Americans living abroad are still subject to US tax filing requirements on their worldwide income. There are also further US filing requirements just for expats, including having to report foreign bank and investment accounts if the expat’s combined balances exceed $10,000 at any time during the year, and reporting foreign financial assets on form 8938. US expats with foreign (or offshore) trusts may also have to report them by filing form 3520 when they file their federal tax return.
Reporting Foreign Trusts
The IRS defines a foreign trust as a trust that is created and supervised by an individual or institution that isn’t a US taxpayer. A domestic trust meanwhile is a trust that over which a US court has primary supervision, and one US taxpayer, corporation, partnership or estate has substantial control over decisions made by the trust.
US taxpayers (again including individuals, corporations, partnerships or estates) who fall into one of three categories are required to file form 3520:
– Owners of a foreign trust:
– Beneficiaries of a foreign trust
– Responsible parties for a foreign trust, including those administering, overseeing or reporting on the foreign trust’s behalf.
Filing form 3520
The purpose of form 3520 is to report transactions that are made by the trust. In particular these include transfers of property or funds to a foreign trust, and direct or indirect distributions made from a foreign trust, including loans.
“You may have to file Form 3520 if you made contributions to or received income from a foreign trust or received a gift from a foreign person.” – the IRS
Information required on 3520 includes name, address, location, and further identifying information for the foreign trust; the beneficiaries of the foreign trust (including their ownership percentages); and details of any transactions made during the tax year, including their value.
Other reasons expats need to file form 3520
Expats who have received gifts or bequests from a foreign individual, estate, partnership or corporation may also have to file form 3520, depending on the size of the gift or bequest.
The thresholds are currently $100,000 for gifts and bequests from a foreign individual (non-resident alien) or estate, and $15,601 for gifts and bequests from a foreign partnership or corporation.
The penalty for not filing form 3520 when it should be filed are not insignificant, being the greater of:
– If the creation of a foreign trust wasn’t reported on form 3520, 35% of the gross value of property transferred to the trust on its creation.
– If distributions were made from a foreign trust but not reported on form 3520, 35% of the gross value of the distributions made.
– If the US owner of a foreign trust wasn’t reported on form 3520, 5% of the gross value of assets of the owner in the trust.
Many Americans living abroad are behind with their US tax filing because they weren’t aware of the requirement to file US taxes from abroad. Since FATCA (the 2010 Foreign Account Tax Compliance Act), the IRS now has access to foreign banking and tax information, so it makes sense for expats to catch up with their US filing to avoid future fines.
The IRS has an amnesty program called the Streamlined Procedure that allows these expats to catch up without facing penalties by filing their last 3 tax returns and last 6 FBARs, and self-certifying that their previous failure to file was non-willful (i.e. unintentional).