What Are the Tax Penalties for Failing to Report Income From Foreign Trusts?

 Posted on October 26, 2020 in Tax Audits

The Internal Revenue Service is always on the lookout for taxpayers who fail to comply with tax laws, and it maintains a number of Large Business and International (LB&I) campaigns to address tax avoidance through unreported income or undisclosed assets. Foreign investments are an area that the IRS commonly examines, and one issue that has been highlighted is the holding of assets in trusts outside the United States. Failing to file the proper forms or making errors when reporting assets in foreign trusts can lead to tax audits and significant penalties.

Penalties for Errors in Form 3520 and 3520-A

There are a variety of reporting requirements that apply for U.S. citizens and companies or estates in the United States that are owners or beneficiaries of foreign trusts. The term “foreign trust” is broadly interpreted to include any trust that is not considered a domestic trust. Domestic trusts are trusts that are primarily controlled by people or entities in the United States and are supervised by a U.S. court. There is a lack of clarity concerning some financial accounts that may be treated by the IRS as a trust.

U.S. taxpayers who are considered the owner of a foreign trust or who engage in transactions with foreign trusts are required to file Form 3520 to report these transactions. These transactions may include creating a trust, transferring assets to a trust, receiving a distribution from a trust, or making or receiving a loan with a trust.

A trust itself is required to file Form 3520-A and provide statements to the trust’s U.S. owners and beneficiaries. If a trust does not file Form 3520-A, each U.S. owner of the trust must file his or her own Form 3520-A along with Form 3520. If a person or entity in the U.S. directly or indirectly transfers property into a foreign trust, that person will be considered the owner of the part of the trust that is attributable to that property.

Failure to meet these reporting requirements can result in very significant tax penalties. The typical minimum penalty is $10,000, and a taxpayer may be required to pay up to 35% of the unreported amounts. Taxpayers who live primarily in the United States may be able to limit their potential penalties by using streamlined compliance procedures for reporting of foreign assets and income.

Contact Our San Jose Foreign Tax Compliance Lawyer

If you are facing penalties due to the failure to properly report assets in a foreign trust, John D. Teter Law Offices can provide the legal help you need. Our San Jose, CA tax attorney will work with you to follow the proper compliance procedures, and we will help you take the right steps to minimize the penalties you will be required to pay. Call our office today at 408-866-1810 to arrange a consultation.

Sources:

https://www.irs.gov/businesses/international-businesses/foreign-trust-reporting-requirements-and-tax-consequences

https://www.irs.gov/pub/irs-utl/l6076.pdf