Gallet, Dreyer & Berkey, LLP
As the year draws to a close, we offer valuable planning tips to our clients, colleagues, and friends of the firm regarding their assets, tax, and estate concerns.
Foremost, there are still some time-sensitive ways to save taxes that could result in much more money for your family.
As the year comes to a close, we offer some planning tips to our clients, colleagues and friends of the firm regarding their assets, tax and estate concerns.
Foremost, there are some time-sensitive ways to save taxes that could result in much more money for your family.
Tax season is again upon us. We remind readers that ownership of offshore assets (including a wide group of disparate assets, such as bank accounts, business interests, rental real estate, insurance policies, mutual funds, foreign corporations, foreign trusts) are subject to significant IRS reporting requirements. In addition, the new tax law changes passed by Congress at the end of 2017 now allow the IRS to reach, and tax, certain types of foreign companies that previously were not within IRS reach. It is important to understand and abide by the numerous, and complex, reporting requirements for foreign assets.
1.“Check the Box” on IRS Form 1040, Schedule B
If you owned or had authority over a foreign financial account (including a bank account, securities account, brokerage account, etc.) at any time during 2018, you must “check the box” on your IRS Form 1040, Schedule B, Part III, Line 7a.
If your foreign account(s) were valued at more than $10,000 in the aggregate, you must also “check the box” on line 7a regarding the FBAR form, FinCEN 114 (see item 4, below). On line 7b, you must enter the country or countries where the foreign account is located. The 2018 FBAR form is due on the same day that your tax return is due: April 15, 2019.
Even if you closed a foreign financial account during 2018, you must still “check the box” if the account was open during any part of 2018. 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.
2. Report Foreign Income
In addition to “checking the box” on IRS Form 1040, Schedule B, U.S. taxpayers must report all foreign income (including interest, capital gains, dividends, pension distributions, rent, royalties) earned during 2018. 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 2018 (e.g., IRS Form 8621).
In many cases, if the foreign income was taxed in a foreign country, whether by withholding at the source or by filing a foreign income tax return, you may be able to get a credit on your U.S. income tax return for foreign taxes that you paid. Even so, all foreign income should still be declared on your U.S. income tax return, even if U.S. tax due is minimized or eliminated due to foreign tax credits, foreign residency credits or other tax treaty benefits. Likewise, even if foreign rental income was offset by foreign real estate costs, you must still report the rental income and take the credits.
3. IRS Form 8938
IRS Form 8938, Statement of Specified Foreign Financial Assets, 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). This form is due even though you may have already reported the very same foreign assets on a different IRS form and/or on the FBAR form (discussed below). IRS Form 8938 is due with your annual tax return (Monday, April 15, 2019, unless you obtain an extension).
4. The FBAR – also due April 15, 2019
The 2018 FBAR, Report of Foreign Bank and Financial Accounts (FinCEN Form 114), is due on the same day as your 2018 income tax return (Form 1040): April 15, 2019. The FBAR must be filed by U.S. 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 2018. 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 owned Bitcoin or other virtual currencies in a foreign account or foreign exchange, you must declare the account. If you participated in the IRS Offshore Voluntary Disclosure Program (OVDP), Streamlined procedures or submitted FBARs for past years, you should ensure ongoing compliance by timely submitting the 2018 FBAR. If the accounts existed at any point during 2018, then the FBAR must be submitted by April 15, 2019. The FBAR must be filed electronically on FinCEN’s website. An extension to file the FBAR is available. The extended due date is the same as one’s extended income tax deadline (October 15, 2019).
5. 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 2018 you received assets from the foreign entity, then you may also be required to file IRS Forms 3520 and 3520A. Please contact us for a copy of our memo 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 15, 2019), but note that the due date for Form 3520A could be sooner (by March 15, 2019).
As part of the tax law changes that Congress passed at the very end of 2017, the U.S. tax rules for CFCs became more complex, and the reach of the IRS to foreign companies and foreign income has become more expansive. The new law imposes traps whereby interests in foreign companies that were previously not subject to U.S. taxation are now taxed. If you have interests in foreign companies, you must be sure that your interests are compliant with the new laws and IRS regulations.
6. Strategic Concerns
Although the IRS Offshore Voluntary Disclosure Program (OVDP) ended in 2018, taxpayers with non-compliant offshore assets still have the opportunity to come forward and become compliant, provided that the IRS does not already have their information (e.g., from a foreign bank, treaty request, FATCA, audit, etc.). For taxpayers whose facts may be considered by the IRS to be “willful” (e.g., intentional non-reporting, use of tax haven jurisdictions, use of foreign entities such as trusts or corporations), pre-emptive disclosure is still possible, with lower penalties than would apply if the IRS otherwise discovers the assets.
For taxpayers whose facts are non-willful or more benign, the IRS Streamlined Procedures continue to be available, with a limited look-back period and lower (or no) penalties. If there was no tax loss to the IRS from the foreign assets, then the Delinquent Informational Return Procedures may allow for zero penalties.
If you are still grappling with bringing your foreign asset into U.S. compliance but have not yet filed FBARs, submitted a Streamlined application, or consulted with a tax compliance attorney, or you are undecided as to whether or not to make a disclosure, you may want to consider requesting an extension for your 2018 tax returns and FBAR, until October 15, 2019.
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 must pay your tax liability by April 15, 2019, even though you have until October 15, 2019 to file your 2018 tax return and FBAR. You must formulate your offshore disclosure strategy prior to reporting to the Government the existence of foreign assets via the FBAR, Form 8938, etc.
Conclusion
Owning foreign assets is legal and proper, but all IRS reporting rules and regulations must be met to avoid expensive penalties. In addition, the recent changes in U.S. tax law creates a potential trap for U.S. taxpayers with ownership interests in certain foreign corporations.
If you have any questions or would like our assistance in formulating an offshore disclosure strategy or in preparing the 2018 FBAR or other IRS filings, please contact us.
The year 2018 continued the trend of evaporation of offshore financial secrecy and IRS enforcement against unreported foreign assets. In 2018:
• The IRS continued to target U.S. taxpayers with non-compliant assets, sending out audit letters, criminally investigating and then prosecuting multiple taxpayers for failing to declare their foreign assets and income.
• The IRS also targeted “quiet disclosures” (i.e., not making a voluntary disclosure through proper channels but only submitting amended tax returns or FBARs), and those taxpayers who began but did not complete the IRS Offshore Voluntary Disclosure Program (OVDP).
• In 2018, the IRS discontinued the OVDP, which had been in effect since 2009. However, there are still opportunities to bring offshore accounts and assets into IRS compliance, while avoiding criminal charges and more onerous penalties. For example, the Streamlined Procedures and Delinquent Informational Return procedures are still open and available. Please contact us to discuss how to come into compliance after the OVDP has closed.
• All reputable countries have agreed to the exchange of tax information under FACTA (the Foreign Account Tax Compliance Act) and banking transparency, including Switzerland, Israel, Singapore, Luxembourg, Austria, India, Cyprus, Liechtenstein, Barbados, Bahamas, Hong Kong, Brazil, Jersey, Guernsey, Cayman, etc. If you have financial ties to foreign countries, you must address IRS compliance for foreign accounts and assets. The fact that a foreign bank has no branches in the U.S. is now irrelevant.
• In addition to FACTA, countries are cooperating with each other and sharing information among governments, as they crack down on tax avoidance by their own citizens. For instance, in 2018, German authorities raided offices of Deutsche Bank to obtain information on the bank’s facilitation of tax fraud. In one 2018 court case, the IRS assisted the French tax authorities in pursuing taxes due to France.
• Mossack Fonseca, the law firm in Panama which set up thousands of foreign entities and accounts for people around the world, ceased operations and its principals were indicted. These 2018 events followed the 2017 leak of the “Paradise Papers” and 2016 leak of the “Panama Papers”, both of which exposed the financial affairs of people around the world who relied (unsuccessfully) on claims of offshore secrecy. Fallout from the Panama Papers has included resignations of the leaders of Pakistan and Iceland and the conviction of international soccer star Lionel Messi for tax fraud.
• In 2018, corporate registries in the Cook Islands, Malta and Samoa were leaked, exposing the offshore dealings of, among others, pop stars Bono and Shakira.
• The lesson, once again, is that hacking, leaks and whistle blowers are as significant a threat to banking secrecy as laws such as FATCA and inter-governmental cooperation and exchange of information. Another lesson is that offshore asset protection should not – – indeed, cannot – – be dependent upon “confidentiality” and “secrecy”, simply because offshore “secrecy” no longer exists.
• Multiple federal court decisions examined whether taxpayers “willfully” (i.e., intentionally) failed to report their foreign assets. In general, courts have sided with the government against the taxpayers. The lesson is to properly report all foreign assets that are subject to reporting, including even foreign assets that did not generate income.
• In 2018, Israeli banks continued to freeze many accounts of U.S. persons, until the account owners signed IRS Forms W-9 disclosing their social security numbers and provided evidence of U.S. tax compliance. U.S. persons with Israeli accounts now face two challenges: access to their money, and IRS compliance. Israel has become amongst the most vigilant of foreign countries in enforcing FATCA, to the extent that an Israeli banker may face criminal liability under Israeli domestic criminal law, for failing to abide by FATCA, a U.S. law.
• Clients should bring their accounts into tax compliance on the state level as well. Some states, such as New York and New Jersey, have formal programs for offshore accounts. The IRS shares information with state governments, including that a federal tax return was amended to report foreign income.
The lesson from the above is that “going offshore” for tax secrecy is foolish, risky and inadvisable. Going offshore for asset protection from civil creditors and for tax minimization is still viable and effective, but must be tax-compliant. Please contact us for more information.
The IRS recently announced various targets of investigation and enforcement in the business and international realms.
We would like to highlight one of the IRS’ target areas: tax and reporting compliance for foreign trusts. IRS issues arise for U.S. taxpayers who are named as beneficiaries of foreign trusts; for example, trusts created by foreign relatives who name their U.S. family members as beneficiaries. Compliance issues also arise for U.S. taxpayers who create foreign trusts, including American expats who form trusts for estate planning, as well as U.S. taxpayers who form offshore asset protection trusts.
The IRS announcement specifies “examinations and penalties” regarding IRS Forms 3520 and 3520-A, including “when the forms are received late or are incomplete”. Form 3520 is required to be filed by U.S. beneficiaries who receive distributions from foreign trusts, as well as U.S. grantors who settle foreign trusts or contribute assets to foreign trusts. Form 3520-A is required to be filed by a foreign trustee; however, if a foreign trustee does not file the form with the IRS, often a U.S. taxpayer will be deemed the “responsible party” who is obligated to file this form.
In addition, U.S. beneficiaries of foreign trusts and U.S. grantors of foreign trusts may be obligated to file the “FBAR” form, FinCEN Form 114. Grantors and beneficiaries may also be required to file IRS Form 8938.
The penalties for non-filing can be severe. For “willful” non-filing of the FBAR alone, the penalties can be 50% of the value of the trust’s foreign account that was not reported, plus the penalties for non-filing of Forms 3520 and 8938.
However, there are opportunities to self-correct such failures, provided that the IRS has not already initiated an audit or investigation. If the failure was merely the non-filing of an informational return (such as the FBAR, 8938 or 3520), with no tax loss to the IRS, the cure may be filing the returns with a carefully drafted explanation of non-willfulness and/or reasonable cause. An experienced offshore attorney can assist in drafting this statement. If there is also tax loss to the IRS (e.g., undeclared trust income, undeclared receipt of funds from a trust), then the situation is more complex and likely requires amending tax returns to declare additional income. In such a case, one should consider the IRS Offshore Voluntary Disclosure Program (“OVDP”) which is coming to an end on September 28, 2018, or the Streamlined Offshore Procedures. Again, an experienced offshore attorney can assist you in coming into IRS compliance.
The attorneys are Gallet Dreyer & Berkey have years of experience in foreign trust issues and IRS reporting. Please contact us to discuss your foreign trust issues.
Please also read the following related articles on the issue of foreign trusts and IRS reporting:
The IRS Offshore Voluntary Disclosure Program (OVDP) is closing on September 28, 2018, mere weeks away.
For taxpayers who own foreign assets that are not in IRS compliance, the ending of the OVDP presents a final opportunity to become IRS compliant, avoid criminal charges and much higher penalties if discovered by the IRS.
Readers considering making a voluntary disclosure of offshore assets to the IRS should be aware that the impending closure of the OVDP imposes a significant timing constraint during these final weeks of the OVDP. For instance, there is currently a rush of people to get into the OVDP before it closes, which has resulted in delays in approvals from the IRS. In addition, there is usually a need for information from foreign sources (such as financial statements and income information), which can also take time. Finally, because of the work involved in preparing an OVDP submission, and coordination with other parties (one’s CPA, for instance, along with foreign banks), OVDP applications should be addressed immediately. A last-minute attempt to enter the OVDP just before the closure date of September 28 is not practical nor advisable.
There are strategic considerations as well. For instance, the OVDP is only open to taxpayers who are not already under IRS audit or investigation. A “pre-clearance” requests is the normal way to inquire whether a taxpayer is already under IRS scrutiny. Because it is now taking weeks for the IRS to respond to the “pre-clearance” request, one question to consider is whether you should skip the “pre-clearance” process and proceed to the submission of background information to the IRS. If a taxpayer skips the pre-clearance request and submits information to the IRS, that person has just given the IRS incriminating information that could be used in a criminal tax fraud case or an assessment of civil penalties.
While the OVDP is closing, the “Streamlined” Procedures remain open for taxpayers who are able to certify, under penalties of perjury, that their offshore non-compliance was non-willful. While a taxpayer may believe that he or she is non-willful, the IRS may disagree. Thus, it is important to discuss one’s background facts with an attorney experienced in offshore tax issues who can help in assessing willfulness.
If you have undeclared foreign assets, now is the time to consult with an attorney about how to bring these assets into IRS compliance. After September 28, 2018, the risks and costs will increase substantially. Contact us for a consultation about your offshore issues.
Please also see the following related articles:
An Opportunity is Soon Closing to Voluntarily Disclose Offshore Assets to the IRS
A Current Assessment of the IRS Streamlined Offshore Procedures
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.
The Wall Street Journal article, “The Tax Man Cometh and, Holy Cow, He Means Business” (WSJ, June 3-4, 2017), despite its provocative title, doesn’t break new ground on the IRS attack on offshore accounts. Instead, it offers us the following lessons:
The IRS has obtained a vast amount of information from sources that include foreign banks, the Panama Papers and the Foreign Account Tax Compliance Act (FATCA). Additional sources include Tax Information Exchange Agreements (TIEs), foreign bankers and other people’s voluntary disclosures. According to the IRS, there are hundreds of US taxpayers subject to criminal tax charges in relation to their offshore accounts, and thousands more subject to large civil fines and penalties.
There are also opportunities to come forward before the IRS gets a taxpayer’s name, in return for lower penalties. If a taxpayer willfully hid foreign assets and income (for instance, a taxpayer who set up an account in a tax haven country like Switzerland or Panama, without any legitimate ties to that country, or a taxpayer who utilized offshore entities like foreign trusts, corporations or foundations, or diverted business income away from the IRS), then such a taxpayer should apply to the IRS Offshore Voluntary Disclosure Program (OVDP) in return for lower penalties and no criminal prosecution.
On the other hand, if a taxpayer was non-willful (for example, a U.S. taxpayer who inherited a foreign account from a foreign relative, or a recent immigrant who was unaware that accounts “back home” become reportable to the IRS), then such a taxpayer may be eligible to make a Streamlined disclosure for much lower penalties, or in the case of US taxpayers who reside abroad, zero penalties.
Legal counsel experienced in representing people with offshore assets before the IRS can assess the background facts and help determine whether someone is willful or not, and can present the taxpayer and facts in the best light possible before the IRS.
Contact us to discuss IRS compliance for foreign assets including offshore accounts, the OVDP, Streamlined programs and alternatives to making a voluntary disclosure.
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.