One of the best ways an expat can prosper in a foreign country is ownership in a company, either through a partnership interest or as a shareholder of the company’s stock. If an overseas partnership is at least 50% owned by U.S. persons, it is considered to be a controlled foreign partnership, which has important tax consequences.
If you have acquired a ten percent (10%) or greater interest in a controlled foreign partnership, you must file an informational tax return with the IRS using Form 8865.
You do not pay taxes when you file Form 8865. The form tracks the earnings and profits of the business, borrowing between the business and the taxpayer, compensation paid to the taxpayer, and distributions made to the taxpayer. Taxes related to taxpayer compensation and distributions are reported on the taxpayer’s individual income tax return (Form 1040).
One might think that since tax payments do not accompany these returns, the taxpayer does not have to file them. This is not true, and it can be a very costly assumption. The IRS assesses a $10,000 penalty for each year the appropriate form has not been filed without reasonable cause.
Controlled foreign partnership reporting is complex and often laborious. The IRS estimates it takes 36 hours just to prepare the required form. That’s in addition to the estimated 23 hours it takes filers to familiarize themselves with the relevant laws. The preparer must perform currency conversions, recast the entity’s foreign financials in accordance with U.S. GAAP, track earnings and profits year to year, track acquisitions and distributions of ownership, report borrowing between shareholders and the company, reconcile internal book figures with reported tax figures, report partner’s distributive share items, and do much more.
At Value Plus, we have years of experience in handling complex cases. If you own a 10% interest in a controlled foreign partnership and are not familiar with the reporting requirements, contact us and let us prepare your return and reduce your tax liability.
In most cases, Form 8865 is due June 15th and accompanies your individual tax return.