Step up in basis for nonresident’s assets in irrevocable trust

What “basis” is

One of the continuing mysteries of life involves the concept of “basis”. Think of basis as your acquisition cost. This is essential in calculating your capital gain tax after selling an asset. Capital gain is the difference between the sale price and your acquisition cost. The higher your basis — or acquisition cost — for an asset, the lower your capital gain (and therefore capital gain tax) will be.

Here is an example:

A person bought a piece of land 20 years ago for $100,000, and now it is worth $1,000,000. If that person sells the real estate today, the capital gain would be $900,000 ($1,000,000 received from sale minus $100,000 acquisition cost). Multiply the $900,000 capital gain by the correct tax rate and you have the tax that must be paid in the year of sale.

Basis when you inherit an asset

It is easy to understand “acquisition cost” when you buy something: how much money did it cost? But what about when you inherit something?

In that case, your acquisition cost (or “basis”) is the fair market value of the asset when the previous owner died. (In some instances you can use the value on the date 6 months after the person died). Think of this as if you “bought” the asset at fair market value on the date of death of the person who left you the inheritance.

Again, an example:

A person bought a piece of land 20 years ago for $100,000, and it is worth $1,000,000 when he dies. The person leaves the land to you in his will. You are treated as if you acquired the land at a cost equal to the value of the land on the day of death.

These basis rules are found in Internal Revenue Code Section 1014.

Step up in basis

Wait. There’s a disconnect: $900,000 of taxable capital gain evaporated. You got a fresh start, so if you sell the land for $1,000,000 you will pay zero capital gains tax — because you have zero capital gain. The land is worth $1,000,000 and your acquisition cost (“basis”) is $1,000,000. Yet, if the person who left you the land had sold it a month before he died, there would have been $900,000 of capital gain, and capital gain tax would be imposed. What happened?

The “what happened” is a concept called “step up”. Simply put, if someone owns an asset when he dies, all of the built-in capital gain is eliminated. The deceased person’s basis (acquisition cost) in the asset adjusted upward to the fair market value when he died. This upward adjustment is called “step up” in tax jargon.

The reverse can happen, of course. The adjustment goes to market value on the date of death. Market value can be lower than acquisition cost. It’s been known to happen once or twice.

Inheriting from a nonresident

The same concepts apply when a U.S. taxpayer inherits an asset from a nonresident.

A resident of Saudi Arabia bought a piece of land in Jeddah 20 years ago for $100,000, and it is worth $1,000,000 when he dies. You inherit the land. You are treated as if you acquired the land at a cost equal to the value of the land on the day of death.

The first time I wrestled with this idea, I was boggled. Here was a tax break (the step up in basis) extended by the U.S. government to an asset outside the United States — an asset that had never been subjected to U.S. estate tax. It made sense, I thought, that the step up in basis idea would apply to an asset that passed through the U.S. estate tax gauntlet. If you inherit something and Uncle Sam had the chance to tax it (by imposing a tax on the estate of the deceased person), fairness says you get the new “acquisition cost” or basis in the asset you inherit.

Yet we have the interesting situation that a piece of land outside the United States is now owned by a U.S. person with an acquisition cost equal to the value of the property on the date of death.

Inheriting through a trust from a nonresident

Now we get to the point of this blog post. For a variety of reasons, people use trusts to hold their assets and pass the assets to their heirs. It’s usually simpler than the local Probate Court proceedings, and it gives far greater privacy. Probate is usually a publicly visible process. Trusts can be opaque to the outside world. Trusts are also a useful tool if you want to have outside managers for your assets.

But assets put into a trust are no longer passed to the heirs at death as an inheritance. The “heirs” are beneficiaries of the trust. What they receive (and when they receive it) is governed by what the trust document says.

This means that you cannot rely on the classic “step up in basis” rules I have described above. If an asset is distributed to a beneficiary from a trust, it will have the same acquisition cost (“basis”) as the trust had in the asset. The tax law jargon for this is “carryover basis”.

But that’s not universally true. It is possible for a nonresident to put assets into a trust (thereby avoiding the local probate procedures) and at the same time get step up in basis for the trust beneficiary (the heir) who receives the assets when the nonresident dies. All of this can happen while there is no U.S. estate tax imposed on the assets.

A resident of Hong Kong creates the right kind of trust (I will describe what “right kind of trust” means in a minute). He bought land in Hong Kong 40 years ago for US$100,000, and now it is worth US$1,000,000. He transfers the land in to the trust. A U.S. individual is the beneficiary of the trust. When the Hong Kong resident dies, the terms of the trust instruct the trustee to distribute the land to the beneficiary.

The beneficiary will receive the land from the trust with a stepped up basis of $1,000,000. If the beneficiary immediately sells the land at its fair market value of $1,000,000, he will have zero capital gain because his acquisition cost (basis) is US$1,000,000 and the money received from the sale is US$1,000,000.

Best of both worlds, etc. There is no U.S. estate tax (and no Hong Kong estate tax, for that matter). And there is no U.S. capital gain tax.

What kind of trust will work? A “grantor” trust

So what kind of trust should a nonresident of the United States establish in order to leave assets to a U.S. person at the time of the nonresident’s death? Simple: a “grantor” trust. This is a trust that — according to U.S. tax law — is treated as if the settlor (the person who contributed the assets to the trust) is the owner of all of the trust assets.

The grantor trust rules are in Internal Revenue Code Sections 671 through 679.

There are two kinds of grantor trusts that will work for nonresidents of the United States:

• Revocable. The idea here is that if the settlor can unilaterally take the assets out of the trust at any time, the situation is functionally identical to direct ownership of the assets by the settlor. The assets remain in the trust solely at the settlor’s whim.
• Irrevocable. With an irrevocable trust, the settlor does not have the unilateral power to extract assets from the trust anytime he wants to. But an irrevocable trust can be a grantor trust if the settlor (or settlor plus spouse) is the sole beneficiary during the lifetime of the settlor (or spouse).

A grantor trust can be a “foreign” grantor trust or a domestic grantor trust. We usually refer to domestic grantor trusts as simply being a grantor trust. A “foreign” trust of any type, whether grantor or nongrantor, is a trust that is either governed by a court outside the United States or is controlled (even just a little bit) by someone who is not a U.S. resident or citizen. I will leave the discussion of whether to make your grantor trust “foreign” or domestic for another blog post.

Private Letter Ruling 201245006 – An Irrevocable Trust is Approved

Don’t take my word for it. Read Private Letter Ruling 201245006. Specifically, look at Issue 1, where the use of an irrevocable trust (properly configured to be a grantor trust) was approved. Private Letter Rulings are only applicable to the taxpayer receiving the ruling, yadda yadda.

Internal Revenue Service

Department of the Treasury

Washington, DC 20224

Number: 201245006

 Release Date: 11/9/2012

 Index Number: 671.00-00, 1014.00-00

 Person To Contact:

 Telephone Number:

 Refer Reply To: CC:PSI:B04 _PLR-105239-12

 Date: JULY 19, 2012


RE:

Legend:

Taxpayer =

 X =

 Trust =

 Country =

 Company 1 =

 Company 2 =


Dear [redacted data]:

This letter responds to your authorized representative’s letter, dated February 2, 2012, requesting a ruling on the application of § 671 and § 1014 of the Internal Revenue Code.

FACTS

The facts submitted and representations made are as follows:

Taxpayer, a citizen and resident of Country, proposes to transfer assets to Trust, an irrevocable trust subject to the laws of Country. The assets of Trust include cash and stock in Company 1 and Company 2 that are publicly traded in Country and on the New York Stock Exchange. Taxpayer and X, an unrelated party, are Trustees.

Under the terms of Trust, Trustees are to pay all of the income of Trust to Taxpayer during his lifetime and may, in Trustees’ absolute discretion, pay principal of Trust to Taxpayer. Article IV. Upon the death of Taxpayer, any income of Trust and any corpus remaining in Trust are to be paid or transferred to or in trust for one or more of Taxpayer’s issue in such proportions as Taxpayer may appoint by deed or will. In default of appointment, corpus and accumulated income will be held in further trust for the benefit of Taxpayer’s issue. Article V. Trust further provides that during Taxpayer’s lifetime no adverse party within the meaning of § 672(a) is eligible to serve as Trustee. Article XI.

You have requested the following rulings:

1. Following the death of Taxpayer, the basis of the property held in Trust at Taxpayer’s death will be the fair market value of the property at the date of Taxpayer’s death under § 1014(a).

2. Taxpayer will be treated as the owner of Trust for purposes of § 671, such that the items of income, deductions and credits against tax of Trust will be included in computing Grantor’s taxable income and credits against tax.

ISSUE 1:

Section 1014(a)(1) provides that the basis of property in the hands of a person acquiring the property from a decedent or to whom the property passed from a decedent shall, if not sold, exchanged, or otherwise disposed of before the decedent’s death by such person, be the fair market value of the property at the date of the decedent’s death.

Section 1014(b)(1) provides that property acquired by bequest, devise, or inheritance, or by the decedent’s estate from the decedent shall be considered to have been acquired from or to have passed from the decedent for purposes of § 1014(a).

Section 1014(b)(9) provides that, in the case of a decedent dying after December 31, 1953, property acquired from the decedent by reason of death, form of ownership, or other conditions (including property acquired through the exercise or non-exercise of a power of appointment), if by reason thereof the property is required to be included in determining the value of the decedent’s gross estate, shall be considered to have been acquired from or to have passed from the decedent for purposes of § 1014(a).

Section 1014(b)(9)(C) provides that § 1014(b)(9) shall not apply to property described in any other paragraph of § 1014(b).

Section 1.1014-2(b)(2) of the Income Tax Regulations provides, in part, that § 1014(b)(9) property does not include property that is not includible in the decedent’s gross estate, such as property not situated in the United States acquired from a nonresident who is not a citizen of the United States.

In this case, Taxpayer’s issue will acquire, by bequest, devise, or inheritance, assets from Trust at Taxpayer’s death. The assets acquired from Trust are within the description of property acquired from a decedent under § 1014(b)(1). Therefore, Trust will receive a step-up in basis in Trust assets under § 1014(a) determined by the fair market value of the property on the date of Taxpayer’s death. See Rev. Rul. 84-139, 1984-2 C.B. 168 (holding that foreign real property that is inherited by a U.S. citizen from a nonresident alien will receive a step-up in basis under § 1014(a)(1) and 1014(b)(1)). This rule applies to property located outside the United States, as well as to property located inside the United States.

Accordingly, based solely upon the information submitted and the representations made, we conclude that following the death of Taxpayer, the basis of the property held in Trust will be the fair market value of the property at the date of Taxpayer’s death under § 1014(a).

ISSUE 2:

Section 671 provides, in part, that where it is specified in subpart E of subchapter J that the grantor or another person shall be treated as the owner of any portion of a trust, there shall then be included in computing the taxable income and credits of the grantor or the other person those items of income, deductions, and credits against tax of the trust which are attributable to that portion of the trust to the extent that such items would be taken into account under this chapter in computing taxable income or credits against the tax of an individual.

Section 672(f)(1) and § 1.672(f)-1 provide that, as a general rule, the grantor trust rules (§ § 671 through 679) apply only to the extent such application results in an amount (if any) being taken into account (directly or through one or more entities) in computing the income of a citizen or resident of the United States or a domestic corporation. Section 672(f)(2)(A)(ii) and § 1.672(f)-3(b)(1) provide that the general rule does not apply to any portion of a trust if the only amounts distributable from such portion (whether income or corpus) during the lifetime of the grantor are amounts distributable to the grantor or the spouse of the grantor.

Section 677(a)(1) provides that the grantor shall be treated as the owner of any portion of a trust, whether or not he is treated as such owner under § 674, whose income without the approval or consent of any adverse party is, or in the discretion of the grantor or a nonadverse party, or both, may be distributed to the grantor or the grantor’s spouse.

Under the terms of Trust, the trustees are required to pay all Trust income to Taxpayer during his lifetime and the trustees are authorized to pay, in their absolute discretion, any amounts out of the capital of Trust to Taxpayer. In addition, the only distributions that Trust may make during the Taxpayer’s lifetime are to Taxpayer. Thus, § 672(f) will not prevent Taxpayer from being treated as the owner of Trust. Therefore, Taxpayer will be treated as the owner of Trust under § 677(a).

The rulings contained in this letter are based upon information and representations submitted by the taxpayer and accompanied by a penalty of perjury statement executed by an appropriate party. While this office has not verified any of the material submitted in support of the request for rulings, it is subject to verification on examination.

Except as specifically ruled herein, we express no opinion on the federal tax consequences of the proposed transaction under the cited provisions or under any other provisions of the Code.

This ruling is directed only to the taxpayer who requested it. Section 6110(k)(3) provides that it may not be used or cited as precedent.

Sincerely yours,

Leslie H. Finlow

 Senior Technician Reviewer, Branch 4

 Office of Associate Chief Counsel

 (Passthroughs and Special Industries)

Enclosure

 Copy for section 6110 purposes

Calculate tax on distributions from foreign trusts using the default method

[Written on December 20, 2011.]

You’d be a damn fool to rely on this as legal advice. I’ve been wrong many times before, and this might be wrong, too. Go hire some smart tax lawyer or tax accountant to figure out what’s going on with your situation. You might be surprised to find you have a foreign trust when you thought you had a domestic trust. Or indeed, the reverse might be true. This subject is hideously complex and what follows is about as deep as stick figures scrawled in the sand with your finger. KTXHBAI.

Background Assumptions

Let’s say a foreign trust was established decades years ago. It is an irrevocable trust. It contains the usual provisions found in most foreign trusts. A class of beneficiaries is named, and the trustee has discretion in making distributions to the beneficiaries. The trustee has power to add or remove beneficiaries in its discretion.

You know very little about the trust, and accounting records are not accessible. The trust has about a couple of million dollars in it, and there is a single U.S. beneficiary. The trustee intends to terminate the trust and distribute all of the assets to the beneficiary.

Question

The question is simple: if the trust distributes all of its assets to a U.S. beneficiary now, what will be the income tax cost?

The tax rules that apply

A U.S. beneficiary has no U.S. income tax liability until receiving a distribution from the trust.
There are three categories of distributions:

• Distributions of capital. This is tax-free to the beneficiary.
• Distributions of current income. Income earned in the year in which it is distributed is taxed in the routine method that other income is taxed to the beneficiary. Dividends and interest are taxed at ordinary tax rates, and long term capital gain is taxed at a favorable rate.
• Distributions of accumulated income. Income earned in prior years and distributed in the current year will be taxed at ordinary tax rates, to which is added an interest surcharge.

The key to sanity as a tax return preparer is knowing exactly what you have.

Trust accounting records exist

If good trust accounting records exist, that is the procedure to follow in calculating the beneficiary’s U.S. tax obligations for a trust distribution received. Generally, you can see this procedure at work in Form 3520, Part III, Schedule B.

That’s not what we are going to deal with here. We assume that the trustee either does not have adequate accounting records or the trustee refuses to provide the necessary information.

Trust accounting records are lacking

If the trust accounting records are lacking, the Internal Revenue Code has a default method for taxing trust distributions to a U.S. beneficiary from a foreign trust. And the default presumption is that the entire distribution is from the worst possible category: it is a distribution of accumulated income.

Everything is treated as ordinary income–including long term capital gains that were not distributed in the year recognized. Worse yet, an interest charge is imposed on the calculated income tax on the distribution.

This lesson teaches you how to calculate the accumulation distribution tax (and companion interest charge) when you have no trust accounting records to work with.

Step 1: Calculate the Distribution Amount

The first thing to calculate is the amount of the distribution that the U.S. beneficiary received. This is done in Form 3520, Part III. Lines 24 through 28 walk you through the different types of transactions that are considered distributions from trusts.

• Classic distributions of cash or property are listed at Line 24.
• Loans from trusts are treated as distributions. These can be problematic because the loans need not be to the beneficiary–they can be to related persons and still be considered as distributions to the U.S. beneficiary. See Form 3520, Part III, Line 25.
• Use of trust assets without paying for the use (living rent-free in a trust-owned house, for instance) is treated as a loan, hence is deemed to be a trust distribution. See Form 3520, Part III, Line 25.
• Line 27 is the grand total. This is the total amount of trust distributions received by the beneficiary from the foreign nongrantor trust in the tax year.

Step 2: Committing Yourself to the Default Calculation Method

Now that you know the amount of the trust distribution, it is time to compute the income tax due. Here is where the IRS asks you about the quality of the trust accounting. Form 3520, Part III, Line 30 asks you whether you received a Foreign Nongrantor Beneficiary Statement. Think of this like the free-form equivalent to a Schedule K-1 received from a domestic trust.

By assumption we are dealing with the common situation of “no accounting records at all” so the correct answer here is “No.” This commits you to completing Schedule A (Form 3520, Part III, Lines 31 through 38) to calculate character of the trust distribution received. It will either be a distribution of ordinary income or it will be a distribution of accumulated income.

Step 3: How Much is Ordinary Income and How Much is an Accumulation Distribution?

Lines 31 through 38 will take the total calculated on Line 27 and run it through some simple math to determine whether the trust distribution will be treated as a distribution of ordinary income or as a distribution of accumulated income.

• Line 31 asks you to write in the amount you computed on Line 27.
• Line 32 asks about the trust. How long has it been a foreign trust? This can be a simple or complicated question, depending on your facts. A part-year is treated as a full year. The answer will be an integer. Note that the instructions to Form 3520 ask you to show your work. Explain how you came up with your answer.
• Line 33 asks you to report the total amount of distributions received from the trust in the preceding three years. If you are preparing the 2011 income tax return, you report the total of distributions received in 2008, 2009, and 2010.
• Line 34 is simple multiplication. Multiply Line 33 by 1.25. Why? Because the Code says so.
• Line 35 is simply Line 34 divided by three.
• Line 36 is where you compute the ordinary income amount of this year’s distribution. Ordinary income is the amount up to Line 35. In other words, they’re giving you 125% of the prior three years average trust distribution as ordinary income.
• Line 37 is the excess of the distribution received this year (Line 31) over the 125% of average distributions for the prior three years (Line 35). We have some more work to do before this moves over to Form 1040. Stand by.
• Line 38 is an oddly-positioned question. It only becomes useful elsewhere on the form. Take the number of years that the trust has existed as a foreign trust, and divide by two. Keep the remainder. For instance, if the trust has been a foreign trust for 5 years, the answer on Line 38 is 2.5.
  Congratulations. You have now determined how much of the trust distribution is ordinary income, and how much is treated as an accumulation distribution.

Step 4: Take the Ordinary Income to Schedule E

The amount you wrote on Form 3520, Part III, Schedule A, Line 36 goes on Form 1040, Schedule E, Line 33.

Step 5: Calculate the Tax on the Accumulation Distribution

If you have an accumulation distribution–that is, Form 3520, Line 37 has a number in it that is greater than zero–then you have to go to Form 4970 and calculate the income tax on that accumulation distribution.

With that in mind, we now turn to the calculation of tax. The calculation is made on Form 4970. Let’s go through Form 4970, line by line.

• Line 1 is the amount you calculated on Form 3520, Line 37. This is the accumulation distribution.
• Line 2 is something you can ignore. It is an artifact of ancient tax history. When the accumulation distribution rules applied to domestic trusts, the Code gave a bit of a break to accumulations that occurred before the beneficiary reached age 21. That break does not apply to accumulation distributions from foreign trusts, so you can put a zero on Line 2.
• Line 3 is simple subtraction.
• Line 4 has a very simple statement in the Instructions to Form 4970. It tells you to look at Internal Revenue Code Section 665(d)(2). Helpful! What Line 4 asks for is the allocable share of foreign taxes paid on the trust distribution.8 The theory here is that if you received a trust distribution net of foreign income taxes paid, what you should really report on your U.S. income tax return is the gross amount of the income (the distribution received plus the allocable foreign income taxes paid) as your income, then you should take a foreign tax credit for the flow-through of foreign income taxes paid. But we are using the default method of calculating tax, because we have no trust accounting records. We do not know how much money the trust paid in foreign income taxes. So put zero on this line.
• Line 5 is addition. You know what to do.
• Line 6 is another situation where you will write in a zero. If you were fortunate enough to know whether a trust distribution contained tax-exempt interest income, you would be putting a number in here. But you don’t have this information, by assumption. Trust accounting records are lacking.
• Line 7 is subtraction.
• Line 8 asks for the number of years in which the amount is deemed to have been distributed. For a foreign trust, this is the total number of years that the trust has been a foreign trust. It is the same number that you wrote on Form 3520, Line 32.
• Line 9 is a division problem. You are computing the annual accumulation distribution over the life of the foreign trust.
• Line 10 is useless to us. This computation is used in Line 11. But Line 11 does not have any special magic for foreign trusts, so the Line 10 result will mean nothing to you. Write the number in. It will make some Revenue Agent happy to see it.
• Line 11 will be the same number as Line 8. The number of years for which the accumulation distribution rules apply is the number of years that the trust has been a foreign trust.
• Line 12 will be the same amount as Line 9. It would be possible to get a different number if this were a domestic trust, but the rules for foreign trusts are unfortunately quite simple.
• Line 13 requires you to get your hands on the trust beneficiary’s income tax returns for the five years preceding the year for which you are doing all of this work. Write in the taxable income for each year.
• Line 14 asks you to toss out the high and low years from Line 13, and write in the taxable income for each of the remaining years. Don’t forget to write the years at the top of the column for Line 14.
• Line 15 is easy. Take the amount from Line 12 and write it in columns (a), (b), and (c).
• Line 16 is an addition problem. The result is what the trust beneficiary’s taxable income would have been if a trust distribution had been made in that year. The total on Line 16 is the taxable income as originally reported, plus the Line 12 amount which is a “pretend” trust distribution.
• Line 17 requires you to get your hands on the Tax Tables or Tax Rate Schedule for the year in question, and recalculate the new income tax based on the Line 16 recomputed taxable income amount.
• Line 18 is the original income tax liability from the year in question.
• Line 19 is the difference between the income tax liability originally reported and the recomputed income tax liability based on the Line 16 income amount. This shows the income tax effect of adding the Line 12 amount into taxable income in the year in question.
• Line 20 requires you to play around with tax credits. Increasing the taxable income for the year may have an effect on allowable tax credits. Because this lesson is all about trust distributions of accumulated income I will cheerfully punt on this line and assume a zero goes here.
• Line 21 is a subtraction problem. You can do it!
• Line 22 is where you play with the alternative minimum tax consequences of increasing the trust beneficiary’s taxable income. Again, I cheerfully glide past this vexing problem because I am talking about accumulation distributions, not the alternative minimum tax.
• Line 23 is an addition problem.
• Line 24 is the sum of Line 23, columns (a), (b), and (c). This is the total additional tax deemed paid over the three years in question because of the accumulation distribution that was deemed received in those three years.
• Line 25 asks you to divide Line 24 by 3. We arrive at the average additional income tax liability attributable to the accumulation distribution.
• Line 26 is where you finally (!) compute the income tax attributable to the accumulation distribution. Multiply Line 25 by the number of years that the foreign trust has been in existence (Line 11) and you get the income tax.
• Line 27 is where you bring back the foreign income taxes paid–the amount you wrote on Line 4. Since we had no trust accounting records (by assumption), we put zero on Line 4. Put zero on Line 27 as well.
• Line 28 is your ending number. This is the tax on the accumulation distribution.

Step 7: Compute Interest on the Accumulation Distribution Tax

You do not report the accumulation distribution tax on Form 1040, despite what the Instructions to Form 4970 say.

Take your calculated number on Line 28 of Form 4970 and go back to Form 3520. We are now going to complete Form 3520, Part III, Schedule C to compute the interest charge on the accumulation distribution tax.

• Form 3520, Line 49 is where you write in the accumulation distribution tax you computed on Form 4970, Line 28.
• Form 3520, Line 50 is the same as Form 3520, Line 12. This is the “applicable number of years” of the trust.
• Form 3520, Line 51 directs you to the Instructions to Form 3520. There you will find a table with two columns. In the left column, find the number you wrote on Form 3520, Line 50. Then take the corresponding number from the right column of that table and write the number on Form 3520, Line 51.
• Form 3520, Line 52 is a multiplication problem. This is the interest charge on the accumulation distribution. This, my friend, is the amount of money the IRS thinks they need to charge you to equalize present value and future value and take the economic incentive away from a trustee to accumulate income inside a foreign trust.
• Form 3520, Line 53 is the grand finale. Add the computed tax (Form 3520, Line 49) to the interest charge (Form 3520, Line 52).

The Line 53 amount goes to Form 1040, Line 60 (Other Taxes). Write “ADT” on the line.

Step 8: Form 4970 attaches to Form 3520; file everything

File everything with the IRS. Form 4970 attaches as a worksheet to Form 3520 to show your work in computing the tax on the accumulation distribution.

Fideicomiso question and Form 3520

An inquiry from a reader:

Mr. Hodgen, After the release of both IRS forms 3520 & 3520-A instructions, is there a conclusion that a grantor of a trust using their own property (fideicomiso) has to treat the uncompensated use of trust property as a loan/distribution? After reading both forms instructions there appeared to be a note excluding this??? I guess I just have a hard time reading there instructions and what they mean. Thank you for your time, I appreciate your blogs and all your input! Would you reply on your blog to this?

Yes it is a trust distribution. Dumb result, right? Use your own property and have a trust distribution?

The bank that runs your fideicomiso does nothing, accepts responsibility for nothing, etc. This should more properly be ignored or treated as a nominee arrangement.

The IRS will be coming out with a pronouncement specifically about this. It will be coming in the “real soon now” time frame. My guess is you aren’t going to like what the IRS says.

Clean up your 3520 and 3520-A problems now.

Oh. And greetings from Kayenta, AZ.

Form 3520-A filing deadline is March 15, 2011

For those of you who must file Form 3520-A, a quick heads-up.  Your filing deadline is almost certainly going to be March 15, 2011.

There are two things that must exist for Form 3520-A to be required:

• A foreign trust; and
• A U.S. “owner” of the foreign trust.

Neither of these items is necessarily intuitively obvious.

Drastic penalties are incurred for being late.  I will leave the editorial comments for another day.

Target Number 1:  Fideicomiso

Typical scenario where this form is required and the innocent American taxpayer has no ****-ing clue:

Schoolteacher saves for years.  Retires.  Buys a condominium in Baja California.  The condominium is owned through a Mexican trust called a “fideicomiso” because the Mexican constitution says that foreigners aren’t allowed to own real estate too close to the coastline.

This is a “foreign trust” and you have filing requirements with the IRS.  Form 3520-A is one of them.

Target Number 2:  foreign IRA-like accounts

Typical scenario #2 where this form is required and the innocent American taxpayer has no ****-ing clue:

U.K. citizen sticks money into an ISA for years and years.  Immigrates to the United States. Guess what? That ISA is a “foreign trust” and Form 3520-A (and perhaps other things) will be required in the USA for tax purposes.

Australian citizen sticks money into a superannuation account. Immigrates to the United States. Same result: Form 3520-A and maybe other stuff will be required.

For those of you who aren’t from the U.K. or Australia, these accounts are just like the U.S. Individual Retirement Account.

Canadians have a similar type of account called an RRSP. Fortunately for them, there is a specific ruling by the IRS that says “You don’t have to file the foreign trust paperwork for your RRSP.”  There is no equivalent specific ruling for ISAs or superannuation accounts or other similar types of accounts from other countries.

Memo to all personnel

What you think is not a trust? It might be a trust.

What you think is a trust but is not a foreign trust? It might be foreign.

Our IRS Commissioner sees himself as the Chief Debt Collector for the United States government.  A correspondent of mine reports on a meeting in Washington, DC with Mr. Shulman in which the following exchange occurred:

When it was stated to Schulman that FATCA would be a hindrance to exports, his answer was that he was only responsible for collecting revenue, not for other issues.

Oooookay.

EB-5 Visa Seminar 21 October 2010 — I’m Speaking

I am going to be a speaker at a session tomorrow morning in downtown Los Angeles organized by Angeline Chen.  This is for the EB-5 visa (“Invest a bunch of money, get a green card”).  I will be talking about tax stuff, as usual.  I will post my handout in a separate blog post.  I’m not SO technically hip that I can get a JPG and a Keynote presentation into a single blog post using MarsEdit.  :-)

EDIT:  You can see that I am completely un-hip because I can’t make the text wrap around the image.  But you can download my presentation materials (PDF) here if you want to.  I couldn’t be bothered using Slideshare.

In case the image is too small, the event will be at Cafe Metropol, 923 East Third Street, Los Angeles, CA 90013.  Kickoff time is 9:40 a.m.  I’m one of the early speakers.

Show up if you’re in downtown L. A. tomorrow!