Same Procedure as Every Year – the FBAR Deadline Approaches by ROBERT HORWITZ and PHILIPP BEHRENDT
We frequently blog on cryptocurrency tax matters and on cases involving the Foreign Bank Account Report (FBAR) penalty. The question of whether FBARs have to be filed must be answered by taxpayers and tax return preparers every year around the same time. For some years now, with the IRS’s increased focus on virtual currency, holders of hosted or unhosted wallets have asked
if they have to file an FBAR and if so, whether they can get an automatic extension to file that report past April 15.
Let’s first start with the FBAR filing requirement. With the tax filing deadline right around the corner, for those who are now panicking, a quick relief. FinCEN grants filers failing to meet the April 15th deadline an automatic extension to October 15th each year. Unlike an income tax return, all you need to do is … nothing. No extension request is needed. That means there is now additional time to figure out whether or not you are required to file an FBAR.
Last month, the IRS published a reference guide for the report of foreign bank & financial accounts (FBAR) (see: https://www.irs.gov/pub/irs-pdf/p5569.pdf) to assist U.S. persons who must file the FBAR as well as professionals who prepare and electronically file FBARs. It is also a contribution for a consistent and fair administration of FBAR examination and penalty program through the IRS examiners. Amongst other things, the guide provides information of when cryptocurrency must be reported on the FBAR.
What is the purpose of the FBAR?
FBARs are not tax returns. No payment obligations are imposed through filing an FBAR. It is rather a financial reporting obligation.
The filing of the FBAR, which is FINCEN Form 114, became a legal obligation in 1970, under the Bank Secrecy Act (BSA), Title 31 of the U.S.C. It is used by the U.S. government to identify individuals who are using financial accounts abroad to circumvent U.S. law, and to identify illicit funds or unreported income.
Who has to file an FBAR?
The answer seems simple on its surface but tricky in its details. Let us begin with the general requirement. Everyone has to file who:
(1) Is a U.S. person,
(2) has an interest in financial accounts overseas for any reason, and
(3) The aggregated maximum value of foreign financial accounts exceeds $10,000 at any time during the calendar year.
Since every good rule has exceptions, so does this one. The IRS guide lays out the exceptions on page 8.
(1) The first requirement is quite intuitive, if you leave special tax treatments – like disregarded entities – aside. A U.S. person means:
- A citizen or resident of the United States; or
- An entity or estate created, organized, or formed in the United States or under the laws of the United States, its states or territories.
Pitfall: Since FBARs are not a tax reporting obligation, exemptions under the tax code (Title 26) do not relieve you from the obligation to file an FBAR. Even if your entity is disregarded for tax purposes, this has no effect for the FBAR filing obligation imposed by the BSA.
(2) The second requirement asks for financial accounts overseas. The meaning of financial accounts is broader than just bank accounts. The IRS guide contains a list of included accounts. These are:
- Bank accounts such as savings and checking accounts, and time deposits,
- Securities accounts, such as brokerage accounts, securities derivatives accounts, or other financial instruments accounts;
- Commodity futures or options accounts;
- Insurance or annuity policies with a cash value (such as a whole life insurance policy);
- Mutual funds or similar pooled funds (i.e. a fund available to the public with a regular net asset value determination and regular redemptions), and;
- Any other accounts maintained in a foreign financial institution or with a person performing the services of a financial institution.
Pitfall: Life insurance, retirement funds or other pooled funds are considered financial accounts. Hedge funds and private equity funds are not.
Overseas is every location outside of the U.S. and certain territories.
The physical presence of an account, rather than whether it is held through an American Organization, is what is relevant. An account at a German branch of a bank is still overseas, whether the bank itself is a U.S. institute or not.
Last but not least, the U.S. person must have a financial interest in or signature authority over that account. That includes not only the holder of the account but also a person with power of attorney over the account. If a U.S. person’s instruction is required or sufficient to move the funds, he or she has a financial interest in the account under the FBAR rules.
Pitfall: If you are a majority shareholder of a company that owns a foreign corporation, be aware of your FBAR obligations. That foreign company’s financial accounts can easily exceed the $10,000 threshold. Even if the company you own files an FBAR, that does not release you from your obligation to file, imposed because you directly or indirectly own more than 50% of the shares of stock of the foreign corporation.
(3) The third requirement is the account value throughout the year. That sounds intuitive again. Just look at the balance and see if the amount in the account was more than $10,000 at any time during the year covered by the report.
However, whether or not the account value exceeds $10,000 can be tricky, given that foreign accounts are often not held in USD or have a USD reporting available, but in local or some other currency. Exchange rates fluctuate, and the exchange rates reported on various websites can differ, so the U.S. person and the return preparer must be careful in ensuring that they accurately calculate the amount in each foreign account.
The IRS guide provides a clear and simplified method to determine the maximum account value.
The account value is determined in two steps. First, the maximum value of the account during the year in the local currency is determined, and then converted into U.S. dollars using the exchange rate on the last day of the calendar year. To determine the exchange rate, use the table of the Treasury Report Rates of Exchange (https://fiscaldata.treasury.gov/datasets/treasury-reporting-rates-exchange/treasury-reporting-rates-of-exchange).
Pitfall: If a taxpayer has a financial interest in more than one account, the aggregated maximum value is relevant. Even if no single account value exceeds $10,000, if the aggregated value exceeds the $10,000 threshold, an FBAR has to be filed and all accounts must be reported. Relevant is the sum of the maximum values of all reportable accounts during the year, not the aggregated value on a single day of all reportable accounts. If a U.S. person had two accounts in Belgium, one had a high balance of $6200 on January 21 and the other had a high balance of $4000 on November 15, but the combined high balance on any single day never exceeded $10,000, an FBAR must be filed because the aggregated maximum value does exceed the threshold.
Pitfall: If a U.S. person has an ownership interest in a foreign account whose highest balance did not exceed $10,000, and signatory authority over a second foreign account whose highest balance did not exceed $10,000, an FBAR is required if the highest aggregate balance of the two accounts exceeded $10,000.
The rules triggering the filing obligation are very technical. As a general rule:
Ask yourself if there is an instrument of pooled valuables abroad, which can be used or moved by your instruction and the total amount of all the valuables so identified may exceed $10,000 at any given moment throughout the year. If that is the case, you should file an FBAR, or seek professional guidance on whether to file.
Is my crypto wallet financial account?
You are lucky. The newest update to the IRS guide addresses your question.
“A foreign account holding virtual currency is not reportable on the FBAR (unless it’s a reportable (…) because it holds reportable assets besides virtual currency).”
At the same time, the IRS guide warns that while virtual currency funds are not reportable yet, FinCEN has indicated it intends to make them reportable in the future.
Why is the IRS involved?
The answer is simple. In April 2003, FinCEN delegated FBAR enforcement authority to the IRS. Since then, the IRS has been responsible for investigating potential violations, assessing and collecting civil penalties, and issuing administrative rulings.
How do I file and where?
Do not file the FBAR report in the way you would file an income tax return. To satisfy the FBAR obligation, the FinCEN Form 114 needs to be submitted through the BSA E-Filing System only.
U.S. income tax returns contain FBAR-related questions and information returns. These include:
- Form 1040, Schedule B, questions 7a and 7b;
- Form 1041, “Other Information” section, question 3;
- Form 1065, Schedule B, question 8; and
- Form 1120, Schedule N, questions 6a and 6b.
In preparing and filing these tax returns, make sure that these questions are answered accurately.
Do I have to keep records?
Yes, records of accounts that must be reported need to be kept for a minimum of 5 years from the due date of the report. The due date is April 15th of the year following the calendar year being reported. If the report is filed after April 15th, the records must be kept five years from the filing date.
These records must include
- Name in which each account is maintained;
- Number or other designation identifying the account;
- Name and address of the foreign financial institution or other person with whom the account is maintained;
- Type of account; and
- Maximum value of each account during the reporting period.
If you are not sure whether or how to file your FBAR, you may want to seek legal assistance rather than take your chances. Even if FBAR is only a reporting requirement, besides civil monetary penalties, criminal penalties can be imposed for non-compliance.
Robert S. Horwitz is a Principal at Hochman Salkin Toscher Perez P.C., former Chair of the Taxation Section, California Lawyers’ Association, a Fellow of the American College of Tax Counsel, a former Assistant United States Attorney and a former Trial Attorney, United States Department of Justice Tax Division. He represents clients throughout the United States and elsewhere involving federal and state administrative civil tax disputes and tax litigation as well as defending clients in criminal tax investigations and prosecutions. .
Philipp Behrendt is an Associate at Hochman Salkin Toscher Perez P.C., and a graduate of University of Southern California (USC) Gould School of Law (LL.M.) and a former associate of the leading German tax firm. Philipp’s prior experience includes representing wealthy individuals and companies in global tax settings, cross-border investigations and audit matters, as well as handling complex voluntary disclosure issues for U.S. and other international companies, stemming from tax avoidance structures as well as crypto assets.