Regarding That Disregarded Entity…

The Treasury Department has clamped down on a key reporting exemption that was previously enjoyed by foreign-owned, single-member limited liability companies (SMLLCs).  This cDisregard second thoughthange has significant impacts on any foreign person or entity with holdings in U.S. SMLLCs that are disregarded for federal income tax purposes.  Previously, these entities were exempt from the comprehensive record maintenance and associated compliance requirements that applied to 25% foreign-owned domestic corporations.  Now, substantially any transaction between U.S. domestic disregarded entities and their foreign owners, including any of the owner’s related entities, may be reportable.

These regulations are part of a larger effort by the Treasury Department to increase financial transparency.  Entities subject to these regulations will continue to be treated as disregarded for other federal tax purposes.  The Treasury Department explained that there is a class of foreign-owned U.S. entity (typically SMLLCs) that has no obligation to report information to the IRS or even obtain a tax identification number.  According to the government, these “disregarded entities” could be used to shield the foreign owners of non-U.S. assets or bank accounts.  By treating domestic disregarded entities that are wholly owned by a foreign person as a domestic corporation separate from its owner (for these limited reporting and compliance requirements), the regulations enable the IRS to determine the existence and magnitude of any tax liability and share information with tax authorities in other countries.

Requirements
Previously, certain disregarded entities and their foreign owners may not have had an obligation to file a tax return or obtain an Employer Identification Number (EIN).  The final regulations require foreign owned domestic disregarded entities to:

  • Obtain EINs from the IRS
  • Annually 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
  • Identify “reportable transactions” between the LLC and any related parties, including the LLC’s foreign owner
  • Maintain supporting books and records

Regulations
These rules treat U.S. disregarded entities as stand-alone foreign-owned domestic corporations.  Therefore, they are now required to file Form 5472 with respect to reportable transactions between the entity and its foreign owner or other foreign related parties. Transactions are reportable as if the entity were a corporation for U.S. tax purposes. These entities also are required to maintain records sufficient to establish the accuracy of the information return and the proper U.S. tax treatment of such transactions.

Please see the regulations for examples of reportable transactions that require reporting, elimination of certain reporting exemptions, and overlap rules affecting controlled foreign corporations and foreign sales corporations.

Tax Year
The final regulations require the domestic reporting corporations to have the same tax year as their foreign owner if that foreign owner has an existing U.S. reporting obligation. If the foreign owner has no U.S. return filing obligation, then the domestic reporting corporation must report on a calendar year basis.

Effective Date
The final regulations are effective December 13, 2016, and apply to tax years beginning on or after January 1, 2017, and ending on or after December 13, 2017.


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Lisa S. Goldman, CPA is Partner-in-Charge of Wealth Management at Raich Ende Malter & Co. LLP, with more than 20 years’ experience serving Fortune 500 corporations and privately-owned companies in the real estate, manufacturing, and consumer products industries. She specializes in international taxation and in providing services for high-net-worth individuals and their businesses. Ms. Goldman is a trust and estate practitioner (TEP) under the auspices of STEP and is a member of the NYSSCPA’s International Taxation Committee and the AICPA Tax Division. She frequently writes and lectures on international tax topics. Reach Lisa at 212-944-4433 or lgoldman@rem-co.com.

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Worried About Your Undisclosed Foreign Assets? The Offshore Voluntary Disclosure Program May Offer a Solution

ovdp-article-globeAs I said before: Being a good tax citizen is important.  Sometimes it is difficult to navigate the stormy seas of compliance to achieve that end.  One such hazard is the difficulty of adhering to complex international reporting requirements.

I must pause here to note that if you do have significant international compliance issues, you should consult legal counsel in addition to a tax professional due to the many civil and criminal consequences imposed by the Department of Justice and Department of the Treasury.

Imagine a normal day in the life of a hard-working taxpayer.  She always files her tax return on time and doesn’t take any undue deductions.  One day she learns a wealthy relative left her interest in a profitable commercial property in Croatia.  How fortunate!  But wait, this wealthy relative left it to her a couple of years ago and it has been generating income this whole time.  Oh no!  There are full pages in the IRS instructions detailing penalties for the forms she didn’t file over that period that could amount in many thousands of dollars and even jail time.  What is our hard-working taxpayer to do?

The IRS, in an effort to provide a bridge to compliance, has enacted the 2012 Offshore Voluntary Disclosure Program (“OVDP”), modified effective July 1, 2014.  This program is designed to incentivize taxpayers (entities and individuals) to come to the IRS with undisclosed assets and accounts rather than the IRS having to hunt them down; it offers a reduction in penalties and potential elimination of the risk of criminal prosecution.  The penalties described in the Internal Revenue Code for failing to comply with foreign reporting are incredibly brutal; in some cases 100% of the highest value of an asset during a given year, plus other penalties, plus interest, plus criminal prosecution.  That, coupled with the increasing risk of being detected by the US Government by their new, more aggressive approach to treaties and policy, creates a very compelling argument for taxpayers to come forward.

This relief a taxpayer receives from this program is not completely painless.  Paying the offshore penalty of 27.5% plus the accuracy-related penalty of 20% is a hard pill to swallow, but when weighed against the alternative (potentially 100% and criminal prosecution), it should go down a little easier.

Eligibility for the OVDP is contingent upon coming forward before the IRS is aware of the unreported foreign assets; if they find you, OVDP is off the table.  In some cases, a taxpayer may have already amended and submitted reports, referred to as a “quiet disclosure.”  These taxpayers still run the risk of full penalties and criminal prosecution if they don’t apply to the OVDP.

In our example, the hard-working taxpayer has the ability to compile all information on the property and the unreported income and then submit an application via Forms 14454 and 14457 to the IRS OVDP.  If accepted, original and amended tax returns accounting for the foreign income and forms reporting the foreign transactions and activity must be prepared and submitted. In addition, the taxes, penalties, and interest due must be paid or arrangement to pay must be made.  All this just to be a good tax citizen!

The Offshore Voluntary Disclosure Program offers a bumpy path to compliance that is not without its difficulties.  It is important for someone considering this path to enlist the counsel of professionals in law and accounting.


evan_2Evan Piccirillo is a Tax Supervisor in Raich Ende Malter & Co. LLP’s Long Island office. Evan specializes in high net worth individuals, as well as closely-held corporations, S-Corporations, and small businesses.
Contact Evan at
epiccirillo@rem-co.com or (516) 228-9000.