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Basic Individual Tax Reporting Requirements for U.S. Citizens Residing Outside of the United States

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If you are a U.S. citizen or a dual citizen of the United States and another country (or countries) the IRS expects you to comply with certain individual tax reporting requirements even you reside outside of the United States. The purpose of this article is to outline some of the most important of these reporting requirements; it should be noted, however, that this article simply provides a broad background information and does not cover all of the requirements that may be applicable to in your situation – you are advised to consult Sherayzen Law Office for a detailed analysis of your particular tax reporting requirements.

A. Tax Return Filing Requirements

The United States has a very complex tax system which is somewhat unique in the world. One of the most singular features of this tax system is the taxation of the worldwide income of its citizens. As a United States citizen, you must file a federal income tax return for any tax year in which your gross income is equal to or greater than the applicable exemption amount and standard deduction. I wish to emphasize here that “gross income” means worldwide income. For example, if you earned $1,000 in the United States and $50,000 outside of the United States, you must file a U.S. tax return (however, if you meet all of its requirements, you may be able to take the foreign earned income exclusion). With exceptions which may or may not apply to your case, you have to report the worldwide income irrespective of what type of income you are receiving – rental, bank interest, dividends, et cetera. Note, however, that certain tax treaties may apply and modify your particular tax reporting requirements.

B. Form TD F 90-22.1: FBAR (Report on Foreign Bank and Financial Accounts)

As a United States citizen, you may be required to report your interest in certain foreign financial accounts on FinCEN Form 114 formerly Form TD F 90-22.1, Report of Foreign Bank and Financial Accounts (FBAR). The form should be filed separately from your tax return by June 30 of each relevant calendar year. Visit our Voluntary Disclosure and FBAR Center for more information.

It is important to emphasize that the combination of failure to file the FBAR with failure to pay U.S. tax can radically complicate your legal situation as the FBAR penalties are more likely to be imposed in this scenario. These FBAR penalties are likely to be much higher than your average failure to file penalty.

Please schedule a consultation with Sherayzen Law Office experienced FBAR tax firm in order to deal with this situation properly.

C. Individual Reporting With Respect to Foreign Business Ownership: Forms 5471, 8865, et cetera.

In some situations, you may be required to file additional forms with respect to foreign business ownership. The most common of these forms are 5471, 8865, 8858, and so on. These are highly complex forms which are usually filed with your tax return.

D. Reporting of Foreign Gifts, Inheritance, and Trust Income: Form 3520

In some situations, you may be required to file Form 3520 in order to report qualifying foreign gifts, inheritance, and trust income.

Keep in mind, additional requirements may apply with respect to domestic gifts, inheritance and trust distributions.

E. Passive Foreign Investment Company Income: Form 8621

In some situations, you may be required to file Form 8621 in order to properly report what is known as “passive foreign investment company” or PFIC income. Despite its deceivingly simple format, this form may require extremely complex accounting calculations and legal determinations. A separate penalty structure applies to Form 8621.

F. New Reporting Requirements of Foreign Financial Assets: Form 8938

A new law (FATCA) requires U.S. taxpayers who have an interest in certain specified foreign financial assets with an aggregate value exceeding the specified threshold amount to report those assets to the IRS. Taxpayers who are required to report must submit Form 8938 with their tax return. See our earlier article with respect to Notice 2011-55 for additional information about this reporting requirement under IRC section 6038D.

This form carries its own elaborate penalty structure which may even affect your ability to take foreign tax credit.

H. Other Reporting Requirements

Obviously, it is beyond the scope of this article to list every tax reporting requirements that may apply to your case. This article merely attempts to sketch some of the most important tax filing requirements that you may need to comply with. There are may be other forms that may apply to your particular situation; you will need to consult Sherayzen Law Office for a particular analysis of your fact pattern.

G. Penalties

1. Penalties and Interest imposed for failure to file income tax returns or to pay tax

Failure to file the income tax return and/or pay tax due may result in substantial IRS penalties unless you show that the failure is due to reasonable cause and not due to willful neglect. Main penalties are listed in Internal Revenue Code (IRC) Section 6651 and include failure to file and failure to pay tax (both of which are limited to 25 percent of your total tax deficiency).

In addition to penalties, pursuant to IRC Sections 6621 and 6622, the IRS will also require you to pay the interest on the tax liability according to underpayment rate (compounded daily) published on a quarterly basis.

2. Reasonable Cause Considerations

Whether a failure to file or failure to pay is due to reasonable cause is based on a consideration of the facts and circumstances. Reasonable cause relief is generally granted by the IRS when you demonstrate that you exercised ordinary business care and prudence in meeting your tax obligations but nevertheless failed to meet them. In determining whether you exercised ordinary business care and prudence, the IRS will consider all available information.

This is why it is important to have an experienced tax attorney advocating your position and presenting the arguments to the IRS. While it is not a guarantee that the IRS will actually abate the penalties, your chances of success are likely to be higher than if you were to present your case without professional assistance.

3. Possible additional penalties that may apply in particular cases

In addition to the failure to file and failure to pay penalties, in some situations, you could be subject to other civil penalties, including the accuracy-related penalty, fraud penalty, and certain information reporting penalties.

Moreover, you may be subject to additional penalties for failure to accurately file other informational reports such as 3520, 8865, 5471, 8621, 8938 and other forms. These penalties can be extremely severe and such cases must be reviewed by a tax professional before presenting the argument to the IRS. FBAR penalties especially stand out due to their potentially draconian severity. For example, the civil penalty for willfully failing to file an FBAR can be up to the greater of $100,000 or 50 percent of the total balance of the foreign account at the time of the violation. See 31 U.S.C. § 5321(a)(5). Since the penalty can be imposed for each year of non-compliance, the FBAR penalties can greatly exceed the current balance on an account.

Finally, criminal penalties may be imposed in extreme cases.

You should visit our Voluntary Disclosure and FBAR Center in order to learn more about the tax reporting requirements as well as the various penalty structures that may apply to you.

Contact Sherayzen Law Office To Determine Your IRS Reporting Requirements

This article merely provides a general background information on U.S. tax reporting requirements and is NOT meant to be treated as a legal advice. If you are U.S. citizen or a dual citizen and you live abroad (or have exposure to international taxes), contact Sherayzen Law Office for legal help with U.S. international tax compliance. Our experienced tax compliance firm will guide you through the complex web of international tax reporting requirements and help you bring your tax affairs into full compliance with U.S. tax laws and regulations.

IRS Releases Guidance on Foreign Financial Asset Reporting (Form 8938)

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On December 15, 2011, the Internal Revenue Service stated that it will soon release the final version of a new information reporting form that taxpayers will use starting this coming tax filing season to report specified foreign financial assets for tax year 2011.  Form 8938 (Statement of Specified Foreign Financial Assets) will be filed by taxpayers with specific types and amounts of foreign financial assets or foreign accounts. It is important for taxpayers to determine whether they are subject to this new requirement because the IRS imposes significant penalties for failing to comply.

The Form 8938 filing requirement was enacted in 2010 as part of FATCA to improve tax compliance by U.S. taxpayers with offshore financial accounts.  The scope and the depth of the Form is even more profound that the FBARs.

Individuals who may have to file Form 8938 are U.S. citizens and residents, nonresidents who elect to file a joint income tax return and certain nonresidents who live in a U.S. territory. Form 8938 is required when the total value of specified foreign assets exceeds certain thresholds.

Form 8938 is not required of individuals who do not have an income tax return filing requirement.

The new Form 8938 filing requirement does not replace or otherwise affect a taxpayer’s obligation to file an FBAR (Report of Foreign Bank and Financial Accounts).

Failure to file Form 8938 when required may result in severe penalties – $10,000 with an additional penalty up to $50,000 for continued failure to file after IRS notification.  Moreover, a 40 percent penalty on any understatement of tax attributable to non-disclosed assets can also be imposed.  Other penalties may apply.

Finally, a special statute of limitation rules apply to Form 8938.

Contact Sherayzen Law Office For Tax Help with the IRS Form 8938

If you need any help with respect to understanding Form 8938 or to see whether you need to file this Form, contact Sherayzen Law Office Ltd.  Our experienced international tax firm will explain to you the requirements of Form 8938 and help you comply with its requirements.

Form 8865: Categories of Required Filers

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For taxpayers who are required to file IRS Form 8865 (“Return of U.S. Persons with Respect to Certain Foreign partnerships”) is used to report required information under IRC section 6038 (reporting with respect to controlled foreign partnerships), IRC section 6038B (reporting of transfers to foreign partnerships), and IRC section 6046A (reporting of acquisitions, dispositions, and changes in foreign partnership interests). For purposes of these requirements, a “foreign partnership” is defined to be a partnership that is not created or organized in the United States or under the law of the United States or of any state.

Since the penalties for the failure to accurately file Form 8865 can be severe, it is important to recognize who is required to file the Form. This article examines which taxpayers are generally required to file the Form, and explores the four categories of filers who must report the required information.

Who Must File Form 8865

U.S. persons who meet one or more of the four categories of filers (explained below) must complete and file Form 8865. It is important to remember that the Form may require the taxpayer to file additional schedules and other information (the additional filing information will usually depend upon the taxpayer’s filing category). You should consult an international tax attorney on what information should be disclosed on Form 8865, including additional schedules and attachments.

Four Categories of Filers

Category 1 Filers

A category 1 filer is a U.S. person who controls a foreign partnership at any time during the partnership’s tax year. “Control” of a partnership is defined to be ownership of more than a 50% interest in the partnership. Under IRS rules, a 50% interest in a partnership is an interest equal to 50% of the capital, 50% of the profits, or 50% of the deductions or losses. Additionally, for purposes of determining a 50% interest, highly complex IRS indirect and constructive ownership rules may apply.

The various partnership control interest rules mean that it is possible to have multiple Category 1 filer in a foreign partnership.

Category 2 Filers

A category 2 filer is a U.S. person, who at any time during the foreign partnership’s tax-year, owned a 10% or greater interest in the partnership while the partnership was controlled by U.S. persons each owning at least 10% interests. A 10% interest in a partnership is an interest equal to 10% of the capital, 10% of the profits, or 10% of the deductions or losses. In addition, indirect and constructive ownership rules also apply to determining whether there is a 10% interest.

An interesting exception may apply where a partnership has a category 1 filer at any time during a tax year. You will need to consult an international tax attorney on whether such exception applies in your case and what are the consequences.

Category 3 Filers

A Category 3 filer is defined to be a U.S. person, who in exchange for an interest in the partnership, contributed property during that person’s tax year to a foreign partnership (an IRC section 721 transfer), if that person meets one of two requirements: 1) The taxpayer either owned, directly or constructively, at least a 10% interest in the foreign partnership immediately after the transfer, or 2) The value of the property contributed, when added to the value of any other property contributed to the partnership by such person (or related persons under IRS rules), during the 12-month period ending on the date of transfer, exceeded $100,000.

Additionally, U.S. persons who previously transferred appreciated property to the partnership (and were required to report that contribution under section 6038B) will qualify as category 3 filers if the foreign partnership disposed of such property while the U.S. person remained a direct or indirect partner in the partnership.

Furthermore, if a domestic (US) partnership contributes property to a foreign partnership, the domestic partnership’s partners are deemed to have transferred a proportionate share of the contributed property to the foreign partnership. The domestic partners, however, are not likely to be required to report the transfer provided that the domestic partnership files Form 8865 and properly reports all the required information with respect to the contribution.

Category 4 Filers

A Category 4 filer is a U.S. person who has a reportable event under IRC section 6046A during that person’s tax year. Under section 6046A, there are three categories of reportable events: acquisitions, changes in proportional interests, and dispositions.

A. Acquisitions

A U.S. person who acquires a foreign partnership interest has a reportable event if: 1) That person did not previously own a 10% or greater direct interest in the partnership and as a result of the acquisition, the person now owns a 10% or greater direct interest in the partnership (for example, from 8% to 10%). For purposes of this rule, an acquisition includes an increase in a person’s “direct proportional interest” (defined below); or 2) Compared to the person’s direct interest when the person last had a reportable event, after the acquisition, the person’s direct interest has now increased by at least 10% (for example, from a 13% interest to a 23% interest).

B. Changes in a Proportional Interest

A partner’s proportional interest in a foreign partnership can change as a result of changes in other partners’ interests. Some examples include when another partner withdraws from a partnership, or by operation of the partnership agreement (i.e., a partnership agreement may state that a partner’s interest in profits will change on a set date or when the partnership has earned a specified amount of profits, thus changing the proportional interest in the partnership).

C. Dispositions

A U.S. person who disposes of a foreign partnership interest has a reportable event if: 1) The person previously owned a 10% or greater direct interest in the partnership before a disposition, and as a result of the disposition, the person now owns less than a 10% direct interest (for example, from 10% to 9%). (A disposition also includes a decrease in a person’s direct proportional interest for purposes of this rule); or 2) Compared to the person’s direct interest when the person last had a reportable event, after the disposition the person’s direct interest has now decreased by at least 10% (for example, from a 22% interest to a 12% interest).

Exemptions

While this is outside of the scope of this essay, I want to mention that there are certain exemptions from Form 8865 filing requirements may be applicable depending upon the facts of a US person’s case. You need to consult an international tax attorney to determine whether your situation is compatible with any of the exemption categories.

Contact Sherayzen Law Office for Legal Help With Form 8865

The filing of Form 8865 involves complex legal and tax issues, and this article only attempts to provide a very general background information that should not be relied upon in making the determination of your specific situation. Rather, you should contact Sherayzen Law Office for legal help with this issue. Our experienced international tax firm will help you determine whether you need to file Form 8865, and help you to properly draft and file the Form. We can also help you with any voluntary disclosure matters involving Form 8865.

Form 8938 New Foreign Asset Reporting Requirements: Introduction

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In its continuous efforts to combat tax evasion, the IRS imposed a brand-new foreign asset reporting requirements on U.S. persons.  For the very first time, starting tax year 2011 (with certain exceptions), certain individuals must file the new Form 8938 to report the ownership of specified foreign financial assets if the total value of those assets exceeds an applicable threshold amount.

This threshold amount differs depending on the particular situation of a U.S. person – whether an individual lives in the United States, is married and filing a joint income tax return, et cetera.

The “specified foreign financial assets” include any financial account maintained by foreign financial institution and certain investment assets such as stock, securities or any other interest in a foreign entity and any financial instrument or contract with an issuer or counterparty who is not a U.S. person.

Based on this description alone, it becomes obvious that the new Form is likely to impose a higher reporting burden than the famous FBARs.   Note that Form 8938 does not replace the FBAR reporting requirements – i.e. the FBARs must still be filed by June 30 (former FBAR due date) of a relevant year in addition to Form 8938.

Unlike the FBAR, Form 8938 is attached to the filer’s annual tax return and must be filed by the due date (including extensions) for that return.  An annual return includes the following forms: Form 1040, Form 1120, Form 1065, Form 1120-F, Form 1120-S, and Form 1040NR (of a nonresident alien who is a bona fide resident of Puerto Rico or American Samoa).

Note that Form 8938 imposes new failure-to-file and accuracy-related penalties, which are very severe and may be combined with other penalties.  Moreover, failure to file an accurate Form 8938 may extend the statute of limitations for all or a part of your income tax return until three years after the date on which you file Form 8938.

Note that, pursuant to Notice 2011-55, the IRS provides for a transitional rule for the year 2011 which may defer your obligation to file Form 8938 until the tax year 2012 as long as you satisfy all of the three requirements of the transitional rule.

Contact Sherayzen Law Office For Legal Help With Form 8938

This article highlights a few features of the new Form 8938 and it should not be relied upon in determining whether you are obligated to file Form 8938.  Form 8938 is fairly complex and you need professional help to determine how to comply with the Form’s requirements.

If you have any questions with respect to Form 8938, please contact Sherayzen Law Office.  Our experienced international tax firm will help you determine whether you must file Form 8938 and help you draft and file the form with your tax return in order to avoid the heavy IRS penalties for non-compliance.

Non-recognition Transactions Involving Foreign Corporations: Top Three Reporting Requirements

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When we are talking about nonrecognition transactions, we generally mean mergers, spinoffs, and contributions of capital. When such transactions involve foreign corporations, U.S. tax laws impose a number of reporting requirements.

In this brief essay, I will generally discuss the top three reporting requirements for U.S. persons who are involved in nonrecognition transactions involving foreign corporations.

First, IRC Section 6038B and corresponding IRS regulations require that certain information be reported to the IRS on Form 926 for outbound transfers. This means that Form 926 may be required where a U.S. person transfers (or is deemed to transfer) property, including cash, to a foreign corporations. In some case, a similar requirement applies when a foreign corporation is transferred in a IRC Section 355 transaction, such as a spinoff, to certain other foreign or domestic persons (there are also special rules involving transfers to foreign partnerships). Also, keep in mind that a transfer of intangible property to a foreign corporation may also result in additional filing requirements. Other transfers, such as indirect stock transfer, may create a deemed transfer to a foreign corporation.

The second group of requirements is centered around the tax-free transfer of the stock of a domestic corporation to a foreign corporation. IRC Section 367(a) and attendant regulations required the transferred U.S. target to give notice.

The third group of requirements concerns foreign corporations that participate in certain tax-free inbound and foreign-to-foreign reorganization. Pursuant to IRC Section 367(b), the IRS regulations required notice to be filed with the IRS with respect to such reorganizations.

Contact Sherayzen Law Office For Legal Advice Regarding Non-Recognition Transactions Involving Foreign Corporations

This brief essay only provides some of the contours of the reporting requirements regarding non-recognitions transactions involving foreign corporations; it should not be relied upon in determining your IRS reporting requirements.

Rather, if you have any questions with respect to your reporting requirements involving such transactions with respect to foreign corporations, you should contact Sherayzen Law Office. Our experienced international tax firm will assist you in identifying your IRS reporting requirements and help you comply with them.