The IRS has released a new form for reporting foreign financial assets for the 2011 tax year, as well as some guidance on who must file the form. The agency warns that individual taxpayers should take the time to determine whether they need to file Form 8938, Statement of Specified Foreign Financial Assets, because failure to comply can trigger some significant penalties.
Required foreign asset reporting
The filing requirement is part of the Foreign Asset Tax Compliance Act (FATCA), which was enacted in 2010. It’s intended to improve tax compliance by U.S. taxpayers who hold offshore financial accounts.
FATCA also requires foreign financial institutions to report to the IRS certain information about the financial accounts held by U.S. taxpayers or foreign entities in which U.S. taxpayers hold a substantial ownership interest. Taxpayers themselves are required to report corresponding information on Form TD F 90-22.1, Report of Foreign Bank and Financial Accounts (FBAR). In its newly released guidance, the IRS emphasized that the Form 8938 filing requirement doesn’t preempt the FBAR filing requirement.
Who’s covered?
The filing requirement generally applies to taxpayers who have an interest in “specified foreign financial assets.” This includes U.S. citizens and residents, nonresidents who file joint tax returns, and certain nonresidents who live in American Samoa or Puerto Rico. However, these taxpayers are required to file only if the aggregate value of their specified foreign financial assets exceeds certain thresholds.
The penalty for failing to file 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 40% penalty on any understatement of tax attributable to undisclosed assets can also be imposed.
What is a specified foreign financial asset?
A specified foreign asset generally includes 1) financial accounts maintained by a foreign financial institution, and 2) other foreign financial assets held for investment that aren’t in an account in a U.S. or foreign financial institution, such as an interest in a foreign entity. The IRS does recognize some exceptions, though. The following are not considered reportable:
- Foreign financial accounts maintained by a U.S. payor (for example, a financial account maintained by a U.S. branch of a foreign financial institution or a foreign branch of a U.S. financial institution),
- Assets reported on certain other tax forms related to foreign assets or investments (the value of specified foreign financial assets reported on those forms is included in determining the total value of assets for Form 8938 purposes, but the assets don’t need to be reported on Form 8938),
- Beneficial interests in a foreign trust or a foreign estate (unless the taxpayer knows or has reason to know of the interest),
- Interests in a social security, social insurance or other similar program of a foreign government, and
- Specified foreign financial assets held in a bankruptcy trust or a domestic widely held fixed investment trust in which the taxpayer is a beneficiary.
Additional exceptions apply.
What are the filing thresholds?
The IRS has set different thresholds depending on a taxpayer’s circumstances. For example, it acknowledges that individuals living abroad will likely have more foreign assets that aren’t of the type targeted by FATCA by giving those taxpayers higher thresholds.
Here are the specific thresholds for filing Form 8938:
Single, head of household and married filing separately taxpayers living in the United States. The total value of specified foreign financial assets exceeds $50,000 on the last day of the tax year or $75,000 at any time during the tax year.
Married taxpayers filing a joint income tax return living in the United States. The total value of specified foreign financial assets exceeds $100,000 on the last day of the tax year or $150,000 at any time during the tax year.
Single, head of household and married filing separately taxpayers living abroad. The total value of specified foreign financial assets exceeds $200,000 on the last day of the tax year or $300,000 at any time during the year.
Married taxpayers filing a joint income tax return living abroad. The total value of specified foreign financial assets exceeds $400,000 on the last day of the tax year or $600,000 at any time during the year. These thresholds apply even if only one spouse resides abroad.
Filing from afar
The IRS also recently released a fact sheet (FS-2011-13) to help clarify the obligations of taxpayers who are U.S. citizens or dual citizens living abroad to file federal income tax returns and FBARs.
U.S. citizens, living abroad or not, must 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, taxpayers must report their worldwide income on their returns, rather than just U.S. income.
The failure to file an income tax return or pay the amount of tax due subjects taxpayers to penalties based on the amount due, unless they can show that the failure was due to “reasonable cause” and not willful neglect. Similarly, the failure to file an FBAR could open taxpayers up to penalties, in the absence of reasonable cause.
The IRS has outlined several factors that weigh in favor of or against the determination that a failure was due to reasonable cause. Examples include the taxpayer’s education and the level of complexity of the tax or compliance issue.
Individuals only — for now
The Form 8938 requirement applies only to individual taxpayers at this time. But the IRS has issued proposed regulations setting forth requirements for certain domestic entities to report foreign financial assets in the same manner as an individual. They’re expected to kick in for the 2012 tax year.
If you hold foreign assets, it’s important to determine whether you’re subject to the Form 8938 requirements — as well as to FBAR reporting rules.
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