person, and makes any U.S. beneficiaries of such a trust taxable as the deemed owners. If a foreign trust has a U.S. owner or beneficiary, U.S. tax reporting will be required. Transfers to, distributions from and annual income and expenses of foreign trusts must be reported on Forms 3520 and 3520-A as appropriate. These are filed annually, and reporting is based on US accounting principles.
Form 3520-A is the annual information return of a foreign trust with at least one U.S. owner. The form provides information about the foreign trust, its U.S. beneficiaries, and any U.S. person who is treated as an owner of any portion of the foreign trust under the grantor trust rules . In addition to Forms 3520 and 3520-A, an owner or beneficiary of a foreign trust may be required to disclose their financial interest in or signature authority over foreign financial accounts held by the trust, including bank and brokerage accounts, on theFBAR reporting form . The instructions to the current FBAR state that a U.S. person is considered to have a “financial interest” in accounts held by a trust in which such person has either a present beneficial interest in more than 50% of the assets or from which the person receives more than 50% of the current income.
Understanding how international financial holdings affect American taxpayers is a difficult process, even when you’re only discussing standard income or foreign bank account holdings. But when the overseas holdings involve foreign trusts, things become significantly more complex. As a trustee, grantor, or beneficiary of a foreign trust, you do not want to make a mistake that could cause significant unplanned negative tax ramifications.
foreign derived intangible income Form 3520-A, Annual Information Return of Foreign Trust with a U.S. Owner.In addition to filing Form 3520, each U.S. person treated as an owner of any portion of a foreign trust under the grantor trust rules is responsible for ensuring that the foreign trust files Form 3520-A and furnishes the required annual statements to its U.S. owners and U.S. beneficiaries.
In New Zealand, trusts are treated as reserved assets for all of the beneficiaries of the trust and protected as such. A U.S. person is treated as the owner of a foreign trust under the grantor trust rules if he transfers assets to a foreign trust with a U.S. beneficiary of any portion of the trust.
A trust may by all appearances be a U.S. domestic trust, when in fact, it is not because a foreign person can make a substantial decision as to the trust. The inability of the client or the CPA to identify these "surprise" foreign trusts can result in sizable failure-to-file penalties. In addition, the statute of limitation on the income tax return associated with this client will likely not commence (Sec. 6501). This rule also applies to any domestic trust that becomes a foreign trust while the U.S. grantor is still alive, or to any trust with foreign grantors who become a U.S. person within 5 years of a transfer to the trust.
A foreign trust with a U.S. owner must also file Form 3520-A by the 15th day of the 3rd month after the foreign trust’s tax year end each year in order for the U.S. owner to satisfy the applicable annual information reporting requirements. Each U.S. expat and inpat treated as an owner of any portion of a foreign trust under the grantor trust rules is responsible, under a penalty provision, for ensuring that the foreign trust files this return and furnishes the required annual statements. U.S. expats and inpats are generally subject to annual information reporting requirements on Form 3520, with few exceptions, for transfers of money or other property to, ownership of, and distributions from, foreign trusts. This information return must be filed separately by the due date of the taxpayer’s individual income tax return. A trust's return on Form 3520-A, required in the case of a foreign grantor trust with a U.S. owner, is required to be filed on or before March 15 of each year for the preceding year.
There is a risk with single-beneficiary trusts that the IRS might interpret them as vesting the assets in the beneficiary who holds the sole right to gain from the trust, resulting in a deemed distribution to a U.S. beneficiary and the application of the throwback tax. Giving the trustee absolute discretion ensures that no beneficiary has the right to any portion of the trust assets, maintaining the integrity of the trust as an entity.
If you are the trustee, grantor, or beneficiary of a foreign trust, you may need to report certain financial information to the Internal Revenue Service , depending on the nature of the trust and the role you play within it. To help you prepare for the upcoming tax season and fulfill your foreign trust reporting requirements correctly, our international tax lawyers have compiled some important tips. To receive detailed personalized guidance on foreign asset tax compliance in 2019 under the Tax Cuts and Jobs Act , contact the Tax Law Office of David W. Klasing today and book your reduced-rate consultation.
However, the provision expressly excludes distributions made through the trust's grantor, who cannot be an intermediary for purposes of the rule. Finally, it should be noted that the repayment of a foreign trust loan treated as a distribution is disregarded for tax purposes.55 The potential consequences of this provision are uncertain. However, the clear implication of this is that the reporting U.S. person cannot deduct interest payments for any tax purposes either.
A complex challenge for U.S. tax advisers is navigating the tax reporting requirements involved when a foreign trust has a U.S. owner, U.S. beneficiaries, or U.S. investments. Filing obligations vary depending on the U.S. tax classification of the foreign trust, classification of investments and income, and any distributions made or attributed to U.S. beneficiaries.
There are also significant penalties for failure to timely file the form, and there has been much recent enforcement activity in light of the news of substantial previously undisclosed U.S. ownership of foreign financial accounts. Foreign trusts generally file a Form 1040NR, as modified to conform to trust accounting rules.
A form of the FGTOS is attached to Form 3520-A. The trust's return is filed on Form 3520-A. It is intended that the trust's return be prepared and signed by the trustees, but if they are reluctant to do so, the IRS has accepted Forms 3520-A prepared at the direction of , and signed by, the trust owner. Note that, if the trust does not designate a limited "United States agent" (frequently the trust's owner for grantor trust purposes) for service of process by the IRS, the IRS is authorized to determine the tax consequences of the trust to the owner.
For the trustee of a complex trust granted reasonably broad latitude to act, the creation of and distribution to a subtrust incorporating beneficiaries other than the U.S. beneficiary should be achievable without any asset allocation to the U.S. person in question. For U.S. tax purposes, trusts are taxed as grantor or non-grantor trusts. When the grantor retains an incidence of ownership over the assets transferred to a trust, it is treated as a grantor trust under IRC Sec. , and its income and capital gains are taxed to the grantor as if the assets had never been transferred. When the grantor gives up all incidence of ownership over assets transferred to a trust, the trust is taxed as a non-grantor trust in a manner similar to individuals.
However, irrespective of the tax treatment of benefit received, even if the US person receives $1 of benefit, that must be disclosed to the Internal Revenue Service. Form 3520 is the base level of reporting that a US beneficiary must provide to the IRS. That will require some input from the trustees and information regarding the benefit received, but the obligation will fall upon the US person receiving that benefit. Penalties for failure to file form 3520 can be extremely high irrespective of the value of benefit that hasn't been disclosed. It is a commonly held presumption that inheritances received by New Zealand tax residents can be received tax free in New Zealand.
A foreign trust may be taxed as a grantor or non-grantor trust. U.S. beneficiary of a foreign trust – In general, the U.S. beneficiary of a foreign trust will report their share of foreign trust income to the extent it is not reported by the transferors to the trust under the grantor trust rules.
The Internal Revenue Service released on March 2, 2020, Revenue Procedure , which exempts certain U.S. citizens and residents from foreign trust information reporting requirements relating to certain tax-favored foreign retirement as well as non-retirement savings trusts. Such individuals who are otherwise required to filed Form 3520 and/or Form 3520-A will no longer need to file these information returns provided all the stipulated conditions are met. In addition, the revenue procedure provides that such eligible individuals may request abatement of penalties that have been assessed, or refund of penalties that have been paid, for failure to comply with the information reporting requirements regarding these foreign trusts. The U.S. beneficiaries of a nongrantor foreign trust are generally taxable on the currently distributed income of the trust in the same manner as the beneficiaries of domestic trusts. Taxation of U.S. and foreign beneficiaries on accumulation distributions from a foreign trust, however, is different.
Failure to comply with these reporting requirements could result in not only substantial civil monetary and criminal penalties but also suspension of statute of limitations on the entire return, not just those items associated with the failure unless the taxpayer can demonstrate reasonable cause. A United States person who directly or indirectly transfers property to a foreign trust (other than a trust described in section 6048) shall be treated as the owner for his taxable year of the portion of such trust attributable to such property if for such year there is a United States beneficiary of any portion of such trust. Bloomberg Tax Portfolio, U. S. Taxation of Foreign Estates, Trusts and Beneficiaries, explains the federal income, estate and gift taxation of foreign trusts and estates and their grantors and beneficiaries. The U.S. taxation of the income and distributions from a foreign trust will depend on the type of foreign trust and the status of the trust’s beneficiaries at the time of distribution. In early 2017 new rules were introduced with regard to registration and annual filing obligations for foreign trusts.
However, a New Zealand resident for tax purposes is generally liable to income tax on income derived from worldwide sources. The draft statement explains that a transfer of property from overseas needs to be considered to determine whether it represents a simple inheritance, gift or bequest or whether it constitutes a distribution from a foreign trust.
Thus, it should be possible economically to "model" distributions from a trust to ensure that no amount of a distribution ever exceeds 125% of the prior three-year average distribution. Obviously, this will depend upon the value of the UNI account, the number of trust years remaining, and the trustees' ability to generate sufficient income during the averaging period, among other things. The US government now implementing the Foreign Account Tax Compliance Act , it means that the importance of compliance is greater than it ever has been before. The IRS will receive information regarding many benefits received by US persons from foreign trusts assuming the trustees are compliant with their FATCA obligations and that will allow the IRS to ensure that the US beneficiaries are reporting their benefit received in the correct fashion. Therefore, if that doesn't happen the potential of penalties being assessed are far greater than ever have been before.
Since the undistributed capital gains of a foreign trust are part of distributable net income, a distribution of those gains in subsequent years will be taxable to the beneficiaries. In addition, all accumulation distributions are subject to an interest charge.
Often various parties, such as trustees, committees, trust protectors, trust advisers, and trust appointers, may be granted the power to make even one substantial decision with respect to a trust. Do we know the citizenship and/or residency status of all these parties within the trust agreement?
Foreign trusts with full or partial US Ownership are required to report trust account information annually to the IRS and US Account Holders. Around the time you receive your W-2s, 1099s, and other tax forms you should receive Form 3520-A. Form 3520-A is a report containing information about your foreign trust account provided to you by the institution in which it’s held. The information on Form 3520-A includes information that will be required when you file your US expat tax return .
The U.S. beneficiary should receive a Foreign Grantor Trust Beneficiary Statement (or a Foreign Non Grantor Trust Beneficiary Statement which includes information about the taxability of distributions they have received and foreign trust income they must report. With more than 30 years of experience, Mr. Lipoff specializes in the delivery of domestic and international private client services to enable high net worth individuals and families to maximize their new or generational wealth. He provides strategic advice to his clients and their closely-held businesses in the areas of income tax planning and compliance, estate planning and administration services, consultation regarding formation of family trusts and philanthropic structures. Mr. Brister specializes in U.S. tax planning and compliance for non-U.S. families with international wealth and asset protection structures which include foreign trusts, estates and foundations that have a U.S. connection, as well as foreign companies wanting to do business in the U.S.
The reference ID number must meet the requirements set forth below. For these purposes, an amount will be treated as accumulated for the benefit of a U.S. person even if the U.S. person's interest in the trust is contingent on a future event and regardless of whether anything is actually distributed to a U.S. person during that tax year. An owner of a foreign trust is the person that is treated as owning any of the assets of a foreign trust under the grantor trust rules. Thus, in the case of a foreign trust with a U.S. transferor that is treated as having a U.S. beneficiary, the foreign trust is treated as a grantor trust under the grantor trust rules.
IRC §679 was designed to prevent U.S. taxpayers from achieving tax-free deferral by transferring property to foreign trusts. A foreign trust that has U.S. beneficiaries will be treated as a foreign grantor trust under IRC §679 to the extent a U.S. person has gratuitously transferred property to it. Form 3520 is also used to report the receipt by U.S. persons of large foreign gifts and bequests, as required by § 6039F, which was also added to the Code by the 1996 Small Business Act. The statutory provision requires that the receipt of all such gifts in a taxable year in excess of $10,000 must be disclosed. However, in Notice 97-34, note 24, supra, the IRS announced that gifts and bequests from foreign individuals must be reported in any year only to the extent that aggregate gifts from such individual exceeds $100,000 .
The difference in the filing dates is confusing and a trap for the unwary. Numerous commentators have recommended to Treasury and the IRS that the due dates for filing the two trust reporting forms be made uniform. Furthermore, the way trusts are administered and managed in New Zealand is considered to be superior, and NZ foreign trusts are perceived to be among the best in the world.
He has been widely published, in addition to speaking at numerous international engagements. While not all foreign trust distributions will be taxable, the draft statement notes that the ordering rules (rules designed to prevent the making of tax-free distributions ahead of taxable distributions) may still apply such that intended capital distributions become taxable.
This could come as a surprise to an obligor other than a trust grantor or beneficiary. A second major provision that, effectively, applies only to transfers to foreign trusts is found in section 684, which was added to the Code by the 1997 TRA. The repeal of the excise tax, for which there was little guidance or precedent, was widely welcomed by practitioners, since it imposed a potential44 significant tax without the recognition of gain or consequent basis step-up in the property. Under the default method, only tax on that portion of a foreign trust distribution that exceeds 125% of the average of the distributions received during the prior three years is subject to the compounded interest charge applicable to accumulation distributions.
Finally, in addition to Forms 3520 and 3520-A, an owner or beneficiary of a foreign trust may be required to disclose their financial interest in or signature authority over foreign financial accounts held by the trust, including bank and brokerage accounts, on Form 90-22.1 ("FBAR"). The instructions to the current FBAR state that a U.S. person is considered to have a "financial interest" in accounts held by a trust in which such person has either a present beneficial interest in more than 50% of the assets or from which the person receives more than 50% of the current income.
Thus, it is recommended that such foreign trusts always appoint an agent in the form required by the IRS. A principal benefit of appointing a U.S. agent is that the trust deed and ancillary documents do not have to be provided the IRS unless specifically requested. In order to prevent perceived abuses, foreign trusts, their grantors and beneficiaries are subject to a number of special provisions of the Internal Revenue Code.
As a result, tax advisers must be able to navigate a complex matrix of tax rules to ensure full compliance and avoid costly penalties. As with all of your worldwide income and assets, any involvement of a US Citizen or Green Card Holder with one or more foreign trust accounts must be reported to the IRS with your annual US income tax return. Whether you are a stateside American Citizen or a US Expat living and working overseas, the rules of reporting and paying taxes on income from your foreign trust are the same. Like many reporting obligations, divulging information to the Internal Revenue Service about your foreign trust requires you to file additional forms. Furthermore, failure to comply with your foreign trust reporting obligations can prove to be a costly move – whether by mistake or design.
Moreover, trustees of a foreign trust with a U.S. grantor must also file a Form 3520-A, and there may be additional income and information reporting obligations imposed on U.S. grantors and beneficiaries related to interests in foreign companies and foreign bank accounts. It should be supported by a "foreign grantor trust owner's statement" ("FGTOS") obtained from the trustees.
This subtrust should possess a few qualifications to effectively receive the carried-out UNI of the initial trust. For starters, it should afford the trustee absolute discretion to distribute to multiple beneficiaries. This provides a safeguard against vesting issues that might arise from a single-beneficiary foreign trust.
It's worth noting that many countries do not have trusts at all or have different rules surrounding how trusts are handled from a tax, insolvency and matrimonial perspective. In many countries, trust assets are treated as individual property for the purposes of dealing with creditors, insolvency and matrimonial concerns.
Purported gifts from foreign partnerships and corporations must still be disclosed if they exceed $10,000 in any taxable year . Note that any gift or bequest received from a foreign trust is reported under the rules applicable to distributions from foreign trusts. The large gift reporting provision also contains a steep penalty of 5% per month up to 25% for failure to disclose such gifts and bequests. As with the other reporting penalties, the penalty is abated for "reasonable cause" shown by a taxpayer. n addition to filing Form 3520, each U.S. person treated as an owner of any portion of a foreign trust under the grantor trust rules is responsible for ensuring that the foreign trust files Form 3520-A and furnishes the required annual statements to its U.S. owners and U.S. beneficiaries.
From January 1, 2009, a U.S. grantor's liability to file the form may become clearer. The provision relating to distributions through intermediaries, section 643, is more complex, if less bewildering.
The following discussion applies while the grantor is living, and covers the most common filing requirements. If you are involved with or owned one or more foreign trusts or you have received bequests or gifts from a foreign individual, you will be required to file Form 3520 with your US expat tax return. All the transactions for each foreign trust with which you’re involved must each be reported on separate forms, so it’s possible that you will use more than one Form 3520.
Sec. 679 contains a five-year lookback rule whereby a person inbound to the United States will be considered to have made contributions to a foreign trust as of his or her residency start date of all those contributions made during the lookback period. Those contributions must be reported on a Form 3520, and if the foreign trust has any possibility of having U.S. person beneficiaries, the trust will be a grantor trust to the extent of any contribution to the foreign trust from a U.S. person (including those deemed contributions under the five-year rule). A full analysis of the grantor trust rules is beyond the scope of this discussion. If the foreign trust is not a grantor trust, then Form 3520-A should not be filed. Contemplate the implications of how easy it is for a trust to become foreign.
The majority of foreign trusts are required to file Form 3520-A no later than March 15 of the year following the taxable year in which your foreign trust was held. A "reference ID number" for Form 3520-A purposes is a number established with respect to the foreign trust by or on behalf of the U.S. owner of the foreign trust for which Form 3520-A reporting is required. This number is used to uniquely identify the foreign trust treated as owned by a U.S. person in order to keep track of the trust from tax year to tax year.
If a foreign trust with a U.S. owner does not have a U.S. agent, the IRS may determine the amounts required to be taken into account with respect to the foreign trust by the U.S. owner. Any U.S. citizen, resident alien, or domestic corporation (including a U.S. grantor or U.S. beneficiary of a foreign trust) may act as the U.S. agent of the trust. The main exception to Section 684’s gain recognition rule is for transfers to foreign trusts if any person is treated as owner of the trust under the grantor trust rules. There are additional exceptions to Section 684’s gain recognition rule – for instance a transfer to a foreign charitable trust or a transfer by reason of the death of the U.S. transferor if the trust is considered to be within the decedent’s estate and certain other conditions are met.
Where a foreign arrangement bears the hallmarks of a trust under New Zealand law, then distributions may be taxable foreign trust distributions. It is not uncommon for U.S. expats and foreign nationals residing in the U.S. to have one or more foreign pension plan accounts. Participation in these foreign pension plans is most often not driven by US tax planning considerations but necessitated by local regulations of the countries in which these individuals are or were employed. While these plans are typically structured to be tax efficient under local tax laws, such plans, notwithstanding treaty protection for specific countries, are not accorded similar treatments under the Internal Revenue Code . Aside from disparate tax treatment, the IRC places onerous reporting requirements on U.S. participants of these plans, which are generally deemed foreign trusts for U.S. tax purposes.
Section 679 taxes a U.S. grantor of a foreign trust that has a U.S. beneficiary as the deemed owner of the trust. Section 684 causes a U.S. grantor to recognize gain on the transfer of appreciated property to a foreign trust. Section 672 denies grantor trust status to the extent that it would cause a trust to be taxed as owned by a non-U.S.
There is an exception for distributions from non-discretionary trusts arising under a will or after intestacy. Where there is a trust in place for which this exception does not apply, the taxpayer is required to evidence through adequate documentation the source of the funds that have been distributed, applying the ordering rules. The nature of these requirements depends upon whether the trust is a foreign trust or a U.S. trust for U.S. income tax purposes. Note the use of the term “foreign” instead of “offshore” in the preceding sentence. There is no such thing as an “offshore trust” in the Internal Revenue Code—that phrase is a term of art, and it can include a foreign trust or a U.S. trust, depending on certain factors.