On Feb. 22, 2016, the U.S. Department of Treasury issued final regulations under IRC Section 6038D regarding when domestic corporations and partnerships must report specified foreign financial assets on Form 8938, “Statement of Specified Foreign Financial Assets.” The new regulations apply to specified domestic entities for taxable years beginning after Dec. 31, 2015. Section 6038D was enacted as part of the Hiring Incentives to Restore Employment Act of 2010. At the time, Section 6038D(a) required certain individuals to report information regarding specified foreign assets. Section 6038D(f) provides that to the extent provided for in the regulations, Section 6038D also applies to certain domestic entities formed or availed of to hold specified foreign assets as if the entity were an individual. In December 2014, the IRS finalized the regulations under Section 6038D but did not adopt the regulations under Section 6038D-6 (which applies to domestic entities), leaving the reporting requirement only for individuals until now.
A domestic entity is a specified domestic entity if it is formed or availed of for the purpose of holding directly or indirectly specified foreign assets. A specified individual is a U.S. citizen, a resident alien, a nonresident alien who has made an election under IRC Section 6013(g) or (h), or a nonresident alien who is a bona fide resident of Puerto Rico. Corporations or partnerships closely held by specified individuals will be considered a specified entity if either of the following is true:
- At least 50 percent of the gross income of the corporation or partnership is passive income.
- At least 50 percent of the assets are assets that generate passive income without regard to the income generated from those assets.
The asset test is computed by aggregating the passive income and assets of all domestic corporations and partnerships connected through stock ownership with a common parent or partnership.
The passive assets test is based on the weighted quarterly average of assets that generate passive income as a percentage of total assets and is computed by aggregating the passive income and assets of all domestic corporations and partnerships connected through stock ownership with a common parent or partnership. The value of assets used for the passive assets test can be determined by using the fair market value or the book value of the assets as reflected on the entity’s balance sheet. A corporation is considered to be closely held if at least 80 percent of the vote or value is held directly, indirectly, or constructively by a specified individual on the last day of the corporation’s year. A partnership is considered closely held if more than 80 percent of the capital or profits interest is held directly or indirectly by a specified individual on the last day of the partnership’s year. The determination of whether an entity is closely held is made on an annual basis.
The regulations define passive income in a manner similar to the regulations under IRC Section 1472 related to nonfinancial foreign entities reporting under the Foreign Account Tax Compliance Act. In particular, passive income includes dividends, interest, income equivalent to interest, rents and royalties, annuities, and the excess of gains and losses from assets that generate passive income. Rents and royalties from an active trade or business are excluded from the definition of passive income. An exception for certain dealers is provided under the regulations.
A specified domestic entity has a reporting requirement under Treasury Regulation (Treas. Reg.) 1.6038D-2(a)(1) if the value of specified foreign financial assets exceeds $50,000 on the last day of the year or $75,000 at any time during the year. Specified foreign financial assets are defined in Treas. Reg. 1.6038D-3 as any financial account maintained by a foreign financial institution, stocks or securities issued by a non-U.S. person, or a financial instrument that has an issuer or counterparty other than a U.S. person. The value of any assets in which a specified domestic entity has an interest are excluded from the computation of the aggregate value and reporting if those assets are included on another Form 8938.