Tax Guide

Taxpayers With Non-Us Corporations Subject to Additional Filing Requirements [2020 Tax Year]

Taxpayers With Non-Us Corporations Subject to Additional Filing Requirements [2020 Tax Year]
Ines Zemelman, EA
15 February 2021

New: Foreign owned Controlled Foreign Corporations (CFC)

The IRS has increased the complexity of Form 5471 over the years. 2020 is no exception. With the new revision of form 5471, certain taxpayers who are 10% or more owners of foreign corporations that were previously not classified as Controlled Foreign Corporation (CFC) are now owners of what is termed Foreign-Owned CFCs.

Due to a change in tax law stemming from the Tax Cut and Jobs Act, a domestic entity (a US partnership, trust, or corporation) owned by a foreign shareholder of a foreign corporation is now deemed to have ownership in the foreign corporation. 

How it works

If the ownership percentage of the domestic entity (owned by foreign shareholder) and the US taxpayer over the foreign corporation exceeds 50%, where otherwise the US taxpayer would not exceed 50% ownership percentage by himself, then the foreign corporation is a Foreign-Owned CFC. 

A US taxpayer who owns 10% or more in such a Foreign-Owned CFC must now file a form 5471 annually. The diagram below illustrates how this works.

EXAMPLE OF FOREIGN-OWNED CFC

FOREIGN-OWNED CFC

Safe harbor rule: lack of information must be in writing

In certain situations, the US taxpayer will find it difficult to acquire information regarding their foreign business partner’s US businesses. Fortunately, there is a safe-harbor under IRS Revenue Procedure 2019-40  that states that as long as the US taxpayer meets two conditions, the US taxpayer can be treated as not owning shares in a Foreign-Owned CFC, and is not required to file form 5471.

Both conditions of the following conditions must be met: 

  1. The U.S. taxpayer does not have actual knowledge, statements received, and/or reliable publicly available information sufficient for the U.S. taxpayer to determine that the foreign corporation is a foreign-owned corporation. This condition is considered met until the time the taxpayer does receive information sufficient to determine that the foreign corporation is a foreign-owned CFC at a later date.
  2. The U.S. taxpayer asks of the foreign corporation the following questions in writing
    1. Is the foreign corporation a Foreign-Owned Controlled Foreign Corporation? i.e. does the foreign owner own a US partnership, trust, or corporation which will cause the foreign corporation to be considered a Foreign-Owned CFC?
    2. Does the foreign corporation directly or indirectly own stock of one or more foreign corporations?
    3. And does the foreign corporation own directly or indirectly stock of, or an interest in, one or more domestic entities (US partnership, trusts, and corporations)?

For the second condition, if questions 2 and/or 3 are answered yes, more detail will need to be provided, such as an organization chart showing ownership percentages. If the answers to the questions reveal that the foreign corporation is not a Foreign-Owned CFC, or if there is no reply from the foreign corporation, then condition two is considered met. If both conditions are met, then the taxpayer is exempt from filing form 5471 annually. Filing of Form 5471 includes properly ascertaining which “category” of filer you are. TFX will handle everything for you during tax prep.

Taxpayers are recommended to also inform the foreign corporation that the foreign corporation may be required to file Form 5471.

Impact on US taxpayers

The US taxpayer should always ask the foreign corporation questions to meet the second condition for safe harbor under Revenue Procedure 2019-40. If it is later determined that the foreign corporation is indeed a Foreign-Owned CFC, then the documentation will provide evidence that the US taxpayer met the second condition for safe harbor.

Ines Zemelman, EA
founder of Taxes for Expats