Reporting obligations for cross border activity and affiliations are escalating at a rapid pace, affecting an increasing number of Americans with connections outside the U.S. This article outlines the key reports required from a wide swath of Americans with foreign connections.  It then discusses recent cases and enforcement activities that illustrate the growing initiatives by U.S. government agencies seeking information.

CURRENT REPORTING REQUIRENTS

Exhibit 1 lists the forms most commonly required from Americans with foreign assets, family members living abroad, dual nationalities and other international connections.  These are informational only; no taxes are levied directly through these reports. But the penalties for late and fraudulent filing are notable.

FBAR (Report of Foreign Bank and Financial Accounts): FinCEN Form 114

• Filed electronically with Financial Crimes Enforcement Network (FinCEN)
• Required if total foreign financial accounts exceed $10,000 at any time during the year
• Penalties
  • Non-willful: $10,000 per form (or IRS may argue per foreign account)
  • Willful: Civil penalty – greater of $100,000 or 50% of account balance(s)
    • Criminal penalty – up to $250,000 and/or 5 years in prison

Form 8938 (Statement of Specified Foreign Financial Assets): IRS Form

• Filed with federal income tax return (e.g., Form 1040)
• Required if the total value of all the specified foreign financial assets exceeds the appropriate reporting threshold. e.g., married jointly:
  • U.S. Residents: $150,000 any time during year, or $100,000 at year end
  • U.S. Non-Residents: $600,000 any time during year, or $400,000 year end
• Penalties
  • $10,000, or up to $50,000 for continued failure to file
  • Possible 40% penalty on understated tax on non-disclosed assets

Form 5471 (Information Return for U.S. Persons with Respect to Certain Foreign Corporations): IRS Form

• Filed with federal income tax return
• Required for U.S. citizens and residents who are officers, directors, or shareholders in certain foreign corporations; and U.S. corporations, partnerships, trusts and estates owning at least 10% of foreign corporation
• Penalties
  • $10,000, or up to $60,000 for continued failure to file

Form 3520 (Annual Return to Report Transactions with Foreign Trusts and Receipt of Certain Foreign Gifts): IRS Form

• Filed with separate IRS division than federal income tax return, but often due on same date (typically the 15^th day of the 4^th month of person’s tax year)
• Required by U.S. citizens and residents for “reportable events”. Examples:
  • Receipt of gifts or bequests exceeding $100,000 from an individual or $16,388+ from a foreign entity
  • Many types of transactions with foreign trusts
• Penalties
  • Greater of $10,000 or 35% of gross value of applicable transactions

Form 3520A (Annual Information Return of Foreign Trust With a U.S. Owner): IRS Form

• Filed with a different IRS department than federal income tax returns
  • Due by the 15th day of the 3rd month after the end of the trust’s tax year – typically March 15th
• Required by foreign trusts with at least one U.S. owner or donor of funds
  • Note:  although duty to file rests with the trustee, if the trustee fails to file, this duty falls on the grantor
• Penalty: the greater of $10,000 or 5% of the trust assets

ENFORCEMENT TRENDS

Since the fall of 2023, U.S. government agencies have escalated enforcement efforts related to the reporting requirements for foreign accounts and activities.  In September 2023 the IRS announced a “sweeping, historic effort to restore fairness in tax compliance.”[1]   A primary focus has been missing, late and fraudulent filings.

FBAR ENFORCMENT

Missing FBARs continue to be key targets, possibly due to the potential for large penalties and even criminal convictions for willful non-filers.

“High-income taxpayers from all segments continue to utilize Foreign Bank accounts to avoid disclosure and related taxes…IRS analysis of multi-year filing patterns has identified hundreds of possible FBAR non-filers with account balances that average over $1.4 million.  The IRS plans to audit the most egregious potential non-filer FBAR cases in Fiscal Year 2024”.[2]

Following are examples of highly publicized FBAR cases illustrating taxpayer wins, taxpayer losses and current trends.

Ty Warner: United States v. Ty Warner (July 10, 2015)

One of the earliest and largest FBAR conviction, the Warner case has been widely publicized due to Warner’s fame as founder of the popular Beanie Babies toy.

Since 1996, Warner maintained accounts in Switzerland at UBS and Zuercher Kantonalbank (“ZKB”). He did not disclose these accounts to the IRS and did not pay taxes on income or gains. While investigating UBS, the Department of Justice discovered Warner’s accounts. These totaled over $107 million.

In 2013 Warner agreed to pay full restitution and a civil penalty of $53.6 million for failure to file FBARs.  He was also subject to a criminal penalty which could have involved prison time but was sentenced to two years of probation, community service, and $100,000.

Alexandru Bittner: Bittner v. United States, 143 S. Ct. 713, 215 L. Ed. 2d 1 (02/28/2023)

Alexandru Bittner, a businessman with dual citizenship in the U.S. and Romania, failed to timely file FBARs reporting his 272 foreign bank accounts

The IRS imposed penalties totaling $2.72 million, based on $10,000 per unreported account for each year from 2007 through 2011. The U.S. District court and the 5^th Circuit Court of Appeals disagreed as to whether the penalties should be assessed per account or per FBAR form. In a potentially far-reaching decision, the U.S. Supreme Court concluded that the maximum penalty for non-willful violation is per FBAR report, not per-account.

Bittner ended up paying $50,000, representing $10,000 for each of the five years he had failed to timely file FBAR forms.

It is important to note that the court’s decision in Bittner only directly addresses non-willful penalties. One of the bases for determining that the non-willful penalty should be imposed on a per-report basis was the absence of the word “account” anywhere in the non-willful statute. By contrast, the willful penalty specifically refers to an “account.”

As may be expected, the IRS is increasingly focusing on behavior that may constitute a willful FBAR violation[3], as the potential penalties are significantly greater.

Francis Burga: U.S. v Francis Burga et al, Case No: 5:19-cv-03246-EJD (Nov 27, 2023)

Francis Burga had financial interests in approximately 271 foreign bank accounts from 2004 through 2009.  The funds were greater than $10,000 but no FBARs were filed.

The IRS assessed civil FBAR Penalties of $52,581,605 for willful failure to timely file FBARs, plus late payments penalties and interest. By May 30, 2019, the unpaid balance was $119,603,703.38.  There was ongoing litigation over the IRS’ claim of willfulness.

The Court has granted in part and denied in part the government’s motion for summary judgment regarding willful non-filing of FBARs.

Aroeste:  Aroeste v, United States, No. 3:22-CV-00682-AJB-KSC, S.D. Cal. (11/20/2023)

Mr. Aroeste, a Mexican citizen with a U.S. green card, lived in Mexico.  He claimed Mexican tax residency under the treaty tie-breaker provision in the U.S.-Mexico bilateral income tax treaty[4].  As such he didn’t file FBARs for his Mexican bank accounts.

The District Court of Southern California agreed with him that the U.S-Mexico treaty trumps the FBAR requirement for U.S. green card holders living in Mexico.

This decision may be appealed, but it could also open the door for similar positions taken by other green card holders living abroad, depending on the treaties between their countries of residence and the U.S.

OTHER (NON-FBAR) CASES OF NOTE

Ueland: Ueland v, United States, Case No. 1:23-cv-00931, Ct. Fed. Cl., (Oct. 10, 2023)

After filing for an extension to complete their tax returns, Mr. & Mrs. Ueland submitted Forms 3520-A to report their Australian Superannuation funds[5].

In an example of aggressive pursuit of taxpayers with assets or accounts outside the U.S., the IRS assessed a $100,000 penalty for late filing, and withheld this amount from the Uelands’ refund.

On appeal the Department of Justice ruled the IRS must issue a full refund with interest.

Farhy: Farhy v. Commissioner, 160 T.C. 6 (April 3, 2023)

Mr. Farhy admitted to using offshore corporations to illegally reduce his income tax.  He was granted immunity from prosecution for tax avoidance.

However, he also failed to file Form 5471 both before and after notifying the IRS.  The IRS assessed penalties of $10,000/year plus $50,000/year for continued non-filing. The U.S. Tax Court (USTC) ruled that since Form 5471 is an information return governed by IRC Section 6038(b)(1) and (2) the IRS lacked authority to charge penalties related to it.

On May 3, 2024, the U.S. Court of Appeals for the District of Columbia Circuit (D.C. Circuit) reversed the USTC decision, ruling that penalties under Section 6038(b) of the Internal Revenue Code are “assessable” penalties.

But the fight continues, as the USTC has affirmed it will stand by its decision that the IRS lacks authority to assess Section 6038(b) penalties in cases falling under other circuits of the U.S. Courts of Appeals. This leaves open the option for taxpayers in jurisdictions other than the D.C. Court to continue to challenge the IRS authority to assess Section 6038(b) penalties.

This also raises doubts regarding the IRS’ authority to assess penalties related to certain other international information forms.  And there have already been follow-up cases, including Raju Mukhi’s successful claim that the IRS could not automatically assess penalties for his failure to file Form 5471[6]

Note, however, that even with a taxpayer win on this issue, there may still be a downside to non-filing a form such as 5471, as this could impact the limitations period of a taxpayer’s return.

Christensen: Christensen v. United States, No. 1:2020cv00935 – Document 66, Fed. Cl. (October 23, 2023)

As U.S. citizens living in France the Christensens filed French and U.S. income tax returns. According to long standing practice the IRS did not permit them to use a foreign tax credit (FTC) to offset the Net Investment Income Tax (NIIT) on their U.S. income.

The Christensens challenged in the U.S. Court of Federal Claims. The Court held that under paragraph 2(b) of Article 24 of the U.S-France Income Tax Treaty, they could claim the FTC against their net investment income tax under I.R.C. § 1411.

While a welcome bright spot for many Americans living abroad, there are caveats.  For one, this outcome is treaty specific and may not be the same under other, different U.S. income tax treaties.  This ruling also contrasts with a 2021 Tax Court decision[7], giving the IRS grounds to appeal and continue to deny FTCs.

Moore: Moore v. United States, U.S. Supreme Court Docket 22-800

Under the deemed repatriation provisions of the 2017 Tax Cuts and Jobs Act, the Moores were required to pay a one-time mandatory repatriation tax (MRT) of $14,729 on their portion of the undistributed profits held in KisanKraft, an Indian business that reinvested its profits every year.  They challenged the law as violating the Sixteenth Amendment’s requirement that income be realized before it can be taxed,

The district court ruled for the government, and the Ninth Circuit U.S. Court of Appeals affirmed. The Supreme Court rejected the Moores’ argument and upheld the MRT.

The immediate issue at stake was whether the U.S. could tax unrealized income and the definition of a realization event.  This had potentially major ramifications for other tax code provisions and had also led to speculation regarding the taxing power of Congress and whether it would  open the door for further wealth taxes.

However, the Supreme Court refrained from addressing these broader issues, limiting their decision to the facts in this case and to supporting the current income tax structure, specifically the MRT.

FOREIGN REPORTING AND CAVEATS FOR ADVISORS

In addition to the reporting burdens faced by clients, professional advisors are being charged with responsibilities for reporting potentially shady behavior. The IRS explicitly notes the obligations of U.S. “tax professionals [to]…make reasonable inquiries of a client who provides information that indicates possible overseas holdings subject to FBAR requirements,” and to point out to the client the need to report and the penalties for not doing so.^[8]

This follows the trend in the European Union (EU) and especially the United Kingdom (UK), which for several years have been placing increasing responsibility on legal and tax advisors, leading to penalties not only for involvement in tax schemes but also for not reporting suspect behavior by their clients.[9] Along these lines, in April, 2024 Guernsey imposed the duty of financial and legal advisors to report “bribery”.[10]

NEW REPORTING REQUIREMENTS:

FINANCIAL CRIMES ENFORCEMENT NETWORK (FINCEN) AT WORK

Set against the backdrop of the many reports already required for Americans with foreign connections, from late 2023 through 2024 a plethora of new forms have been proposed and are in the process of being rolled out. In addition to the heightened activity by the IRS and the Department of Justice, FinCEN has significantly ramped up enforcement.  These initiatives work in conjunction with efforts by sister agencies of the U.S. Treasury to support anti-tax avoidance efforts.  The following are overviews of some of the key programs.

Corporate Transparency Act (CTA)

This major and highly controversial effort to institute a central register of beneficial owners of companies doing business in the U.S., seeks to end the ability to hide true ownership (and thus related money laundering and tax evasion) using entities such as shell companies and offshore corporations. This database will be available, with varying degrees of access, to government agencies, law enforcement and financial institutions.

At this point trusts are not required to register. However, the many trusts owning or controlling, directly or indirectly, companies that fall within the CTA net may need to report beneficial ownership of these companies and thus of the trust settlors, trustees, beneficiaries and possibly other office holders.

Although the CTA was enacted on Jan 1, 2021, it has only become effective in 2024. There remain many open questions related to specific situations, and everything from the concept to the details has become hot topics in financial and legal communities. Official challenges have already begun.

On November 15, 2023, the National Small Business Association (NSBA) and Mr. Winkles, a small business owner, filed a lawsuit in the U.S. District Court for Northern Alabama, alleging that the CTA’s mandatory disclosure requirements exceeded Congress’ authority under Article I of the U.S. Constitution and violated the First, Fourth, Fifth, Ninth and Tenth Amendments.[11]

The Court ruled the CTA unconstitutional and granted the plaintiffs an injunction. Meanwhile, during the government’s appeal, the rest of the reporting companies must adhere to the rules.  The Beneficial Owners registry remains in place, although it’s already evident that the optimistic roll-out schedule for access may not be realistic.

Copycat cases have also appeared[12], as are further legislative proposals. New York state has enacted their own, additional reporting scheme.[13]  On the federal level, bills have been introduced completely repealing the CTA.[14]

On an international front, the CTA has had a positive impact on status of the U.S. among global oversight bodies. Following the enactment, the Financial Action Task Force (FATF) raised the U.S. rating to “largely compliant” with FATF Rec 24[15].

Geographic Targeting Orders (GTOs)

GTOs require U.S. title insurance companies to identify the natural persons behind shell companies used in non-financed purchases of residential real estate in certain U.S. counties and cities.

Launched by FinCEN ten years ago under the Bank Secrecy Act, these were originally “temporary” orders aimed specifically at regions of high and increasing property values, such as Miami and Manhattan, and were limited to properties valued above thresholds in the millions of dollars.

Over the years, FinCEN has expanded GTOs to cover many more major U.S, metropolitan areas, with the current threshold now $300,000 for most areas. These orders are now being renewed on a regular basis, most recently in April 2024.

Notice of Proposed Rule Making (NPRM) – Transfers of Real Estate to Entities

On February 7, 2024, FinCEN released a notice proposing a further reporting program to assist in identifying the use of real estate as a means of money laundering. This would target all non-financed purchases and transfers (no dollar threshold) of residential real estate into trusts and entities.

Settlement agents, title insurance agents, escrow agents and attorneys performing these functions would report to FinCEN using “Real Estate Reports”[16] due within 30 days of the property’s transfer. The required information is extensive, including details of the beneficial ownership of the legal entity or trust receiving the property; individuals representing the transferee entity or trust; the business filing the report; the residential real property being sold or transferred; the transferor; and any payments made.

Similar to the beneficial owner reports under the CTA, these reports would be available to law enforcement but not the general public.

There is speculation that this is a prelude to also requiring reporting on commercial real estate transactions. The comment period ended on April 16, 2024.

Notice of Proposed Rule Making (NPRM) Extending AML Programs to Investment Advisors

With investment advisors overseeing trillions of dollars and rapidly growing in their number and influence, FinCEN notes that criminals may use them for illicit transactions. On February 13, 2024, FinCEN issued a NPRM to include investment advisors in the category of “financial institutions” required to implement AML programs and report suspicious activity to FinCEN.[17]

This proposal would include Registered Investment Advisors (RIAs), which comprise those with at least $100 million in assets under management and are registered with the SEC, as well as Exempt Reporting Advisors (ERAs) who oversee venture funds and small private funds and report to the SEC.

LOOKING AHEAD

The surge in reporting obligations and related enforcement by U.S. government agencies mirrors global trends. As countries and international organizations look to the financial system in their efforts to combat money laundering, tax evasion and terrorist financing, the focus on greater financial transparency that started a decade ago is far from over.

In 2018 the Joint Chiefs of Global Tax Enforcement was spun out of the OECD to support formal and informal information exchange and foster cross border collaboration in anti-money laundering and anti-tax evasion initiatives.[18] Further, on May 13, 2024, in an unprecedented joint call to action, the heads of the Financial Action Task Force (FATF), INTERPOL and the United Nations Office on Drugs and Crime (UNODC) urged countries to heighten their efforts to combat global financial security.[19]

Currently digital assets are a top priority[20].  Trusts also continue to be a target for those seeking ultimate transparency.  Trusts are not currently considered reporting companies under the U.S. CTA., while efforts in France in 2016 to include trusts in public registers of beneficial owners were ruled “a breach of the right to respect for public life” and blocked by the Constitutional Court.[21]  Nevertheless, arguments supporting privacy rights for trustees and trust settlors and beneficiaries have long been viewed with suspicion, especially in civil law countries,

While transparency appears to be deemed of paramount importance, there have been setbacks as various initiatives clash with the concurrent focus on individuals’ right to privacy. On November 22, 2022, the Court of Justice of the European Union (CJEU) blocked unrestricted access by the general public to information about the beneficial owners of companies registered in the EU.[22]

However, for the moment, the onerous reporting obligations and aggressive enforcement activities by U.S. government agencies are prompting some Americans to consider permanently terminating their U.S. tax and legal status.  An upcoming NAEPC Journal article explores the benefits and pitfalls of renouncing citizenship or rescinding long term resident status and offers suggestions for pre-emigration planning for those clients who decide to pursue formal expatriation.

---

[1] IRS-HR-2023-166

[2] Ibid

[3] See Horowitz, No. 19-1280 (4^th Cir. 10/20/20)

[4] Claim of Mexican residency based on closer connections test

[5] These Australian pension plans were considered foreign trusts under the U.S. tax regime.

[6] Mukhi v. Commissioner (162 T.C. No. 8), April 8, 2024

[7] Toulouse v. Commissioner (157 T.C. No. 4),  August 16, 2021

[8] “Practitioner Diligence Obligations and the Reporting of Foreign Bank and Financial Assets”, IRS Bulletin 2023-12, 11/29/2023

[9] Hilary Hurd, “Applying Anti-Money Laundering Reporting Obligations on Lawyers: The UK Experience”, the Global Anti-Corruption Blog, June 18, 2018

[10] “The Prevention of Corruption” (Bailiwick of Guernsey) Law, 2003, as amended effective 26 April, 2024

[11] National Small Business United, d/b/a The National Small Business Association, et al v. Janet Yellen et al (Case No. 5:22-cv-1448-LCB) (N.D. Ala. Mar. 1, 2024).

[12] SBA of MI et al v Janet Yellen et al, 314 U.S. District Court for Western District of Michigan Southern Division, March 26, 2024, and Robert J. Gargasz Co., L.P.A. et al v. Secretary of the Treasury et al, US District Court for the Northern District of Ohio, Case No. 1:2023cv02468, December 29, 2023

[13] The New York LLC Transparency Act, effective Jan 1, 2026, follows the CTA in most respects, but includes a few significant differences.

[14] On April 29, 2024, U.S. Representative Warren Davidson (R-OH) introduced “Repealing the Big Brother Overreach Act”.  On May 9, 2024 Senator Tommy Tuberville (R-AL) introduced a companion bill.

[15] “Anti-money Laundering and Counter-terrorism Financing Measures, United States”, FATF 7^th Follow-up Report, March, 2024

[16] These would be simplified versions of the Suspicious Activity Reports (SARs) required from financial institutions

[17] Under this proposed rule, investment advisors would use a modified Suspicious Activity Report (SAR), presumably at least somewhat less onerous than the one required of Financial Institutions.

[18] This so-called J5 includes leaders in the tax authorities of the U.S., the U.K., Canada, Australia and the Netherlands,

[19] “Urgent cooperation needed to fight money laundering and terrorist financing”, INTERPOL, 13 May 2024

[20] On April 22, 2024, the IRS issues a draft 1099-DA for digital assets brokers to report transactions. While directly addressing tax compliance, these forms also provide the U.S. government with information that may be useful in pursuing anti-money laundering initiatives

[21] Conseil Constitutionnel Decision no. 2016-59, QPC du 21 octobre, 2016 3/3

[22] This ruling invalidated provisions of the 5th EU Anti-Money Laundering Directive (AMLD5) that had previously provided broad access. To gain access a member of the public must demonstrate a “legitimate interest” in the information, such as evidence of anti-money laundering or terrorism financing.