Summoning Foreign Records: The Section 6038A Summons

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Jason B. Freeman

Jason B. Freeman

Managing Member

214.984.3410
jason@freemanlaw.com

Mr. Freeman is the founding member of Freeman Law, PLLC. He is a dual-credentialed attorney-CPA, author, law professor, and trial attorney.

Mr. Freeman has been named by Chambers & Partners as among the leading tax and litigation attorneys in the United States and to U.S. News and World Report’s Best Lawyers in America list. He is a former recipient of the American Bar Association’s “On the Rise – Top 40 Young Lawyers” in America award. Mr. Freeman was named the “Leading Tax Controversy Litigation Attorney of the Year” for the State of Texas for 2019 and 2020 by AI.

Mr. Freeman has been recognized multiple times by D Magazine , a D Magazine Partner service, as one of the Best Lawyers in Dallas, and as a Super Lawyer by Super Lawyers, a Thomson Reuters service. He has previously been recognized by Super Lawyers as a Top 100 Up-And-Coming Attorney in Texas.

Mr. Freeman currently serves as the chairman of the Texas Society of CPAs (TXCPA). He is a former chairman of the Dallas Society of CPAs (TXCPA-Dallas). Mr. Freeman also served multiple terms as the President of the North Texas chapter of the American Academy of Attorney-CPAs. He has been previously recognized as the Young CPA of the Year in the State of Texas (an award given to only one CPA in the state of Texas under 40).

Is a summons issued by the IRS to examine books, records or other data in the custody or control of a foreign related party enforceable? The Internal Revenue Code provides the IRS with a mechanism to summon such records in certain situations – or to effectively impose a penalty against the domestic reporting corporation (“DRC”) (defined below) for failing to comply. One particular route is available where the records at issue involve a transaction of a DRC that is 25-percent (or more) owned by a foreign related party. In that situation, the Service may have a formidable weapon: a section 6038A summons.

Generally, a foreign related party is required to designate the domestic corporation as its agent. When it fails to do so, a noncompliance rule applies. Under the noncompliance rule, the IRS has sole discretion to determine the DRC’s deductions related to, and the cost of property purchased from (or transferred to), that foreign related party.

For purposes of section 6038A, a DRC is either a domestic corporation that is 25-percent foreign-owned or a foreign corporation that is 25-percent foreign-owned and engaged in trade or business within the United States. A foreign related party is one of the following: a 25-percent foreign shareholder of the DRC, a person related to a 25-percent foreign shareholder, or a foreign person who is related to the DRC. A DRC is required to file a Form 5472, Information Return of a 25% Foreign-Owned US Corporation or a Foreign Corporation Engaged in a US Trade or Business, for every foreign related person that the DRC completes a transaction with during that tax year.  See our prior posts on new 5472 rules: Foreign-owned domestic disregarded entities: The new reporting requirementsIRS Issues Final Regulations Governing Foreign-Owned Single Member LLCsAn Update on International Tax Enforcement.

The IRS may issue an IRC 6038A summons when:

When a DRC fails to comply with a section 6038A summons in a timely manner, the Service has the sole discretion to determine the DRC’s deductions related to transactions with the foreign related party. The only way for a DRC to successfully challenge the noncompliance penalty is to prove the IRS abused its discretion by clear and convincing evidence.

A section 6038A summons provides an avenue for the IRS to summon records related to a transaction between a DRC and a foreign related party. If the DRC does not comply with the 6038A summons, then the IRS has sole discretion to determine the tax deductions for the foreign related person and to make adjustments. For some, this will be a steep price to pay.

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