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The U.S. Addresses Its Role as a Tax Haven by Promulgating Regulations Targeting Single-Member LLCs Held by Foreign Persons

The U.S. Addresses Its Role as a Tax Haven by Promulgating Regulations Targeting Single-Member LLCs Held by Foreign Persons

By Anthony Diosdi

The U.S. banking and financial system, and other U.S. investments such as real estate have been prime targets for those seeking to evade the tax systems of foreigners seeking to evade the tax systems of their home countries. For years, the U.S. government has looked to foreign countries to assist it in combating tax evasion. In response, many countries have criticized U.S. laws that allow domestic entities to obscure the identity of beneficial owners and allow non-U.S. persons to conceal assets in this country. As a result of pressure from abroad, the U.S. government has implemented new disclosure requirements and conducted investigations targeting the use of U.S. entities used to evade foreign taxes.

In order to combat the use of U.S. entities to evade foreign taxes, on January 30, 2017, the Treasury Department finalized regulations that impose new disclosure obligations on single-member limited liability companies (“LLC”) owned by foreign persons. An LLC, formed under state law, functions like a partnership or sole proprietorship. An LLC with only one member is treated for federal tax purposes as if the business is operated directly by that member. As a result, a single-member LLC does not file a separate tax return and has in the past been invisible to the government for reporting purposes.

Under the regulations, when a single-member LLC is not a U.S. person, the entity is required to identify its beneficial owner to the Internal Revenue Service (“IRS”). See 26 C.F.R. Sections 1.6038A-1, 1.6038A-2, 301.7701-2. In addition, U.S. corporations that are at least 25 percent foreign owned must file IRS Form 5472 to report the identities of its owners and each related party with which the reporting corporation had any “reportable transaction.” See 26 C.F.R. Section 1.6038A-2. The regulations now extend this reporting requirement to include single member LLC’s owned by foreign persons.

A “reportable transaction” is broadly defined and includes just about every type of business transaction such as a “sale, assignment, lease, license, loan, advance, contribution, or other transaction of any interest in or a right to use any property or money, as well as the performance of any services.” The regulations also specifically provide that any contributions or distributions made by the affected entity is considered a transaction subject to disclosure. The affected entity is required to maintain permanent books and records sufficient to establish the accuracy of the Form 5472 filed with the IRS. Any entity that fails to either file Form 5472 or maintain the requisite records may be subject to a minimum annual penalty of $25,000. If such failure continues for more than 90 days after notification by the IRS, there is an additional penalty of a minimum of $25,000 for each 30-day period or fraction, with no maximum penalty. 

To make matters worse, 5472 penalties are what is known as assessable penalties. In other words, 5472 penalties can be assessed by the IRS once it determines that the penalty is appropriate and should be assessed. Assessable penalties are not subject to deficiency procedures. Which means that a 5472 penalty can be assessed by the IRS without issuing a notice of deficiency and providing a prepayment judicial forum to dispute the penalty. The failure to timely file a Form 5472 and maintain the required records may also result in criminal penalties.

If you are a foreign individual and hold an interest in a U.S. entity, you should consult with an international tax attorney to make sure that you are compliant with these recently promulgated regulations.

Anthony Diosdi is an international tax attorney with the firm of Diosdi Ching & Liu, LLP. Anthony Diosdi is a member of the California and Florida bars. He provides international tax advice to individuals, closely held entities, and publicly traded corporations. Anthony Diosdi has written numerous articles and spoken on a number of panels discussing international taxation at continuing education programs. 

Diosdi Ching & Liu, LLP has offices in San Francisco, California, Pleasanton, California and Fort Lauderdale, Florida. Anthony Diosdi advises clients in international tax matters throughout the United States. Anthony Diosdi may be reached at (415) 318-3990 or by email: adiosdi@sftaxcounsel.com

This article is not legal or tax advice. If you are in need of legal or tax advice, you should immediately consult a licensed attorney.