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Clearing up confusion over IRS demands

IRS: US persons, be sure to know what you need to report

As the 2014 tax filing season progresses we are finding that clients are confused as to what information must appear on FinCEN Form 114 Report of Foreign Bank and Financial Accounts and what information must appear on Form 8938 Statement of Specified Foreign Financial Assets.

FinCEN Form 114 Report of Foreign Bank and Financial Accounts

The Bank Secrecy Act requires a US person to report foreign bank and financial accounts yearly to the Department of Treasury by electronically filing a Financial Crimes Enforcement Network FinCEN Form 114, Report of Foreign Bank and Financial Accounts (FBAR). United States persons are required to file an FBAR if: the United States person had a financial interest in or signature authority over at least one financial account located outside of the US; and the aggregate value of all foreign financial accounts exceeded $10,000 at any time during the calendar year reported.

Some individuals interpret this to mean that only accounts with more than $10,000 have to be reported and others interpret this to mean that if they have three accounts, each with $5,000, that no reporting is required. Both interpretations are incorrect. The one most notable error we find is that many individuals are unaware that their Bermuda pension plan must be included on Form 114. This alone will require most individuals to list all their accounts and file Form 114. Many individual also forget to include their brokerage account on Form 114.

Other accounts frequently left off are ones where individuals have signature authority over an employer’s account or more frequently over a non-profit account such as a children’s football league, cricket league, etc. All these accounts must be reported as your not having a financial interest in the account, but signatory authority only denoting your position within the organisation.

Lastly, we are finding that Bermuda nationals who are not US citizens and have no US filing requirement have added their children’s names to their Bermuda accounts and if the children live in the US the children are now required to file FinCEN Form 114. We have had discussions with US based children who view their name on the parent’s Bermuda account as being for emergency reasons only. That can very well be but the fact that they can access the account gives them a financial interest in the account and requires that they file FinCEN Form 114. For children who have not previously filed Form 114 and now do so, they will likely be subject to a 5% penalty on the highest amount in the cumulative accounts in the years they have not filed.

Form 8938 Statement of Specified Foreign Financial Assets

The primary difference between the forms is the reporting threshold. Form 8938 is required to be filed if there is $50,000 in one or more accounts on the last day of the tax year or $75,000 in one or more accounts at any time during the tax year with higher threshold amounts for married individuals living abroad filing jointly ($400,000/$600,000) and single individuals living abroad ($200,000/$300,000). The second difference is that Form 114 reports the highest amount that is in the account at any time during the year. Form 8938, using a single individual living abroad as an example, must be filed if there is more than $300,000 in the account at any time during the year or more than $200,000 in the account at year end.

A secondary difference is what else is reported on Form 8938 versus Form 114. The list includes foreign stock or securities not held in a financial account and foreign partnership interests. For executives working for foreign entities they also need to report their unvested/unexercised restricted stock units, stock options, performance retention plans, employee stock purchase plan and potential payments upon termination or change in control of the company.

Form 8938 also must report any income, gains, losses, deductions, credits, gross proceeds, or distributions from holding or disposing of the account or asset that would be required to be reported, included, or otherwise reflected on your income tax return

Form 8938 also requires disclosure as to whether the account was opened or closed during the tax year, whether the account was jointly owned with your spouse, the currency in the account, the exchange rate used to convert the foreign currency to US currency and the source of the exchange rate being used.

Given that there is a $10,000 penalty for failure to File Form 8938 and up to a 40% penalty for failure to report ownership of shares in a foreign corporation on Form 8938 and you received taxable distributions from that company that you did not report on your income tax return, our advice is that if you are in doubt, file the Form.

FinCEN Form 114 and Form 8938

Why both? A good question. Form TD F 90-22.1, the predecessor to Form 114, had been around since 1976 or 1986. But in the 30 to 40 years of its existence we never heard of anyone having an audit or being questioned after the Form was filed with the US Treasury Department in Detroit, Michigan. It was as if the Form went into a black hole and was never seen again. In a recent conversation with an Internal Revenue Service retiree my suspicions were well founded. They explained that the IRS comes under Title 26 of the Internal Revenue Code and that the Bank Secrecy Act is under a separate Title. Thus, the IRS never had jurisdiction to audit the Report of Foreign Bank and Financial Accounts. Hence, the appearance 3 years ago of the new Form 8938. In part, this was also attributable to FATCA as the financial information regarding accounts that US citizens have with over 80,000 foreign entities that is currently being sent to the US Treasury will now be cross checked against the information on Form 8938 by the Internal Revenue Service.

Any tax advice in this communication is not intended to be used, and cannot be used, for the purpose of (I) avoiding penalties imposed under the United States Internal Revenue Code, or (ii) promoting, marketing or recommending to another person any tax related manner.

The tax advice given by this column is, by necessity, general in nature. You should, of course, check with your own US tax consultant as to how specific transactions affect you since tax advice varies with individual circumstances.

James Paul Sabo, CPA, is the president of ETS Ltd., PO Box HM 1574, Hamilton HM GX, Bermuda. Questions should be sent to: jsabo@expatriatetaxservices.com