If you need help with FBAR filings, please do not hesitate to contact us.

Q. What is an FBAR?

A. An FBAR is a Report of Foreign Bank and Financial Accounts. The form number is TD F 90-22.1 (PDF).

Q. Who must file an FBAR?

A. Any United States person who has a financial interest in or signature authority or other authority over any financial account in a foreign country, if the aggregate value of these accounts exceeds $10,000 at any time during the calendar year. See also Notice 2010-23.

Q. What is a foreign country?

A. A “foreign country” includes all geographical areas outside the United States, the commonwealth of Puerto Rico, the commonwealth of the Northern Mariana Islands, and the territories and possessions of the United States (including Guam, American Samoa, and the United States Virgin Islands).

Q. What is a United States person?

A. “United States person” includes a citizen or resident of the United States, a domestic partnership, a domestic corporation, and a domestic estate or trust. See Announcement 2010-16.

Q. Is a single-member LLC, which is a disregarded entity for U.S. tax purposes, a United States person for FBAR purposes?

A. Yes, the tax rules concerning disregarded entities do not apply with respect to the FBAR reporting requirement. FBARs are required under Title 31, not under any provisions of the Internal Revenue Code.

Q. What constitutes signature or other authority over an account?

A. A person has signature authority over an account if such person can control the disposition of money or other property in it by delivery of a document containing his or her signature (or his or her signature and that of one or more other persons) to the bank or other person with whom the account is maintained. Other authority exists in a person who can exercise power that is comparable to signature authority over an account by direct communication to the bank or other person with whom the account is maintained, either orally or by some other means.

Q. Is a U.S. resident with power of attorney on his elderly parents’ accounts in Canada required to file an FBAR, even if the resident never exercised the power of attorney?

A. Yes, if the power of attorney gives the U.S. resident signature authority, or other authority comparable to signature authority, over the financial accounts. Whether or not such authority is ever exercised is irrelevant to the FBAR filing requirement. See Notice 2010-23 for information regarding an extended due date to report signature authority over a foreign financial account.

Q. How do filers report their accounts to the IRS?

A. Filers report their foreign accounts by (1) completing boxes 7a and 7b on Form 1040 Schedule B, box 3 on the Form 1041 “Other Information” section, box 10 on Form 1065 Schedule B, or boxes 6a and 6b on Form 1120 Schedule N and (2) completing Form TD F 90-22.1 (PDF).

Q. When is the FBAR due?

A. The FBAR is due by June 30 of the year following the year that the account holder meets the $10,000 threshold. The granting, by IRS, of an extension to file Federal income tax returns does not extend the due date for filing an FBAR. Filers cannot request an extension of the FBAR due date. See also Notice 2010-23. If a filer does not have all the available information to file the return by June 30, they should file as complete a return as they can and amend the document when the additional or new information becomes available.

Q. What happens if an account holder is required to file an FBAR and fails to do so?

A. Failure to file an FBAR when required to do so may potentially result in civil penalties, criminal penalties or both. If you learn you were required to file FBARs for earlier years, you should file the delinquent FBAR reports and attach a statement explaining why the reports are filed late. No penalty will be asserted if the IRS determines that the late filings were due to reasonable cause. Keep copies of what you send for your records.

Q. Can cumulative FBAR penalties exceed the amount in a taxpayer’s foreign accounts?

A. Yes, under the penalty provisions found in 31 U.S.C. 5314(a)(5), it is possible to assert civil penalties for FBAR violations in amounts that exceed the balance in the foreign financial account.

Q. How long should account holders retain records of the foreign accounts?

A. Records of accounts required to be reported on an FBAR must be retained for a period of five years. Failure to maintain required records may result in civil penalties, criminal penalties or both.

Q. Does more than one form need to be filed for a husband and wife owning a joint account?

A. No, provided that the names and Social Security numbers of the joint owners are fully disclosed on the filed FBAR. A spouse having a joint financial interest in an account with the filing spouse should be included as a joint account owner in Part III of the FBAR. The filer should write “(spouse)” on line 26 after the last name of the joint spousal owner. If the only reportable accounts of the filer’s spouse are those reported as joint owners, the filer’s spouse need not file a separate report. If the accounts are owned jointly by both spouses, the filer’s spouse should also sign the report. It should be noted that if the filer’s spouse has a financial interest in other accounts that are not jointly owned with the filer or has signature or other authority over other accounts, the filer’s spouse should file a separate report for all accounts including those owned jointly with the other spouse.

To begin, it should be determined when a person is a non-resident alien. A nonresident alien is an alien who has not passed the green card test or the substantial presence test. The green card test determines whether you are a Lawful Permanent Resident of the U.S. at any time during the calendar year. A U.S. Lawful Permanent Resident has been given the privilege through U.S. immigration law to reside permanently in the U.S. as an immigrant. Usually the resident alien has been issued an alien registration card (Form I-551) also known as a “green card.”

When is the Non-Resident Alien Obligated to File a U.S. Tax Return?

A nonresident alien must file: (1) if he or she is engaged or considered to be engaged in a trade or business in the United States during the year. (Filing is required even if the income did not come from a trade or business conducted in the United States; there is no income from U.S. sources; or the income is exempt from income tax.); (2) a nonresident alien individual not engaged in a trade or business in the United States with U.S. income that was not previously withheld at the source of payment; (3) a representative or agent responsible for filing the return of an individual described in (1) or (2); (4) a fiduciary for a nonresident alien estate or trust, or (5) a resident or domestic fiduciary, or other person, charged with the care of the person or property of a nonresident individual may be required to file an income tax return for that individual and pay the tax.

The non-resident alien must also file a U.S. tax return to claim a refund, deductions or tax credit benefits.

Which Income Should the Non-Resident Alien Report?

The non-resident alien’s income that is subject to U.S. tax is divided into two categories: (1) income that is Effectively Connected with a U.S. trade or business; or (2) U.S. source income that is Fixed, Determinable, Annual, or Periodical (FDAP). Effectively Connected Income, after allowable deductions, is taxed at graduated rates, which is similar to U.S. citizens and residents. FDAP income is taxed at a flat 30 percent (or a lower rate if there is an appropriate treaty between the U.S. and the foreign nation), but no deductions are allowed against such income.

If you have any questions tax reporting of non-resident aliens, please feel free to contact us.

The IRS considers business owners self-employed if they are a sole proprietor (including an independent contractor), a partner in a partnership, an LLC member (whether single or multi-member LLC’s), or are otherwise in business for themselves. If you had net earnings from self-employment of $400 or more, you generally must pay self-employment taxes. The amount subject to self-employment tax is 92.35% of your net earnings from self-employment. “Net earnings” are your gross income subtracted by ordinary and necessary trade or business expenses. The 13.3% self-employment tax rate stated above consists of 10.4% for Social Security and 2.9% for Medicare. Lastly, in 2011 only the first $106,800 of your income is subject to self-employment tax.

Sounds great, right? Well, in comes the case of David E. Watson, P.C. v. U.S., No 11-1589 (8th Cir. February 21, 2012). The Eighth Circuit determined reasonable compensation is necessary in closely held S corporations for FICA tax purposes.

FICA taxes refers to the Federal Insurance Contribution Act, which includes both Social Security and Medicare taxes. David Watson (“Watson”) was a certified public accountant with approximately 20 years of experience. Watson would eventually become a 25% partner in a Des Moines based accounting firm (the “Firm”). Watson incorporated as David E. Watson, P.C. (the “Corporation”; Watson was the sole shareholder, director, and officer), an S Corp, and held his partnership interest as the Corporation. Watson classified himself as an employee of the Corporation and in each of 2002 and 2003, the Corporation provided compensation to Watson in the amount of $24,000. Watson also received distributions from the Corporation (originally distributions from the Firm) equal to $203,651 in 2002 and $175,470 in 2003.

The IRS determined that the Corporation underpaid certain FICA taxes for 2002 and 2003. Consequently, the IRS used Revenue Ruling 74-44, 1974-1 CB 287, which allows the IRS to re-characterize dividend distributions to a shareholder-employee when such distributions are received in lieu of wages. The Eighth Circuit addressed both the classification of distributions to a shareholder-employee, and the quantification of reasonable compensation. The Court looked to the substance of the parties’ transaction, and determined that Watson’s 20 years of accounting experience, the 35 to 45 hours per week that he devoted to the Firm, the Firm’s annual gross earnings of approximately $2 million in 2002 and $3 million in 2003, and that $24,000 annual salary to such an accounting professional was unreasonably low. The Eight Circuit affirmed the district court’s holding that $91,044 per year was reasonable compensation given Watson’s services to the Firm on behalf of the Corporation.

The Court outlined the following factors in determining the reasonableness of compensation paid to such shareholder-employees: (i) the shareholder-employee’s experience and training; (ii) the amount of time the shareholder-employee devotes to the business on a weekly basis; (iii) the gross earnings of the business; (iv) the amount paid to similarly situated employees in analogous industries; and (v) the fair market value of the shareholder-employee’s services.

This is not the first time the issue of reasonableness or recharacterization of S-Corp distributions to employee compensation has been tried or resolved. However, the case did scrutinize a situation where there was compensation paid to a S Corp shareholder/employee as opposed to instances where all income were previously classified as S Corp distributions.

In short, while choosing an S-Corp as a tax planning measure to avoid self-employment tax is a keen idea, do not assume your income will never be subject to FICA taxes. The IRS does have authority to recharacterize s-corp distributions to employee compensation income and assess the FICA taxes accordingly.

If you are interested in learning more about business entity selection, please do not hesitate to contact us.

Under California law, income produced by the trust is subject to California taxation.  The trust itself will be subject to California if:  (1) a trust fiduciary is a resident of California; or (2) a trust beneficiary whose interest in such trust is non-contingent is a resident of California.  What if the trust settlor is not a California resident?  Does not matter; the rule applies regardless of the settlor’s residence.

With regard to determining residence, an individual is deemed to be a resident of California for tax purposes when the individual is: (1) in California for other than temporary or transitory purposes; or (2) domiciled in the state but is outside of the state for temporary or transitory purposes.  The determination for “residency” for corporate fiduciaries is where the corporation performs the majority of its administrative functions with respect to the trust.

California Taxation as a Result of Fiduciaries

A fiduciary that is a California resident makes the trust subject to California taxation.  If there is only one fiduciary, then the entire trust income subject to California taxation; not just an apportioned amount.  In the instance of multiple fiduciaries residing out-of-state, and at least one of the fiduciaries is a California resident, the income taxable to California is apportioned according to the number of fiduciaries who are California residents. For example, a trust with one California fiduciary and two Nevada fiduciaries will cause the one-third of income to be subject to California taxation.

California Taxation as a Result of Trust Beneficiaries

The residence of the trust beneficiaries also determines whether a California reporting obligation exists.  Non-contingent beneficiaries and contingent beneficiaries are key in determining an existing California tax reporting obligation.  Contingent beneficiaries are those beneficiaries that cannot receive trust distributions unless a certain condition is met (example: beneficiary must reach the age of 40 to receive lump sum distribution). Non-contingent beneficiaries do not hold conditions on distributions of income. It is important to note that if trustees can withhold income disbursements to beneficiaries, then those beneficiaries are said to have contingent interests.

When trust distributions are made, which makes contingent interests non-contingent, the trust with a California resident will have a California reporting obligation.  If the trust has multiple beneficiaries, some of which are located out of California, the income is apportioned according to the number and respective interests of beneficiaries that are California residents. To make matters more complicated, special ordering rules apply where a trust has multiple fiduciaries and multiple beneficiaries, some of which are California residents.

Rules for California Reporting Obligation and Penalties for Non-Filing

A California trust is required to file a California income tax return if the trust: (1) has net income from all sources in excess of $100; or (2) has gross income from all sources in excess of $10,000, regardless of the amount of net income. The California Franchise Tax Board can impose failure to file penalties and interest for those non-filers.  Additionally, the statute of limitations is open for collection, meaning the clock does not start on a typical four-year collection deadline.

In conclusion, be sure your tax professional is aware of the instances where an obligation for California reporting exists. The Franchise Tax Board just may sneak up on you.

Officer Compensation: Organizations reporting compensation to officers, directors, individual trustees and key employees must use Schedule J of Form 990.  That has not changed.  However, reporting organizations must not provide a descriptive narrative of payments to related organizations (subsidiaries, brother/sister organizations, management companies, etc.).  This is done to calculate compensation to the related officer, director, key employee, etc. There are a few other narrative description requirements for other types of payments and compensation as well.

Joint Ventures and Investment Partnerships: The revised Form 990 requires organizations to report Schedule K-1 revenues, expenses and assets related to joint ventures and investment partnerships.  Before, the organization could use its own accounting.  This is a big change and could prove burdensome on organization bookkeeping.

Hospitals: Hospital organizations must complete Schedule H to Form 990, but the revision demands much more descriptive requirements for “Needs Assessment,” financial assistance policies, billing and collections policies, and emergency medical care policies.  After 2011, hospital organizations are required to take into account (1) input from persons who represent the broad interests of the community served by the hospital facility in developing a Needs Assessment; (2) Needs Assessments must be made widely available to the community; and (3) each hospital facility will be required to conduct a Needs Assessment at least once every three years.

The revised Form 990 does have further clarifications to prior form language and instructions.  It is important your tax preparer is aware of these changes.

For example, lets say you hired a new employee in 2011 to bring the total amount to 10 employees in your business.  And lets say you had a total of 9 employees in 2010.  You have a surplus of 1 employee for the 2011 tax year.  If you hired the 2011 employee on January 1 and kept the employee through the year, you just got $3,000.00 taken off your taxes.

Some details of the credit:

• Each qualified full-time hourly employee is paid wages for not less than an average of 35 hours per week.
• Each qualified full-time employee that is a salaried employee was paid compensation during the year for full-time employment (defined in Section 515 of the Labor Code; essentially, the employee works at least 40 hours a week).
• The total amount of employees in the prior tax year was 20 or less.
• There is a net increase of employees from the preceding tax year.
• If you started the business in the reporting tax year, the number of prior tax year employees in the equation will be zero.

The last bullet point is important to know.  If you opened your doors in 2011, you could possibly have credits for every full-time employee you hire, including you, the business owner.

Lastly, and astonishingly, California allotted $400 million to the credit starting in 2009, and so far only $76 million has been used.  Yes, the lack of tax credit applications might be reflective of the economy, but it is our belief that not enough taxpayers are aware of the credit.

If you would like to know more about the credit and see if the credit may apply to you, please feel free to contact us.  Consultations are free, of course.

Here are some details on the new law:

1. It is illegal for Willful Misclassification of an individual as an IC. “Willful Misclassification”
means avoiding employee status for an individual by voluntarily and knowingly misclassifying that individual as an independent contractor; and charging willfully misclassified individual a fee or making any deductions from compensation for any purpose.

2. Guilty parties will incur a minimum civil penalty of $5,000 or max $15,000 penalty.

3. Repeat offenders face a minimum $10,000 penalty or a max penalty of $25,000 for each violation.

4. CA Labor Commissioner can issue a determination that a person or employer has violated the statute.

5. Labor Commissioner can assess other specified damages in addition to the penalties discussed above.

6. Labor Commissioner can enforce statute administratively or by civil suit.

7. Guilty parties are required to post a notice on its website (or at the work site if no website exists)
setting forth specified information for a one-year period of time.

8. Licensed contractors in violation can face discipline from their respective licensing authority.

9. Successors can be in violation – i.e. successor liability.

10. Joint and several liability for workers requesting IC status, although truly an employee.

If you have any questions regarding this new statute and how to avoid violations, please fee free to contact us.

The 2012 version of the OVDP has some changes (no deadline!). Here are a few: (1) Yes, no deadline, but the IRS states this can change and penalties might be increased; (2) If the taxpayer came forward from the previous OVDP programs, the taxpayer will be grandfathered in and qualifies under the new 2012 OVDP provisions; (3) Here it is: The penalty is 27.5% on the highest aggregate balance (foreign bank accounts, entities or assets) during the eight years before disclosure, up from 25% in 2011 and 20% in 2009. However, the 2011 reduced penalties of 5% and 12.5% remain (5% in limited situations, 12.5% if assets do not exceed $75k in any calendar year); (4) Participants must file all original and amended tax returns and include payment for eight years of back-taxes and interest in addition to accuracy-related and/or delinquency penalties. And, of course, taxpayers must file their FBARs; and (5) Taxpayers can still elect to proceed outside the program. Why would you? Because the treatment may be unfair or the penalties may be excessive. Opting out may cause for future audit. Even so, there may be more flexibility with taxpayer rights (audit defense, appeals, etc.) and procedural hoops the IRS has to go through once it makes assessments.

If you would like to participate in the OVDP program, need defense in an audit or IRS assessment for a like situation, or need assistance with Foreign Bank Account Reporting (FBAR). We can help, and the consultation is free. Please feel free to contact us.

There are many nuances in the law, which cause for certain health benefits to not be subject to reporting: amounts contributed to any Archer MSA (as defined in § 220(d)) or any health savings account (as defined in § 223(d)) of an employee or an employee’s spouse. Section 6051(a)(14) also does not apply to the amount of any salary reduction contributions to a health flexible spending arrangement (within the meaning of §§ 106(c)(2) and 125).

Here is a quick question and answer from IRS Notice 2012-9:
“Q-3: What employers are subject to the reporting requirement under § 6051(a)(14)?
A-3: Except as provided in this Q&A-3, all employers that provide applicable employer-sponsored coverage (see Q&A-12) during a calendar year are subject to the reporting requirement under § 6051(a)(14). This includes employers that are federal, state and local government entities, churches and other religious organizations, and employers that are not subject to the COBRA continuation coverage requirements under § 4980B, to the extent such employers provide applicable employer-sponsored coverage under a group health plan.  Employers that are Federally recognized Indian tribal governments are not subject to the reporting requirements of § 6051(a)(14).”