PENALTIES
Section 6662 permits the IRS to impose a 20% penalty on a substantial understatement of income tax or for negligence or disregard of rules or regulations that is not attributable to fraud (for which a 75% penalty applies). Section 512 of FATCA amended section 6662 to add a penalty of 40% on any portion of an underpayment attributable to a transaction involving an undisclosed financial asset that should have been reported under sections 6038, 6038B, 6046A, 6048 or new section 6038D. The increased penalty structure is effective for tax years beginning after March 18, 2010.
EXPANDED STATUTE OF LIMITATIONS
Generally, the IRS has three years from the filing of a return in which to audit a taxpayer and assess additional tax (section 6501(a)). This statute of limitations also applies to information required to be reported on certain foreign transfers, now including those under FATCA. The period is increased to six years if a taxpayer omits 25% or more of gross income (section 6501(e)). Section 513 of FATCA amended section 6501(e) to also extend the statute of limitations to six years where a taxpayer omits more than $5,000 of income attributable to one or more assets required to be reported under section 6038D. Thus, even if the taxpayer does not have a substantial understatement, the IRS will have six years in which to investigate and audit the taxpayer. Additionally, however, the three-year and six-year statutes of limitations will be suspended until the information required to be reported under sections 1295(b), 1298(f), 6038, 6038A, 6038B, 6046, 6046A, 6048 or new section 6038D is provided to the IRS.
The extended statute of limitations is applicable to (1) returns filed after the March 18, 2010, date of enactment and (2) returns filed on or before such date if the limitation period under section 6501 has yet to expire. Thus, the extended six-year statute and suspended three-year statute could theoretically apply to tax returns that were filed as early as 2004 if a six-year statute applies, or 2007 if the normal three-year statute applies.
FOREIGN TRUSTS
Penalties. The penalty under section 6677 for failure to file a Form 3520 is 35% of the gross reportable amount (generally the amount transferred to or received from the trust). Section 535 of FATCA amended section 6677 so that a failure to file Form 3520 would have a minimum penalty of $10,000. Thus, the penalty is now the greater of $10,000 or 35% of the gross reportable amount. The penalty increases by $10,000 for each 30-day period following notification from the Treasury that the filing is delinquent. There is, however, a 90- day grace period following notification from the Treasury before the additional $10,000 penalties accrue. The penalty is effective for Forms 3520 filed after Dec. 31, 2009.
Grantor trust status. When a U.S. person transfers assets to a foreign trust that has U.S. beneficiaries, IRC § 679 deems the trust to be a grantor trust, and the U.S. transferor is responsible for reporting the trust’s income. The regulations under section 679 make the presumption that the trust will have U.S. beneficiaries; thus, it is rare that a U.S. person will fund a foreign trust and it will not be qualified as a grantor trust. Whether taxpayers simply failed to look at the regulations or intended to avoid paying U.S. income tax on the trust’s income, the IRS felt that it needed to codify the regulations into the statute. Sections 531 and 532 of FATCA add several new provisions to section 679, including three subparagraphs to section 679(c), which are designed to find a U.S. beneficiary of the foreign trust. The FATCA additions are effective for transfers to a foreign trust after March 18, 2010.
