On March 18, 2010, the President signed the Hiring Incentives to Restore Employment Act of 2010 (the "HIRE Act", P.L. 111-147) into law. In addition to incentives to encourage hiring and investment in business machinery and equipment, the HIRE Act provides the IRS with new administrative tools to detect, deter and discourage offshore tax abuses. These enforcement provisions continue the IRS offshore tax collection efforts that were widely publicized through the 2009 voluntary disclosure program and the case against UBS AG. As part of its revenue offset, the HIRE Act contains the text of the previously-introduced Foreign Account Tax Compliance Act ("FATCA") that imposes major new withholding requirements on certain payments to foreign financial institutions and requires these institutions, as well as foreign trusts, and foreign corporations to provide information about their U.S. account-holders, grantors, and owners, respectively. The statute's withholding tax provisions have a delayed effective date to allow the Treasury Department to write implementing regulations and give financial institutions time to prepare, but other provisions are effective now or are in fact retroactive. Among its enforcement provisions the HIRE Act imposes:
- A 30% withholding tax on certain payments to foreign financial institutions that maintain United States accounts, if these banks decline to enter into an information reporting agreement. This provision is effective for payments under new obligations not currently outstanding as of December 31, 2012.
- A 30% withholding tax, effective in 2013, on certain payments to any foreign entity with a 10% United States owner, if the entity fails to provide the United States owner's name, address, and taxpayer identification number. The withholding tax also applies to payments to foreign entities that decline to state whether they have a substantial United States owner.
- Penalties up to $50,000 for U.S. citizens with unreported foreign financial assets worth $50,000 or more a penalty that would apply in addition to the Foreign Bank Account Reporting ("FBAR") penalty. This provision is effective beginning in 2011.
- A minimum penalty of $10,000, effective in 2010, for failure to report creating, making transfers to, or receiving distributions from a foreign trust.
- An enhanced 40% accuracy-related penalty on tax understatements attributable to an undisclosed foreign financial asset that applies to taxable years beginning after the date of enactment; and
- A six-year statute of limitations on tax understatements if the omitted amount is attributable to a foreign financial asset and exceeds $5,000. The new limitations period applies retroactively to all past-filed tax returns subject to audit and assessment by the IRS.
Foreign Trust Reporting Provisions
Previously, a U.S. person treated as the owner of any portion of a foreign trust under the grantor trust rules was only required to assure that the trust file a tax return and provide information to the IRS. Under the HIRE Act, a U.S. person who owns all or part of a foreign trust must not only assure that the trust meets its filing obligations, but must also provide a separate return containing information requested by the IRS about the trust, probably including information about trust investments. Written notice must also be provided to the IRS when any of the following reportable events occur: (1) the creation of a foreign trust by a U.S. person, (2) the transfer of any money or property to a foreign trust by a U.S. person, including a transfer due on death, and (3) the death of a citizen or resident of the U.S. if the decedent was treated as the owner of any portion of a foreign trust under the grantor trust rules or a portion of a foreign trust was included in the decedent's gross estate. The persons responsible for reporting these events include (a) the grantor in the case of the creation of an inter vivos trust, (b) the transferor in the case of a reportable event that is the transfer of any money to a foreign trust by a U.S. person (other than due to death), and (c) the executor of the decedent's estate in other cases. The new law includes a $10,000 minimum penalty for each failure to report a foreign trust transaction. The maximum penalty for failure to report a transfer to or distribution from a foreign trust is 35%, which can be increased by delinquency fees in $10,000 increments.
For example, under the grantor trust rules, a U.S. person who transfers property to a foreign trust is treated as the owner of the portion of the trust comprising the transferred property for any tax year in which there is a U.S. beneficiary of any portion of the trust. The IRS may automatically treat a foreign trust as having a U.S. beneficiary unless the transferor submits requested information about the transfer to the IRS, and demonstrates to the satisfaction of the IRS that:
- under the terms of the trust, no part of the trust's income or corpus may be paid or accumulated during the tax year to or for the benefit of a U.S. person. Loans made to U.S. persons at below-market rate are deemed to be payments of the trust income or corpus for the benefit of a U.S. person; and
- if the trust is terminated at any time during the tax year, no part of the income or corpus could be paid to or for the benefit of a U.S. person.
If the foreign trust is deemed to have a U.S. beneficiary, the transferor must submit a tax return to the IRS including any additional information requested by the IRS. Civil penalties starting at $10,000 will be imposed if any tax return required isn't filed on time, doesn't contain all the information required, or includes incorrect information. The penalty now is the greater of $10,000 or 35% of the gross reportable amount, and if the failure to file continues for more than 90 days after receipt of a notice of failure to file, an additional penalty of $10,000 for each 30 day period can be imposed. These new penalty amounts are effective immediately and they apply to all returns due in 2010.
Under the cost recovery provisions of the HIRE Act, the IRS now has significantly enhanced power to fight offshore tax evasion. With respect to offshore trusts, the IRS now requires far more information about these entities than ever before and has authority to impose more severe penalties on deliberate and inadvertent failures to comply with reporting rules.