Last week, the IRS released a Revenue Procedure providing certain U.S. citizens and residents with an exemption from information reporting requirements. The Revenue Procedure also permits eligible individuals to request an abatement or refund of penalties assessed for failing to comply with the requirements for filing Forms 3520 and 3520-A.
For many Canadians, this is a welcomed relief. The penalties for failure to comply have been significant, leaving many incurring significant penalties for missteps on U.S. information forms related to items such as Canadian RESPs. The cost of compliance and risk of penalty exposure has been significant enough to force many U.S. citizens and residents to avoid Canadian RESPs altogether.
Previous U.S. Tax Requirements
While there was diversity in practice prior to the new Revenue Procedure, most U.S. tax accountants captured Canadian RESPs under the U.S. grantor trust rules. Under these rules, a Form 3520 and 3520-A were filed annually. A late, incomplete or erroneous form attracts a U.S. $10,000 penalty from the IRS. So, it would not be unusual for a Canadian RESP in which both parents were U.S. residents and the subscribers to have a U.S. $20,000 penalty incurred in a single tax year!
New U.S. Tax Treatment & Conditions
While the proposals are favorable, there is no blanket relief. The exemption from the information reporting requirements apply specifically to tax-favored retirement trusts and tax-favored non-retirement trusts which meet certain conditions.
Tax-Favored Retirement Trusts
In the case of a tax-favored foreign retirement trust, it must be:
- created, organized, or established under the laws of a foreign jurisdiction as a trust, plan scheme, or other arrangement exclusively, or almost exclusively for pension or retirement benefits;
- The trust must be exempt from tax, or tax deferred under the laws of the trust’s jurisdiction;
- Annual information reporting with respect to the trust, or its participants or beneficiaries is provided, or is otherwise available to the relevant tax authorities in the trust’s jurisdiction;
- Only contributions from the performance of personal services are permitted;
- The contributions are limited by a percentage of earned income, or subject to an annual limit of $50,000, or a lifetime limit of $1,000,000 or less; and
- Withdrawals, distributions, or payments from the trust are conditioned upon reaching a certain retirement age, death or disability or a penalty will apply (except withdrawals for certain in-service loans, hardship, education, or the purchase of a main home).
An employer maintained trust meeting certain requirement also qualifies.
Tax-Favored Non-Retirement Trusts
In the case of a tax-favored foreign non-retirement trust, conditions include:
- The trust is generally exempt from tax, or is otherwise tax-favored under the laws of the trust’s jurisdiction;
- Annual information reporting on the trust is provided, or available to the relevant tax authorities in the trust’s jurisdiction;
- Contributions are limited to $10,000 or less annually, or $200,000 or less over the lifetime of the trust; and
- Withdrawals, distributions or payments from the trust are conditioned upon the provision of medical, disability, or educational benefits, or apply penalties to withdrawals, distributions, or payments if conditions are not met.
Eligible Individuals
There are conditions surrounding who is be eligible. For instance, a U.S. citizen, or resident must be compliant (or come into compliance) with all requirements for filing a U.S. federal income tax return covering their period as a U.S. citizen, or resident.
FBAR, FATCA & Income Inclusions
Now, while there is relief from information reporting requirements, these arrangements continue to be subject to other U.S. tax reporting requirements, including FBAR, FATCA and income inclusions, as appropriate.
The trusts must meet specific requirements with respect to taxation in the trust’s jurisdiction, contributions, information reporting and withdrawals.
Provisions for Penalty Abatement and Refund
Perhaps the best part of this Revenue Procedure, is it allows not just for the abatement of certain penalties, but also provides for the possibility of obtaining a refund of penalties already paid.
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Karlene J. Mulraine, EA, CPA, CA, CPA (NH) is the President of Cross-Border Financial Professional Corporation. Follow us on Linkedin and Twitter, or hang out on Facebook.
The views expressed in this article are those of the author and should not be relied on to make decisions. Consider discussing your specific circumstances with an appropriate specialist.