Thoughts about the New Filing Requirements for Foreign-Owned U.S. entities? JD Supra 7/12/18.
Foreign Persons that own 25% of a US entity might want to reassess their strategy as it relates to that ownership. It “used to be” (until December, 2016) that a Foreign Person as a single owner of a Limited Liability Company (LLC) was treated as a “Disregarded Entity” by the IRS, that was NOT required to obtain an EIN and/or file and report separately from the owner’s filing obligations. This meant that if the Foreign Person owner did not have any US tax related filing requirements, then the “Disregarded Entity” also had no filing requirements. As a result, Foreign Persons could set up single member LLCs to purchase assets like Real Estate without disclosing their identity (as the Ultimate Beneficial Owner or UBO).
In 12/2016, IRS finalized its “Treatment of Certain Domestic Entities Disregarded as Separate From Their Owners as Corporations” (TD 9796 and Final Regulations of Section 6038A). As of 1/2017, foreign-owned Disregarded Entities are treated as Domestic Corporations for reporting and compliance purposes. This means that the 25% Foreign Owners of Disregarded Entities must now:
- File IRS Form 5472
- Keep permanent books of accounts and records
- Obtain an Employer Identification Number (EIN) in order to file Form 5472
- Pay a minimum $10,000 penalty if they fail to file a required Form 5472
Does a Foreign Person purchasing US Real Estate though an LLC continue making sense?
Because “Disregarded Entities” with ownership of 25% or more by foreign persons are now treated like Corporations for reporting and compliance purposes, Foreign Person owners might want to re-think their investing strategy. Previously, a foreign investor was able to purchase US Real Estate without being disclosed as its UBO. Accurately filing Form 5472 ends UBO “anonymity”. According to the IRS Website: “ These changes are intended to provide the IRS with improved access to information needed to satisfy its obligations under U.S. tax treaties, tax information exchange agreements and similar international agreements, as well as to strengthen the enforcement of U.S. tax laws”.
If a Foreign Person is looking for UBO “anonymity”, utilizing an LLC vehicle to purchase real estate is no longer an effective strategy.
Form 5472 is not a new Form. It just has “more disclosures”.
The changes made to Form 5472 are:
- Check if the reporting corporation is a foreign-owned domestic Disregarded Entity treated as a Corporation for purposes of section 6038A.
- Request a foreign taxpayer identifying number (FTIN), if any, of a foreign owner of a foreign Disregarded Entity.
- Identify certain reportable transactions of foreign-owned U.S. Disregarded Entities.
What are the reportable transactions?
A reportable transaction is any type of transaction listed in Part IV of Form 5472. Example of transactions includes payments for sales, rent, royalties or interests, and loans between the corporation and the foreign shareholders in both directions.
Who Must File?
A reporting corporation must file Form 5472 if it had a “reportable transaction” with a foreign or domestic related party.
How is Form 5472 filed for a Disregarded Entity?
Form 5472 must be attached to a required reporting corporation income tax return by the due date, including extensions of the return. Foreign Owned Disregarded Entities are required to file a Pro-Forma Form 1120 with Form 5472 attached. Form 1120 is the U.S. Corporation Income Tax Return. The only information required to be completed on Form 1120 is the name and address of the foreign-owned U.S. Disregarded Entity and Items B and E on the first page as follows:
- (B) Employer identification number or EIN
- (E) Check if: (1) Initial return (2) Final return (3) Name change (4) Address change
Foreign owned US Disregarded Entities cannot file Form 5472 electronically.
Don’t be a victim of your own making
IRS Form 5472 penalties for non-submission or incomplete filing are substantial. Foreign Persons that have previously been able to hold assets anonymously in LLCs with no UBO disclosure requirements are in for a big change. The new reporting requirements for Foreign Owners of Disregarded Entities can dampen the perception of the US as a Tax Haven. In addition, these Foreign Persons ought to proceed with caution if their home tax jurisdiction has a reciprocal FATCA agreement, with the IRS, a Tax Information Exchange Agreement (TIEA), or a tax treaty with the US. Foreign Owners of Disregarded Entities need to consult their specialized tax advisor.