This week we´re going to continue the discussion of the differences between FBAR and FATCA reporting for US taxpayers.
As I was putting together the resources to write this week’s post of the Blog, I came across two examples of mistakes related to one of the topics we covered last week, which we continue to cover in this issue: the infamous FBAR.
The first mistake was made by none other than FinCEN.
FinCEN, as we learned last week, is the bureau of the Department of the Treasury charged with safeguarding the US financial system from illicit use, combating money laundering, and combating the financing of terrorism. FinCEN is responsible for the FBAR, aka FinCEN Form 114.
Exactly a week ago, on October 14, the eve of the October 15 FBAR filing deadline, FinCEN issued an alert stating that the FBAR deadline was extended to December 31, 2020.
Some tax professionals who were rushing to obtain missing foreign account information from their clients or who were having trouble getting their clients to sign their electronic filing authorizations, breathed a sigh of relief.
It was a brief sigh of relief though….
Close to twenty-four hours later, on October 15, FinCEN issued another notice that said (I’m paraphrasing):
Dear FBAR filers, you know that notice we issued yesterday that 2019 FBARs were due December 31 instead of today? Well, actually, that only applies to you if you live in a federally declared disaster area. You know, like NorCal or Oregon, where wildfires are raging. The rest of y’all? Your deadline is today. Sorry for the inconvenience. Our bad! Seriously though, you still have a few hours before the deadline, so you better get to it STAT.
I am not kidding!
I mean, I’m kidding a little bit, because I paraphrased, but the spirit is spot on: FinCEN sent an incorrect extended deadline notice, issued a correction within hours of the real deadline, and expected everyone to comply.
They must have received a lot of flak from lots of different places because on October 16, they issued a third notice, admitting that their error may have caused a few people to miss the October 15 deadline, and gave everyone two extra weeks to comply:
In a nutshell, this is what happend:
- On October 15, FinCEN made a mistake and incorrectly announced an FBAR extension for everyone to December 31.
- On October 15, they fixed the mistake and reminded everyone that for most filers the day of the correction was the actual deadline
- They eventually felt bad for the poor souls who had relied on their erroneous notice and gave everyone an extra two weeks to file.
The winners? Procrastinators.
- IF YOU PROCRASTINATED AND FAILED TO FILE YOUR 2019 FBAR BY THE OCTOBER 15 DEADLINE, YOU NOW HAVE UNTIL OCTOBER 31 TO FILE IT TIMELY, courtesy of the equivocal FinCEN.
This sequence of events reminded me of another quote by Adam Osborne, who is our quote of the week guy, and who I had to look up because I didn’t know who he was. It turns out he introduced one of the first successful portable computers, back in 1981:
“People think computers will keep them from making mistakes. They’re wrong. With computers you make mistakes faster.”
Still true, almost 40 years later, even if you work at FinCEN!
The second FBAR mistake of the week was made by Robert F. Smith.
Who is Robert F. Smith?
Mr. Smith is the billionaire founder and CEO of Vista Equity Partners, a private equity firm.
What mistake did he make? He got caught doing something he shouldn’t have been doing.
What did he get caught doing?
Evading taxes and laundering money, the things FATCA and FBAR are designed to catch.
It turns out that Mr. Smith, who until last week was known for being a brilliant investor and a generous philanthropist, was also a tax cheat. I guess for some it’s easier to be a generous philanthropist with taxpayer money than with their own…..
Mr. Smith is collaborating with the IRS on an even larger tax evasion and money laundering case in which one of his clients in implicated, and by doing so, he is avoiding criminal prosecution.
Mr. Smith is the small fish in this story. The big fish is accused of evading taxes on more than $2 billion of income. TWO BILLION.
Mr. Smith is accused of hiding JUST $200 million. A paltry sum by comparison. And not only did Mr. Smith not report this income, he claimed $182 million of it as a charitable tax deduction! Bad news for Mr. Smith: he is not getting the tax deduction. Additionally, he has agreed to pay $139 million in penalties, interest and back taxes to the IRS, of which close to $83 million are FBAR penalties alone.
I mention Mr. Smith’s case, which was made public by the IRS last week after a four-year investigation, because BSA, the law that gave us the FBAR, and FATCA, the law that gave us Form 8938, cause a lot of headaches for many innocent foreign resident American and US immigrant families.
It is easy to lose sight of the intended purpose of these laws, especially when as regular law-abiding citizens, we must put up with the major inconveniences and significant costs that can result from them. The least we can expect from such laws, given their impact on ordinary people’s lives, is for them to help catch a big, crooked tax evader every once in a while.
Occasionally, they do.
Another notorious example from 2018 was the case of Paul Manafort, the former chairman of President Trump’s campaign in 2016.
There are many other cases. If you are curious, you can explore the Federal Tax Crimes blog by Jack Townsend and read about other cases of large tax evasion and money laundering that were caught for violations of these laws.
But enough with notification mistakes and errors of judgement.
Let’s get back to the issue that concerns us today, which is understanding how FBAR and FATCA impact you, the individual US tax return filer.
Key Insight # 12 – Understanding FBAR and FATCA reporting requirements for US taxpayers – Part II
Last week, we covered FBAR and FATCA FAQs 1 – 6. Today we are will cover FAQs 7 – 10
7. What accounts do I need to report in my FBAR?
The FBAR requires reporting financial accounts that you beneficially own separately, jointly with a third party including your spouse, or over which you have signature or other authority.
Foreign financial accounts include but are not limited to:
- Checking accounts
- Savings accounts
- Brokerage accounts
- Securities accounts
- Time deposits (CDs)
- Commodity futures
- Options accounts
- Insurance policies with a cash value
- Annuity policies with a cash value
- Shares in a mutual fund or similar pooled funds
- Other types of accounts held at foreign financial institutions
Things can get tricky with accounts held through indirect ownership:
Indirect ownership may include a nominee representing the you, US person, the real account owner. Or accounts held by a corporation, trust, partnership or other entities when you own directly or indirectly more than 50% of the entity, its voting rights or the rights to its profits.
Accounts with restricted access can be tricky too. Mostly because they are easily forgotten, in an out-of-sight, out-of-mind kind of way. Or because you didn’t realize they may need to be reported. Common examples include foreign retirement accounts with former foreign employers, or rental deposit accounts that are required in many foreign countries.
Other accounts that can be trickly are accounts with FinTech companies like Transferwise or Revolut, or crypto currency wallets. With respect to the latter, the answer, at least for now, is no. For the former, it’s yes.
My recommendation when you are not sure if you should report a certain account? When in doubt, report. There are no penalties for over-reporting, making over-reporting a safe rule of thumb.
Finally, another area where errors or omissions are common is with accounts over which the US person has signature or other authority (like the authority to authorize distributions) even when the money does not belong to the US person. Examples of the kinds of situations that may come up in the day to day life of regular people like you and me include:
- Having power of attorney over foreign accounts owned by foreign parents
- Being named beneficiary of a foreign trust or shareholder of a foreign family business by foreign parents, grandparents or other foreign relatives
- Being the custodian of minor accounts (children) especially when opened by their grandparents or other foreign relatives or friends and they forget to tell you. Oops!
8. What accounts do I need to report on my Form 8938?
One of the most common complaints about Form 8938 is that it’s ALMOST a duplicate of the FBAR.
A question I commonly hear is: “Why do I have to file this form if I’m already reporting everything in the FBAR?”
It is true that there is a lot of overlap between both forms, but there are some important distinctions.
Instead of listing what needs to be reported on Form 8938 from scratch, I will focus on the differences between the FBAR and Form 8938.
Let’s start with the accounts listed above as FBAR reportable. Which of those DO NOT need to be reported on Form 8938?
- Accounts over which you have signature authority but no beneficial interest:
- In the example above, the accounts that belong to your parents when you have power of attorney.
- Accounts over which you have beneficial interest but no direct ownership:
- In the example above, accounts that belong to a foreign corporation or partnership that you control. However, it’s important to remember that although those accounts do not need to be separately reported on Form 8938, the foreign entities themselves could have their own filing requirement via Form 8858, Form 8865, Form 5471, Form 8621, Form 3520 or even Form 3520-A.
- When there is a form 3520, 9621, 3520-A, 8865 or 5471 filing requirement, this triggers an additional requirement within Form 8938 itself: to complete Part IV of the form and to take into account the value of the foreign entity being reported to determine if the Form 8938 filing threshold has been met.
What about accounts that need to be reported on Form 8938 that do not have an FBAR requirement?
An important clue to help us avoid mistakes here is to focus on the word ASSET. Form 8938 requires reporting of certain specified foreign financial ASSETS. The FBAR requires reporting foreign bank and other financial ACCOUNTS.
So, the question is: what foreign financial ASSETS are there that are not financial accounts? The IRS provides some examples in the first FAQ on their webpage about Form 8938:
- Stock issued by a foreign corporation, like foreign stock paper certificates that you keep in a drawer or safe deposit box
- A bond or note (debt) issued by a foreign person
- A partnership interest in a foreign partnership (less than 10%)
- An interest in a foreign retirement plan or foreign deferred compensation plan (refer to the next question for more details)
- An interest in a foreign estate
- And others.
Just with the FBAR, when in doubt, report. Making a good faith effort to report anything that may be considered a foreign financial asset provides goodwill if you inadvertently get in trouble with the IRS.
9. How do I determine what value I need report?
The laws require reporting the maximum value of the accounts or assets at any time during the year. Not the December 31st value, not the January 1st value, the highest value of each account during the calendar year being reported.
How is that determined?
If the account is denominated in US dollars, easy peasy: the highest balance in USD at any time during the calendar year. If the account is denominated in a foreign currency, the highest balance in the foreign currency.
That’s right: first you determine the highest balance in the foreign currency, then you convert the foreign currency to USD, because both the FBAR and Form 8938 require reporting the maximum values in USD.
What exchange rate should you use for the conversion?
The December 31st exchange rate for the year in question. ALWAYS. No matter when the highest balance happened, always covert to dollars using the 12/31 F/X. The highest balance was on Jan 2 2019? Use the December 31st 2019 F/X. The highest balance was on June 28? Same. On December 12th? Ditto. Always convert using the December 31st, 2019 F/X. You get the drift.
When regards to the source of the exchange rate:
The IRS would like to use the Treasury’s Financial Management Service rate. If the currency you need to convert is not listed by the Treasury’s FMS, you can use another verifiable exchange rate for which you can provide the source. Keep copy of supporting documents if you use an alternative source.
10. But wait, I have been told that foreign pensions are exempt from FATCA reporting. Why are you saying that I need to report my foreign retirement accounts?
There is a lot of confusion with regards to the reporting requirements of foreign retirement accounts, and this is understandable.
With regards to reporting foreign retirement accounts in the FBAR, the FBAR regulations do not directly address foreign retirement accounts. They do so indirectly, by referring to trusts.
Foreign retirement accounts are generally viewed as foreign trusts by the IRS. I discussed this in a blog post I posted back in March on LinkedIn. Understanding that retirement accounts are usually classified as trusts, helps understand this the language in the “Other financial interest” section of the FBAR regulations linked above:
“A United States person has a financial interest in each bank, securities, or other financial account in a foreign country for which the owner of record or holder of legal title is –
(iii) A trust, if the United States person is the trust grantor and has an ownership interest in the trust for United State Federal tax purposes……
(iv) A trust in which the United States person either has a present beneficial interest in more than 50% of the assets or from which such person receives more than 50% of the current income.”
Regarding FATCA and Form 8938 and the perceived FATCA reporting exemption:
The confusion typically arises from the fact that FATCA Intergovernmental Agreements (IGA)s exempt foreign financial institutions (FFIs) from reporting information on U.S. participants in foreign pensions to the IRS under the automatic exchange of information required under FATCA. The reason for this exemption is that foreign retirement plans are not considered the types of accounts that FFIs are likely to peddle to individual taxpayers as a means for tax evasion. These are accounts that are highly regulated in foreign countries and many of them have mandatory participation rules. Providing this exemption to FFIs provides considerable relief in their FATCA compliance burden.
This exemption, however, does not apply to the reporting obligations of individual U.S. plan participants Individuals, if they meet the filing thresholds, are always required to report their interest in foreign retirement accounts on their Form 8938.
Treasury Regulation Section 1.6038D-1(a)(7), which covers the reporting requirements of individuals under FATCA, make this very clear:
“(7) Financial account…….the exclusions of retirement and pension accounts and non-retirement savings account……in an applicable Model 1 IGA or Model 2 IGA……shall not apply” (to individuals)
Why the different standard? I’m not 100% sure, but one potential reason could be that individuals are more likely to not report, or forget to report, the income from their beneficial interest in those foreign pensions if the accounts themselves were exempt from reporting on Form 8938.
We covered a lot of ground today, so we are going to end it here today and resume our discussion next Wednesday.
We want this information to help as many US expats and foreign immigrants in the USA with foreign financial assets as possible. If you are a member of an expat or immigrant group, or you know anyone who may benefit from better understanding their FBAR and FATCA reporting obligations, please kindly share this newsletter with them.
Until next week.
Un abrazo y buena onda,