This year the extended tax filing deadline for U.S. citizens or residents, sole proprietorships, C corporations, and single-owner LLCs is Monday, October 17, 2022. Through the course of the tax year companies often engage in transactions that require tax return disclosures. These disclosures may not be top of mind until the taxpayer starts its tax return preparation. Depending on the transactions that occurred during the tax year, some disclosures may require significant analysis and consideration prior to drafting the form or disclosure. Additionally, in some cases the reporting obligations and disclosure rules are nuanced and require a careful reading of the Code, Treasury Regulations, or the IRS instructions to the form. Additionally, taxpayers simply may not be aware of a reporting obligation that resulted from a transaction.
Below, we have included a non-exclusive list of some of the common tax return reporting obligations for taxpayers that are preparing their tax returns in the coming weeks. Should you have questions about any of the items on this list or any other compliance item please reach out to us immediately. Early identification of a compliance obligation helps to ensure accurate and complete reporting on the tax return and avoid potential penalties.
Outbound Transfers of Property
Form 926 – If a U.S. citizen or resident, domestic corporation, or a domestic estate or trust has transferred property (tangible or intangible) to a foreign corporation in a transaction described in sections 6038B(a)(1)(A), 367(d), or 367(e), that U.S. person must file a Form 926, Return by a U.S. Transferor of Property to a Foreign Corporation. This applies whether the property had a built-in-gain or a built-in-loss. The failure to file a Form 926, is a failure to comply with section 6038B. Under section 6038B(c), the penalty for failure to furnish information at the time and in the manner required by the regulations is 10 percent of the fair market value of the property at the time of the exchange but not greater than $100,000 unless the failure was due to intentional disregard.
Treas. Reg. § 1.6038B-1 Statement – In addition to the Form 926, a U.S. person that transfers property to a foreign corporation must file a Treas. Reg. § 1.6038B-1 statement with respect to transfers described in section 6038(a)(1)(A) that includes the information required in Treas. Reg. § 1.6038B-1(c) or (d) as applicable. The failure to file this statement is a failure to comply with section 6038B and can result in the same penalty under section 6038B(c) described above.
Gain Recognition Agreements (“GRAs”) under Treas. Reg. § 1.367(a)-8 – A U.S. person (as defined in section 7701(a)(30), which includes a citizen or resident of the United States, a domestic partnership, a domestic corporation, and any estate or trust other than a foreign estate or trust, a “U.S. Transferor”)) that transfers stock or securities of a foreign corporation to another foreign corporation must recognize gain on the transaction under section 367(a)(1) unless (i) the U.S. person owns less than 5 percent of the vote and value of the stock of the transferee foreign corporation immediately after the transfer, or (ii) the U.S. person owns 5 percent or more of the vote and value of the stock of the transferee foreign corporation and the U.S. person enters into a gain recognition agreement with respect to the transferred stock or securities as required under Treas. Reg. § 1.367(a)-8. Thus, if the U.S. person is a 5 percent or more shareholder and files a GRA, section 367(a)(1) is turned off and the U.S. person does not have to immediately recognize gain on the outbound stock transfer. This is a significant benefit if there is a large built-in-gain in the stock that was transferred outbound.
A commonly misunderstood aspect about GRAs is that GRA disclosure is an ongoing obligation for the five-year term of the GRA. As part of entering into a GRA, the U.S. Transferor agrees to include with its timely-filed tax return for each of the five full taxable years following the taxable year of the initial transfer:
i. an annual certification containing the information described in Treas. Reg. § 1.367(a)-8(g), or
ii. a new GRA reporting a disposition or event that requires a new GRA.
In addition to filing a GRA for the year of the initial transfer, the U.S. Transferor must file a Form 926 and a Form 8838, Consent to Extend the Time to Assess Tax Under Section 367. The failure to file an initial GRA, or a new GRA or annual certification (as required) may result in immediate gain recognition under section 367(a)(1). The GRA rules are dense and complex. If you need assistance with these matters, please reach out to us immediately.
M&A Transaction Compliance
Section 368(a) Reorganization Statements – Each corporation that is a party to a reorganization described in section 368(a), or a significant holder as defined in Treas. Reg. § 1.368-3(c)(1)), must include a statement under Treas. Reg. § 1.368-3 on or with its tax return for the taxable year of the exchange. The statement must include the information required under Treas. Reg. § 1.368-3(a)(1)-(4) (in the case of parties to a reorganization), or Treas. Reg. § 1.368-3(b)(1)-(3) (in the case of a significant holder).
Section 351 Contribution Statements – Every significant transferor (as defined in Treas. Reg. § 1.351-3(d)(1), a person that transferred property to a corporation and received stock of the transferee corporation in a section 351 exchange) and every transferee corporation must include a section 351 statement in with its tax return that contains the information required under Treas. Reg. § 1.351-3(a)(1)-(4) (in the case of significant transferors) and Treas. Reg. § 1.351-3(b)(1)-(4) (in the case of transferee corporations).
Section 367(b) Notice – Generally, a section 367(b) transaction is any exchange described in section 332, 351, 354, 356, or 361, in connection with which there is no transfer of property described in section 367(a)(1) (i.e., it was not a transfer by a U.S. person to a foreign corporation but rather a foreign-to-foreign transfer). Any person that is described in Treas. Reg. § 1.367(b)-1(c)(2) (generally a domestic shareholder of the foreign corporation that engaged in a section 367(b) transaction, must file a notice in the time and manner described in Treas. Reg. § 1.367(b)-1(c)(3). The section 367(b) notice must contain the information required under Treas. Reg. § 1.367(b)-1(c)(4).
U.S. Person’s Information Return for Foreign Entities
Form 5471, Information Return of U.S. Persons with Respect to Certain Foreign Corporations – The Form 5471 is a comprehensive and complicated international tax filing. There are five categories of U.S. persons that have an obligation to file a Form 5741. Generally, these are certain U.S. persons that are shareholders, officers, directors, of foreign corporations (this can be any foreign corporation, it is not limited to controlled foreign corporations) who have an ownership interest or control over the foreign corporation. The Form 5471 has different reporting obligations depending on which category filer the U.S. person is within. The purpose of the Form 5471 is to satisfy the reporting requirements of sections 6038 and 6046, and the related regulations. Generally, the filer must include information regarding the type of stock of the foreign corporation that was issued at the beginning of the accounting period and the end, information regarding the shareholders of the foreign corporation, an income statement, a balance sheet, summary of the shareholder’s income from the foreign corporation, and additional schedules. Generally, the penalty for failure to report all the information required by section 6038(a) is $10,000 up to $50,000 for each failure. The penalty for failure to file or report all of the information required by section 6046 is $10,000 for each failure for each reportable transaction up to a maximum $50,000. Criminal penalties under sections 7203, 7206, and 7202 may apply for failure to file the information required by sections 6038 and 6046.
Form 8858, Information Return of U.S. Persons with respect to Foreign Disregarded Entities (“FDE”) and Foreign Branches (“FB”) – Certain U.S. persons that are tax owners of FDEs, operate an FB, or that own certain interests in tax owners of FDEs or FBs must file the Form 8858 and Schedule M. A U.S. person is a U.S. citizen or resident, a domestic partnership, a domestic corporation, any estate (other than a foreign estate), and any domestic trust. Generally, the Form 8858 reports the FDE or FB’s income and activities to satisfy the reporting requirements of sections 6011, 6012, 6031, and 6038 and the related regulations. A $10,000 penalty is imposed for each annual accounting period of each controlled foreign corporation or controlled foreign partnership for failure to furnish the required information within the time prescribed up to a maximum of $50,000. Additionally, any person that fails to file or report all the information required within the time prescribed will be subject to a reduction of 10 percent of the foreign taxes available for credit under sections 901 and 960. If the failure continues 90 days or more after the IRS mails notice of the failure to the U.S. person an additional 5 percent reduction is made for each 3-month period during which the failure continues. Criminal penalties under sections 7203, 7206, and 7207 may apply for failure to file the information required by section 6038.
Form 8865, Return of U.S. Persons with Respect to Certain Foreign Partnerships (“FP”) – Certain U.S. persons that: (i) controlled FPs at any time during the partnership’s tax year, (ii) owned 10 percent or greater interest in the FP while the FP was controlled by U.S. persons that each owned at least a 10 percent interest, (iii) contributed property during that person’s tax year to a FP in exchange for an interest in the FP and that person owned directly or constructively a 10 percent interest in the FP immediately after the contribution or the value of the property contributed exceeded $100,000, or (iv) a U.S. person that had a reportable event under section 6046A during that person’s tax year (acquisitions, dispositions, and changes in proportional interests. A $10,000 penalty is imposed for each tax year of each foreign partnership for failure to furnish the required information within the time prescribed up to a maximum of $50,000. Additionally, any person that fails to file or report all the information required within the time prescribed will be subject to a reduction of 10 percent of the foreign taxes available for credit under sections 901 and 960. If the failure continues 90 days or more after the IRS mails notice of the failure to the U.S. person an additional 5 percent reduction is made for each 3-month period during which the failure continues. Criminal penalties under sections 7203, 7206, and 7207 may apply for failure to file or for filing false or fraudulent information.
Form 3520, Annual Return to Report Transactions with Foreign Trusts and Receipt of Certain Gifts – U.S. persons (and executors of estates of U.S. decedents) file Form 3520 with the IRS to report certain transactions with foreign trusts, ownership of foreign trusts under the rules of sections 671 through 679, and receipt of certain large gifts or bequests from foreign persons. A separate Form 3520 must be filed for transactions with each foreign trust. A section 6677 penalty applies if the Form 3520 is not timely filed or if the information is incomplete or incorrect. Generally, the initial penalty is equal to the greater of $10,000 or:
i. 35 percent of the gross value of any property transferred to a foreign trust,
ii. 35 percent of the gross value of the distributions received from a foreign trust, or
iii. 5 percent of the gross value of the portion of the foreign trust’s assets treated as owned by a U.S. person under the grantor trust rules (sections 671 through 679), if the foreign trust
iv. fails to file a timely Form 3520-A and furnish the required annual statements to its U.S. owners and beneficiaries, or
v. does not furnish all of the information required by section 6048(b) or includes incorrect information.
Tax return reporting and disclosure is a complex and time-consuming task. The non-exclusive list above highlights some of the common reporting requirements and forms that may be unfamiliar or overlooked by taxpayers. Failure to file a form or failure to disclose all the information required may result in significant penalties. Taxpayers should carefully examine any transactions or property transfers that they engaged in during the 2021 tax year to ensure they are properly disclosed to the IRS.
Expert Tax Attorneys
If you need assistance reporting a transaction or managing your Tax Compliance process, Freeman law can help clients navigate these complex reporting obligations as well as International and Offshore tax laws. We offer value-driven services and provide practical solutions to complex tax issues. Schedule a consultation or call (214) 984-3000 to discuss your tax concerns.
Freeman Law International Tax Symposium
Readers may be interested in the Freeman Law International Tax Symposium scheduled to take place virtually on October 20 and 21, 2022. Attendees will qualify for CLE, CPE, and CE and the slate of presenters includes well-recognized speakers and panelists, such as the IRS Commissioner, a prior Chief Counsel of the IRS, a former Acting Assistant Attorney General of the U.S. Department of Justice Tax Division, and many others in government and private practice.
To Register for the Freeman Law International Tax Symposium, please visit www.its2022.freemanlaw.com.