On February 23, 2011, the Financial Crimes Enforcement Network (FinCEN) of the U.S. Treasury Department (Treasury) issued the final rule (Final Rule) to amend the Bank Secrecy Act (BSA) implementing regulations regarding the Report of Foreign Bank and Financial Accounts (FBAR). The Final Rule specifies the types of accounts that are reportable on the FBAR, addresses the scope of the persons that are required to file the FBAR and provides filing relief in the form of exceptions for certain persons only with signature or other authority.
The FBAR filing requirements, which were authorized under one of the original provisions of the BSA, have been in place since the early 1970s. FinCEN delegated to the Internal Revenue Service (IRS) the authority to enforce the FBAR rules and amend the form to be filed with the IRS; however, FinCEN retained the authority to revise the applicable regulations. The FBAR form, TD F 90-22.1, is used to report a United States person’s financial interest in, or signature or other authority over, one or more financial accounts in foreign countries if the aggregate value of the accounts exceeds $10,000 in any year. In addition, U.S. citizens and residents must disclose an interest in a foreign financial account on Schedule B of their annual U.S. tax return.
In response to comments stemming from changes to the FBAR form instructions in October 2008, the IRS ultimately extended the FBAR filing deadline to June 30, 2011, for (1) United States persons with no financial interest in, but only signature or other authority over, a foreign financial account; and (2) United States persons with a financial interest in, or signature or other authority over, a foreign financial account in which assets are held in a commingled fund, under IRS Notice 2009-62 and IRS Notice 2010-23. Additionally, the IRS temporarily suspended reporting for a foreign person “in and doing business in the U.S.” under IRS Announcement 2009-51 and IRS Announcement 2010- 16. On February 26, 2010, FinCEN issued a Notice of Proposed Rulemaking (NPRM) proposing to amend the regulations regarding the FBAR with respect to the suspended reporting and other issues and requested that taxpayers provide comments regarding the proposed amendments. The Final Rule adopts most of the provisions of the NPRM, but it does incorporate certain changes based on comments received.
Comments to the NPRM and Key Changes to the Final Rule
The comments FinCEN received were generally supportive of the NPRM but sought broader exemptions from reporting that provided and requested certain clarifications. In response to these comments, the Final Rule
- clarifies whether an account is foreign and addresses the treatment of custodial accounts in this context;
- revises the definition of signature or other authority to more clearly apply to individuals who have the authority to control the disposition of assets in the account by direct communication (whether in writing or otherwise) to the foreign financial institution;
- clarifies that officers or employees who file an FBAR because of signature or other authority over the foreign financial account of their employers are not expected to personally maintain the records of the foreign financial accounts of their employers;
- clarifies that a financial interest in a trust relates to a “present beneficial interest” in more than 50 percent of the trust’s assets or receives more than 50 percent of the trust’s current income, which is meant to exclude United States persons with a discretionary interest or a remainder interest from reporting in most situations;
- clarifies the definition of “other financial account” with respect to life insurance and annuities to reflect clearly that only those life insurance policies or annuity policies with a cash value are covered under this definition and are required to be reported by the beneficiary thereof;
- clarifies that filers may rely on provisions of the Final Rule to determine their filing obligation for FBARs in those cases where filing was properly deferred under IRS Notice 2009-62 or IRS Notice 2010-23; and
- confirms that a United States person can rely on bona fide periodic statements prepared in the ordinary course of business to determine the value in the account required to be reported.
These changes should all be viewed as positive from a compliance perspective because they provide needed clarification and should reduce reporting burdens on United States persons and their advisors.
Key Definitions in the Final Rule
Some of the key provisions regarding which persons are required to file an FBAR and which accounts are reportable are discussed below. In addition, the discussion provides a summary of material comments FinCEN considered in promulgating the Final Rule.
- United States person: A United States person is defined as a citizen or resident of the United States or a domestic entity (including but not limited to a corporation, partnership, trust or limited liability company, regardless of whether the entity has made an election to be disregarded for federal income tax purposes) that is formed under the laws of the United States, any state, the District of Columbia, the Territories and Insular Possessions of the United States or the Indian Tribes. A “resident” is essentially the same as under the Internal Revenue Code (e.g., a lawful permanent resident or an individual who meets the 183-day substantial presence test, with certain exceptions).
Importantly, the Final Rule eliminates the need for foreign persons “in and doing business in” the United States to file an FBAR, which was previously required under the regulations. However, FinCEN rejected suggestions to remove a “trust” from the definition of “United States person” because it did not want to differentiate trusts from other entities. Further, FinCEN retained the definition of a trust as a “domestic entity” rather than relying on the definition in Internal Revenue Code section 7701(a)(30) because such definition provides a trust with an easy mechanism for avoiding reporting by providing control to foreign trustees or courts based on the Code’s definition.
- Types of reportable accounts: Generally, a reportable account is one in which a United States person has a formal relationship with a foreign financial institution to provide regular services, dealings or other transactions, even if the relationship is for a short period of time. A reportable account is not established by simply using a foreign financial institution to wire money or purchase a money order. The Final Rule retains (1) foreign issued insurance or annuity policy with a cash value, and (2) foreign mutual funds and similar pooled funds offered to the general public with a regular net asset value determination and regular redemptions, as reportable accounts. The Final Rule maintains the reservation regarding whether interests in offshore private investment vehicles, such as hedge funds and private equity funds, constitute reportable financial accounts, which means that for the time being, such interests need not be reported.
FinCEN clarified that a U.S. account containing holdings or assets of foreign entities does not render the account “foreign” for purposes of the FBAR; the reporting obligation only arises when the account is held with a foreign financial institution. Further, if a U.S. bank acting as a global custodian creates an account, commonly called an “omnibus account,” to hold one or more United States persons’ assets outside the United States, a United States person does not have to file an FBAR if such person (1) does not have any legal rights in the omnibus account, and (2) can only access his/her/its holdings outside the United States through the U.S. global custodian bank. If, however, the specific custodial arrangement permits the United States person to access its foreign holdings maintained at a foreign institution directly, the United States person would have a foreign financial account subject to FBAR reporting.
Additionally, FinCEN rejected suggestions to exempt from the reporting requirement (1) accounts located in jurisdictions that are not considered to be “tax havens” or that have highly functional bank regulation and information exchange with the United States; (2) individuals living abroad; (3) regulated financial institutions, such as those that qualify for exempt recipient status for purposes of filing an IRS 1099 series form; or (4) pension plans and welfare benefit plans, or at least, large ERISA plans. The explanation was that the FBAR creates a financial trail that assists law enforcement and other agencies to identify accounts outside of the United States and an exemption is not appropriate if the United States person chooses to place assets in accounts outside the United States or chooses to live abroad. Further, the purpose of the FBAR is broader than tax administration, so FinCEN did not believe it would be appropriate to exempt entities based on tax-exempt, or tax-preferred, status.
- Financial Interest: A financial interest in a bank, securities or other financial account includes an interest owned by a United States person who (1) is the owner of record or holder of legal title; (2) names an agent, nominee or attorney to act on his/her/its behalf; (3) beneficially owns more than 50 percent of the vote or value of a corporation or a partnership; (4) is the trust grantor and has an ownership interest in the trust for U.S. federal tax purposes; or (5) has a present beneficial interest in more than 50 percent of trust assets or receives more than 50 percent of the trust’s current income.
The Final Rule also adopts an anti-avoidance rule where it treats a United States person that causes any entity to be created for a purpose of evading FBAR reporting as having a financial interest in any bank, securities or other financial account in a foreign country for which the entity is the owner of record or holder of legal title.
- Signature or other authority: Signature or other authority means the authority of an individual (alone or in conjunction with another) to control the disposition of money, funds or other assets held in a financial account by direct communication (whether in writing or otherwise) to the person with whom the financial account is maintained. The test for determining whether an individual has signature or other authority over an account is whether the foreign financial institution will act upon a direct communication from that individual regarding the disposition of assets in that account. Such authority does not exist if an individual merely participates in a decision to allocate assets or has the ability to instruct or supervise others with signature or other authority over a reportable account.
FinCEN received several general and specific comments and suggestions regarding signature or other authority. Generally speaking, some comments requested the elimination altogether for the requirement, especially with respect to the reporting of signature or other authority by employees with respect to employer foreign financial accounts that are reported by the employer. The concern was perceived duplication of reporting, as well as a perceived lack of utility to law enforcement, when both individuals with signature authority and those with a financial interest file FBARs with respect to the same account. In rejecting the idea, FinCEN stated that a change could lead to an increased opportunity to evade reporting because the signature authority requirement also acts as an independent check on FBAR reporting.
Other comments requested expansion of the exceptions generally (1) to avoid reporting for “low-risk” countries or entities, or (2) to expand the various exceptions to officers or employees of various entities. Because of other revisions in the Final Rule to the signature authority definition, the clarifications provided regarding the scope of the signature authority filing requirement and the recordkeeping rules, FinCEN rejected further relaxation of the rule.
- Special Rules for a United States person having a financial interest or signature or other authority in 25 or more foreign financial accounts: A United States person is only required to provide the number of financial accounts and certain other basic information, including the financial interest holder if not the person reporting, on the FBAR but will be required to provide detailed information concerning each account when so requested by the IRS.
The Final Rule drastically reduces the burden of United States persons with only signature or other authority in 25 or more foreign financial accounts because under prior rules, the entire form was required to be completed rather than merely providing the number of accounts and basic information.
- Special Rule for Consolidated Reporting: An entity that is a United States person and that owns directly or indirectly more than a 50 percent interest in one or more other entities required to file an FBAR is permitted to file a consolidated report on behalf of itself and such other entities.
FinCEN rejected an expansion of the exception from reporting available to officers and employees to allow (1) the top-level U.S. subsidiary of a foreign entity listed on a U.S. national securities exchange to file a consolidated report for other U.S. subsidiaries; (2) a foreign parent, which is listed on a foreign exchange and subject to suitable regulation, to voluntarily file a consolidated FBAR on behalf of its U.S. subsidiaries; and/or (3) a U.S. subsidiary to rely on this exception if its U.S.-listed parent does not file a consolidated FBAR. Once again, the explanation was that United States persons are obligated to report their interests, and any changes would frustrate this purpose.
As one can see, FinCEN invested substantial thought and effort into promulgating the Final Rule based on suggestions from practitioners and taxpayers alike, and sometimes what was not included in the Final Rule is just as important for future FBAR reporting as what has been included.