Are Transfers To and From a Foreign Trust Filed on Form 3520?

About Foreign Trust Transfers and Form 3520 

When taxpayers hear about Form 3520, oftentimes it involves situations the four main scenarios in which the form is required is:

• • • Gift From a Foreign Individual

    • Inheritance From a Former Decedent

    • Gift From a Foreign Entity

    • Foreign Trust Distribution

About Foreign Trust Transfers and Form 3520, When to File

While these are the most common scenarios in which Form 3520 is required, there are other requirements for U.S. Taxpayers to file Form 3520 when they engage in certain transactions with a foreign trust — or if they have ownership of or an interest in a foreign trust. While not all transactions with a foreign trust are reportable on Form 3520 there are certain transactions that taxpayers should be aware of when it comes to foreign trusts, because it may require the taxpayer to file a Form 3520. One such scenario is when there are foreign transfers to and from a foreign trust. Let’s take a brief introductory look at foreign trust transfers in Form 3520.

Foreign Trust Transfers

On page one of form 3520, one category of filer includes certain transfers with foreign trusts. Specifically, form 3520 may be required when:

• • • You are (a) a U.S. transferor who, directly or indirectly, transferred money or other property during the current tax year to a foreign trust; 

    • (b) a U.S. person who (1) during the current tax year, transferred property (including cash) to a related foreign trust (or a person related to the trust) in exchange for an obligation, or

    • (2) holds a qualified obligation from the trust that is currently outstanding; or (c) the executor of the estate of a U.S. decedent and

      • (1) the decedent made a transfer to a foreign trust by reason of death,

      • (2) the decedent was treated as the owner of any portion of a foreign trust immediately prior to death, or

      • (3) the decedent’s estate included any portion of the assets of a foreign trust. Complete all applicable identifying information requested below and Part I of the form.

This type of reporting is very broad. Specifically, it requires the reporting of Form 3520 for individuals who are considered a transferor and who directly or indirectly transferred money or other property to a foreign trust. This can get very complicated because the terms indirect and other property can encompass many different types of transfers.

Exceptions to Transfer Transaction Reporting

Despite the fact that trust contribution and distribution transactions can be very broad, there are various exceptions that would eliminate the reporting requirement in situations in which the exceptions are met.

As provided by the IRS Form 3520 instructions:

• • Transfers to foreign trusts are described in section 402(b), 404(a)(4), or 404A. •

    • Most fair market value (FMV) transfers by a U.S. person to a foreign trust. However, some FMV transfers must nevertheless be reported on Form 3520 (for example, Oct 10, 2023 Cat. No. 23068I transfers in exchange for obligations that are treated as qualified obligations, transfers of appreciated property to a foreign trust for which the U.S. transferor does not immediately recognize all of the gain on the property transferred, and transfers involving a U.S. transferor that is related to the foreign trust). See section III of Notice 97-34, 1997-25 I.R.B. 22.

    • Transfers to foreign trusts that have a current determination letter from the IRS recognizing their status as exempt from income taxation under section 501(c)(3).

    • Transfers to, ownership of, and distributions from a Canadian registered retirement savings plan (RRSP), a Canadian registered retirement income fund (RRIF), or any other Canadian retirement plan that is within the meaning of section 3 of Rev. Proc. 2014-55. See Rev. Proc. 2014-55, 2014-44 I.R.B. 753, available at IRS.gov/IRB/ 2014-44_IRB#RP-2014-55.

    • Certain eligible individuals’ transfers to, ownership of, and distributions from certain tax-favored foreign retirement trusts and certain tax-favored foreign nonretirement savings trusts, as described in section 5 of Rev. Proc. 2020-17. For more information about whether you are an eligible individual and whether your foreign trust qualifies for an exemption from foreign trust information reporting, see Rev. Proc. 2020-17, 2020-12 I.R.B. 539, available at IRS.gov/IRB/ 2020-12_IRB#REV-PROC-2020-17.

    • Deemed transfers from domestic trusts that become foreign trusts to the extent the trust is treated as owned by a foreign person, after application of section 672(f).

    • Distributions from foreign trusts that are taxable as compensation for services rendered (within the meaning of section 672(f)(2)(B) and its regulations), so long as the recipient reports the distribution as compensation income on its applicable federal income tax return.

    • Distributions from foreign trusts to domestic trusts that have a current determination letter from the IRS recognizing their status as exempt from income taxation under section 501(c)(3).

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 who 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 experiencedinternationaltax 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.