Editor: Greg A. Fairbanks, J.D., LL.M.
In August 2008, the IRS began sending "soft" letters to corporate taxpayers warning that beginning in 2009, the Service would automatically assert penalties on any late-filed Forms 1120, U.S. Corporation Income Tax Return, that include a Form 5471. Form 5471, Information Return of U.S. Persons with Respect to Certain Foreign Corporations, is required for certain U.S. persons who are officers, directors, or shareholders of controlled foreign corporations. (For more on preparing Form 5471, see Jacobs and Pasmanik, "Tips for Preparing the Form 5471 for Controlled Foreign Corporations," p. 114.)
Penalty ExposureThe penalties involved can be quite substantial. Sec. 6651(a)(1) provides a monthly penalty of 5% of the tax required to be shown on the return up to 25% for failure to file an income tax return (including a Form 1120) by the due date. For the Sec. 6651(a)(1) penalty to apply, a tax must be due.
In addition, Sec. 6038(b)(1) provides for a $10,000 monetary penalty for each Form 5471 filed after the due date of the income tax return (including extensions). This penalty also applies if the return does not include the complete and accurate required information. In addition to the monetary penalty, Sec. 6038(c) imposes a 10% reduction of the foreign taxes available for credit under Secs. 901, 902, and 960 for a late Form 5741. A tax need not be due for the penalty under Sec. 6038(c) to apply.
Reasonable CauseCorporate taxpayers can ask for reasonable cause relief from the IRS for such late filings. It is not entirely clear what impact this new approach of automatic penalties will have on the IRS's consideration of reasonable cause requests for late-filed Forms 5471. The applicability of the reasonable cause exception to a penalty is determined on a case-by-case basis after all relevant facts and circumstances are taken into account.
Things to Come?The new IRS policy on late-filed Forms 5471 could be an indication of even more automatic foreign information return penalties to come. The IRS may be considering automatically imposing penalties on noncorporate taxpayers (i.e., partnerships and individuals) who fail to timely file Form 5471. The Service also could be considering this approach for other foreign information reporting forms that a taxpayer does not file timely or properly complete. These forms could include Form 5472, Information Return of a 25% Foreign-Owned U.S. Corporation or a Foreign Corporation Engaged in a U.S. Trade or Business, Form 8858, Information Return of U.S. Persons with Respect to Foreign Disregarded Entities, and Form 8865, Return of U.S. Persons with Respect to Certain Foreign Partnerships.
ConclusionThis new IRS penalty policy is a departure from past practices. Although the IRS has always had the authority to impose penalties in these situations, it had not been its administrative practice to automatically impose penalties as a matter of course. Accordingly, taxpayers should review their entity structures to ensure that all required Forms 5471 (and other foreign information reporting returns) are being properly filed.
Greg A. Fairbanks, J.D., LL.M., is a tax manager with Grant Thornton LLP in Washington, DC.
For additional information about these items, contact Mr. Fairbanks at (202) 521-1503 or firstname.lastname@example.org.
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