Final regulations have been issued by the IRS on the requirements for certain domestic entities under IRC §6038D to report specified foreign assets to the IRS in TD 9752.
Individuals have been reporting such assets under the same IRC provision on Form 8938, “Statement of Specified Foreign Assets” but the requirements for certain entities to file these forms were delayed pending final regulations.
The law provides that some, but not all, entities must file this form. Specifically IRC §6038D(f) provides:
(f) Application to certain entities
To the extent provided by the Secretary in regulations or other guidance, the provisions of this section shall apply to any domestic entity which is formed or availed of for purposes of holding, directly or indirectly, specified foreign financial assets, in the same manner as if such entity were an individual.
Originally the proposed regulations had provided for a pair of tests to determine if an entity was “formed or availed of for purposes of holding” such assets. An entity would come under IRC §6038D(f)’s reporting requirements if it either had more than 50% passive income/assets or 10% of the assets were passive and it was formed with the principal purpose of avoiding reporting under this provision.
The final regulations eliminated the principal purpose test. The IRS explained:
The Treasury Department and the IRS believe that a 50-percent passive assets or income threshold appropriately captures situations in which specified individuals may use a domestic corporation or partnership to circumvent the reporting requirements of section 6038D. Furthermore, the Treasury Department and the IRS have concluded that taxpayers should be able to determine their reporting requirements under section 6038D based on objective requirements rather than a subjective principal purpose test. Therefore, these final regulations eliminate the principal purpose test for determining whether a corporation or partnership is a specified domestic entity. However, the Treasury Department and the IRS will continue to monitor whether domestic corporations and partnerships not required to report under these final regulations are being used inappropriately by specified individuals to avoid reporting under section 6038D. If needed, the Treasury Department and the IRS may expand the definition of a specified domestic entity in future guidance.
Under Reg. §1.6038D-6(b)(1)(ii) the “50% asset test” is computed as follows:
…[T]he percentage of passive assets held by a corporation or partnership for a taxable year is the weighted average percentage of passive assets (weighted by total assets and measured quarterly), and the value of assets of a corporation or partnership is the fair market value of the assets or the book value of the assets that is reflected on the corporation's or partnership's balance sheet (as determined under either a U.S. or an international financial accounting standard).
Passive income is generally defined in a fashion that is the same as that found in IRC §1472. Specifically passive income includes [Reg. §1.6038D-6(b)(3)(i)]:
(A) Dividends, including substitute dividends;
(C) Income equivalent to interest, including substitute interest;
(D) Rents and royalties, other than rents and royalties derived in the active conduct of a trade or business conducted, at least in part, by employees of the corporation or partnership;
(F) The excess of gains over losses from the sale or exchange of property that gives rise to passive income described in paragraphs (b)(3)(i)(A) through (b)(3)(i)(E) of this section;
(G) The excess of gains over losses from transactions (including futures, forwards, and similar transactions) in any commodity, but not including --
(1) Any commodity hedging transaction described in section 954(c)(5)(A), determined by treating the corporation or partnership as a controlled foreign corporation; or
(2) Active business gains or losses from the sale of commodities, but only if substantially all the corporation or partnership's commodities are property described in paragraph (1), (2), or (8) of section 1221(a);
(H) The excess of foreign currency gains over foreign currency losses (as defined in section 988(b)) attributable to any section 988 transaction; and
(I) Net income from notional principal contracts as defined in § 1.446-3(c)(1).
Reg. §1.6038D-6(b)(3)(ii) contains a special that exempts, in certain cases, such income from the definition of passive income for qualifying dealers.
The entity reporting provisions apply to years beginning after December 31, 2015.