25 Facts About Reporting Foreign Gifts, Inheritances and Trusts

Form 3520

Form 3520

In recent years, the Internal Revenue Service has significantly increased the enforcement of the reporting of foreign gifts and trusts — and especially in accordance with IRC 6039F — Notice of large gifts received from foreign persons. When a US person receives a large gift from a foreign person or has certain transactions with a foreign trust — they may become subject to reporting requirements on Forms 3520 and/or 3520-A. These forms are not necessarily used for tax purposes as much as they are used for reporting the existence of a gift or inheritance from a foreign individual or entity and/or the ownership of — or distribution from — a foreign trust. Since the IRS has been routinely issuing penalties for noncompliance with this reporting requirement, we want to summarize some important facts about reporting Form 3520.

*We have additional summary resources to help Taxpayers with the most important things they should know about IRS Form 3520.

What is Form 3520?

Form 3520 is used by US persons who receive a gift or inheritance from a foreign person — or have certain transactions with a foreign trust. In a very common situation, a US person may have simply received a gift from their parents who are nonresident aliens. Even if the gift was used to assist the US person with purchasing a home or incidentals while they’re in school — it is reportable. When it comes to trusts, it is important to note that the US person may have a requirement to file Form 3520 even if they do not receive any distributions.

Tax Return Requirement

Even if a US person is not required to file a tax return because they are below the threshold, they may still be required to file a Form 3520 if they meet any of the requirements for filing. This is a common theme with international reporting forms such as Form 5471 or 8865 which also requires the US person to file the form even if they do not have to file a tax return during the year.

Who Has to File Form 3520?

The 3520 form is required by US persons. Therefore, when it comes to individuals, this primarily involves reporting by US citizens, Legal Permanent Residents, and foreign nationals who meet the Substantial Presence Test  — and are therefore considered US persons for income tax purposes.

When Is Form 3520 Due?

Generally, the Form 3520 is filed by the April 15th due date. If a person resides outside of the United States and their tax return is due in June, then they have until June to file Form 3520. If a person wants to go on an extension to file their tax return, then the 3520 filing goes on an extension as well. Unlike Form 3520-A, Form 3520 does not require the filing of Form 7004 for an extension.

Where Is Form 3520 Filed?

The Form 3520 is filed in Ogden, UT.

Internal Revenue Service Center
P.O. Box 409101
Ogden, UT 84409

What Is the Threshold for Gifts From Foreign Individuals?

When a US person receives a gift from one foreign person individual and the value of the gift (or the total value of all the gifts from that same person in the same year) exceeds $100,000, the US person must file a Form 3520. (Keep in mind that if you have your mom in China give you 10 gifts of $99,000 from 10 different people, that is still considered coming from a single person and Form 3520 is required. See below regarding “Related Party Rules.”)

Threshold for Foreign Gifts From Foreign Entities

When a US person receives a gift from a foreign person entity and the value of the gift (or the total value of all the gifts from that same person in the same year) exceeds the current year adjusted amount for inflation, the US person must file a form 3520.

Threshold For Distributions from Foreign Trusts

There is no specific threshold when it comes to reporting trust distributions. Thus, if the US person receives any distribution from a foreign trust, then that distribution is reportable on Form 3520.

Related Party Rules

Related parties refer to receiving gifts from foreign persons who are “related.” With the related party rules and Form 3520, it means that if certain people who give the gift are related, then the value of the gift that each related person gives is combined into an aggregate total. The purpose of this rule is to avoid related parties who had the intent to give the same person a large gift from splitting the gift to avoid the US person from having to report it.

Currency Restrictions and Multiple Parties Giving Gifts

Many countries have currency restrictions when it comes to transferring money outside of the country. Let’s use an example – Kenneth in the US receives a $500,000 gift from his dad in Taiwan. But, his dad had to ask 10 friends to each transfer $50,000 to Kenneth — in order to avoid the currency restrictions. Even though each person only transferred $50,000, and they may not be related — the gift came from Kenneth’s dad, so the Form 3520 would still be required.

Does the US Tax the Gift?

This can get very complicated. From a baseline perspective, the mere gift from a non-resident foreign person to a US person in and of itself is not taxable. If the non-resident alien is transferring/gifting US real property interest, then the gift portion may become taxable depending on various factors.

Transferring Property To a Foreign Trust

The rules involving foreign trusts in Form 3520 are much more complicated than the foreign gift rules. If a person transfers property to a trust — which can include cash to a related foreign trust or a person related to the trust — the reporting rules kick-in. The rules involving what is considered a related trust/or person related to the trust are very broad.

Beneficiary Received a Trust Distribution

If a US person beneficiary receives a distribution from the foreign trust, then that distribution would require the US person to report the information on Form 3520.

Is the Trust Distribution Taxable?

Typically, with a foreign grantor trust, it is the grantor and not the beneficiary who is taxed on the income. Therefore, if a beneficiary receives a distribution from a grantor trust, it is generally not taxable to the US beneficiary. Conversely, if it is a non-grantor trust, then the distribution to the beneficiary is generally taxable.

Owner of a Foreign Trust

If a person has an ownership or beneficial interest in a foreign trust, they are required to report that information on Form 3520.

Is a Foreign Pension Considered a Trust?

Typically, a foreign pension is considered a trust, because there is a Grantor/Owner, an Administrator, and a Beneficiary.

Are All Foreign Pensions Reportable on Form 3520?

Yes, unless an exception or exclusion applies. While there is no specific rule that exempts all foreign pensions from being reported on Form 3520, there is a Revenue Procedure that excludes RRSP — which is one of the most common types of pension schemes (held in Canada). In addition, the IRS recently released Revenue Procedure 2020-17.

What Is Revenue Procedure 2020-17?

Instead of trying to carve out an exception for each and every type of foreign pension, the IRS promulgated Revenue Procedure 2020-17. The purpose of this Revenue Procedure is to exempt certain foreign tax-deferred trusts and certain tax-deferred retirement trusts from reporting. The problem with the Rev. Proc. is that the way the Revenue Procedure is written, it is unclear whether some of the more common foreign pensions meet the requirements for exemption.

Are There Penalties for Not Filing Form 3520?

Of course. The IRS does love itself some penalties — especially in the world of international information reporting. Form 3520 penalties are unnecessarily high in relation to the violation — and oftentimes are “automatically assessed.”

What Is the Penalty for Foreign Gifts?

When it comes to foreign gifts, the penalty is absurd. It is typically 5% of the unreported gift but — the 5% accrues per month and most clients do not realize they were supposed to be reporting this form until several months have passed. The maximum threshold for the penalty is 25% of the value of the gift. It is not uncommon for taxpayers who received seven-figure gifts to also receive six- or seven-figure penalties.

What Is the Penalty for Foreign Trusts?

The penalties for foreign trusts vary based on whether there is a distribution or not and what the value of the trust is.

As provided by the IRS:

• • • 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 in Part I.

    • 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 in Part III.

    • 5% of the gross value of the portion of the foreign trust’s assets treated as owned by a U.S. person under the grantor trust rules (sections 671 through 679), if the foreign trust (a) fails to file a timely Form 3520-A.

Can the Penalty Be Appealed or Abated?

Yes, penalties can be abated but the process can be difficult. It is typically easier to try to avoid the penalty than to try to get the penalty removed. But, with the recent transition of the Delinquency Procedures back into a traditional Reasonable Cause submission — it is important to make sure taxpayers have their ducks in a row before moving forward and presenting their position to the IRS.

Foreign Gifts, Inheritances, and Trusts are Being Targeted

The IRS has made compliance issues involving US persons receiving large gifts or having certain transactions with foreign trusts, a key enforcement priority. It is important for taxpayers to remain in compliance with these reporting rules and if they are not in compliance already, to consider doing so.

Late Filing Penalties May be Reduced or Avoided

For Taxpayers who did not timely file their FBAR and other international information-related reporting forms, the IRS has developed many different offshore amnesty programs to assist taxpayers with safely getting into compliance. These programs may reduce or even eliminate international reporting penalties.

Current Year vs Prior Year Non-Compliance

Once a taxpayer missed the tax and reporting (such as FBAR and FATCA) requirements for prior years, they will want to be careful before submitting their information to the IRS in the current year. That is because they may risk making a quiet disclosure if they just begin filing forward in the current year and/or mass filing previous year forms without doing so under one of the approved IRS offshore submission procedures. Before filing prior untimely foreign reporting forms, taxpayers should consider speaking with a Board-Certified Tax Law Specialist that specializes exclusively in these types of offshore disclosure matters.

Avoid False Offshore Disclosure Submissions (Willful vs Non-Willful)

In recent years, the IRS has increased the level of scrutiny for certain streamlined procedure submissions. When a person is non-willful, they have an excellent chance of making a successful submission to Streamlined Procedures. If they are willful, they would submit to the IRS Voluntary Disclosure Program instead. But, if a willful Taxpayer submits an intentionally false narrative under the Streamlined Procedures (and gets caught), they may become subject to significant fines and penalties. 

Need Help Finding an Experienced Offshore Tax Attorney?

When it comes to hiring an experienced international tax attorney to represent you for unreported foreign and offshore account reporting, it can become overwhelming for taxpayers trying to trek through all the false information and nonsense they will find in their online research. There are only a handful of attorneys worldwide who are Board-Certified Tax Specialists and who specialize exclusively in offshore disclosure and international tax amnesty reporting. 

Golding & Golding: About Our International Tax Law Firm

Golding & Golding specializes exclusively in international tax, specifically IRS offshore disclosure. 

Contact our firm today for assistance.