Maximum account value determination for trust beneficiaries for FinCen Form 114

A U.S. beneficiary of a foreign nongrantor trust may be required to report the beneficial interest on the dreaded FBAR form -- FinCen Form 114. This blog post is designed to help you figure out the "maximum account value" that you put on Form 114 if you have to file it.

Filing FinCen Form 114

A U.S. person must tell the U.S. government about foreign financial assets on FinCen Form 114. This is the dreaded FBAR and I assume that readers of this blog know about the form. I also assume that readers have an opinion about the form, too. :-)

The legal authority for this is found at 31 U.S.C. Section 5314. The reporting requirement is stated in 31 C.F.R. Section 1010.350(a), which reads (in relevant part) as follows:

Each United States person having a financial interest in, or signature or other authority over, a bank, securities, or other financial account in a foreign country shall report such relationship to the Commissioner of Internal Revenue for each year in which such relationship exists and shall provide such information as shall be specified in a reporting form prescribed under 31 U.S.C. 5314 to be filed by such persons. The form prescribed under section 5314 is the Report of Foreign Bank and Financial Accounts (TD-F 90-22.1), or any successor form.

I will skip over the definition of U.S. person. Let's assume you have one of these. What is left is a simple if/then statement: "IF you have a financial interest in (a sludgy bureaucratic string of definitions) THEN you have to report whatever the form requires you to report."

The key understanding here: if you determine that you have a reporting requirement, the question of WHAT you report is entirely up to the Commissioner of Internal Revenue. Translation: bureaucratic whim.

The form we are talking about, of course, is FinCen Form 114.

Nongrantor Trusts and FinCen Form 114

If you are a beneficiary of a nongrantor trust and that trust has a foreign account of some kind, you may have a "financial interest" in a foreign "financial account." Since everyone having a "financial interest" in a foreign "financial account" must report this relationship on FinCen Form 114, you are going to be adding yet another item to your annual tax reporting paperwork burden.

The Regulations tell us you have a "financial interest" at 31 C.F.R. Section 1010.350(e)(2)(iv), which says:

A United States person has a financial interest in each bank, securities or other financial account in a foreign country for which the owner of record or holder of legal title is . . . . [a] trust in which the United States person either has a present beneficial interest in more than 50 percent of the assets or from which such person receives more than 50 percent of the current income.

Note what this is saying.

First, look at the name of the entity that owns a bank, securities, or other financial account in a foreign country. It's a trust.

Then look at what the trust owns. If it owns an account of the type that is normally reported on the FBAR form, you are going to have to do some more figuring out of stuff. If the trust owns something that is not reportable on the FBAR form, you don't worry any further.

Finally, we look at you, the beneficiary. Is your beneficial interest is big enough, you have to report the "financial interest" on your FBAR. If your beneficial interest in the trust is too small, you do not have to report the "financial interest" on your FBAR.

There are two thresholds. If you pass either, you must file the FBAR and report the "financial interest" that you hold indirectly via the trust. These thresholds are similar to the rules for corporations: if you own too much stock (more than 50%) then you trigger financial reporting for the corporation's foreign bank accounts. There is nothing terribly sinister here.

Threshold #1

The first threshold is that you, the beneficiary, have a present beneficial interest in more than 50% of the trust assets.

I leave the very interesting follow-up question to you. What if, as with every foreign nongrantor trust I have ever seen, the trustee has absolute discretion in making distributions among a defined class of beneficiaries?

What's your "present beneficial interest" in the trust? What if you ask the trustee a series of questions so you can honestly answer the question on Form 114? The trustee might tell you to go stick your nose in a dead bear's bum, citing privacy and confidentiality and all that fun stuff.

Threshold #2

The second threshold is whether you, the beneficiary, receive more than 50% of the current income of the trust.

This, too, gives us a series of brain teasers. Does this mean actual receipt of the current income? Or hard-wired mandatory distribution rules requiring distribution of current income? I assume the Regulations mean both.

If the trust has two beneficiaries with mandatory annual distribution of current income (heh--such a foreign trust is truly the Unicorn of Trusts, found only in examples in the Treasury Regulations), you fail this threshold. You have exactly 50% of the current income.

On the other hand, if you are the only beneficiary of a discretionary trust and you receive occasional distributions from the trustee, probably every year that you receive a distribution you will satisfy this requirement for FBAR purposes. But you don't know for sure, because you don't know whether the distribution is current income or not.

And yes, the trustee might tell you enough for you to figure this out. Or the trustee might not, inviting you instead to insert your olfactory apparatus into the aforementioned deceased ursine's digestive system exhaust portal. It happens.

You pass the threshold

Let's say that you figure out some way that you pass the thresholds, so you have a "financial interest" in the "financial accounts" owned by the trust.

Or let's say (as often happens) that you do a quick cost/benefit analysis and assume that the risks favor oversharing of information with the IRS. Better to tell them too much than too little, because the penalties for under-sharing are approximately the same as financial amputation and there are no penalties for over-sharing.

(Did George Washington and Thomas Jefferson anticipate the government we have today, and its imperiously-imposed penalties? But I digress.)

What is reported?

What you are reporting on the Form 114 is not your beneficial interest in the trust. You are reporting the fact that you have a financial interest in a financial account that is owned by the trust.

Going back to 31 C.F.R. Section 101.350(e)(2):

A United States person has a financial interest in each bank, securities or other financial account in a foreign country for which the owner of record or holder of legal title is [a trust in which the person is a beneficiary].

And we know that the general rule is that the thing to be reported is the "financial interest" in the foreign financial account. 31 C.F.R. Section 1010.350(a) says:

Each United States person having a financial interest in, or signature or other authority over, a bank, securities, or other financial account in a foreign country shall report such relationship to the Commissioner of Internal Revenue. . . .

The phrase "such relationship" refers back to having a financial interest in the account.

This means that the only thing the beneficiary reports on Form 114 is the trust-owned financial account.

As an example, let's say the trust has two assets: an apartment building and a bank account to collect the rent and pay the expenses. The U.S. beneficiary will report a financial interest in the bank account only. The apartment building is not a "financial account" so does not go on FinCen Form 114.

At what value?

Finally (!) we come to the whole point of this blog post. (Inspired by a question from Marina H., by the way.)

The U.S. person is a beneficiary of a trust, and has a large enough beneficial interest to trigger the reporting requirement on FinCen Form 114. The trust has a financial account.

What is the maximum account value that the person lists on FinCen Form 114?

The Regulations do not discuss the question of value. The valuation reporting requirement is one of those things that 31 C.F.R. Section 1010.350(a) left to the tender loving mercies of the Commissioner to determine and specify on the form.

The Instructions for FinCen Form 114 (warning: PDF) are spectacularly unhelpful (see Page 10 of the Instructions):

Step 1. Determine the maximum value of each account (in the currency of that account) during the calendar year being reported. The maximum value of an account is a reasonable approximation of the greatest value of currency or nonmonetary assets in the account during the calendar year. Periodic account statements may be relied on to determine the maximum value of the account, provided that the statements fairly reflect the maximum account value during the calendar year. For Item 15, if the filer had a financial interest in more than one account, each account must be valued separately. For an account denominated in U.S. Dollars, the maximum value of the account is the largest U.S. Dollar value of the account during the report year.

My opinion is that the government is asking about your relationship with an account. They are not asking about how much that account means to your personal wealth. Therefore you must report the maximum value of the account, not the maximum value of your financial interest in the account.

This is just like the reporting requirement where you have signature authority (but not financial interest) in an account. You report the value of the account.

The real problem that humans (taxpayers and those of us--like Marina H.--who try to shield them from GovBot-inflicted damage) face is getting data.

We are back to the trustee cooperation problem. Will the trustee happily reveal the maximum account balance for the year? Or is this a "It doesn't smell exactly like a rose to me; are you sure, Dear Trustee, that I should be sticking my nose here?" situation again?

If you cannot get any information from the trustee, what are you going to do? I think the only thing you can do is operate from the best information you have available. You may have incomplete information about the trust's bank account: you received a wire transfer but beyond the information revealed by that transaction you know nothing. You may be completely unaware of any other accounts the trust owns. You received a wire transfer from a bank account but have no idea that the trust has two other accounts.

I sympathize. This is the world I live in every day.

Bonus brain damage

I leave you a little puzzle for self-inflicted tax-law related brain damage in case you like that kind of thing.

Your client is the sole beneficiary of a foreign nongrantor trust. Its sole asset is a BVI corporation. The BVI corporation has a bank account in a foreign country.

Analyze the reporting and income pass-through requirements for FinCen Form 114, Form 8938, Form 3520, (possibly Form 3520-A), and Form 5471. I will give you a head start: Form 8621 does not apply. You get extra credit if you explain why.