IRS Issues Guidance on Reporting Foreign Financial Assets and Final Version of Form 8938 and Instructions
The Internal Revenue Service recently issued temporary and proposed rules relating to the provisions of the Hiring Incentives to Restore Employment (HIRE) Act that require foreign financial assets to be reported to the IRS for taxable years beginning after March 18, 2010. The regulations, which are effective for tax years ending after December 19, 2011, provide guidance under Section 6038D of the Internal Revenue Code (the Code) relating to the disclosure of ownership interests in foreign financial assets. The IRS has also released the final version of Form 8938 (Statement of Specified Foreign Financial Assets), which taxpayers will use starting this coming tax filing season to report specified foreign financial assets for tax year 2011.
Background
Section 6038D of the Code requires an individual who holds any interest in a specified foreign financial asset during the taxable year to attach a statement to that individual's tax return to report certain information relating to such assets, if the aggregate value of the specified foreign financial assets in which the individual holds an interest exceeds $50,000 for the taxable year, or such higher dollar amount as the Secretary may prescribe.
A specified foreign financial asset is any financial account maintained by a foreign financial institution and, to the extent not held in an account at a financial institution: (i) any stock or security issued by any person other than a United States person; (ii) any financial instrument or contract held for investment that has an issuer or counterparty that is not a United States person; and (iii) any interest in a foreign entity.
Failure to comply with the reporting requirements could result in a $10,000 penalty, with an additional penalty up to $50,000 for continued failure to file after IRS notification.
Explanation of Regulations
Each U.S. citizen, resident alien of the United States, or nonresident alien who has elected to be taxed as a U.S. resident or is otherwise treated as a resident under other Sections of the Code must file Form 8938 if he or she has an interest in one or more specified foreign financial assets and those assets have an aggregate fair market value exceeding either $50,000 on the last day of the taxable year or $75,000 at any time during the taxable year. Married specified individuals filing a joint annual return are not required to file Form 8938 unless the aggregate value of all of the specified foreign financial assets in which either spouse has an interest exceeds $100,000 on the last day of the taxable year or $150,000 at any time during the taxable year. One is not required to file Form 8938 for any taxable year for which such person is not required to file an annual income tax return with the IRS.
The regulations increase the reporting threshold in the case of certain qualified specified individuals (generally, one who has a tax home in a foreign country and who is: (1) a U.S. citizen and establishes to the IRS's satisfaction that he or she has been a bona fide resident of a foreign country for an uninterrupted period which includes an entire tax year; or (2) a U.S. citizen or resident who is physically present in a foreign country for at least 330 full days during any period of 12 consecutive months). For such persons, the filing threshold is increased to specified foreign financial assets which exceed $200,000 on the last day of the taxable year or $300,000 at any time during the taxable year ($400,000 and $600,000 for married individuals who file a joint federal income tax return).
A specified person is generally considered to have an interest in a specified foreign financial asset if any income, gains, losses, deductions, credits, gross proceeds, or distributions attributable to the holding or disposition of the asset are or would be required to be reported, included, or otherwise reflected on the specified person's annual return filed with the IRS (even if no income, gains, losses, deductions, credits, gross proceeds, or distributions are attributable to the asset for a particular taxable year). The owner of a disregarded entity or grantor trust is generally treated as having an interest in any specified foreign financial assets held by the disregarded entity or trust. A parent that makes an election under the Code to include certain unearned income of a child in the parent's gross income required to be reported for the tax year has an interest in any specified foreign financial asset held by the child. A specified person is not generally treated as having an interest in any specified foreign financial assets held by a partnership, corporation, trust (with some exceptions), or estate solely as a result of the specified person's status as a partner, shareholder, or beneficiary.
Certain specified foreign financial assets are excepted from the reporting obligations imposed under Section 6038D. Assets reported by a specified person on certain other forms timely filed with the IRS are not required to be separately identified on Form 8938, but if a specified person is required to file Form 8938, the number of such other forms filed with the IRS must be reported on Form 8938. In addition, the value of specified foreign financial assets that qualify for this exception is included for purposes of determining whether the aggregate value of specified foreign financial assets in which a specified individual has an interest exceeds the applicable reporting threshold.
Another category of assets excepted from reporting are assets considered owned by a specified person that is treated as the owner of certain trusts. Additionally, certain assets held by a specified individual who is a bona fide resident of a U.S. territory are also excepted from reporting. Specified foreign financial assets that qualify for either of these two exceptions are not included for purposes of determining whether the aggregate value of specified foreign financial assets in which a specified person has an interest exceeds the applicable reporting threshold.
A beneficial interest in a foreign trust or a foreign estate is not a specified foreign financial asset of a specified person unless the specified person knows or has reason to know based on readily accessible information of the interest. Receipt of a distribution from the foreign trust or foreign estate is deemed for this purpose to be actual knowledge of the interest.
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), even though certain information may be reported on both Form 8938 and the FBAR. The penalty of $10,000 can be assessed for failure to timely file a complete and correct Form 8938. A continued failure to file within 90 days of after IRS mails a notice of failure to file can subject a taxpayer to an additional penalty of $10,000 for each 30 day period up to a maximum additional penalty of $50,000. In addition, failure to timely file a Form 8938 for any year can cause the statute of limitations for assessment of income taxes with respect to such year to remain open beyond the normal three year period.
Click the appropriate links for a copy of the final version of Form 8938, the instructions, the proposed regulations and the temporary regulations.
Attorneys in the Tax Practice Group at Troutman Sanders LLP regularly counsel clients on complex U.S. tax issues associated with foreign investment and ownership of foreign assets. If you have questions or concerns, please contact any member of the Tax Practice Group.