If you have foreign interests, financial or otherwise, you likely have domestic reporting requirements, and the failure to correctly report could lead to substantial penalties.
Over the past 15 years, the Treasury Department has increased their scrutiny of foreign financial interests. Due in part to the increased compliance campaigns, filings reporting interest in foreign financial accounts alone rose from 280,000 to over one million in 2015. Gone are the days of parking money in an offshore bank account with no fear that Uncle Sam will find out. Indeed, beginning in 2010, UBS and other major international banks began disclosing the existence of accounts with U.S. holders and signatories.
Despite the increased scrutiny of foreign assets, many U.S. individuals (citizens and nonresident aliens) remain unaware of the complex web of forms and reporting obligations. The penalties for noncompliance may be steep, as we will discuss below, and it is critical that financial advisors, CPAs, and attorneys possess a basic understanding of what types of interests trigger filing requirements.
We have created two charts as extensions of this article and as very basic references to foreign filing requirements. The first chart describes the subtle (but important) differences between a Form 8938 and an FBAR, which are two of the most common forms that individual clients may need to file. The second chart describes the different forms that a tax practitioner may run into with regard to foreign filing requirements.
With each form we discuss in this article, we will focus on five specific requirements for each form: (a) who is required to file; (b) what is the “reporting threshold;” (c) what must be reported; (d) when does the person have a reportable interest; and (e) penalties for failure to file.
Interests in Financial Assets
Interests in foreign financial accounts or assets are among the most commonly held by U.S. persons, and the failure to report them carries substantial penalties, especially if the failure was willful. There are two forms that a U.S. person may use to disclose an interest in a foreign financial account or asset: (a) the IRS Form 8938; and (b) the FinCEN Form 114 (FBAR).
Who must file?
U.S. persons (individuals and domestic entities) use Form 8938 to report (to the IRS) that they hold an “interest” in a “specified foreign financial asset,” if the total value of all specified foreign financial assets in which the taxpayer has interest is more than the reporting threshold.
“Individuals include” U.S. citizens and resident aliens, and “domestic entities” include corporations, partnerships, and trusts. Importantly, domestic estates are specifically excluded from the list of domestic entities required to file Form 8938. Resident aliens of U.S. territories (Puerto Rico, Guam, etc.) do not need to file IRS Form 8938.
For single individuals (or married individual filing separately) living within the U.S., the reporting threshold for Form 8938 is $50,000 on the last day of the tax year or $75,000 at any time during the tax year. For single individuals (or married filing separately) living outside the U.S., the reporting threshold for Form 8938 is $200,000 on the last day of the tax year or $300,000 at any time during the tax year. For married individuals filing jointly in living within the U.S., the reporting threshold for Form 8938 is $100,000 (on the last day of the tax year) or $150,000 (at any time during the tax year). For married individuals filing jointly in living outside the U.S., the reporting threshold for Form 8938 is $400,000 (on the last day of the tax year) or $600,000 (at any time during the tax year). If an entity has an interest in a foreign financial asset more than $50,000 (at any time during the tax year), such entity meets the reporting threshold in must file a Form 8938.
What must be reported?
A taxpayer must report the maximum value of “specified foreign financial assets,” which include financial accounts with foreign financial institutions and certain other foreign investment assets (whether or not held in an account). An interest in social security or other similar programs of a foreign government is not considered a specified foreign financial asset. Financial accounts include depository and custodial accounts, maintained by a foreign financial institution as well as any equity or debt interests in a foreign financial institution, and any foreign cash value life insurance or annuity contracts. Stock issued by a foreign corporation, a profits interest in a foreign partnership, a note or other form of indebtedness issued by foreign person, an interest in a foreign trust or foreign estate, and other assets held for investment only are likewise considered “specified foreign financial assets” that must be reported on Form 8938.
The term “interest,” as it is used with regard to Form 8938, is narrower than it might appear at first blush. For instance, a taxpayer may be a beneficiary of a foreign estate but not have a reportable “interest” in such estate if the taxpayer is not presently entitled to income or distributions. A taxpayer has an “interest” in a foreign financial asset only if the taxpayer would have to report, reflect, or include any item of income, gain, loss, deduction, credit, gross proceeds, or distributions from holding or disposing of the account or asset on that taxpayer’s U.S. income tax return. Merely having signature authority over the account or asset is not enough to trigger the Form 8938 filing requirement.
Due date and penalties
Form 8938 is attached to the taxpayer’s annual income tax return, and it is due on the date that the taxpayer’s income tax return is due (including any applicable extensions). A taxpayer faces penalties up to $10,000 for failure to disclose the foreign financial asset. Additionally, the taxpayer faces another $10,000 each month that an 8938 is not filed after the IRS issues a notice of failure to disclose. The maximum (civil) penalty for failure to file and 8938 is $60,000. Criminal penalties may also apply if the failure to file was willful.
FinCEN Form 114 (FBAR)
Who must file?
The FinCEN Form 114 – Report of Foreign Bank Accounts (“FBAR”) is used by a U.S. person to report a financial interest in or signature authority over a foreign financial account. A U.S. person has a financial interest in, or signature authority over, a foreign financial account if the aggregate value of the foreign financial accounts exceeds $10,000 at any time during the calendar year.
For purposes of the FBAR, a U.S. person includes U.S. citizens, resident aliens, trusts, estates, and domestic entities. Unlike for purposes of Form 8938, “U.S. persons” include resident aliens of U.S. territories (Puerto Rico, Guam, etc.) and entities in such U.S. territories.
As mentioned above, the FBAR reporting threshold is $10,000. This value is in the aggregate, meaning that if a person has two or more foreign accounts, and the cumulative or combined balance of such accounts is greater than $10,000 at any time during the tax year, each such account must be reported on an FBAR. The U.S. person should examine periodic account statements to determine the maximum value in the currency of the account. Such currency should be converted to U.S. dollars using the end of calendar year exchange rate promulgated by the U.S. Treasury Department’s Bureau of Fiscal Service.
What must be reported?
A U.S. person must file a FBAR if that person has a “financial interest” in a foreign financial account or “signature authority” over such account. A U.S. person has a financial interest in a foreign financial account if that person is the owner of record or legal title holder of the account. Further, if the owner or holder of legal title is the U.S. person’s agent or representative, then that person has a sufficient interest in the foreign financial account. Finally, if the U.S. person has a “sufficient interest” in an entity that is the owner of record or holder of legal title of the foreign financial account, an FBAR is required to be filed. “Sufficient interest” in an entity is defined as owning more than 50% of the total values of shares of stock in the entity or more than 50% of the voting power of all shares of stock.
Due date and penalties
FBARs are due April 15 of the year following the reporting period. An extension of six months (to October 15) is automatically allowed. FBARs are filed separately from the taxpayer’s income tax return with the Financial Crimes Enforcement Network (“FinCEN”). The Treasury Department has delegated the authority to impose FBAR penalties onto the IRS. The IRS may impose civil and criminal monetary penalties for willful and non-willful violations of the FBAR reporting statute. For non-willful civil violations, the IRS may assess a penalty up to $10,000. If the civil violation is willful, the IRS may impose a penalty up to $100,000 or 50% of the account balance. The criminal penalty for a willful violation is capped at $250,000 or imprisonment of not more than five years. If the willful violation is in conjunction with the violation of another law or as “part of a pattern of any illegal activity,” the penalty is capped at $500,000 or imprisonment for not more than ten years.
Other Common Reporting Requirements
U.S. persons (and executors of the estates of U.S. decedents) file Form 3520 to report (a) certain transactions with foreign trusts; (b) ownership of foreign trusts; and (c) receipt of certain large gifts or bequests from foreign persons or estates. If a U.S. person is an owner of a foreign trust, such trust must file a Form 3520-A.
Certain U.S. persons who are officers, directors, or shareholders in certain foreign companies (other than partnerships) file this form and its schedules to satisfy the reporting requirements of IRC § 6038 and § 6046. Only certain categories of individuals are required to file Form 5471.
A “Category 1 Filer” is a U.S. shareholder holding more than 10% of the stock of a “controlled foreign corporation.” A “Category 2 Filer” is a U.S. person who is an officer or director of a foreign corporation in which the U.S. person has acquired 10% of the stock or an additional 10% of stock during the previous year. A “Category 3 Filer” includes a U.S. person who acquires stock in a foreign corporation which gives the U.S. person a 10% ownership of the foreign corporation. A “Category 4 Filer” is a U.S. person who owns more than 50% of the total combined voting power of all classes of stock of a foreign corporation or more than 50% of the total value of shares of all classes of stock of the foreign corporation. Finally, a “Category 5 Filer” is a U.S. shareholder who owns stock in a foreign corporation that is a “controlled foreign corporation” at any time during any tax year of the foreign corporation, in which person owned that stock on the last day of the year. There are a number of important nuances to the filing requirements to Form 5471, and this paragraph is only a very brief introduction to the filing requirements.
Foreign owned U.S. corporations or foreign corporations engaged in a U.S. trade or business file Form 5472 to provide information about reportable transactions with a foreign or domestic related party.
A U.S. person files Form 8865 to report the information related to certain foreign partnerships.
Certain U.S. persons that own a foreign disregarded entity directly or in certain circumstances indirectly or constructively use Form 8858 and schedules to report such interests.
Other Less Common (but Important) Forms
Other common forms include: (a) Form 8621 (Return by U.S. Shareholder of a Passive Foreign Investment Company or Qualified Electing Fund); (b) Form 8804 (Annual Return for Partnership Withholding Tax); (c) Form 8895 (Foreign Partner’s Information Statement of Withholding Tax); (d) Form 8832 (Entity Classification Election); (e) Form 8833 (Treaty Based Return Position Disclosure Statement); (f) Form 8854 (Expatriation Information Return for those giving up US Citizenship or surrendering their Permanent Residency); and (g) Form 8873 (Extraterritorial Income Exclusion).
As illustrated above, the Federal filing requirements with regard to foreign financial interests are complex and various. Although this article is a great starting point for practitioners and taxpayers alike, it is no substitute for more comprehensive tax advice. The penalties are much too substantial to miss a single filing requirement or deadline.
 See Internal Revenue Notice 2015-86 (June 10, 2015) (available at https://www.irs.gov/newsroom/taxpayers-with-foreign-assets-may-have-fbar-and-fatca-filing-requirements-in-june).
 Instructions for FinCEN Form 114 (FBAR) may be found at https://www.fincen.gov/sites/default/files/shared/FBAR%20Line%20Item%20Filing%20Instructions.pdf.
 Importantly, the Treasury Department’s official exchange rate is the only one accepted for a FBAR purposes. These rates can be found at https://fiscal.treasury.gov/reports-statements/treasury-reporting-rates-exchange/.
 See 31 C.F.R. § 1010.350(e)(2) (“Other Financial Interest”).
 The civil FBAR penalties are found under 31 U.S.C. § 5314. The criminal FBAR penalties are found under 31 U.S.C. § 5322.
 There is a split of authority whether the IRS may enforce the statutory maximum (50% of the account balance) in excess of $100,000. We will discuss this split of authority in a later post.
 A controlled foreign corporation (CFC) is a foreign corporation that has a U.S. shareholder or shareholders that own more than 50% of the total combined voting power of all classes of stock or the total value of stock of the corporation.