The Foreign Accounts Inheritance rules are multi-layered. And, when it comes to inheriting foreign accounts and avoiding estate FBAR and FATCA penalties, time is of the essence. With the introduction and enforcement of FATCA, it is becoming much more common for individuals who inherit money from individuals who have assets, income, or investments overseas to realize that the person leaving the inheritance may not have been in IRS compliance regarding their foreign accounts, including not having filed FBARs.
File FBAR & 8938 for Foreign Account Inheritance?
The situation of probate, estate planning, and the discovery of foreign accounts is a very common issue. Luckily, especially in situations in which the estate, decedent, and/or beneficiary was non-willful, there may be a relatively simple and straightforward means to resolving the issue — by entering the Streamlined Offshore Disclosure Program and bringing the estate into IRS compliance.
Michele is the Administrator of her mother’s trust. Her father passed away many years ago and her mother only recently passed away. While Michele is going through her mother’s belongings, she finds bank statements and a passbook for bank accounts in Hong Kong that she never knew existed.
In following up with the bank, Michele learns that these accounts have been opened for several years (Michele’s mom is originally from Hong Kong).
It turns out that the bank account had accumulated wealth over time and is now worth around $400,000.
While this is a bit of a treasure trove for Michele, she has to make sure she handles the reporting and disclosure properly.
Review Mom’s Tax Returns
Even though Michele did not know about the accounts, that does not mean that Michele’s mom and her CPA may not have been aware of the accounts. It’s not like our parents tell us everything, right? Therefore, Michele’s first step is to contact her mother’s CPA or accountant (presuming there was one) to determine whether these accounts were properly reported to the IRS. Otherwise, Michele should review the returns herself or with a Tax Attorney.
Since the value of the account is around $400,000, it would presume that in the last few years, Michele’s mom had a few reporting requirements involving Schedule B of the 1040, FBAR & FATCA.
When Michele contacts her mom’s accountant, she learns that the accountant was none the wiser either. As such, the accounts were not disclosed on Michele’s moms tax returns.
Therefore, Michele has two issues:
Amending the prior returns, and
Filing her mom’s last tax return, as well as the estate tax return.
Why Michele Should Do Something
Sometimes, it is easier to let sleeping dogs lie and not bother resolving a situation in which Michele has no knowledge or background. The problem is that in this situation, there is a bit of an ongoing problem. Why?
The IRS can still audit the estate
The foreign bank may have already reported Michele’s mom to the IRS
Michele has to file her mom’s last tax return, which would introduce these foreign accounts for the first time
Michele has to file the estate tax return
Was There Prior Unreported Income?
The United States follows a citizen-based taxation/worldwide income model. That means that even though income generated in Hong Kong through passive means such as bank interest is typically tax-free in Hong Kong, that does not make it tax-free in the United States.
In other words, Michele’s mom had a requirement to file her tax returns and include her worldwide income – even income that is tax-free in a foreign country. If it is the type of income which is exempted under a tax treaty, then that income is also included in the tax return — typically along with a reference to the specific paragraph in the tax treaty exempting the income from taxation.
What If Michele Doesn’t Disclose?
This could be a problem. First, in accordance with FATCA, more than 300,000 Foreign Financial Institutions are reporting millions of US account holders to the IRS. Therefore, at this time it is impossible to determine whether the IRS already has the information.
Therefore, if Michele files her mom’s last return or the estate’s return without disclosing the information, it could lead to the IRS believing Michele was willful in failing to report the account. Thus, since Michele now has the knowledge of the accounts — if she does not report them and is considered to be “willful,” it could lead to excessive fines and penalties.
Common Reporting Requirements
Here are two of the most common foreign inheritance reporting requirements:
Since Michele’s mother’s account exceeds $10,000, chances are she will be required to file the FBAR. The FBAR is the Report of Foreign Bank and Financial Account Form. The IRS has the authority to issue stiff penalties against any individual who fails to properly disclose their foreign accounts in the annual FBAR Report. The FBAR is due at the same time that the tax return is due, but it is not filed with the tax return — it is submitted online directly to FinCEN.
FATCA (Form 8938)
FATCA is the Foreign Account Tax Compliance Act. It is a relatively new law that somewhat mimics the FBAR, but is filed along with a person’s tax return and has much more intensive reporting. Unlike the FBAR which only requires the reporting of the accounts maximum balance during the tax year, FATCA requires an individual to disclose a history of the income generated from the FATCA assets within Form 8938. Over the years, the form has expanded and the reporting requirements are more intense than for the FBAR. Also, since Form 8938 is included directly on the tax return, it is very important to stay in compliance.
Golding & Golding: About Our International Tax Law Firm
Golding & Golding specializes exclusively in international tax, and specifically IRS offshore disclosure.
Why Taxes? Why Now?
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