Reporting Requirements for Foreign Assets
What you should know about the new Code Section 6038D.
September 20, 2010
The 2009 Internal Revenue Service (IRS) amnesty program for failure to file Form TD F 90-22.1, “Report of Foreign Bank and Financial Accounts,” (the FBAR), heightened our awareness of the importance of filing information returns disclosing foreign bank accounts. We all reviewed the various IRS pronouncements and notices on FBAR filing requirements. Now we have to learn a whole new filing regime the purpose of which is similar to the purpose of the FBAR.
The new section, Section 6038D, was added to the Code by the Hiring Incentives to Restore Employment (HIRE) Act (P.L. 111-147), effective for tax years beginning after March 18, 2010. Under new Code Section 6038D, an individual must attach to his or her tax return certain information about “foreign financial assets” if the aggregate value of all the assets exceeds $50,000 (or such higher dollar amount as the Secretary may prescribe). “Foreign financial assets” include any depository, custodial or other financial account maintained by a foreign financial institution and to the extent not held in an account maintained by a financial institution:
The Joint Committee on Taxation in its report (Report No. JCX-4-10) recognized the overlap; however, it also pointed out one example in which an FBAR would not be required, but reporting under Code Section 6038D may be required. That example was the beneficiary of a foreign trust, who is not within the scope of FBAR reporting because their interest in the trust is less than 50 percent, but may be within the scope of Section 6038D if the value of their interest in the trust together with the value of other specified foreign financial assets exceeds the aggregate value threshold. There was much discussion last year regarding whether a foreign hedge fund was a foreign financial account under the FBAR regulations. In Proposed Regulations on FBAR, reporting promulgated in February 2010 that issue was reserved because of pending legislative proposals. Surely new Code Section 6038D was the reason for the reservation.
The consequences of not filing the required information with the tax return are onerous:
Code Section 6038D Accomplishments
What has been accomplished by the enactment of Code Section 6038D when compared to the FBAR reporting provisions?
When reading the Joint Committee on Taxation Report (JCX-4-10), it is clear that Congress was frustrated by the fact that the FBAR reporting requirements originate in the Bank Secrecy Act, which is part of Title 31 of the United States Code, versus Title 26, which is the Internal Revenue Code. Although the FBAR is received and processed by the IRS, it is neither part of the income tax return filed with the IRS nor filed in the same office as the return. Accordingly, under Title 26, the FBAR is not considered “return information,” and its distribution to other law enforcement agencies is not limited by the nondisclosure rules of Title 26. Also, the collection and enforcement powers available to enforce the Internal Revenue Code under Title 26 are not available to the IRS in the enforcement of the FBAR civil penalties, which remain collectible only in accord with the procedures for non-tax collections. The only connection between the FBAR and Form 1040 is the question on Schedule B asking the taxpayer about interests in foreign financial accounts and reference to page B-2 for exceptions and filing requirements for Form TD F 90-22.1. Information reported on Schedule B is not readily available to those within the IRS, who are administering FBAR compliance, despite the fact that the Federal return may be the best source of information for this purpose. Furthermore, the FBAR civil penalties are limited to willful failure to comply with FBAR reporting requirements and a reduced penalty for a non-willful, but negligent, failure to file. In contrast, there are various sanctions allowed by the Code for failure to file required information, including suspension of the applicable statute of limitations and penalties based upon underpayment of tax resulting from failure to disclose. The Code penalties impose a lesser burden of proof and threshold for imposition of the penalty than the willful FBAR penalty.
It is very important for tax professionals to become knowledgeable about information reporting with respect to foreign assets. To not know the rules will be dangerous because clients will be exposed to statute of limitation issues and myriad of penalties.
Janice Eiseman, JD, LLM, is a principal at Cummings & Lockwood in Stamford, Conn. office where she focuses on the taxation of closely held businesses and tax planning for owners and investors. Eiseman has broad-based experience counseling clients on the formation, ownership and structuring of various business entities, as well as drafting and negotiating tax-based and transactional documentation for both individual and business clients. She has also done controversy work before the Internal Revenue Service and the New York State Department of Taxation and Finance. Prior to joining Cummings & Lockwood, she served as senior tax and benefits counsel at the New York City-based law firm Morrison & Cohen LLP.