Form 3520 – An Introduction
Form 3520 involves perhaps the most complex information reporting of all the information returns. In brief, U.S. individuals may be required to include Form 3520 with their tax return if they are an owner or beneficiary of a foreign trust as well as to recipient of certain gifts from foreign individuals and corporation. Certain transactions between a foreign trust and a U.S. person need to be reported on Form 3520 and the trust itself may be required to file Form 3520-A if the trust is considered a “grantor” trust for U.S. tax purposes, as further described below. .
What is a foreign trust?
The U.S. Internal Revenue Code and Treasury regulations have specific rules for determining whether an entity should be treated a “trust” for U.S. federal income tax purposes. Generally speaking, an arrangement will be treated as a trust if it can be shown that the purpose of the arrangement is to vest in trustees responsibility for the protection and conservation of property for beneficiaries who cannot share in the discharge of this responsibility and, therefore, are not associates in a joint enterprise for the conduct of business for a profit.
However, a number of further rules and exceptions apply with respect to trust characterization. As a result, a number of entities that are treated in foreign countries as trusts may not be treated as trusts for U.S. tax purposes and vice versa.
A “foreign” trust is any trust other than a domestic trust. A domestic trust is any trust if:
1. A court within the United States is able to exercise primary supervision over the administration of the trust; and
2. One or more U.S. persons have the authority to control all substantial decisions of the trust.
What is a grantor trust?
A grantor trust is any trust to the extent that the assets of the trust are treated as owned by a person other than the trust. A person may be treated as owning the assets of the trusts if that person maintains certain powers with respect to the trust, such as the power to revoke the trust.
As a substantive matter, if a trust is treated as a grantor trust, then all items of income, deduction and credit of the trust are includable in the grantor’s income as if the assets were owned by the grantor personally.
As a compliance matter, each U.S. person treated as an owner of a foreign trust is responsible for ensuring that the foreign trust files the Form 3520-A and that the trust annually furnishes copies of the so-called “Foreign Grantor Trust Owner Statement” and the “Foreign Grantor Trust Beneficiary Statement” to the U.S. owners and U.S. beneficiaries of the grantor trust.
Do foreign pension plans or other business structures need to be reported on Form 3520?
As many foreign retirement savings plans are deemed to be custodial “grantor trusts,” this means that the plan (or its owner) may be required to file Form 3520-A and contributions to the plan may be required to be reported by the person making the contribution on Form 3520.
In addition, in various jurisdictions, trusts are commonly used as tool for structuring business and investment activities. Taxpayers should be aware that such structures may bring with them a requirement to include Form 3520 or Form 3520-A with their U.S. tax return.
What types of gifts need to be reported on Form 3520?
Also required to be reported on Form 3520 is the receipt of certain large gifts or bequests (more than $100,000) from a nonresident alien (“NRA”) or foreign estate to a U.S. person. The threshold amount is significantly lower for a gift from a foreign corporation or a foreign partnership (more than $15,358).
What type of information is requested on the Form 3520?
Form 3520 requests certain personal information as well as information relating to so-called “reportable events,” which include the following:
- The formation of a foreign trust
- The transfer of cash or other assets by a settlor or grantor to a foreign trust
- The receipt of any distributions by U.S. beneficiaries from a foreign trust
- The loaning of money by a foreign trust to a U.S. owner/beneficiary
- The receipt by a U.S. person of certain gifts from a nonresident alien individual, foreign estate, foreign partnership or corporation
What is the due dates for Form 3520 and 3520-A?
In general, Form 3520 is due on the date that your income tax return is due, including extensions. The Form 3520-A, in contrast, is required to be filed on or before March 15 of each year for the preceding year. The difference in the filing dates is confusing and a trap for the unwary.
What are the penalties for not filing Form 3520?
A penalty generally applies if Form 3520 is not timely filed or if the information is incomplete or incorrect. Generally, the initial penalty is equal to the greater of $10,000 or:
- 35% of the gross value of any property transferred to a foreign trust for failure by a U.S. transferor to report the creation of or transfer to a foreign trust; or
- 35% of the gross value of the distributions received from a foreign trust for failure by a U.S. person to report receipt of the distribution; or
- 5% of the gross value of the portion of the trust’s assets treated as owned by a U.S. person for failure by the U.S. person to report the U.S. owner information.
Additional penalties will be imposed if the noncompliance continues after the IRS mails a notice of failure to comply with the required reporting.