By Bethany Bouw, CPA
Taxpayers who have foreign businesses are often surprised to hear there are filing requirements to disclose their business. If you are familiar with the basics of international business, you may know this is true of foreign corporations. The same is true of partnerships, sole proprietors, other foreign disregarded entities and more. In many cases, taxpayers assume that if they keep most aspects of their business abroad, that the IRS will have no interest in them. Unfortunately, they are incorrect.
Even if you organize the business abroad, did all the work abroad, and kept the profits abroad – the IRS will still care greatly about your entity. It is best to have a basic understanding of the lesser known forms and reporting requirements to ensure you do not get caught in thinking the IRS has no authority over your businesses. There are two forms specifically that tend to get overlooked, Form 8865 (Foreign Partnerships) and Form 8858 (Foreign Disregarded Entities).
Foreign Partnerships – Form 8865:
- Make sure you have determined what the default treatment of the foreign entity is – Form 8832 has instructions about how to determine the default treatment of a foreign entity. Some entities are “per se” corporations based on the entity type and are not eligible for election to be treated as a different entity type. It is important to reach out to a qualified tax professional when organizing to make sure tax planning is done with regards to entity type and that elections are made in a timely manner.
- Form 8865 is often filed to report:
- Controlled foreign partnerships
- Transfers to foreign partnerships
- Acquisitions/changes/dispositions of foreign partnership interests
- Consider all the categories for filing as there are multiple you could qualify for – Filers could fall into multiple categories, with each category having different filing requirements for the various schedules. When reading the instructions, do not just stop at the first category that fits your situation. It is possible to meet the definition for more than one category and you certainly do not want to miss a required form.
- Where to file – File with your income tax return by the income tax return’s due date. File it separately if you do not have a required income tax return using the date/location you would have if you had been required to file an income tax return.
- Penalties– Like most foreign related informational filings, the penalties are steep and can escalate quickly. If a category 1 or 2 filer does not timely file all the information required, there is an automatic penalty of $10,000. Please note that both time and completeness are factors here. That means that it does not allow for timely filing a form known to be incomplete to game the system. Forms should be filed both on time and complete. The penalties can be even greater if there are issues for category 3 or 4 filers.
Foreign Disregarded Entities – Form 8858
- Again, make sure you have determined the default treatment of the entity and if elections need to be made. There is a means of late relief should you require it. However, you do need to be eligible for such relief.
- Form 8856 may be required even if the foreign disregarded entity (FDE) is owned indirectly or constructively. This form can be required if the taxpayer has a controlled foreign corporation (CFC) or controlled foreign partnership (CFP) that is a tax owner of FDE. Many times, those with a foreign business set up different tiers of entities for various reasons (taxation, liability, members). This can lead to tiered ownership that might feature a CFC owning a FDE.
- An organizational chart is required on Line 5 on page 1 to show specific relationships and information about those relationships. Such a chart needs to include:
- The chain of ownership between the tax owner and the FDE, AND
- The chain of ownership between the FDE and all entities that the FDE has a 10% or greater interest in, either directly or indirectly.
To properly complete the chart, you will need information on names, percentages, entity classifications, and countries in which they are organized.
- Where to file – File with your income tax return or related information return (such as Form 5471 or Form 8865) by that return’s due date. Do not file Form 8858 separately.
- Penalties? Similar to Form 8865, the penalties are steep and can escalate quickly. Timeliness and completeness are major factors related to the penalties. There is an automatic penalty of $10,000 which can go up to $50,000 if the failure continues after notification of delinquency by the IRS. There can even be criminal penalties that come into play regarding this form.
There may be additional forms that are required related to foreign entities. Though they may not be listed in this article, such forms may still apply given individual taxpayer’s situations. Please check out Ryan & Wetmore’s list of major international tax forms (this list is not all-inclusive and is ongoing). For many of the foreign forms, the statute for the year may not have started running if there was a form required that was not filed or was incomplete. It is very important to engage qualified tax professionals to assist with these forms.
The International Tax Team at Ryan & Wetmore is well-versed in foreign informational filings. For questions or concerns regarding your international accounts and assets, click here to email our foreign tax team. Please be aware that tax issues are complicated and may vary based on the details of your situation. For this reason, an initial phone call is generally required to obtain the facts and address the questions.
Bethany Bouw CPA, is a manager at Ryan & Wetmore and has been with the firm for over eight years. She has experience with offshore voluntary compliance and assisting taxpayers with foreign asset and entity reporting requirements.
Traci Getz CPA, is a partner with Ryan & Wetmore, P.C. Traci has over fifteen years of experience providing accounting, tax, and consulting services to small and medium-sized business owners. She works with clients to understand their accounting and tax issues while specializing in international tax, healthcare, and construction.
Our firm provides the information in this e-newsletter for general guidance only, and does not constitute the provision of legal advice, tax advice, accounting services, investment advice, or professional consulting of any kind. The information provided herein should not be used as a substitute for consultation with professional tax, accounting, legal, or other competent advisers. Before making any decision or taking any action, you should consult a professional adviser who has been provided with all pertinent facts relevant to your particular situation. Tax articles in this e-newsletter are not intended to be used, and cannot be used by any taxpayer, for the purpose of avoiding accuracy-related penalties that may be imposed on the taxpayer. The information is provided “as is,” with no assurance or guarantee of completeness, accuracy, or timeliness of the information, and without warranty of any kind, express or implied, including but not limited to warranties of performance, merchantability, and fitness for a particular purpose.
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