Unreported Foreign Accounts – How to Report Your Foreign Money
Unreported Foreign Bank Accounts
Recently, the Internal Revenue Service issued a memorandum which provides details and guidelines on how it “believes” IRS agents should penalize Individuals, Businesses and Estates who are caught with unreported or undisclosed foreign bank accounts.
Essentially, the penalties boil down to whether the taxpayer was willful or non-willful in failing to report/disclose foreign bank accounts.
With that said, one of the most important questions to ask is…What is a Foreign Bank Account?
What is a Foreign Bank Account?
While Foreign Bank Accounts are simply Bank Accounts that are located in a foreign country – the IRS and U.S. Government definition can get much more complex and convoluted.
Moreover, if you have unreported foreign bank accounts — which means you have foreign bank accounts which you did not properly report to the Internal Revenue Service (IRS) or Department of Treasury (DOT), you may be subject to significant fines and penalties.
And, if the US government believes you intentionally failed to disclose the account information, you could be subject to a criminal investigation.
The following is intended as a brief guide to help you understand foreign bank accounts, why they need to be reported and what happens when you have unreported foreign bank accounts.
Who has to Report Their Foreign Bank Accounts?
Under federal law, US account holders of foreign accounts are required to report their account information in a number of different circumstances. The most common circumstance in which a person must report a foreign bank account is when they meet the threshold requirement for filing an FBAR.
An FBAR is a Report of Foreign Bank and Financial Account form. The FBAR form has been around since the 1970s, but with the recent implementation of FATCA (Foreign Account Tax Compliance Act), the IRS has renewed interest in enforcing foreign bank account compliance.
A person must file an annual FBAR statement in any year in which they have ownership, interest or signature authority over foreign bank accounts, that at any time during the year have an annual aggregate total that exceeds $10,000 on any day of the year. It is very important to understand that it does not matter if one account is worth $500,000 or there are 11 accounts each worth $1500. Once the annual aggregate total exceeds $10,000 on any given day, you are required to report all of the accounts.
The other very common form required for individuals who have foreign bank accounts is called a FATCA Form 8938. The threshold requirements for having to file this form is higher than for the FBAR and also has different requirements. It is very common for individuals who have to file an FBAR to also have to file a FATCA Form 8938
What is a Foreign Bank Account?
One of the most common questions we receive at Golding & Golding (especially from our foreign residents) is the following: “Why is it considered a foreign account if I’m a resident of the country the account is located in?” There is a very important nuance that you must consider when analyzing an account as a foreign account. Since we prefer to use examples, we will provide you an example of a recent scenario we had (changing the names)”
David was a client who was steadfast in his position that he was non-willful in reporting his foreign accounts. The only potential issue was that David reported accounts from one foreign country, but not the other. We asked David how he could not know he was required to report accounts in both Japan and Switzerland (the only reported the Swiss accounts).
His response was simple: I live in Japan full-time. In fact, I only leave Japan for less than two weeks every year. Why would the accounts that I have in Japan be considered foreign accounts, when I live in Japan?
Here is the clarification: David is a Citizen of the United States. As such, David has an ongoing requirement to file US tax returns as well as FBARs (amongst other reporting forms) each year to report his foreign bank accounts. Just because David is a Resident of Japan does not eliminate his US citizenship. As such, from a US tax reporting perspective, David’s Japanese accounts are located outside of the United States. Therefore, since the accounts are foreign insofar as they are not located within the United States they are required to be reported as foreign accounts.
*When it comes to reporting foreign accounts, people are not limited to “Bank” accounts. Any qualifying foreign financial account must be reported, but that is beyond the scope of this particular article.
**If you have any type of unreported for an account such as a bank account, retirement account, investment account, insurance policy, mutual fund, trust and/or capital gain, interest income, dividend, or any other income you should get into compliance before you are caught off-guard by the IRS, DOJ or DOT — and subject to extremely unfair fines and penalties.
A Bank Account in which the Money is Not Mine
If you have a foreign bank account which is not under your name but in which you have money in the account, then technically this is considered a foreign bank account which would need to be reported. The key term is that you have your own money in the foreign bank account, and even if your name is not on the account, the money is still yours.
A Bank Account in which I Only have Signature Authority
This is very common for spouses, children of elderly parents, and employees. In any of the aforementioned situations, the signatory may not have any interest in the money, but he or she may have signature authority over the account. In this type of situation, the account is still considered a foreign bank account and would have to be reported.
Who Has to Report a Foreign Bank Account?
Assuming for purposes of this article (exemptions and exceptions always apply) that any account in a foreign bank or bank outside of the United States is considered a foreign bank account. The next issue is who has to report the foreign bank account?
The following is a list (not exhaustive) of the usual cast of characters of individuals and businesses required to report foreign accounts:
- A US Citizen has to report foreign bank accounts (no matter where he or she resides)
- A US Legal Permanent Resident has to report foreign bank accounts (no matter where he or she resides)
- A non-permanent resident who meets the Substantial Presence Test
- A former US Legal Permanent Resident who is considered a covered expatriate may have an ongoing requirement.
- An Expat who resides overseas, but did not formally renounce US citizenship
- A Foreign business with US ownership and foreign bank accounts
- An employee of a company that has signature authority over for the foreign accounts
- A US owner of a foreign trust that has bank accounts under its name
- A US owner of a Passive Foreign Investment Company (PFIC) that has bank accounts under its name
- A US owner of a Controlled Foreign Corporation (CFC) that has bank accounts under its name
What if a 1040 is Required (I didn’t Earn Enough Income)?
This is where it begins to get very complex. A person who is otherwise required to file a US Tax Return is not required to file a tax return unless they meet the minimum income threshold requirements for filing a tax return. Therefore, if a person would otherwise be required to file a form 8938 or schedule B, because they meet the threshold requirements for having foreign bank accounts, but are not required to file a tax return (because they did not earn sufficient income to have to do so) they do not need to file tax return simply to file the Schedule B or 8938.
It Gets More Complicated…
The same cannot be said of the FBAR. In other words, even if you have no foreign income or US income and therefore no requirement to file US tax return, if you meet the FBAR threshold requirements, you are still required to file the FBAR, even if you are not required to file a tax return because you do not earn enough income to have to file it.
And Even More Complicated…
Many forms are filed alongside a tax return, solely because the dates coincide – but that does not mean a person can avoid reporting these other forms (even when they do not have to file a tax return) because they did meet the income requirements for having to file a U.S. Tax Return. We understand that was a mouthful; in other words, if you have a requirement to file forms such as an 8621 or 3520, or 3520-A, then you are still required to file these forms even if you do not have to file a tax return; the confusion lies in the fact that these forms are generally filed at the same time of the Tax Return.
The reason this is important is because by filing these other forms (such as a 3520 or 8621) it still puts you “on the board” with the IRS. Therefore it is important that if you are required to file these forms – even if you did not have sufficient income to otherwise have to file a tax return – you should be sure to still file your FBARs if you meet the minimum threshold requirement for filing an FBAR.
**Under almost any circumstance, a Passive Foreign Investment Company (Form 8621) or Foreign Trust (3520-A) will have have foreign bank accounts associated with it, and therefore is important to ensure that you filed the FBAR as well.
What are the Penalties for Unreported Foreign Money
The following is not exhaustive; it is a list of some of the more common penalties that are issued against individuals, estates, and businesses for failing to report foreign money.
As provided by the IRS:
Depending on a taxpayer’s particular facts and circumstances, the following penalties could apply:
A Penalty for failing to file FBARs
United States citizens, residents and certain other persons must annually report their direct or indirect financial interest in, or signature authority (or other authority that is comparable to signature authority) over, a financial account that is maintained with a financial institution located in a foreign country if, for any calendar year, the aggregate value of all foreign financial accounts exceeded $10,000 at any time during the year. The civil penalty for willfully failing to file an FBAR can be as high as the greater of $100,000 or 50 percent of the total balance of the foreign financial account per violation. See 31 U.S.C. § 5321(a)(5). Non-willful violations that the IRS determines were not due to reasonable cause are subject to a $10,000 penalty per violation.
A Penalty for failing to file FATCA Form 8938
Beginning with the 2011 tax year, a penalty for failing to file Form 8938 reporting the taxpayer’s interest in certain foreign financial assets, including financial accounts, certain foreign securities, and interests in foreign entities, as required by IRC § 6038D. The penalty for failing to file each one of these information returns is $10,000, with an additional $10,000 added for each month the failure continues beginning 90 days after the taxpayer is notified of the delinquency, up to a maximum of $50,000 per return.
A Penalty for failing to file Form 3520, Annual Return to Report Transactions With Foreign Trusts and Receipt of Certain Foreign Gifts. Taxpayers must also report various transactions involving foreign trusts, including creation of a foreign trust by a United States person, transfers of property from a United States person to a foreign trust and receipt of distributions from foreign trusts under IRC § 6048. This return also reports the receipt of gifts from foreign entities under IRC § 6039F. The penalty for failing to file each one of these information returns, or for filing an incomplete return, is the greater of $10,000 or 35 percent of the gross reportable amount, except for returns reporting gifts, where the penalty is five percent of the gift per month, up to a maximum penalty of 25 percent of the gift.
A Penalty for failing to file Form 3520-A
Information Return of Foreign Trust With a U.S. Owner. Taxpayers must also report ownership interests in foreign trusts, by United States persons with various interests in and powers over those trusts under IRC § 6048(b). The penalty for failing to file each one of these information returns or for filing an incomplete return, is the greater of $10,000 or 5 percent of the gross value of trust assets determined to be owned by the United States person.
A Penalty for failing to file Form 5471
Information Return of U.S. Persons with Respect to Certain Foreign Corporations. Certain United States persons who are officers, directors or shareholders in certain foreign corporations (including International Business Corporations) are required to report information under IRC §§ 6035, 6038 and 6046. The penalty for failing to file each one of these information returns is $10,000, with an additional $10,000 added for each month the failure continues beginning 90 days after the taxpayer is notified of the delinquency, up to a maximum of $50,000 per return.
A Penalty for failing to file Form 5472
Information Return of a 25% Foreign-Owned U.S. Corporation or a Foreign Corporation Engaged in a U.S. Trade or Business. Taxpayers may be required to report transactions between a 25 percent foreign-owned domestic corporation or a foreign corporation engaged in a trade or business in the United States and a related party as required by IRC §§ 6038A and 6038C. The penalty for failing to file each one of these information returns, or to keep certain records regarding reportable transactions, is $10,000, with an additional $10,000 added for each month the failure continues beginning 90 days after the taxpayer is notified of the delinquency.
A Penalty for failing to file Form 926
Return by a U.S. Transferor of Property to a Foreign Corporation. Taxpayers are required to report transfers of property to foreign corporations and other information under IRC § 6038B. The penalty for failing to file each one of these information returns is ten percent of the value of the property transferred, up to a maximum of $100,000 per return, with no limit if the failure to report the transfer was intentional.
A Penalty for failing to file Form 8865
Return of U.S. Persons With Respect to Certain Foreign Partnerships. United States persons with certain interests in foreign partnerships use this form to report interests in and transactions of the foreign partnerships, transfers of property to the foreign partnerships, and acquisitions, dispositions and changes in foreign partnership interests under IRC §§ 6038, 6038B, and 6046A. Penalties include $10,000 for failure to file each return, with an additional $10,000 added for each month the failure continues beginning 90 days after the taxpayer is notified of the delinquency, up to a maximum of $50,000 per return, and ten percent of the value of any transferred property that is not reported, subject to a $100,000 limit.
Fraud penalties imposed under IRC §§ 6651(f) or 6663
Where an underpayment of tax, or a failure to file a tax return, is due to fraud, the taxpayer is liable for penalties that, although calculated differently, essentially amount to 75 percent of the unpaid tax.
A Penalty for failing to file a tax return
Generally, taxpayers are required to file income tax returns. If a taxpayer fails to do so, a penalty of 5 percent of the balance due, plus an additional 5 percent for each month or fraction thereof during which the failure continues may be imposed. The penalty shall not exceed 25 percent.
A Penalty for failing to pay the amount of tax shown on the return
If a taxpayer fails to pay the amount of tax shown on the return, he or she may be liable for a penalty of .5 percent of the amount of tax shown on the return, plus an additional .5 percent for each additional month or fraction thereof that the amount remains unpaid, not exceeding 25 percent.
An Accuracy-Related Penalty on underpayments imposed under IRC § 6662
Depending upon which component of the accuracy-related penalty is applicable, a taxpayer may be liable for a 20 percent or 40 percent penalty
Possible Criminal Charges related to tax matters include tax evasion (IRC § 7201)
Filing a false return (IRC § 7206(1)) and failure to file an income tax return (IRC § 7203). Willfully failing to file an FBAR and willfully filing a false FBAR are both violations that are subject to criminal penalties under 31 U.S.C. § 5322. Additional possible criminal charges include conspiracy to defraud the government with respect to claims (18 U.S.C. § 286) and conspiracy to commit offense or to defraud the United States (18 U.S.C. § 371).
Note: A person convicted of tax evasion is subject to a prison term of up to five years and a fine of up to $250,000. Filing a false return subjects a person to a prison term of up to three years and a fine of up to $250,000. A person who fails to file a tax return is subject to a prison term of up to one year and a fine of up to $100,000. Failing to file an FBAR subjects a person to a prison term of up to ten years and criminal penalties of up to $500,000. A person convicted of conspiracy to defraud the government with respect to claims is subject to a prison term of up to not more than 10 years or a fine of up to $250,000. A person convicted of conspiracy to commit offense or to defraud the United States is subject to a prison term of not more than five years and a fine of up to $250,000.