Sam Brotman, JD, LLM, MBA October 15, 2020 21 min read

Types of International Tax Forms

There are many informational forms associated with international taxes and I am not sugar-coating this — they are complicated. To add to the angst, failure to file these forms or not file them on time can incur hefty penalties. In a later chapter, we will discuss the various compliance programs you may be eligible to participate in. I like to lay out all of the scenarios regarding penalties to my clients up front, so they know what we are potentially dealing with.

To get started, we will focus first on the very basics — your Federal tax form — whichever version of Form 1040 that you are required to file.

1040/1040-SR – Schedule B

Individuals who meet the requirements set out by the Internal Revenue Service are required to file income tax returns on a yearly basis. This requirement is completed by filing a 1040 or a 1040A. Typically, taxpayers must fill out and attach Schedule B to their income tax return (1040/1040A) if they had any interest or dividends regardless of whether the source was foreign or domestic.

If the taxpayer had a foreign account or received a distribution from, created or contributed to a foreign trust, they are required to complete section III of Form B. Section III is comprised of two questions (four if you count subparts). These four “simple” questions lead to a world of confusion.

1040 Schedule B — Question 7a

The first question, question 7a, requires you to report if you had a financial interest or signature authority over a financial account in a foreign country. The term financial account includes but is not limited to:

  • Securities, brokerage accounts
  • Savings accounts
  • Demand accounts
  • Checking accounts
  • Deposit accounts
  • Time deposit accounts
  • Other accounts maintained with a financial institution or other person performing the services of a financial institution.
  • Commodity accounts
  • Futures accounts
  • Options accounts
  • Insurance policies with cash value
  • Annuities
  • Shares in mutual funds or similar pooled funds

1040 Schedule B — Question 7a Line 2

If you answer “yes” to the first part of question 7a, you are then asked if you are required to file FinCEN Form 114, Report of Foreign Bank and Financial Accounts (FBAR.) A logical person would probably search the IRS’s incredibly well-developed website for Form 114. This would leave the taxpayer confused.

While there are vague references to the form on the IRS site, the form itself is not there because it is not an IRS form. FinCEN is officially known as the Financial Crimes Enforcement Network. It is a separate division of the Department of Treasury. FinCEN’s mission is to safeguard the financial system from illicit use and combat money

laundering and promote national security through the collection, analysis, and dissemination of financial intelligence and strategic use of financial authorities.[2]

FBAR is designated as Form 114 in the FinCEN system.

[1]26 U.S. Code § 720126 U.S. Code § 7201

[2]http://www.fincen.gov/about_fincen/wwd/mission.html

1040 Schedule B — Question 7b

For the taxpayer who is still reading, after the grueling determinations under the two parts of 7a, 7b of Section III is a softball question. This question is actually straight forward if you figured out the answer to question 7a line 2.

If you have to file FinCEN 114, you are required to divulge the name of the country in which the financial account or other holding is located. A taxpayer whose primary goal is other than to hide offshore accounts should be able to complete this question simply.

1040 Schedule B — Question 8

If you received a distribution from, created, or transferred money into a foreign trust, the IRS wants to know. They also want to know if you received more than $100,000 in gifts from an individual or foreign estate, or $15,102 from a foreign corporation or partnership.

If you answer “yes” to this question, you must then determine if you need to file an IRS Form 3520. This question is somewhat deceptively simple unless you have generous relatives who reside outside of the U.S.

[1] The Bank Secrecy Act of 1970 31 CFR 1010.350

Form 3520/3520A

If you have an interest in a foreign trust, you may be required to also complete these forms. Form 3520 is an Annual Return to Report Transactions with Foreign Trusts and Receipt of Certain Foreign Gifts and Form 3520A is an Annual Information Return of Foreign Trust With a U.S. Owner.

The instructions for Form 3520 specify who must file. [1] You are required to file the form 3520 if:

  1. You are deemed the responsible party for reporting a reportable event.
    A reportable event is:
    a. The creation of a foreign trust by a U.S. person
    b. The transfer of any money or property, directly or indirectly, to a foreign trust by a U.S. person, including a transfer by reason of death. The penalty for failure to disclose the transfer is $10,000 or up to 35 percent of of the gross value of the distribution received from or transferred to a foreign trust
    c. The death of a citizen or resident of the United States if the decedent was treated as the owner of any portion of a foreign trust, or any portion of a foreign trust was included in the gross estate of the decedent
  2. You are a U.S. person who, during the current tax year, was treated as the owner of any part of the assets of a foreign trust.
  3. You are a U.S. person who received, directly or indirectly, a distribution from a foreign trust (including uncompensated use of trust property) or a related foreign trust held an outstanding obligation issued by you that you treated as a qualified obligation
  4. You are a U.S. person who during the current year received either:
    a. More than $100,000 from a nonresident alien individual or a foreign estate that you treated as a gift or a bequest. If you fail to report this gift on a 3520, the penalty is 5 percent per month of the amount up to 25 percent. Furthermore, if the 3520 is not filed in a timely manner, it is at the IRS’ discretion to how the gift is categorized. The IRS could decide the gift is taxable income and issue a Notice of Deficiency to the taxpayer.
    b. More than $15,102 from a foreign corporation or partnership that you treated as a gift.

It should be noted that if you are required to file Form 3520, it is due on the same date as your income tax return but gets sent to a different address, and not is included with your 1040 income tax filing.

If you have a foreign trust that meets grantor trust rules, it must be reported on Form 3520-A. Failure to report incurs a $10,000 penalty or 5 percent of the gross value of the portion received. Form 3520-A is due by March 15, not April 15, like most tax forms. If you need to file an extension to file your 3520, use Form 7004. Pay close attention to these dates; many tax preparers are not aware of the earlier filing date, which can cause your Form 3520 to be late.

Form 8938

This is the Statement of Specified Foreign Assets Form that you likely will have to file along with your income tax return if you must also complete an FBAR. U.S. citizens, resident aliens and certain non-resident aliens who have an interest in specific foreign financial assets and meet the filing thresholds must file this report yearly with their income tax returns. [2]

Here is a link to instructions provided by the IRS to guide you in completion of the form.

To understand the differences between the FBAR and Form 8938, here is a chart which illustrates the comparison of requirements under both.

Form 8938 is required if the total foreign-held asset value was $50,000 on the last day of the tax year, or $75,000 at any time during the tax year. If you are married and file jointly with your spouse, the threshold is $100,000 on the last day of the year or $150,000 at any time during the tax year.

If your tax home is a foreign country under the IRS’s rules, an unmarried taxpayer is required to report only if their assets were more than $200,000 on the last day of the tax year or more than $300,000 at any point during the year. The threshold for married taxpayers living abroad is $400,000 on the last day of the tax year or $600,000 at any time during the tax year.

You must report the maximum value of the foreign financial assets or financial accounts with foreign financial institutions, and certain other foreign non-account investment assets. The assets are reported in U.S. dollars using the end of the taxable year exchange rates.

Like FinCEN Form 114, there are reporting exemptions, but they differ from those of form 114. You do not have to report an account held in a foreign branch of a U.S. bank. Domestic mutual funds that invest in foreign stocks or securities or private equity funds are exempt. If held directly, personal property, such as jewelry and art, real estate, currency, and precious metals held abroad are all exempt.

[1] Internal Revenue Service Instructions for Form 3520.

https://www.irs.gov/pub/irs-pdf/i3520.pdf

[2] Internal Revenue Service Instructions for Form 8938. http://www.irs.gov/pub/irs-pdf/i8938.pdf

Form 8938 Penalties

The thing to remember when dealing with Form 8938 is that you not only get penalized for failing to file, but also if you do file it and make a mistake — or if your tax preparer makes a mistake. If you believe that the person who did your taxes is at fault, the IRS might consider that argument, if you are willing to reveal the name of your tax preparer. If the IRS contacts you and requests a 8938, then you better do so within 90 days. If not, then the meter starts running with the penalties which can be $10,000 a month up to a maximum of five months ($60,000 total).

Typically, when the IRS believes that you owe them more money, they will send you a Notice of Deficiency. That at least gives the opportunity to go to tax court before handing any money over to the IRS. There is also an independent fiducial review of the amount in question.

This is not the case regarding penalties for negligent or late filing of international informational forms. The one exception is if the taxpayer has had no previous opportunities to dispute the penalties; the taxpayer can then file an appeal. If the taxpayer loses on appeal, they can proceed to tax court.

n this instance, all of the penalties — whether the taxpayer owes them or not — must be paid in full. If the tax court rules in the  taxpayer’s favor, then the taxpayer can file a claim for a refund.

Form 5471

In addition to having an interest in a foreign account, you may own an interest in a foreign entity. If so, you may have obligations to file Form 5471 — Information Return of U.S. Persons With Respect to Certain Foreign Corporations. The rules for 5471 can be somewhat complicated, and you should determine whether or not you may fit in the category of individuals who have an obligation to file. The due date is April 15 for individuals and March 15 for corporations.

There are five categories of individuals or entities that are required to file Form 5471:

  • GILTI (Global Intangible Low-Taxed Income); applies to 10 percent U.S. shareholders of a controlled foreign corporation (CFC) to include in current income the shareholder's pro rata share of the GILTI income of the CFC. The GILTI rules apply to C corporations, S corporations, partnerships and individuals.
  • Officer or director if there have been changes of certain 10 percent in ownership by a U.S. person
  • Shareholders with certain 10 percent ownership changes in their own holdings
  • Control person in a CFC for at least 30 days;
  • A 10 percent or more owner of a CFC who owns stock for an uninterrupted period of 30 days or more during the tax year and who also owned that stock on the last day of the year.

One example that would trigger an obligation to file a Form 5471 is if a corporation has had more than a 10 percent change in ownership. However, there are categories which apply to officers of a corporation as well so you may want to look further to determine whether your particular circumstances require you to file.

Remember, failing to file a required disclosure form that is attached to your 1040 form can mean that the statute of limitations will be open indefinitely — not just for the form, but for the entire tax return. This form carries a $10,000 fine per form per month with a continuation penalty maximum of $50,000.

Form 5471 Penalties

One piece of advice that I give to my clients is if they are unsure whether or not they need to file a 5471, to just file it. The penalties are too onerous. 

  • $10,000 per foreign corporation plus a $10,000/month continuation penalty to a maximum of $50,000 (total penalty of $60,000)
  • If the IRS decides to audit, it is not unusual for them to go 10-15 years back
  • If there are multiple foreign entities where the client needs to file, and the client receives multiple penalties for each, then the total penalties can be astronomical

Form 5472

This form, Information Return of a 25% Foreign-Owned U.S. Corporation or a Foreign Corporation Engaged in a U.S. Trade or Business, is required in cases of a 25 percent foreign ownership of a U.S. corporation; or a corporation engaged in a U.S. trade or business. Examples of reportable transactions include rent and royalties paid, purchases and sales of tangible and intangible assets and loans.

For taxable years ending after 2017, Congress has increased the initial penalty under this form to $25,000 per year with a $25,000 continuation penalty per month and these continuation penalties can go back many years. This is another form where I tell my clients that if in doubt, file it.

Form 926

Return by a U.S. Transferor of Property to a Foreign Corporation must be filed by U .S. citizens, corporations and estates and trusts that transfer property or cash to foreign corporations. Form 926 needs to be filed within the year the transfer took place. The penalties for failure to report are 10 percent of the value of the property transferred to reach a maximum of $100,000 per return. If failure to file was intentional, the penalty can exceed $100,000.

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Sam Brotman, JD, LLM, MBA

Owner and Director of Legal
Brotman Law

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