Can failure to file result in substantial penalties?
In the wake of the US government's crackdown on undisclosed foreign bank accounts, the Internal Revenue Service has recently imposed additional reporting requirements that will obligate US taxpayers to annually disclose specified foreign financial assets when they file their personal income tax returns for 2011 and thereafter.
The new foreign asset reporting rules, which are part of the Foreign Account Tax Compliance Act (FATCA), significantly expand the disclosure requirements well beyond what was previously required to be reported.
The new Form 8938, Statement of Specified Foreign Financial Assets, requires individual taxpayers to report their interests in a wide variety of foreign assets. And yes, failure to file Form 8938 can result in substantial penalties as well as further government inquiry into a taxpayer’s financial affairs. What makes this even more relevant is that the US Treasury Department earlier this year unveiled a groundbreaking agreement with France, Germany, Italy, Spain, and the UK to create an intergovernmental exchange of information on bank accounts held across borders. And just this past week the US Treasury said it reached agreements with both Switzerland and Japan to cooperate on a framework for sharing financial information on bank accounts.
While the winds of change are blowing, the proposed regulations are not final, and entities are generally not required to file Form 8938.
Foreign Asset Tax Compliance Act (FATCA) and required foreign asset reporting
The Form 8938 filing requirement is part of FATCA, which was enacted in 2010. It is intended to improve tax compliance by US taxpayers who hold offshore financial accounts.
Under FATCA, foreign financial institutions are required to report to the IRS certain information about the financial accounts held by US taxpayers or foreign entities in which US taxpayers hold a substantial ownership interest. Note that the new Offshore Voluntary Disclosure Initiative (OVDI) relates to Form TD F 90-22.1, Report of Foreign Bank and Financial Accounts (FBAR), and that the Form 8938 filing requirement does not pre-empt the FBAR filing requirement.
Who should file?
Form 8938 is required to be filed by US citizens and resident aliens as well as nonresident aliens who make an election to be treated as resident aliens for US tax purposes. The requirement to file only exists if the aggregate value of their "specified foreign financial assets" exceeds certain thresholds.
If you have employees or officers on international assignments (inbound or outbound), this filing may be applicable to them as well.
It is important for taxpayers to determine whether they are subject to this new requirement because the law imposes significant penalties for failing to comply. The penalty for failure to file a Form 8938 is $10,000, with an additional penalty of up to $50,000 for continued failure to file after receiving IRS notification to file. A separate accuracy-related penalty of 40 percent applies to any understatement of tax attributable to undisclosed assets.
Definition of specified foreign financial asset
For purposes of the reporting requirement for individuals with foreign assets, a "specified foreign financial asset" is any financial account maintained by a foreign financial institution, and any of the following assets which are not held in an account maintained by a financial institution:
- any stock or security issued by a person other than a US person,
- any financial instrument or contract held for investment that has an issuer or counterparty that is other than a US person, and
- any interest in a foreign entity.
Please note that the following are not considered reportable:
- A financial account maintained by a US payer, such as a domestic branch of a foreign financial institution or a foreign branch of a US financial institution.
- A financial account that is maintained by a dealer or trader in securities or commodities if all of the holdings in the account are subject to the mark-to-market accounting rules for dealers in securities or an election under section 475(e) or (f) is made for all of the holdings in the account.
- If a specified foreign financial asset is reported on Form 3520, Form 3520-A, Form 5471, Form 8621, Form 8865, or Form 8891, that asset need not be reported on Form 8938. However, these specific forms need to be identified on Form 8938 (type of form and number of forms filed, etc.). Even if a specified foreign financial asset is reported on a form listed above, the value of the asset is included in determining whether the aggregate value of your specified foreign financial assets is more than the reporting threshold that applies to you.
Specific thresholds for filing Form 8938
- Unmarried taxpayers living in the US: The total value of specified foreign financial assets is more than $50,000 on the last day of the tax year or more than $75,000 at any time during the tax year.
- Married taxpayers filing a joint income tax return and living in the US: The total value of specified foreign financial assets is more than $100,000 on the last day of the tax year or more than $150,000 at any time during the tax year.
- Married taxpayers filing separate income tax returns and living in the US: The total value of specified foreign financial assets is more than $50,000 on the last day of the tax year or more than $75,000 at any time during the tax year.
- Taxpayers living abroad filing a return other than a joint return: The total value of specified foreign assets is more than $200,000 on the last day of the tax year or more than $300,000 at any time during the year; or
- Taxpayers living abroad filing a joint return: The total value of specified foreign asset is more than $400,000 on the last day of the tax year or more than $600,000 at any time during the year.
As mentioned above, US citizens and residents, whether living abroad or in the US, are required to file a federal income tax return for any tax year in which gross income is equal to or greater than the applicable exemption amount and standard deduction. Generally, US taxpayers must report their worldwide income on their returns, and not only their US sourced income.
The IRS has the authority to impose significant penalties for the failure to file an income tax return and all required forms such as Forms 8938, Form TD F 90-22.1 unless the taxpayer can show that the failure was due to "reasonable cause" and not willful neglect.
Please note that the Form TD F 90-22.1 is a separate filing from the individual tax return and there is no extension of time to file this form, which should be received by the US Department of Treasury by June 30. Form TD F 90-22.1 is required to be filed by all US persons (i.e. individuals and legal entities) who have financial interest or signature authority over non-US financial accounts during the year when the aggregate value of the foreign accounts exceeds USD$10,000. Form 8938 only requires you to report account/assets that you have an interest in compared to the Form TD F 90-22.1 where you report accounts you have signature authority over. Offices of a legal entity who have signature authority over the entity’s foreign bank accounts need to file Form TD F 90-22.1 (Form 8938 is not required).