In a December 2016 post, Foreign Owned Domestic Disregarded Entities Must Report Under New Regs. we discussed that the IRS has now issued final regulations and they treat a domestic disregarded entity wholly owned by a foreign person as a domestic corporation separate from its owner, but only for the reporting, record maintenance and associated compliance requirements that apply to 25% foreign-owned domestic corporations under Code Sec. 6038A.
These changes were intended to provide IRS with improved access to information that it needs to satisfy its obligations under U.S. tax treaties, tax information exchange agreements and similar international agreements, as well as to strengthen the enforcement of U.S. tax laws. TD 9796, 12/12/2016; Reg. § 1.6038A-1, Reg. § 1.6038A-2, Reg. § 301.7701-2. These regulations are effective December 13, 2016.
For Tax Years Beginning After December 31, 2017,
The TCJA Act Increased The Penalty To $25,000 From $10,000
For Each Return That Must Be Filed.
For US tax purposes, a limited liability company (LLC), that has a single owner (Single Member LLC, or SMLLC) and is not classified as a corporation is generally disregarded as separate from its owner (a Disregarded Entity). The economic activities of the SMLLC are attribute to the owner of the LLC for tax purposes, as if the LLC did not exist.
This concept allowed a foreigner to use a SMLLC to conduct certain economic activities in an “anonymous” manner prior to TCJA 2017.
Foreigners have traditionally used SMLLCs to do the following activities, without having to declare anything in the United States:
- Maintain bank accounts in the United States in the name of a company, yet with the same tax benefits as an individual investor.
- Conduct international trading business using the United States as a hub.
- Hold property with limited personal liability and without publishing the name of the final beneficiary in public records.
- Legally compartmentalize a series of financial and/or real estate investments in different entities without creating a new taxpayer for each separate investment.
- Being a subsidiary of a foreign company doing any of the activities previously mentioned, etc.
In preparation for exchanging more information with other countries, at the end of 2016 Congress revised the law so that SMLLCs were no longer considered transparent for purposes of reporting on their international transactions and foreign ownership. Beginning with the 2017 tax year, SMLLCs with foreign owners and reportable transactions needed to:
- Apply for a taxpayer number, for which it may be necessary that the ultimate beneficial owner list their taxpayer number (ITIN) or apply for one.
- Identify and report the LLC’s direct and indirect foreign owners, including the ultimate beneficial owner(s).
- Break down “reportable” transactions between the LLC and its owner(s) and/or other “related parties.”
- Report the total value of the LLC’s assets.
- Maintain books and records subject to audit.
Foreign-owned Corporations were already subject to filing form 5472, and the requirements for SMLLCs are basically the same with one important exception. The definition of “reportable transactions” was expanded for SMLLCs to include not only things such as payments and loans, but also capital contributions and distributions. Therefore, it can easily be that Form 5472 and the corresponding information will have to be presented by each SMLLC every year.
The civil penalty for failing to file a Form 5472, even if the non-filing was unintentionally, was increased from $10,000 for the 2017 fiscal year to $25,000 in 2018.
The penalty is also applied whenever an incomplete, or late form is filed. Because a separate form 5472 is required for each “related party” in each year that there is a reportable transaction, the penalty can easily multiply for each transaction which the SMLLC has with each “related party.” In addition, failure to maintain updated books to verify transactions constitutes an additional $25,000 penalty.
Both penalties increase by $25,000 each month that non-compliance continues in case the breach is not resolved within 90 days after the tax authority sends the notice of a penalty. If the LLC does not pay the penalty, the tax lien could be extended to the assets of the LLC even if they are transferred to another owner and in some cases, be enforceable against the owners of the LLC.