FBAR Tax Compliance Issues (U.S. Taxpayer)
FBAR rules are not found in the Code. Rather, they are set forth in the Bank Secrecy Act, first enacted by Congress in 1970. Since 2003, however, the IRS bears responsibility for enforcing these rules.
The FBAR rules require that every U.S. Person report (i) any financial interest or authority over a (ii) financial account in a foreign country with (iii) an aggregate value over $ 10,000 at any time during the taxable year. The report must be filed on a Form TD F 90-22.1, Report of Foreign Bank and Financial Accounts (hence the acronym “FBAR”). U.S. Persons must also disclose the existence of the account on their Form 1040, Schedule B, Part III. This is commonly referred to as “checking the ‘B’ box.”
Taxpayers who fail to disclose the account on their Form 1040 could be subject to criminal sanctions for filing a false tax return.
The FBAR report is due on June 30th. This due date is not subject to extensions. The FBAR report must be filed separately from the U.S. Person’s tax return.
Financial Interest Or Authority
A U.S. Person has a financial interest in a foreign account if he or she is the legal or beneficial owner. Attribution rules apply in making this determination. A person serving as a shareholder, partner, and trustee may also be deemed to hold a financial interest if the owner of the account is (i) a person acting as an agent on behalf of the U.S. Person, (ii) a corporation where the U.S. Person owns, directly or indirectly, more than 50 percent of the outstanding stock, (iii) a partnership in which the U.S. Person owns more than 50 percent of the profits, or (iv) a trust in which a U.S. Person has either a present interest in more than 50 percent of the assets or from which the U.S. Person receives more than 50 percent of the income. If these thresholds arc met, the U.S. Person has an FBAR reporting obligation, regardless of whether he or she has any authority over the account.
Non-owners with authority over a foreign account are also subject to the FBAR reporting rules. Authority means the U.S. Person has the ability to order a distribution or disbursement of funds or other property held in the account. This is not limited to signature authority, but includes the ability to order distributions by verbal commands or other communication. Authority does not include persons who have the right to invest, but not distribute, the foreign account funds.
There is no limitation for taxpayers who have authority over a foreign account, but only in an official capacity. (For example, the president of a corporation, the general partner of a partnership, or the manager of an LLC may be subject to these rules.)
Both the entity, as beneficial owner, and the representative, who has control over the account, may be required to file an FBAR report. Similarly, when more than one U.S. Person has authority over an account, i.e., president and vice president, both persons may have an FBAR reporting obligation.
Even when the account is subject to joint control, and the signature of someone other than the taxpayer is required to cause a distribution, the taxpayer is still considered to have authority over the account for FBAR reporting purposes.
Financial Account In A Foreign Country
The term financial account is broadly defined as any asset account and encompasses simple bank accounts (checking or savings), as well as securities or custodial accounts. It also includes a life insurance policy or other type of policy with an investment value (i.e., surrender value).
Foreign country naturally refers to any country other than the United States. Puerto Rico, U.S. possessions and territories are included as part of the United States (as they should) for these purposes. Accounts held by U.S. Persons in these areas are not foreign accounts subject to FBAR reporting.
The IRS has indicated that a traditional credit card with a foreign bank is not a foreign account. However; use of a credit card as a debit or check card could trigger foreign account status and thus an FBAR reporting obligation.
$10,000 Threshold
To be reportable, the account must have assets the value of which during the year, exceeds $10,000.
The Instructions to the FBAR report state that if the aggregate value of all financial accounts exceeds $10,000 at any time during the year, the U.S. Person must file an FBAR report. A U.S. Person who possesses multiple foreign accounts, all of which have less than $10,000, but which collectively exceed $10,000, may have an FBAR reporting obligation.
Taxpayers may transfer an appreciating asset to a foreign account, such as stock or securities. As these assets increase in value, they may trigger an FBAR reporting requirement.
Whether the account generates any income is not relevant.
Penalties
In an attempt to improve compliance, Congress enhanced the FBAR penalties in 2004. Under pre-2004 law, civil penalties applied only to willful violations. In 2009, civil penalties up to $10,000 may be imposed on non-willful violations. This penalty may be avoided if there was reasonable cause and the U.S. Person reported the income earned on the account. 31 U.S. C. §5321(a)(5).
Although reasonable cause is not defined, the IRS will likely apply the reasonable-cause standard for late-payment/late-filing penalties.
The penalty for willful violations is far more severe. It is equal to the greater of $100,000 or 50 percent of the balance of the account at the time of the FBAR violation. No reasonable cause exception exists for a willful violation. 31 U. S. C. §5321(a)(5)(c) .
The IRS has six years to assess a civil penalty against a taxpayer that violates the FBAR reporting rules.
Amnesty Deadline Extended for Offshore Accounts
Amnesty Deadline Extended for Offshore Accounts
The NYTimes.com is reporting that the IRS is extending its amnesty program to October 14, 2009.
…The so-called voluntary disclosure program, which began in March as a way of luring American clients of the Swiss bank UBS out of the woodwork, has attracted 3,000 taxpayers so far, compared with just 80 last year…
Click link above for complete article.
FBAR Filings: Financial Interest/Signatory Authority
The FBAR is not a tax return. The FBAR is a financial disclosure (i.e., a report of the Taxpayer’s foreign financial accounts). The FBAR must be filed even if the reported accounts generate no interest or other taxable income. All income earned on the foreign account must be reported on the tax return of the beneficial owner which is an entirely separate reporting from the FBAR. However, once a Taxpayer discloses a foreign account on their Form 1040 Schedule B, the FBAR must be filed.
The FBAR form is designed to disclose the US Taxpayer’s connection to a foreign financial account. The form details the US Taxpayer (e.g., name, address, identification number and balance held in the account over $10,000). The form asks for the name of the financial institution, the country and the account number for each account, if more than one. If there are joint owners, their names and identification numbers are requested and if the person who is reporting claims to have no financial interest in the account (such as a person holding a power of attorney or a corporate officer who has no shares in the corporation), then the name and the identification number of the beneficial owner must be disclosed.
Any US Person who has a financial interest in, or signatory authority over, any financial accounts in a foreign country if the total value of such accounts exceeds $10,000 at any time during the calendar year must file a FBAR. The accounts in Puerto Rico, Guam, and the Northern Mariana Islands, American Samoa, and the US Virgin Islands are exceptions to this rule (see IRS Manual Workbook on Foreign Bank and Financial Accounts, FBAR 11/16/06).
US Taxpayers include resident aliens and other foreign individuals who are considered US Persons under the Substantial Presence Test (i.e., because of the time spent in the US in a given year [IRC §§7701(b)(1)(A)(ii) and 7701(b)(3)]). (FBAR rules also apply to a domestic trust, estate, partnership or corporation.)
A US Taxpayer has a required financial interest in an account if they:
1. Are the owner of the account.
2. Have legal title to the account (even if it is for someone else’s benefit).
Both financial interest and the signatory authority generate the requirement to file the FBAR. When the account is in joint names, all joint owners must file their own FBAR (even though the funds may belong to only one of them). An exception to the joint account rule applies only if the joint owners are husband and wife (if they live together).
FBAR: Reporting Foreign Life Insurance Policy (Tax Year 2008)
In response to my inquiry, the IRS clarified (by FAQ) that a foreign life insurance policy is a foreign financial account if it includes a cash surrender value. The IRS 7/31/09 response:
1. Is a foreign life insurance policy with cash surrender value a financial account for FBAR reporting purpose?
A financial account, as defined in the FBAR General Instructions, includes “savings, demand, checking, deposit, time deposit, or any other account maintained with a financial institution or Other Person engaged in the business of a financial institution.” An insurance policy with cash surrender value can “store” cash, available for withdrawal at a later time, and for this reason is treated as a financial account with a financial institution for FBAR purposes. If the insurance policy is located in a foreign country and has cash surrender value, the policy holder may have to report the policy on a FBAR. For FBAR reporting purposes, the cash surrender value of the policy is the value of the account. Insurance policies that are issued by a foreign-owned company but that are acquired through an insurance agent located in the United States is not a foreign financial account and is not required to be reported on an FBAR.
For Tax Year 2008, if the foreign life insurance policy is owned by either an individual, or a trust with one beneficiary, the FBAR filing is due by September 23, 2009.
If the foreign life insurance policy is owned by a trust with two or more beneficiaries, a beneficiary of more than 50% of trust assets must file the FBAR (on account of the trust).
FBAR Civil Penalties: Reasonable Cause Exception
A failure to file a FBAR has civil and criminal penalties (which are in addition to any income tax penalties if the income is not reported). The IRS must assess the civil penalties within 6 years of the FBAR violation (31 USC 5321(b)(1)).
For a willful failure to file, the civil penalty increases from $10,000 (non-willful failure to file) to the greater of $100,000 or 50% of the account balance in the foreign account for the tax year.
The civil penalties for non-willful failure to file may be waived by the IRS if the Taxpayer can show reasonable cause. If the Taxpayer has a reasonable cause exception, the FBAR should be filed with an explanation (i.e., the reasonable cause, with an express request for waiver of penalties).
The waiver of civil penalties for a reasonable cause exception may include among other factors:
1. All the income from the foreign account was included on the US Taxpayer’s return.
2. The Taxpayer was unaware of the requirement to file (for example, lack of understanding of what constitutes a financial interest).
3. Once the Taxpayer became aware of the filing requirements, he filed all delinquent reports (up to 6 years).
FBAR Filings: Criminal Penalties: Willful Failure to File (Defenses)
Under IRS Form 1040, at the bottom of Schedule B, Part III, on Page 2, Question 7(a) states: “at any time during the previous year, did you have any interest in or signatory or other authority over a financial account in a foreign country, such as a bank account, a security account, or other financial account? The answer is either yes or no. If yes, Question 7(b) requires the name of the foreign country (with the account). Question 8 requires confirmation of receipt of distribution from the account, or if the Taxpayer was a grantor of, or transferor to a foreign trust (which requires filing Form 3520).
A willful failure to file a FBAR can lead to a felony of up to 10 years in jail and a $500,000 fine. The IRS must prove willfulness in order to assert the $500,000 monetary penalty and the imprisonment for up to 10 years (see 31 USC 5321(a)(5)(B); CCA 200603026; Eisenstein, 731 F.2d 1540 (CA – 11, 1984)).
Willfulness must be proven by the IRS under the standard of clear and convincing evidence. If the Taxpayer knew about the requirement to file, it would affect his defense. If the Taxpayer failed to report the foreign account interest or other income on his income tax return, it would affect his defense.
If a failure to file is deemed to be part of a criminal activity involving more than $100,000 in a 12-month period, the penalty limit increases to $500,000 with up to 10 years in jail. The issue of whether a failure to file is willful or non-willful is based on the facts of each case. Willfulness has been defined as the voluntary, intentional violation of a known legal duty, see Cheek 498 US 192, 67 AFTR 2d 91-344 (Supreme Court 1991).
A Taxpayer’s good faith belief that he does not have to file (or even his negligent failure to file) can be a defense to the charge of willful failure to file (i.e., a defense to criminal charges).
A defense may include that the Taxpayer was advised by his advisor that no FBAR was required.
Failure to maintain adequate records of the foreign account for the years the FBAR filing is due may result in additional civil and criminal penalties.
FBAR Filings: The Element of Control
Under the FBAR instructions, signatory authority may be present and a FBAR may be required when there is an indirect element of control. The FBAR instructions state: “Authority exists in a person who can exercise comparable power over an account by direct communication to the bank or other person with whom the account is maintained, either orally or by some other means.”
If a foreign corporation holds a foreign account and a US Person owns more than 50% of the shares, a FBAR must be filed. US Persons who are officers or directors of foreign corporations and have signatory authority over foreign corporate accounts must also individually file a FBAR whether or not they own shares of the corporation (certain publicly traded corporations and banks under US control are exceptions to this rule).
For partnerships owning foreign accounts, if the US Taxpayer holds more than a 50% interest in the partnership profits, they are required to file a FBAR.
If the US Person is the owner of a foreign life insurance policy or a foreign annuity contract with cash surrender value in excess of $10,000, he must file a FBAR. The owner of the contract has no direct authority over the accounts in which the premiums are deposited or invested. However, the owner has the authority to withdraw cash from the policy or contract. The owner has a financial interest in the policy or contract and has an indirect financial interest in the underlying accounts.
FBAR Filings: Foreign Trusts
Each US Trustee of a trust account must file a FBAR (even if the beneficiary of the trust is not a US Person). If the owner of an account gave someone the power of attorney over the account, both the owner and the attorney-in-fact must file a FBAR (if both are US Taxpayers).
If a trust that holds a foreign financial account provides for a Protector, whose powers include directing distributions if the Protector is a US Person, the Protector must file a FBAR.
If several members of the same family have accounts, the FBAR rules apply to each account holder individually. The IRC §318 attribution rules do not apply to filing the FBAR.
Under the grantor trust rules (IRC §679) any US Person who establishes a foreign trust (which holds the foreign financial account), established by a US Person for any US beneficiary, the US Settlor is responsible for filing a FBAR for the trust accounts (even if the US Settlor of the trust is not a beneficiary, has no authority over the trust or any of the trust accounts). Under US tax rules, he is treated as the owner of the trust (for US income tax purposes) because the trust is deemed a grantor trust which makes him responsible to file the FBAR form.
Financial interest may be present even if there is no signatory authority. If a trust holds an account and the US Taxpayer has a present beneficiary interest in more than 50% of the trust assets, receives more than 50% of the trust assets, or receives more than 50% of the current trust income, he must file a FBAR.
If a trust has 2 or more beneficiaries and none of the beneficiaries has more than a 50% interest in the income of principal, then none of them needs to file a FBAR (although each US Trustee who is a US Taxpayer must file the FBAR). Regarding the rules for a discretionary trust, if a US Taxpayer receives distributions of more than 50% of trust income or principal in any given year, it requires filing the FBAR.
FBAR Filing and Hedge Funds
After the landmark agreement between the U.S. and Swiss government over secret (UBS) Swiss bank accounts, held by U.S. Citizens, the IRS is now focusing on hedge funds in the Cayman Islands. (Please see 8/24/09 Wall Street Journal article, IRS Could Target Off-Shore Hedge-Fund Investors Next.)
Recently, IRS officials advised that certain U.S. investors in off-shore hedge funds must file a FBAR.
On June 12, 2009, an IRS official stated that the term “financial interest” (which requires a FBAR filing) includes hedge funds that “function as mutual funds”.
It appears the IRS and Justice Department will identify U.S. Taxpayers who evade U.S. taxes, by investing with off-shore hedge funds. The IRS and Justice Department are pressing foreign financial institutions to provide them with information about Americans with “foreign, secret bank accounts”.
FBAR Annual Filing Requirements
In April 2003, the Financial Crimes Enforcement Network delegated authority under the TD F 90-22.1 form (i.e., FBAR form) to the Internal Revenue Service (see IR 2003-48 (4/10/03); 31 CFR §103.5(6)(b)(8)). The IRS enforces all penalties associated with the FBAR with the same power it enforces tax reporting and payment compliance. The IRS has been given the authority to enforce the filing rules and audit the reports as appropriate.
The FBAR filing is due by June 30th of the year following the year of the report with no provisions for extensions. The due date means the date it must be received by the US Treasury. Mailing it on the date it is due will result in a late filing. The FBAR form, filed separately from the income tax, must be mailed to US Department of Treasury, PO Box 32621, Detroit, Michigan 48232-0621.
If there is an emergency, the form can be hand-delivered to a local IRS office for forwarding to the Treasury Department in Detroit.
An amended FBAR may be filed by completing a revised FBAR with the correct information writing the words “Amended” at the top of the revised FBAR and stapling it to a copy of the original FBAR. For Taxpayers amending a late-filed FBAR, they should include a statement explaining their reasons for a late filing (i.e., request a reasonable cause exception from penalty).
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