By Anthony Diosdi
Schedule O of Form 5471 is used to report the organization or reorganization of a foreign corporation and the acquisition or disposition of its stock. This article will take a deep dive into each column and line of 2021 Schedule J of the Form 5471.
Who Must Complete the Form 5471 Schedule O
Anyone preparing a Form 5471 knows that the return consists of many schedules. Schedule O is just one schedule of the Form 5471. Whether or not a CFC shareholder is required to complete Schedule O depends on what category of filer he or she can be classified as. For purposes of Form 5471, CFC shareholders are broken down by the following categories:
Key Terms
U.S. person: A U.S. person is generally a citizen or resident of the United States, a domestic partnership, a domestic corporation, or a domestic trust or estate. A tax-exempt U.S. entity may have a Form 5471 filing obligation.
U.S. Shareholder: A U.S. shareholder is a U.S. person who owns (directly, indirectly, or constructively, within the meaning of of Section 958(a) and Section 958(b)), 10% or more of either the total combined voting power of all classes of voting stock of a foreign corporation or the value of all the outstanding shares of a foreign corporation.
Controlled foreign corporation (“CFC”): A CFC is a foreign corporation with U.S. shareholders that own (directly, indirectly, or constructively, within the meaning of Section 958(a) and 958(b)) on any day of its taxable year, more than 50% of either 1) the total combined voting power of all classes of its voting stock, or 2) the total value of its stock.
Section 965 Specified Foreign Corporation (SFC): A CFC, or any foreign corporation with one or more 10% domestic corporation shareholders. Passive foreign investment companies or (“PFICs”) are not included in this definition.
Category 1 Filer
A Category 1 filer is a U.S. shareholder of a SFC at any time during any taxable year of the SFC who owned that stock on the last day in that year on which it was an SFC. A foreign corporation is an SFC if it is either a CFC or a foreign corporation with at least one corporate U.S. shareholder.
Category 2 Filer
A Category 2 filer is a U.S. citizen or resident who is an officer or director of a foreign corporation in which there has been a change in substantial U.S. ownership – even if the change relates to stock owned by a U.S. person who is not an officer or director. A substantial change in U.S. ownership is when any U.S. person (not necessarily the U.S. citizen or resident who is the officer or director) acquires stock that causes him or her to own a 10% block, or acquires an additional 10% block, of stock in that corporation. More precisely, if any U.S. person acquires stock, which, when added to any stock previously owned, causes him or her to own stock meeting the 10% stock ownership requirement, the U.S. officers and directors of that foreign corporation must report. A disposition of shares in a foreign corporation by a U.S. person does not create filing obligations under Category 2 for U.S. officers and directors. Stock ownership is a vote or value test.
Category 3 Filer
A U.S. person is a Category 3 filer with respect to a foreign corporation for a year if the U.S. person does any of the following during the U.S. person’s year:
1. Acquires stock in the corporation, which, when added to any stock owned on the acquisition date, meets the Category 2 filer 10% stock ownership requirement.
2. Acquires additional stock that meets the 10% stock ownership requirement.
3. Becomes a U.S. person while meeting the 10% stock ownership requirement.
4. Disposes of sufficient stock in the corporation to reduce his or her interest to less than 10% stock ownership requirement.
5. Meets the 10% stock ownership requirement with respect to the corporation at a time when the corporation is reorganized.
Stock ownership is a vote or value test. Constructive ownership includes certain family members, such as brothers or sisters, spouse, ancestors, and lineal descendants.
Category 4 Filer
A U.S. person is a Category 4 filer with respect to a foreign corporation for a taxable year if the U.S. person controls the foreign corporation. A U.S. person is considered to control a foreign corporation if at any time during the person’s taxable year, such person owns: 1) stock possessing more than 50% of the total combined voting power of all classes of stock entitled to vote; or 2) more than 50% of the total value of shares of all stock of the foreign corporation.
For Category 4 purposes, U.S. persons include those individuals who make a Section 6013(g) or (h) election to be treated as resident aliens of the United States for income tax purposes.
The constructive ownership rules of Section 318 are applied, with few modifications, to determine if the U.S. person “controls” the foreign corporation.
Category 5 Filer
A Person is a Category 5 filer if the person: 1) is a U.S. shareholder of a CFC at any time during the CFC’s taxable year; and 2) owns stock of the foreign corporation on the last day in the year in which that corporation is a CFC. For category 5 purposes, constructive ownership is determined under Section 318 as modified by Section 958(b). Pursuant to Section 958(b), there is no attribution from a nonresident alien relative.
New Categories
Categories 1 and 5 have been expanded to 1a, 1b, 1c, 5a, 5b, and 5c in order to separate those filers who are under some relief and may not need to file the same schedules.
1a- Category 1 filer who is not defined in 1b or 1c. This means a greater than 50% owner of the SFC.
1b- Unrelated Section 958(a) U.S. shareholder. This means an unrelated person would not control (more than 50% vote or value) the SFC or be controlled by the same person which controls the SFC.
1c- Related constructive U.S. shareholder- This means an entity controlled by (more than 50% vote or value) the same person which controls the SFC and files only due to this downward attribution.
5a- Category 5 filer who is not defined in 5b or 5c – This means a greater than 50% owner of the CFC.
5b- Unrelated Section 958(a) U.S. shareholder- This means an unrelated person would not control (more than 50% vote or value) the CFC or be controlled by the same person which controls the CFC.
5c- Related constructive U.S. shareholder- This Means an entity controlled by (more than 50% vote or value) the same person which controls the CFC and files only due to this downward attribution.
These new categories will distinguish those 5471 filers who only need to file a Form 5471 due to downward attribution caused by the repeal of Section 958(b)(4) and will therefore not be required to attach certain schedules to their Form 5471s.
CFC shareholders that are classified as Category 2 and Category 3 filers must complete and attach Schedule O to their Form 5471.
Part I of Schedule O
Part I of Schedule O is filled out by U.S. Officers of Directors of foreign corporations and provides information of U.S. shareholders. Part I of Schedule O is designed to provide information of U.S. shareholders and their acquisition of shares in their foreign corporation.
(a) Name of shareholder for whom acquisition information is reported
This column requires the filer to disclose the names of the U.S. shareholders.
(b) Address of Shareholder
This column requires the filer to disclose the address of the U.S. shareholders.
(c) Identifying Number of Shareholders
This column requires the filer to state the identifying number of the U.S. shareholders of the foreign corporation.
(d) Date of Original 10 percent Acquisition
This column requires the filer to state the date a U.S. shareholder first acquired 10 percent or more (in value or voting power) of the outstanding stock of the foreign corporation.
(e) Date of Additional 10 Percent Acquisition
This column requires the filer to list any dates a U.S. shareholder may have acquired additional shares over and beyond the 10 percent ownership threshold of the foreign corporation. This reporting must be done whether or not the shares were acquired (whether in one or more transactions) or in value or voting power of the outstanding stock of the foreign corporation.
Part II of Schedule O
Part II is broken into Sections A, B, C, D, E, F. This section must be completed by Category 3 filers. Category 3 filers are U.S. shareholders of the foreign corporation who has acquired a cumulative ten percent or greater ownership in the outstanding stock of the corporation.
Section A- General Shareholder Information
Section A requires the filer to disclose basic information regarding the U.S. shareholders of the foreign corporation.
(a) Name, Address, and Identifying Number or Shareholder(s) Filing this Section
This column requires the shareholder to disclose the name, address, and identifying number of the U.S. shareholders of the foreign corporation.
(b)(1) For Shareholder’s Latest U.S. Income Tax Return
This column requires the shareholder to disclose the type of last tax return filed in the U.S. For example, if the U.S. shareholder’s last tax return was a Form 1040, enter Form 1040 in column (b)(1).
(b)(2) Date Return Filed
This column requires the shareholder to disclose the last date the U.S. return stated on column (b)(1) was filed.
(b)(3) Internal Revenue Service Center Where Filed
This column requires the shareholder to disclose the IRS Center where the return stated of column (b)(1) was filed. If the shareholder’s latest tax return was filed electronically, enter “e-filed” in column (b)(30) instead of a service center.
(c) Date (if any) Shareholder last Filed an Information Return under Section 6048 for the Foreign Corporation
Internal Revenue Code Section 6048 discusses the reporting requirements for U.S. persons with interests in CFCs. Column (c) of Part II requires U.S. shareholders to disclose the date the U.S. shareholder (if applicable) last filed a Form 5471 with the IRS for this foreign corporation.
Note that category 3 filers include individuals who become U.S. residents during the year. So if a non-resident alien moves to the United States or establishes U.S. residency during the year, and becomes a U.S. person during that year, for purposes of filing Form 5471, the individual is effectively considered as acquiring the shares in the CFC when they establish U.S. residency.
Section B- U.S. Persons Who are Officers of the Foreign Corporation
Part II Section B requires U.S. shareholders of the CFC to disclose certain information regarding U.S. Officers and Directors. Just as Part I of Schedule O had U.S. Officers and Directors disclosing information regarding U.S. shareholders, Part II Section B has U.S. shareholders reporting information regarding U.S. Officers and Directors to the IRS.
(a) Name of U.S. Officer or Director
In this column, the names of the U.S. Officers and Directors must be disclosed to the IRS.
(b) Address
In this column, the addresses of the U.S. Officers and Directors of the CFC must be disclosed to the IRS.
(c) Social Security Number
In this column, the Social Security numbers of the U.S. Officers and Directors of the CFC must be disclosed to the IRS.
(d) Check Appropriate Boxes
This column requires the shareholder to check the correct box whether or not the individual being disclosed to the IRS is either an “Officer” or “Director.”
Section C- Acquisition of Stock
Section C is completed by shareholders who are completing Schedule O because they have acquired sufficient stock in a foreign corporation. If the shareholder acquires the stock in more than one transaction, the CFC shareholder uses a separate line to report each transaction.
(a) Name of Shareholder(s) Filing this schedule
In this column, the name of the shareholder acquiring the stock in the CFC must be stated.
(b) Class of Stock Acquired
In this column, the class of shares acquired in the CFC must be stated.
(c) Date of Acquisition
In this column, the date the CFC shares were acquired must be stated.
(d) Method of Acquisition
In this column, the filer must enter the method of acquisition of the CFC shares (for example, purchase, gift, bequest, trade).
(e) Number of Shares Acquired
In order to properly complete columns (e)(1), (e)(2), and (e)(3) of Section C, (and columns (e)(1), (e)(2), and (e)(3) of Section D discussed below) the filer must understand the direct, indirect, and constructive ownership rules of Internal Revenue Code Section 958.
Section 958 applies direct, indirect, and constructive ownership rules to determine stock ownership in a foreign corporation. Section 958(a)(1) provides the direct ownership rules for determining stock ownership for such purposes. If an individual holds CFC shares directly in his or her own name, the CFC shareholder holds the stock directly. A person holding an option to acquire stock is also considered as owning that stock. “Options” have been interpreted to include warrants and convertible debentures. See Rev.Rul. 68-601, 1968-2 C.B. 124. Even options that are exercisable after the lapse of a fixed period of time as options from the time they are granted. See Rev.Rul. 89-64, 1989-1 C.B. 91.
Section 958(a)(2) provides indirect ownership rules to determine beneficial ownership of shares when a foreign entity is interposed between the U.S. person and the foreign corporation. Specifically, stock of a foreign corporation owned, in turn, by another foreign corporation or by a foreign partnership, trust, or estate is deemed to be owned proportionately by the latter’s shareholders, partners, or beneficiaries. There is no minimum threshold of ownership interest in the foreign corporation necessary to trigger the application of this indirect ownership rule involving foreign entities. Thus, if a foreign partnership with four equal partners owns four percent of the stock of a foreign corporation, each partner is treated under Internal Revenue Code Section 958(a)(2) as owning one percent of the stock of the foreign corporation. (i.e., one-fourth of the partnership’s four-percent stock interest in the corporation). Likewise, if a U.S. person owns 10 percent of the stock of a foreign corporation’s stock, the U.S. person is treated as owning 2.5 percent of the stock of the second foreign corporation under Section 958(a)(2).
Section 958(b) applies the constructive ownership rules of Internal Revenue Code Section 318(a). These constructive ownership rules of Section 318(a) require attribution of stock between certain family members, and their shareholders, partners or beneficiaries. Under Internal Revenue Code Section 318(a)(1), an individual is considered as owning stock owned by his spouse, children, grandchildren and parents. However, Internal Revenue Code Section 958(b)(1), (2) and (3) provide exceptions to the constructive ownership rules. Under Section 958(b)(1), a U.S. citizen or resident alien individual cannot be treated as owning stock that is actually, indirectly, or constructively owned by a nonresident alien individual.
For purposes of any one determination, in applying the direct, indirect, and constructive ownership rules in Section 958(a) and (b), the same stock cannot be counted twice (i.e., the same stock cannot be attributed twice to the same person under different indirect ownership or attribution rules or to two different rules under the same or different indirect ownership or attribution rules. However, stock which may be owned by a person under more than one of these rules, or by more than one person, is treated as “owned under that attribution rule which imputes to the person, or persons, concerned the largest total percentage of such stock.” See Treas. Reg. Section 1.958-2(f)(2).
Column (e)(1)
Column (e)(1) asks the filer to disclose his or her shares directly owned in the CFC. These would be shares that the shareholder directly holds.
Column (e)(2)
Enter the number of shares acquired indirectly (within the meaning of Section 958(a)(2)) by the shareholder listed in column (a). These would be shares owned through another foreign corporation, foreign partnership, trust, or estate.
Column (e)(3)
Enter the number of shares constructively owned (within the meaning of Section 958(b)) by the shareholder listed in column (a). These would be shares owed by the application of Section 318(a).
(f) Amount Paid or Value Given
This column asks the filer to disclose the amount paid or value given for any shares acquired in the CFC. This column also asks the filer to disclose the name and address from whom the shares were acquired.
Section D- Disposition of Stock
Section D must be completed by shareholders who dispose of their interest (in whole or in part) in a foreign corporation.
(a) Name of Shareholder Disposing of Stock
This column asks the filer to state the name of any shareholder that disposed of any shares of the CFC during the tax year.
(b) Class of Stock
This column asks the filer to disclose the class of shares that were disposed of during the year.
(c) Date of Disposition
This column asks the shareholder to state the date the shares were disposed of during the year.
(d) Method of Disposition
Column (d) Enter the method of disposition (for example, sale, bequest, gift, trade).
(e) Number of Shares disposed of
Sections (e)(1), (e)(2), and (e)(3) asks the filer to state the number of shares that were directly, indirectly, and constructively during the year to be itemized and listed.
Below see Illustration 1 which provides an example as to how to report disposition of stock on Section D of Part II of Schedule O.
Illustration 1.
In 1999, Mr. Jackson, a U.S. citizen, purchased 10,000 shares of common stock of foreign corporation X. The purchase represented 10 percent ownership of the foreign corporation.
On July 1, 2018, Mr. Jackson made a gift of 5,000 shares of foreign corporation X to his son, John. Because Mr. Jackson has reduced his holding in the foreign corporation, he is required to complete Form 5471 and Schedule O. To show the required information about the disposition, Mr. Jackson completes Section D as follows:
Enters his name in column (a).
Enters “common” in column (b).
Enters “July 1, 2018” in column (c).
Enters “gift” in column (d).
Enters “5,000” in column (e)(1).
Enters “-0-” in column (f) because the disposition was by gift.
Enters the name and address of his son, John, in column (g).
Section E- Organization or Reorganization
Section E is completed if the CFC was just organized or reorganized.
(a) Name and Address of Transferor
If the CFC was just organized, the names of the transferors should be stated in this column.
(b) Identifying Number (if any)
In this column, the identifying numbers of the individual transferors of property or money to the CFC during the year should be listed.
(c) Date of Transfer
In this column, the dates of any transfers to the CFC should be stated.
(d) Assets Transferred to Foreign Corporation
(1) Description of Assets
The description of any assets transferred to the CFC should be stated in this column.
(2) Fair Market Value
The fair market value of any property transferred to the CFC should be stated in this column.
(3) Adjusted Basis (if Transferor was U.S. Person)
The value or adjusted basis of any property transferred to the CFC should be stated in this column.
(e) Description of Assets Transferred by, or Notes or Securities Issued by, Foreign Corporation
Any securities or stock issued by the CFC should be listed in this column.
Section F- Additional Information
Item (a) of Section F states if the foreign corporation or a predecessor U.S. corporation filed (or joined with a consolidated group in filing) a U.S. income tax return for any of the last three years, attach a statement indicating the year for which a return was filed (and, if applicable, the name of the corporation filing a consolidated return), the taxable income or loss, and the U.S. income tax paid (after all credits).
In the event the CFC or a predecessor U.S. corporation filed a U.S. income tax return for any of the last three years, a statement must be attached to Schedule O indicating the year for which the return was filed, the taxable income or loss reported on the return, and the amount of U.S. income tax paid.
Item (b) of Section F asks the filer to list the date of any reorganization of the foreign corporation that occurred during the last 4 years while any U.S. person held 10 percent or more in value or vote (directly or indirectly) of the corporation’s stock.
In the event the CFC was reorganized during the last 4 years while any U.S. person held 10 percent or more in value or vote of the entity’s stock, item (b) an attachment should accompany the Schedule O. If there is more than one such date, use the most recent date. However, do not enter a date for which information was reported in Schedule E. Instead, enter the date (if any) of any reorganization prior to that date (if it is within the last 4 years).
Item (c) of Schedule F asks if the foreign corporation is a member of a group constituting a chain of ownership, attach a chart, for each unit of which a shareholder owns 10 percent or more in value or voting power of the outstanding stock. The chart must indicate the corporation’s position in the chain of ownership and the percentages of stock ownership.
In the event the CFC was a member of a group constituting a chain of ownership, a chart must be attached to Schedule O. the chart must indicate the CFC’s position in the chain of ownership and the percentage of stock ownership in each entity.
Below see Illustration 2 which provides an example how Section F of Schedule O is reported.
Illustration 2.
Mr. Lyons, a U.S. person, acquires a 10 percent ownership in foreign corporation F. F is the 100 percent owner of two foreign corporations, F1 and FJ. F is also a 50 percent owner of foreign corporation FK. In addition, F is 90 percent owned by foreign corporation W. Mr. Lyons does not own any of the stock of corporation W.
Mr. Lyons completes and files Form 5471 and Schedule O for the corporations in which he is a 10 percent or more shareholder.
Mr. Lyons is required to submit a chart if is a member of a chain corporation, and to indicate if he is a 10 percent or more shareholder in any of those corporations.
Mr. Lyons would prepare a list showing the corporations as follows.
Corporation W.
Corporation F.
Corporation FI.
Corporation FJ.
Corporation FK.
Then Mr. Lyons is required to indicate that he is a 10 percent or more shareholder in corporations F, FI, and FJ.
Section F- Additional Information
(a) If the foreign corporation or a predecessor U.S. corporation disclosed the Schedule O filed a consolidated return in the previous three years, the CFC shareholder should attach a statement to the Schedule O indicating the year for which the return was filed.
(b) The CFC shareholder should disclose the date of any reorganization of the foreign corporation that occurred during the last four year while the CFC shareholder held 10 percent or more in value or vote (directly or indirectly) of the corporate stock on an attachment to the Schedule O.
(c) If the foreign corporation is a member of a group constituting a chain of ownership, the CFC shareholder should attach a chart, for each unit of which a CFC shareholder owns 10 percent or more in value or voting power of the outstanding stock. The chart must indicate the corporation’s position in the chain of ownership and the percentage of stock ownership.
Conclusion
The IRS Form 5471 is an incredibly complicated return. Each year an international tax attorney should review direct, indirect, and constructive ownership of the reporting CFC to determine the impact of any changes in percentages, filer categories, and CFC status. Workpapers should also be prepared and maintained for each U.S. GAAP adjustment and foreign exchange. In addition, an accounting should be made for adjustments to prior and current year previously taxed E&P that become PTEPs on Schedule J, E-1, and P.
It is extremely important to work with an international tax specialist to ensure accurate preparation of your Form 5471. Having the wrong professional complete your Form 5471 can result in significant penalties. The Internal Revenue Code authorizes the IRS to impose a $10,000 penalty for failure to file substantially complete and accurate Form 5471 returns on time. An additional $10,000 continuation penalty may be assessed for each 30 day period that noncompliance continues up to $60,000 per return, per tax year. In addition, the IRS can assess a 40 percent accuracy penalty on incorrectly reported income and reduction of foreign tax credits by 10 percent.
Anthony Diosdi is one of several tax attorneys and international tax attorneys at Diosdi Ching & Liu, LLP. Anthony focuses his practice on domestic and international tax planning for multinational companies, closely held businesses, and individuals. Anthony has written numerous articles on international tax planning and frequently provides continuing educational programs to other tax professionals.
He has assisted companies with a number of international tax issues, including Subpart F, GILTI, and FDII planning, foreign tax credit planning, and tax-efficient cash repatriation strategies. Anthony also regularly advises foreign individuals on tax efficient mechanisms for doing business in the United States, investing in U.S. real estate, and pre-immigration planning. Anthony is a member of the California and Florida bars. He can be reached at 415-318-3990 or 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.