Tag Archives: Form 3520

U.S. Citizens In Canada And Abroad: The Trauma Of Organizing Information For Your U.S. Tax Return

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Prologue

As an older post I wrote confirms, Americans abroad are subject to special provisions and those special provisions include a number of information returns!

Forms required by #Americansabroad 101 – The Explanation

My reason for writing and the purpose of this post

I am not a tax preparer. I am an expatriation lawyer. In this.capacity, I either:

– see U.S.tax returns prepared by a tax preparer; or

– discuss the necessity of U.S. tax compliance when a person wishes to become U.S. compliant through either the IRS streamlined or the IRS Relief Procedures Programs.

Americans abroad have many reasons for wishing to be U.S. tax compliant. In many cases it is associated with expatriation. In some cases it is part of estate planning (in many cases it is better to die without being a U.S. citizen). In. some cases it is to renounce and NOT create barriers to inheritance for U.S. citizen children. In some cases it is because they are likely to inherit U.S. income producing assets. In some cases it is because they fear noncompliance. In some cases (regardless of fears of penalties) they believe in. compliance with the law. The point is that U.S. tax compliance (it’s a huge industry) is an important part of people’s lives.

Regardless of one’s view of the U.S. citizenship tax regime, there are large numbers of Americans abroad who either attempt to meet their annual filing obligations or who desire to meet those obligations.

In this context I offer two important (I think) thoughts:

First, forms and tax returns are dangerous things and should be filed correctly. If you are going to file, you might as well do it correctly.

Second (and more importantly), for U.S. citizens abroad the filing of U.S. tax returns is a major cause of significant trauma in their lives. It is NOT a question of filing a. 1040 that just reports “foreign income”. It is, because of the large number of penalty-laden information returns, an accusation that is based on a presumption of “wrong doing”. (U.S. residents and their tax preparers who think this is hyperbole, just try living as a tax compliant American abroad!)

Therefore, the tax compliance question for Americans abroad is a question of how do they mange their trauma. The issue is how do they manage the tax filing issue in a way that minimizes the associated trauma. Are they likely to be audited? I don’t think so. Are they likely to think about the possibility of audit and penalties? Yes, many of them do. Furthermore, learning about previous filing mistakes is – for many people -incredibly traumatic.

The purpose of this post is to help with the management of trauma.

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The Organization Problem – How to read this post …

Identifying the information that is needed.

I have noticed that Americans abroad have difficulty organizing their information. Remember, tax preparers are not mind readers. They know very little about you. The simply process the information you provide. Sure, they have questionnaires (with varying degrees of detail). That said, I think it would be helpful to provide an overview of what it means to file a U.S. tax return, what information is relevant and how to think about retrieving that information. Those of you who wish to renounce U.S. citizenship will want to be in a position where you can certify five years of U.S. tax compliance.

I have written this post primarily from a Canadian perspective (I live in Toronto, Canada.) Although the information is generally applicable to all U.S. citizens living outside the United States, some of the information is specific ONLY to Canada. So, please don’t be lazy. Get informed! Stay informed!

While providing an overview, the information in this post cannot be complete. It is written for the average person, with a simple life and mainstream investments that are easily understood and characterized.

Finally, if you are filing U.S. taxes abroad for the first time, I suggest you should start with the following simple question:

“What would my U.S. tax tax return contain in terms of forms, schedules, etc.?”

In any case, I am writing this post because …

Yesterday I compared the U.S. tax return and the Canadian tax return of a U.S. citizen living in Canada. The Canadian return was 14 pages. The U.S. return was 59 pages. The person had a very simple life (retired and living off the usual pensions). He did NOT owe any U.S. taxes. That said, he was NOT compliant with his U.S. tax filing obligations. The reason was that his “foreign assets” were not reported properly on Form 8938. I suspect that this person had no idea how to properly identify and organize the foreign financial asset information to properly transmit it to his U.S. tax preparer. This is perfectly understandable. Assuming no Canadian Controlled Private Corporation (a presumptive instrument of tax evasion from a U.S. perspective), or other controlled foreign corporation, most tax filers will be required to file:

– FinCEN 114 AKA FBAR

– Form 8938

– Possibly Forms 3520 and 3520A (make sure that you really are dealing with a Trust or have received a foreign gift)

– and possibly more

This post is to provide very simple advice on how to organize this information to provide to your tax preparer.

U.S. tax filings are more about the disclosure of information than about the calculation of tax

Generally, you can assume that ANY and ALL financial accounts and financial assets (brokerage accounts, pensions, individual shares in non-U.S. corporations) must be reported. The reporting issue is distinct from the tax issue.

Foreign real estate owned directly by Americans abroad is NOT (at present) subject to separate reporting (although income earned from them is taxable).

Preparation for the filing of a U.S. tax return should be viewed as four categories of. tasks:

Category A – Identifying The Relevant Information

Category B – Deciding How That Information – In Terms Of The Relevant Forms – Is To Be Reported

Category C – Reporting The Information On The Relevant Forms

Category D – Deciding Whether Any Information Returns Must Be Filed Even If A Tax Return Is Not Required (For example: Form 5471, 8621 and Form 3520 and Form 3520A may have a filing requirement even if a 1040 is not required!)

Category E – Does Your Country Of Residence Have Rules Requiring The Reporting Of Foreign Assets (similar to FBAR, Form 8938, etc.)?

Be careful!!

Canada (and other countries) have very strict rules governing the reporting of foreign assets.

Once these three tasks have been. completed, one is ready to place the income on the actual tax return (1040 or 1040NR) and Schedules.

What follows are the ten steps that should prepare you to give your information to your tax preparer.

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IRS Service To Expats: Another Reason To End U.S. Citizenship Taxation

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Guest Post By Dr. Suzanne de Treville – Switzerland

Discussions about eliminating double taxation for U.S. citizens abroad often focus on reducing the significant compliance burdens these individuals face. When the U.S. taxes income or assets already taxed in a citizen’s country of residence, the resulting complexity is substantial while the extra tax revenue to the IRS that results from this double taxation by ordinary taxpayers is quite low. This complexity is particularly burdensome for the 80% of expat taxpayers with an Adjusted Gross Income of $100,000 or less.

The IRS requires expatriates to file intricate returns and is responsible for providing necessary assistance. However, while resources are available to domestic taxpayers, similar support is lacking for those abroad, despite their greater need.
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The Form 3520 Penalty Debacle: Podcast And Discussion With CPA Gary Carter

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November 8, 2021 …

I just got off the phone with another person who was assessed a $10,000 penalty in relation to a Canadian TFSA (which is probably not even a trust for US purposes, which means it can’t be a foreign trust). Predictably her response is to simply renounce US citizenship.

The conversation reminded me of a podcast that I did (last January with CPA Gary Carter) about the 3520/A IRS penalty problem. As I result, I am posting this podcast.

This podcast features a discussion with CPA Gary Carter that includes:

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Treasury 26 CFR § 301.7701-2 – Business entity definitions discriminate against Canadian Controlled Private Corporations

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Synopsis:

Canadian corporations should NOT be deemed (under the Treasury entity classification regulations) to be “per se” corporations. The reality is that corporations play different roles in different tax and business cultures. Corporations in Canada have many uses and purposes, including operating as private pension plans for small business owners (including medical professionals).

Deeming Canadian corporations to be “per se” corporations means that they are always treated as “foreign corporations” for the purposes of US tax rules. This has resulted in their being treated as CFCs or as PFICs in circumstances which do not align with the purpose of the CFC and PFIC rules.

The 2017 965 Transition Tax confiscated the pensions of a large numbers of Canadian residents. The ongoing GILTI rules have made it very difficult for small business corporations to be used for their intended purposes in Canada.

Clearly Treasury deemed Canadian Controlled Private Corporations to be “per se” corporations without:

1. Understanding the use and role of these corporations in Canada; and

2. Assuming that ONLY US residents might be shareholders in Canadian corporations. As usual, the lives of US citizens living outside the United States were not considered.

These are the problems that inevitably arise under the US citizenship-based AKA extraterritorial tax regime, coupled with a lack of sensitivity to how these rules impact Americans abroad. The US citizenship-based AKA extraterritorial tax regime may be defined as:

The United States imposing worldwide taxation on the non-US source income of people who are tax residents of other countries and do not live in the United States!

It is imperative that the United States transition to a system of pure residence-based taxation!

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Introduction

The United States imposes a separate and more punitive tax system on US citizens living outside the United States than on US residents. There are numerous examples of this principle – a principle that is well understood (but not directly experienced) by tax preparers.

The US tax system operates through a combination of laws, Treasury Regulations, enforcement by the tax compliance community and IRS administration. There are many instances where the extraterritorial application of the US tax system results in absurdities, that are very damaging to those who try their best to comply with those laws.

Treasury regulations have an enormous impact on how the Internal Revenue Code applies to Americans abroad. In a previous paper coauthored with Dr. Alpert and Dr. Snyder, we described how Treasury could provide “A Simple Regulatory Fix For Citizenship Taxation“. Treasury regulations can be extremely helpful to Americans abroad or extremely damaging. It is therefore crucial that Treasury consider how its regulations would/could impact the lives of those Americans abroad attempting compliance with the US extraterritorial tax regime. In some cases it may be appropriate to have different regulations for resident Americans than for Americans abroad.

Treasury has demonstrated that it can be very helpful

Although this post will focus on difficulties, it’s important to note that Treasury has demonstrated that it can be very helpful to Americans abroad. It has interpreted the Internal Revenue Code in ways that have mitigated what could have been extreme damage. Here are two recent examples from the GILTI context where Treasury:

– interpreted the 962 Election to allow individuals to receive the 50% deduction in GILTI income inclusion that was allowed to corporations; and

– interpreted the Subpart F rules to mean that ALL income earned by a CFC should be entitled to the high tax exclusion

Clearly some of the news coming from Treasury has been good!

The power to regulate is the power to destroy

This post provides examples of how certain Treasury regulations contribute to the application of the United States extraterritorial tax regime. The examples are found in the following two categories of regulations:

Category A: Foreign Trusts – The Form 3520A Penalty Fundraiser – Regulations That Are Unclear Resulting In Penalties

Category B: Business Entities Designated as “per se” Corporations – Creating CFCs In Unreasonable Circumstances (Canadian Controlled Private Corporations) – Regulations That Are Clear But Over-inclusive

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Part 2 – The Warren “Ultra-Millionaire Tax Act of 2021” and The Wealth Of Other Nations

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The fact that …

Leads to the obvious question of …

Hmm…

The fact is that Senator Warren is proposing to impose her wealth tax on property located outside the United States, purchased by individuals who live outside the United States, who have no connection to the United States other than (perhaps) the circumstance of having been born in the United States. Yup, it’s true.

On March 18, 2021, FATCA will turn on 11. The Senator’s proposed wealth tax explicitly states that FATCA is to be used to enforce this tax! Finally an (il)legitimate use for FATCA.

In the 18th Century Adam Smith wrote “The Wealth Of Nations”. In the 21st Century Senator Warren is proposing to impose a wealth tax on “The Wealth Of OTHER Nations”.

Discussion And Analysis

This is the second of what I expect to be a multi-part series on Senator Warren’s proposed wealth tax of 2021. As the above tweet makes clear, the practical utility of the tax depends on US citizenship-based taxation (to whom it applies) and FATCA (how are non-US assets located). In my first post, I referenced Senator Warren’s statement that:

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Treasury exempts applicable “tax-favored foreign trusts” from the Form 3520 (and therefore Form 3520A) requirement

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Introduction – A small step for forms, one giant leap for “formkind”

It’s true. Many Americans abroad may no longer be required to file Form 3520 and Form 3520A to report their lives abroad! Early indications appear that many Americans will (assuming their retirement vehicle does qualify as a trust) not be required to report on Form 3520. This new initiative from Treasury a positive step in the right direction.

I have long thought that Treasury could solve many of the problems experienced by Americans abroad. Here is a wonderful example of Treasury taking the initiative to clarify the obvious:

Americans abroad do NOT use non-U.S. pension plans and non-U.S. tax-advantaged investing accounts to evade U.S. taxes. Hence, there is NO reason for the Form 3520 reporting requirement. This is an example of the tax compliance industry sitting down with Treasury, explaining a problem and getting a resolution. I suggest (and hope) that the same can be done for PFIC (Form 8621), Small Business Corporations (Form 5471) and other penalty-laden forms.

Yes, this announcement from Treasury in the form of RP 20-17 is a great achievement. Although it certainly doesn’t solve all the problems, it’s:

A small step for forms, one giant leap for “formkind”

The background to this problem – It starts in 1996 (same year as the beginning of the Exit Tax)…

Since 1996 Internal Revenue Code 6048 has required extensive reporting of almost any interaction with a foreign trust. Treasury has required that the reporting take place on Forms 3520 and 3520A. The forms are complex and subject to the draconian penalty regime described in Internal Revenue Code Section 6677. In order for an entity to be a foreign trust, it must be a trust. A “trust” for IRS purposes is defined by the Treasury Regulations as:

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To be FORMWarned is to be FORMArmed! The easiest way to receive a Form 3520A penalty would be to file a Form 3520

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There is evidence from both tax practitioners and from individuals that Americans abroad are suffering from a “Form 3520A” penalty epidemic. Some of the best discussion of both the scope and technicalities of this problem may be found at Tax Connections. See particularly the posts here, here and here. (Mr. Carter’s original post was also reproduced at American Expat Finance.) The posts have attracted commentary from a number of tax professionals. The IRS Taxpayer Advocate has been invited to intervene.

“Tax Compliant” Americans Abroad are just a penalty waiting to happen!

Americans abroad are potentially required a very large number of IRS forms.

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Canada U.S. Tax Treaty: Why the 5th protocol of the Canada US Tax Treaty Clarifies that the TFSA is a pension within the meaning of the Canada U.S. Tax Treaty

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Article XVIII of the Canada U.S. Tax Treaty Continued – The question of the TFSA

In a previous post I discussed how a U.S. citizen moving to Canada with an existing ROTH will be treated under the Canada U.S. Tax treaty.

The purpose of this post is two-fold:

First, to argue that the the TFSA should be treated as a “pension” within the meaning of Article XVIII of the Canada U.S. Tax Treaty; and

Second, to argue that the 5th protocol (which clarifies that the ROTH IRA) is a pension within the meaning of the Canada U.S. Tax Treaty means that the Canadian TFSA has the same status.

This will be developed in three parts:

Part A – How the Canada U.S. Tax Treaty affects U.S. Taxation of the Canadian TFSA

Part B- Wait just a minute! I heard that the “Savings Clause” means that the treaty would not apply to U.S. citizens?

Part C – The TFSA and Information Returns: To file Form 3520 and 3520A or to not, that is the question

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Part 9: Responding to the Sec. 965 “transition tax”: From the "Pax Americana" to the "Tax Americana"

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This is the ninth in my series of posts about the Sec. 965 Transition Tax and whether/how it applies to the small business corporations owned by taxpaying residents of other countries (who may also have U.S. citizenship). These small business corporations are in no way “foreign”. They are certainly “local” to the resident of another country who just happens to have the misfortune of being a U.S. citizen.
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