  A U.S. owner may serve as the U.S. agent of the foreign trust.

6 Note that whereas Form 3520 is due on the date that the taxpayer’s regular return is due, Form 3520-A is due by the fifteenth day of the third month after the end of the trust’s tax year.  If the trust’s tax year ends on December 31st, then Form 3520-A is due the following March 15th.

7 These additional reporting requirements were implemented as part of the Foreign Account Tax Compliance Act (also known as “FATCA”), which was included in the Hiring Incentives to Restore Employment Act (also known as the “HIRE” act).

8 IRC § 6038D(b) defines “specified foreign financial asset” as follows:

(a) Financial accounts maintained by a foreign financial institution;

(b) The following foreign financial assets if they are held for investment and not held in an account maintained by a financial institution: (i) stock or securities issued by someone that is not a U.S. person; (ii) any interest in a foreign entity; and (iii) any financial instrument or contract that has an issuer or counterparty that is not a U.S. person.

9 For example, where the Grantor of a foreign Asset Protection Trust transferred 100% of the foreign trust’s assets to the foreign trust, the Grantor will be treated as owing 100% of the foreign trust for purposes of Form 8938.

10 The applicable threshold amounts, pursuant to Treasury Regulation 1.6038D-2(a)(1)-(3), are as follows:

(a)  Unmarried taxpayers, and married taxpayers filing separately, living in the U.S. must file Form 8938 if the value of the foreign trust assets the taxpayer owns exceeds $50,000 on the last day of the tax year or $75,000 at any time during the tax year.

 (b)  Married taxpayers filing joint income tax returns and living in the U.S. must file Form 8938 if the total value of the foreign trust assets in which the taxpayers have an interest exceeds $100,000 on the last day of the tax year or $150,000 at any time during the tax year.

(c)  Taxpayers living abroad are required to file Form 8938 if the total value of the foreign assets they own exceeds $200,000 on the last day of the tax year or $300,000 at any time during the tax year if they are married, and exceeds $400,000 on the last day of the tax year or $600,000 at any time during the tax year if they are married filing a joint income tax return.  Taxpayers living abroad are defined as either (i) a U.S. citizen who has been a bona fide resident of a foreign country or countries for an uninterrupted period that includes an entire tax year; or (ii) a U.S. citizen or resident who is present in a foreign country or countries at least 330 full days during any period of 12 consecutive months that ends in the tax year being reported.

11 See 31 C.F.R. § 1010.350(e)(2)(iii).

12 The IRS defines a beneficiary as “any person that could possibly benefit (directly or indirectly) from the trust at any time (including any person who could benefit if the trust were amended), whether or not the person is named in the trust instrument as a beneficiary and whether or not the person can receive a distribution from the trust in the current year.  [I]f the trustee is given complete discretion to distribute trust income to anyone, friends and business associates of the family would be considered beneficiaries of such a trust because it could be reasonably anticipated that the trust could possibly benefit such persons.”  Notice 97-34; 1997-25 I.R.B. 22.

13 Distributions include:

  1. Cash payments
  2. Loans
  3. Payments in excess of fair market value of goods or services provided to the trust
  4. Constructive distributions (loan or debt forgiveness, credit guarantee, etc.)

14 Pursuant to IRC § 6038D(b), such an interest is considered a “specified foreign financial asset”.  For a definition of “specified foreign financial asset”, see footnote 8, supra.

15 “Present beneficial interest” in a trust is defined as where “the United States person has a greater than 50 percent present beneficial interest in the assets or income of the trust for the calendar year”. See BSA Electronic Filing Requirements For Report of Foreign Bank and Financial Accounts (FinCEN Form 114).

 

Reminder: Extended FBAR Deadline is October 15, 2017

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We would like to remind our readers of the upcoming deadline for the FBAR form for the reporting of foreign bank and other financial accounts.  This year, 2017, is the first year that the deadline for the FBAR form, the Report of Foreign Bank and Financial Accounts (FinCEN Form 114), is the same as the deadline for submission of income tax returns (IRS Form 1040), for tax year 2016.  The extended deadline is October 15, 2017.

The FBAR must be filed by taxpayers who had beneficial ownership of, or signature or other authority over, foreign financial accounts, including bank and securities accounts, if the aggregate value of such accounts exceeded $10,000 at any time during 2016.  The FBAR also applies to foreign insurance policies, annuity policies, retirement plans and other financial products.  Recent authority also extends the FBAR to on-line gambling/gaming accounts.  Many of the foreign assets subject to the FBAR are also reportable on IRS Form 8938.  However, even if you filed Form 8938, you must still file the FBAR.

The FBAR must be filed electronically on the FinCEN website.

We can assist with questions such as:  Are you subject to FBAR reporting?  Are your foreign assets reportable on the FBAR form?  What if you have not filed the FBAR forms in past years?  Please contact us to schedule a consultation.

Now Is The Time To Confirm Your Bitcoin Is Tax Compliant

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The value of Bitcoin has surged 125% in 2017 alone.  In addition to its value ascent, it has also gained in legitimacy.  While it was once the currency of choice on the illicit Silk Road “dark web”, shut down by the U.S. Department of Justice in 2013, Bitcoin is now accepted for payments by Amazon.com and other mainstream businesses.  Whether you’ve weathered the Bitcoin roller coaster or invested recently, you must ensure IRS compliance for Bitcoin.

The IRS has taken an interest in Bitcoin for various reasons.  First, Bitcoin is largely unmonitored and stands apart from the traditional structure of U.S. banking with 1099 forms and regular reporting.  There is a huge mass of Bitcoin value that is relatively unknown to the IRS, and gains in value are essentially hidden from the IRS, and the IRS doesn’t like that.  In addition, Bitcoin has a large potential for tax non-compliance, both because its very nature is anonymous, and because Bitcoin holdings give rise to significant IRS reporting (the “FBAR” form, IRS Form 8938, IRS Form 8949, capital gains taxes, etc.) and many Bitcoin owners don’t heed (or even know) the reporting requirements.

In November 2016, the IRS obtained a federal court authorization to issue a “John Doe” summons to Coinbase, Inc., a web-based global digital currency wallet and platform.  The IRS has in the past successfully used the “John Doe” summons to obtain information from financial institutions (e.g., UBS, HSBC and Cayman Islands banks) for a broad class of U.S. taxpayers who are not individually named but whom the IRS has reason to believe may have utilized the financial institution to improperly evade tax.  The John Doe summons upon Coinbase seeks records from 2013 through 2015 for any Coinbase user with a US address, telephone number, e-mail domain, etc., and all records related to disbursement of funds to any user.  A recently filed Affidavit by an IRS agent in the Coinbase enforcement litigation revealed that in 2015, only 802 taxpayers revealed Bitcoin information to the IRS on Form 8949, which is the form applicable to capital gains and losses.  Other virtual currency platforms, such as Localbitcoins, Kraken and ItBit may receive similar summonses for transactions with Bitcoins and other virtual currencies like Ethereum and Litecoin.

Bitcoin’s anonymity feeds its non-compliance, and there are many opportunities to run afoul of tax law and IRS requirements, intentionally or inadvertently.  One issue is the failure to report income with respect to Bitcoin.  In 2014, the IRS issued Notice 2014-21 describing how various income recognition and other US tax principles apply to virtual currency transactions.   In that Notice, the IRS clarified that virtual currencies are “property” subject to income tax, capital gains tax, etc.  This means that if Bitcoin is sold for a profit, that profit is income and is subject to capital gains tax.  The income is reportable on IRS Form 8949 which is then attached to Schedule D of Form 1040.  If you exchange your Bitcoin for goods or services, that too is a taxable event, as the IRS considers you to have earned income on the value of the good or service, less your cost basis in the Bitcoin (i.e., your Bitcoin purchase price).

If you are audited by the IRS regarding Bitcoin, you may have to show multiple cost bases for multiple transactions.  Proper record keeping with respect to Bitcoin is essential.  The IRS could take the position that your cost basis in your Bitcoin is zero, and you would pay tax on the full value of the Bitcoin on the date of the transaction, unless you can provide records of your purchases of Bitcoin.

In addition to income tax issues on Bitcoin income, there are reporting issues irrespective of income.  Because a Bitcoin wallet would be considered by the IRS to constitute an “account”, if you hold your Bitcoins in foreign wallets or on foreign Bitcoin exchanges, then foreign account reporting requirements are triggered, including the FBAR (FinCEN Form 114, Report of Foreign Bank and Financial Accounts) and IRS Form 8938 (Statement of Specified Foreign Financial Assets).  If you invested in a foreign fund that invested in Bitcoin, the IRS may consider the fund to be a “PFIC” (Passive Foreign Investment Company), which has its own tax methodology, and IRS Form 8621 would be due.  Penalties for non-reporting foreign accounts are significant, including potentially 50% of the value of the account.

Clearly, the IRS’ increased interest in Bitcoin necessitates proper compliance with respect to Bitcoin assets.  The IRS offers opportunities to come into compliance before the IRS obtains information about unreported assets (virtual or actual) and income, including via a pre-emptive voluntary disclosure (offshore or domestic) of digital currency income and accounts.  A voluntary disclosure also provides the opportunity to calculate, with a reasonable degree of certainty, the total cost of resolving open tax issues, along with peace of mind and finality.

Please contact us to discuss IRS compliance for Bitcoin assets, along with other tax issues.

Live Webinar Featuring Asher Rubinstein: FBAR, US Reporting and IRS Compliance for Offshore Assets

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Asher Rubinstein will be a featured speaker in an upcoming Strafford live webinar, “FBAR and U.S. Tax Reporting and Compliance Requirements for Foreign Assets” scheduled for Tuesday, June 20, 2017 at 1pm EST.  We have a limited number of complimentary registrations for clients and friends of the firm.

The IRS has made modifications over the past several years to the programs that allow for late reporting of previously undisclosed offshore assets.  At the same time, the IRS continually reaffirms its commitment to cracking down on U.S. taxpayers failing to disclose foreign assets. Taxpayers and their advisers must act quickly to take advantage of the benefits of a pre-emptive disclosure, before the IRS learns of the foreign asset from a foreign financial institution, a foreign banker, FATCA (Foreign Account Tax Compliance Act) report, tax treaty with a foreign government or alternative means of discovery.

The two most significant programs aiding taxpayers with unreported foreign assets are the Offshore Voluntary Disclosure Program (OVDP) and the Streamlined Procedures for domestic (SDOP) and foreign (SFOP) residents.  Taxpayers may benefit from substantially reduced or no penalties for failure to report offshore accounts and assets.  However, taxpayers and their advisors must be aware of the risks in each of the programs.  The penalties imposed upon taxpayers who willfully fail to disclose offshore assets are extremely punitive.

Taxpayers and their advisers must evaluate whether a disclosure program will help a taxpayer avoid increased IRS penalties, and whether the taxpayer is eligible to enter one of the programs.  Eligibility is very fact-specific.  If eligible, counsel must guide the taxpayer in meeting the very specific information requirements of the disclosure program.  The OVDP, SDOP and SFOP may end at any time without notice, at which point the taxpayer may face the full measure of penalties (including criminal consequences).

The Webinar panel will provide taxpayers, legal counsel and tax advisers with the tools necessary to navigate the new rules regarding the FBAR and offshore voluntary disclosure programs.

We will review these and other key issues:

After our presentations, we will engage in a live question and answer session with participants so we can answer your questions about these important issues directly.

For more information about this Webinar, please visit the Webinar program description.

Contact us with any questions about this Webinar or other offshore reporting and IRS compliance issues.

 

Offshore Tax Reporting Requirements and the 2016 FBAR due April 18, 2017

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Annual tax season is upon us, and we remind readers of important tax reporting requirements that must be met with respect to foreign assets.

  1. “Check the Box” on IRS Form 1040, Schedule B

If you had signature authority or a financial interest (e.g., ownership) in a foreign financial account (including a bank account, securities account, brokerage account, etc.) at any time during 2016, you must “check the box” on your IRS Form 1040, Schedule B, Part III, Line 7.  If your foreign account(s) were valued at more than $10,000 in the aggregate, you must also “check the box” on line 7 regarding the FBAR form, FinCEN 114 (see item 5, below).  This requirement is applicable to taxpayers who had beneficial ownership of, or signature authority or other authority over, such financial accounts in a foreign country.  Even if you closed the accounts during 2016, you must still “check the box” if you maintained the accounts during any part of 2016.  If you received a distribution from, or were the grantor of, or a transferor to, a foreign trust or foreign foundation, you must “check the box” on Line 8 and also file IRS Form 3520.

  1. Report Foreign Income

In addition to “checking the box” on IRS Form 1040, Schedule B, U.S. taxpayers must report all income (including interest, capital gains, dividends and pension distributions) realized during 2016, on IRS Form 1040.  If you held investments in foreign mutual funds or hedge funds, you may be required to file additional tax forms applicable to “PFICs” (Passive Foreign Investment Companies) for tax year 2016 (e.g., IRS Form 8621).  If you received rental income from foreign real estate or realized gains from the sale of foreign real estate, you must declare it.  You may be eligible to deduct real estate expenses and real estate taxes paid to a foreign tax authority.  In many cases, if foreign income was taxed in a foreign country, you may be able to get a credit for foreign taxes paid.  Even so, all foreign income should still be declared.

  1. IRS Form 8938

IRS Form 8938, Statement of Specified Foreign Financial Assets, first introduced in 2012, is yet another IRS form to report foreign bank, brokerage accounts and other foreign financial assets (including interests in offshore trusts and corporations, bonds, foreign mutual funds, foreign annuity and insurance policies).  IRS Form 8938 is due with your annual tax return (April 18, 2017, unless you obtain an extension).

  1. Additional Forms for Entities (Foreign Trusts, Foreign Corporations, etc.)

If you had an interest in a foreign entity such as a foreign trust or foreign foundation, and/or during 2016 you received assets from the a foreign entity, then you may also be required to file IRS Forms 3520 and 3520A.  Please contact us for a copy of our memorandum about this issue.  If you had an interest in a foreign corporation, and the foreign corporation is deemed to be a “Controlled Foreign Corporation” (CFC), then IRS Form 5471 is also due.  These forms are usually due with your income tax return (IRS Form 1040, due April 18, 2017).

  1. The FBAR – due April 18, 2017

This year, 2017, is the first year that the deadline for the FBAR, Report of Foreign Bank and Financial Accounts (FinCEN Form 114), is the same as the deadline for submission of income tax returns (1040s), for calendar year 2016.  The FBAR must be filed by taxpayers who had beneficial ownership of, or signature or other authority over, foreign financial accounts, including bank and securities accounts, if the aggregate value of such accounts exceeded $10,000 at any time during 2016.  The FBAR also applies to foreign insurance policies, annuity policies, retirement plans and other financial products.  Recent authority also extends the FBAR to on-line gambling/gaming accounts.  If you participated in the IRS Offshore Voluntary Disclosure Program (OVDP), Streamlined procedures or submitted retroactive FBARs, you should ensure ongoing compliance by timely submitting the 2016 FBAR.  If the accounts existed at any point during 2016, then the FBAR must be submitted by April 18, 2017.  Note that the FBAR is now known as FinCEN Form 114, and must be filed electronically.  This year, also for the first time, a taxpayer may obtain an automatic extension to file the FBAR.  The extended due date is the same as one’s extended income tax deadline (October 15, 2017).

  1. Strategic Concerns

If you have not yet filed an application for the OVDP or submitted a Streamlined application, or if your application is pending at the IRS, or you are undecided as to whether or not to make a disclosure, you may want to consider requesting an extension for your 2016 tax returns and FBAR.

You may request an extension for filing your income tax return by filing IRS Form 4868.  Note that this is an extension to file the tax return, not pay tax due.  You still need to pay your tax liability by April 18, 2017, while you have until October 15, 2017 to file your tax return and FBAR.  This means that your voluntary disclosure strategy needs to be formulated prior to reporting to the Government the existence of foreign accounts via the FBAR, Form 8938, etc.

Conclusion

Please ensure that your offshore assets are tax compliant by adhering to the ongoing reporting and tax requirements.  If you have any questions or would like our assistance in formulating a disclosure strategy or in preparing the 2016 FBAR, please feel free to contact us.

 

 

 

 

Currency is Virtual, but Real Time is Ticking for Voluntary Disclosure of Virtual Currency

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Time is Ticking for Voluntary Disclosure of Virtual Currency In the latest step by the IRS to address taxation issues in the digital on-line economy, the IRS has filed its first enforcement against convertible virtual currency, targeting tax abuse of “Bitcoin” transactions.  On November 20, 2016, a Federal Court in California authorized the IRS to issue a “John Doe” summons to Coinbase, Inc., a web-based global digital currency wallet and platform.  The IRS has in the past successfully used the John Doe summons to obtain information from financial institutions (e.g., UBS, HSBC and Cayman Islands banks) for a broad class of U.S. clients who are not individually named but who the IRS has reason to believe have utilized the financial institution to improperly evade tax.  The John Doe summons seeks records from 2013 through 2015 for any Coinbase user with a US address, telephone number, e-mail domain, etc., and all records related to disbursement of funds to any user.  In 2014, the IRS issued Notice 2014-21 describing how various income recognition and other US tax principles apply to virtual currency transactions.  In that Notice, the IRS clarified that virtual currencies are “property” subject to income tax, capital gains tax, etc.

Omission of income from virtual currency transactions or failure to file, especially in relation to offshore transactions or use of foreign accounts, could result in criminal charges related to tax evasion, filing a false tax return and failure to file the FBAR (FinCen Form 114).  Additional charges can include conspiracy to defraud the government.  Even innocent or negligent non-compliance can subject a taxpayer to the assessment of tax, interest and severe civil penalties.  Taxpayers have a limited time period remaining to voluntarily disclose virtual currency accounts and transactions, to correct prior non-compliance, avoid criminal prosecution and usually receive more lenient treatment than in a criminal or civil enforcement proceeding or audit.

Once the IRS obtains information on Coinbase’s users, the IRS will follow with civil tax audits, FBAR audits and criminal investigations.  Other virtual currency platforms, such as Localbitcoins, Kraken and ItBit may receive similar summonses for transactions with Bitcoins and its more recent competitor Ethereum.  The IRS offers opportunities to come into compliance before the IRS obtains information about unreported assets (virtual or actual) and income, including the Offshore Voluntary Disclosure Program (OVDP) and Streamlined Filing Compliance Procedures for taxpayers to disclose digital currency transactions, income and accounts.  A voluntary disclosure also provides the opportunity to calculate, with a reasonable degree of certainty, the total cost of resolving open tax issues.  Time is of the essence to voluntarily report such information before the IRS obtains information pursuant to John Doe summonses, FATCA (the Foreign Account Tax Compliance Act), TIE (Tax Information Exchange) Agreements, etc.  Anyone who has income as a result of transactions through Coinbase, Inc. or any other virtual or digital platforms, or unreported virtual or digital currency assets, should contact Rubinstein & Rubinstein, LLP immediately for a consultation.

Upcoming Webinar: FBAR / US Tax Reporting and Compliance for Foreign Assets

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On September 29, 2016, Asher Rubinstein will be the featured speaker in a live webinar, FBAR and U.S. Tax Reporting and Compliance Requirements for Foreign Assets.

Since the Foreign Account Tax Compliance Act (FATCA) was passed in 2010, most countries around the world will report foreign accounts to the IRS.  American taxpayers who do not report foreign assets and income to the IRS (whether innocently or willfully) can be investigated and charged with significant penalties.  In this webinar, you’ll learn about foreign reporting requirements and how to comply with the law and avoid penalties.  Upon completion of this course, you will be able to:

  • Identify what foreign assets must be reported to the IRS and what forms must be filed.
  • Determine whether a client is non-compliant under the following circumstances:
    • If a client did not report foreign assets and income to the IRS.
    • If a client just closes his or her foreign bank account.
    • If the client innocently did not know about the foreign reporting requirements.
    • Is the client inherited foreign assets from a relative who is not American.
    • If the client lives and works in a foreign country.
  • Explain how the IRS could learn about foreign assets if the client doesn’t report them.
  • Describe whether a client who paid tax to a foreign government still has to report the assets to the IRS.
  • Determine whether foreign real estate has to be reported to the IRS.
  • Recognize how to respond when a client receives a letter from their foreign bank.
  • Avoid penalties for not reporting offshore assets.

For more information or to enroll, please see here.

 

IRS Reporting Requirements for Foreign Trusts

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Introduction

This memorandum addresses the reporting requirements applicable to a U.S. taxpayer following the establishment a foreign trust. Foreign trusts covered herein and subject to the reporting requirements include foreign trusts where a U.S. taxpayer is the Settlor or Grantor of the trust, including many “Asset Protection Trusts”.1

As we have previously advised clients, a foreign trust may be an excellent tool for asset protection purposes, but clients must understand and be prepared to follow all I.R.S. reporting requirements, and pay all taxes due to the I.R.S. even though the trust is domiciled overseas. Clients should give a copy of this memorandum to their accountant.

Reporting Requirements

As a threshold matter, a grantor or transferor to a foreign trust must report on his or her individual IRS Form 1040, Schedule B, Part III, for the year of transfer to or creation of the foreign trust, information regarding the trust creation, transfer to the trust, and if applicable, whether the taxpayer has an interest in or signature or other authority over a foreign financial account.2

With respect to foreign trusts, Internal Revenue Code (“IRC”) § 6048(a) imposes a duty upon the “responsible party”3 to provide written notice4 of any “reportable event”5 to the Secretary6. In IRS Notice 97-34, the Secretary prescribed that form 3520 shall be used to report all transactions with foreign trusts and receipts of foreign gifts. Form 3520, Annual Return to Report Transactions with Foreign Trusts and Receipt of Certain Foreign Gifts, requires the provision of the following information: names, addresses and identification information of the foreign trust, beneficiaries (including their percentage interests), the location of the trust, and the value of cash or other property transferred to the foreign trust. For your convenience, a copy of Form 3520 is attached to this memorandum. Form 3520 should be filed with the taxpayer’s annual income tax return by the due date of the taxpayer’s return for the taxable year of the transfer to the foreign trust. A copy of Form 3520 must also be sent to the IRS Philadelphia Service Center.

Additional Reporting Requirements – Owners

In addition to the reporting requirements imposed on “responsible parties”, IRC § 6048(b) imposes upon an “owner” of any portion of a foreign trust the responsibility of insuring that:

  1. the trust files a return for each year which sets forth a full and complete accounting of all trust activities and operations for the year, the name of the U.S. agent for the trust, and such other information as the Secretary prescribes; and
  2. the trust furnishes such information as the Secretary requires to each U.S. person who is treated as an owner of any portion of the trust or who receives (directly or indirectly) any distribution from the trust.

A Trustee may use Form 3520-A, Annual Information Return of Foreign Trust with a U.S. Onwer, to satisfy the trust’s reporting requirements. For your convenience, a copy of Form 3520-A is attached to this memorandum7. Form 3520-A reports to the IRS the taxable income of the trust and allocation of that income among the trust’s U.S. owners. If the trustee fails to file Form 3520-A, the responsibility will rest with the U.S. owner.

The owner can avoid many of these reporting requirements by insuring that there is a U.S. agent appointed and authorized to act pursuant to IRC § 6048(b). Once appointed and authorized to act, the agent can insure that all reporting requirements are met and any IRS inquiries can be made directly to him or her. The owner may serve as the U.S. agent of the trust.

Additional Reporting Requirements – Beneficiaries

IRC § 6048(c) imposes a duty upon a beneficiary8 of a foreign trust who receives (directly or indirectly) any distribution9. from the foreign trust during the taxable year to file a return, which must include: (1) the name of such trust; (2) the aggregate amount of the distributions so received from such trust during the taxable year, and (3) such other information as the Secretary may prescribe.

The beneficiary is required to file Form 3520 and disclose the amount and source of the distribution, by the due date of the beneficiary’s income tax return for the year of the receipt of the distribution. In addition, a U.S. taxpayer who has received a distribution as a beneficiary of a foreign trust is also required to disclose this on IRS Form 1040, Schedule B, Part III.

Conclusion

Transferring assets to a foreign trust can provide valuable asset protection advantages. But at the same time, U.S. foreign trust clients must comply with all IRS reporting requirements.

  1. The reporting requirements described herein are not applicable where a client has purchased a foreign annuity from an overseas annuity company, and that annuity company has then funded a trust. A U.S. taxpayer who has received a distribution from a foreign trust may still be required to file IRS Form 3520; see infra at p.3. A U.S. taxpayer who has received annuity payments from a foreign annuity company is not required to file IRS Form 3520.
  2. Where a U.S. taxpayer has signature or other authority over a foreign financial account, that person is also required to file Form TD F 90-22.1, Report of Foreign Bank and Financial Accounts (also known as the “FBAR”). Recent revisions to the FBAR instructions require that a U.S. grantor of a foreign trust has to file an FBAR if that trust has a protector. The instructions do not distinguish between a U.S. protector or a foreign protector.
  3. A “responsible party,” is defined under IRC § 6048(a)(4), as either:
    1. The grantor, in the case of the creation of an inter vivos trust;
    2. The transferor, in the case of a transfer of money or property to a foreign trust, including a transfer by reason of death; or
    3. The executor of a decedent’s estate, in any other case.
  4. IRC § 6048(a)(2) provides that, at a minimum, the required notice shall contain:
    1. The amount of money or other property transferred to the trust in connection with the reportable event; and
    2. The identity of the trust and of each trustee and beneficiary (or class of beneficiaries) of the trust.A “reportable event” is defined under IRC § 6048(a)(3) as:
      1. The creation, by a United States person, of any foreign trust;
      2. The transfer of any money or property (directly or indirectly) to a foreign trust by a U.S. person, including transfer by reason of death; and
      3. The death of a citizen or resident of the U.S. if:
        1. The decedent was treated as the owner of any portion of a foreign trust; or
        2. Any portion of a foreign trust was included in the gross estate of the decedent.
  5. NOTE: Fair market value sales and transfers to deferred compensation and charitable trusts are not considered “reportable events” in most circumstances. See IRC § 6048(a)(3)(b)(I) & (ii).
  6. The term “Secretary” means the Secretary of the Treasury or his delegate. IRC § 7701(a)(11)(B). The term “Delegate” means any officer, employee, or agency of the Treasury Department duly authorized by the Secretary of the Treasury. IRC § 7701(a)(12)(A)(i).
  7. Clients should note that whereas Form 3520 is due on the date that the taxpayer’s regular return is due, Form 3520-A is due by the fifteenth day of the third month after the end of the trust’s tax year. If the trust’s tax year ends on December 31, then Form 3520-A is due the following March 15. Clients should discuss the return date with their accountants, especially if the trust’s tax year is not the calendar year.
  8. The Service defines a beneficiary as “any person that could possibly benefit (directly or indirectly) from the trust at any time (including any person who could benefit if the trust were amended), whether or not the person is named in the trust instrument as a beneficiary and whether or not the person can receive a distribution from the trust in the current year. [I]f the trustee is given complete discretion to distribute trust income to anyone, friends and business associates of the family would be considered beneficiaries of such a trust because it could be reasonably anticipated that the trust could possibly benefit such persons.” Notice 97-34; 1997-25 I.R.B. 22.
  9. Distributions include:
    1. Cash payments.
    2. Loans.
    3. Payments in excess of fair market value of goods or services provided to the trust.
    4. Constructive distributions (loan or debt forgiveness, credit guarantee, etc.).

The FBAR form, Report of Foreign Bank and Financial Accounts, is due by June 30, 2016 for Offshore Assets

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Once again, the FBAR deadline is upon us. The FBAR, the Report of Foreign Bank and Financial Accounts, previously known as Treasury Department Form TD F 90-22.1 and now known as FinCEN Form 114, is due by June 30, 2016, for foreign financial accounts that existed during 2015. Even if you are on extension to file your 2015 U.S. income tax return, there is no extension for the FBAR filing. The FBAR must be filed electronically.

We’ve written extensively about the FBAR and the many different types of foreign assets that are considered to be “foreign financial accounts” and are required to be reported:

Do You Have an Offshore Account?

FBAR Reporting for Foreign Annuities, Life Insurance and Trusts

Offshore Asset Protection Trusts and FBAR Reporting

Ongoing U.S. Tax Compliance for Foreign Assets

Our attorneys advise U.S. taxpayers on whether their foreign assets are subject to the FBAR.  We also advise on how to correct past FBAR non-filings. In some cases, FBAR non-filing can be corrected without penalties. In other cases, such as when a taxpayer did not file an FBAR and also did not report foreign income to the IRS (interest, dividends, rents, etc.), then it may be possible to come into compliance via a pre-emptive Voluntary Disclosure to the IRS. However, if the IRS already has information about the offshore assets (from the foreign bank, for example), or if the taxpayer is already under investigation or audit, then it may be too late for a voluntary disclosure. Thus, proper timing is critical. We can assist you with these issues regarding reporting foreign assets and minimizing penalties.  Please contact us for a confidential consultation.