The US has strict reporting requirements for US persons with foreign financial assets and activities.
Two primary reporting obligations are the Report of Foreign Bank and Financial Accounts (FBAR) and Foreign Account Tax Compliance Act (FATCA).
Foreign Bank Accounts Reporting: FBAR
Each “US person” with a “financial interest in,” or a “signatory authority over,” certain financial accounts located in a foreign country must file Form 114 (Report of Foreign Bank and Financial Accounts (FBAR).
“US persons” include:
- US citizens
- Green card holder
- Anyone meeting the Substantial Presence Test
- There are two tests within the substantial presence test.
First, there is the 31 day test – you must be present in the United States for at least 31 days during the relevant year.
Second, there is the 183 day test which is rather complicated.
Each day in the current year counts as one full day.
Every day in the first preceding year is multiplied by 1/3.
Each day in the second preceding year is multiplied by 1/6.
These figures are then added together. If the sum equals or exceeds 183 days, you have met the substantial presence test.
Here is an example.
Suppose that Matias spent…
130 days in the US during 2020 x 1 = 130 adjusted days
120 days in 2019 x 1/3 = 40 adjusted days
180 days in 2018 x 1/6 = 30 adjusted days
We must now add these together.
130 + 40 + 30 = 200 adjusted days.
200 exceeds 183.
Therefore, Matias meets the 183-day test.
A “financial interest” can be direct (e.g. a foreign bank account in your name) or indirect such as:
- An account in someone else’s name that contains your money
- An entity in which the US person owns more than 50%
- A trust for US tax purposes
- Plus many others
Signatory Authority is the authority of an individual (alone or in conjunction with another individual) to control the disposition of assets held in a foreign financial account by direct communication (writing or otherwise) to the bank or other financial institution that maintains the financial account.
Foreign Financial Accounts include (but are not limited to):
- Foreign bank accounts
- Foreign brokerage accounts
- Foreign life insurance or annuity contracts with a cash value
- Certain foreign pensions and retirement accounts
- Foreign mutual funds
- Foreign escrow
- Foreign financial agency
The threshold for FBAR reporting requirements is quite low – reporting obligations are triggered when your “foreign financial accounts” exceeds $10,000 at any time during the calendar year.
Given their purpose and nature, this threshold is easily met by virtually every foreign trust.
Who must file an FBAR?
Typically, trustees have a financial interest in / signatory authority over the trust’s foreign accounts. Thus, US trustees meeting the criteria must file an FBAR.
Under some circumstances, US beneficiaries might also have a financial interest in / signatory authority over the trust’s foreign accounts.
Most commonly, this often applies to:
- Beneficiaries with a greater than 50% beneficial interest in the trust, or
- Beneficiaries of a discretionary trust who received more than 50% of distributions on the year
Counterintuitively, a trust formed in the US is a “US person” for FBAR purposes even if it is a “foreign trust” for tax purposes.
If so, they too must satisfy FBAR reporting obligations.
US grantors are treated as US owners of foreign trusts.
US owners also include anyone who transfers property to a trust – even if they do not acquire the full rights and status of a grantor.
US owners of a foreign trust are deemed to have a “financial interest” in the trust’s foreign financial account – as a result, US owners must also satisfy FBAR requirements.
It is critically important to accurately determine each party’s respective reporting obligation.
Noncompliance can result in civil and criminal penalties.
“Nonwillful” violations carry a $10,000 penalty per instance.
Though courts are not complete agreement, “willful” violations carry a penalty of the greater of $100,000 or 50% of the account value per instance.
In addition to FBAR requirements, specified foreign financial assets with an aggregate value of over $50,000 must be reported on Form 8938 – Statement of Specified Foreign Financial Assets (SFFA).
Foreign Bank Accounts Reporting: FATCA
Your foreign trust will also be subject to Foreign Account Tax Compliance Act (FATCA) reporting obligations.
Your foreign trust will either be classified as a “Foreign Financial Institution” (FFI) or a “Non-Financial Foreign Entity” (NFFE).
Each is defined in the tax code and treasury regulations.
In most circumstances, your trust will be an FFI if it is professionally managed by a financial institution (such as a professional trust company). Although this will trigger FATCA reporting requirements, they can often be done by your professional trustee alleviating you of the burden.
In certain circumstances, private trust companies are considered FFIs, which would make your trust an FFI – though this must be examined on a case by case basis. If your private trust company and trust are both FFIs, they will be required to comply with FATCA reporting requirements. If your private trust company is classified as an FFI it can likely manage the FATCA reporting for your trust.
Beware that Intergovernmental Agreements (IGAs) related to FATCA often modify the definition of an FFI and the FATCA reporting requirements demanded of your trust.
Be sure to check how an IGA may impact your foreign trust.
The US tax system is designed to track and tax worldwide income.
Creative arrangements will generally not help you mitigate your trust’s foreign bank account reporting requirements.
In fact, the IRS may interpret actions taken to “obfuscate” as evidence of criminal intent.
Professional advice is needed to make sure that all parties involved in a trust satisfy their reporting obligations.
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