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Preparation of Form 5471
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Preparation of Form 5471

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You should never risk making costly errors on your tax returns that could result in significant penalties. Even small mistakes on your individual or corporate tax returns can lead to large penalty assessments, lengthy audits, and other complications. We offer a full range of tax preparation services. Although we provide tax preparation services in a wide variety of situations, we focus on assisting Controlled Foreign Corporations (“CFCs’) and shareholders of CFCs with their tax preparation needs. We have extensive experience preparing IRS Form 5471s for CFCs, shareholders, and entrepreneurs. In order to provide the IRS with information necessary to ensure compliance with “global intangible low-taxed income” or “GILTI” and Subpart F income, each year certain U.S. persons must file a Form 5471 with the IRS. A Form 5471 must be filed by certain U.S. persons who are officers, directors, or shareholders in respect of certain foreign entities that are classified as corporations for U.S. tax purposes.

The Form 5471 typically applies to CFCs. What is a CFC? A foreign corporation is a CFC if, on any day during the foreign corporation’s taxable year, U.S. shareholders own more than 50 percent of the combined voting power of all classes of stock, or more than 50 percent of the total value, of the foreign corporation. Only U.S. shareholders are considered in applying the 50 percent test. A U.S. shareholder is defined as any U.S. person owning at least 10 percent of the total combined voting power of all classes of voting stock of the foreign corporation. All forms of ownership, including direct, indirect (i.e., beneficial ownership through intervening entities), and constructive (i.e., attribution of ownership from one related party to another), are considered in applying both the 10 percent shareholder and 50 percent aggregate ownership tests. For example, if a U.S. resident parent owns 5 percent of a foreign corporation and his or her tax resident daughter owns another 6 percent of the same foreign corporation, they each will be considered U.S. shareholders, because they are treated as constructively owning the shares of the other. Determining a foreign corporation’s CFC status can be complex and the results may be unexpected.

In order to determine if a Form 5471 must be filed with the IRS and to determine which schedule of the Form 5471 must be filed with the IRS, the preparer must understand the attribution rules for stock ownership for individuals and entities. The Form 5471 consists of a number of schedules such as Schedule C, F, G, J, E, E-1, M, P, R, and Q.

Properly preparing Form 5471 and its related schedules is complex and crucial. With penalties of up to $60,000 and a reduction in foreign tax credits for filing an incorrectly prepared Form 5471 or not timely filing the Form 5471, not getting this form and its schedules prepared correctly could prove costly. Preparing a Form 5471 accurately requires an understanding of the underlying and perpetually changing tax laws that govern the Form 5471. Schedules C and F, the income and balance sheet, are integral parts of the Form 5471. Although most businesses have these statements, knowing how to include these statements on the Form 5471 is not always apparent. The IRS instructions for Schedule C states: “Important: Report all information in functional currency in accordance with U.S. GAAP.” Thus, some financial statements will need to be converted into functional currency. Other statements may be prepared but reported using tax basis, or IFRS. Knowing how to handle these challenges is essential for tax professionals preparing the Form 5471.

Schedule F, the balance sheet, must be reported in U.S. dollars, which leads to challenges with retained earnings reconciliation between the functional currency and U.S. dollar balance sheets. Since it is for a specific date, the balance sheet exchange rate will use a different exchange rate than the one used covering a period for Schedule C. Handling these transaction differences may be confusing. Accurately reporting and including fixed assets on the balance sheet can aid in outlining the potential qualified business asset and corresponding GILTI deduction.

Schedule J and Schedule P of the Form 5471 report accumulated E&P and previously taxed E&P (“PTEP”) respectively of a CFC in its functional currency. Foreign income is typically one of six categories with an appropriate code, 951A, RBT (income re-sourced by treaty), 901(i) (income from a sanctioned country), and FB (QBUs) on Schedule J and P. Schule H reports a foreign corporation’s E&P in the CFC’s functional currency. Preparing this schedule requires the preparer to make appropriate book adjustments that comply with U.S. GAAP and tax reporting requirements. Schedule E contains seven columns that necessitate reporting accurately and claiming a foreign tax credit after the enactment of the 2017 Tax Cuts and Jobs Act. Preparers must understand the limitations on foreign tax credits by Internal Revenue Code Sections 901 (what constitutes a tax) and 909 (foreign tax credit splitters) when completing this schedule. Numerous updates have been made to Schedule E recently, including a new “TOTAL” code required for certain filers. Pages 2 and 3 of Schedule E-1 require that a preparer report amounts in all columns, including column (c) in U.S. dollars rather than the functional currency of the foreign corporation.

We regularly advise clients and other tax professionals regarding the Form 5471. We also have significant experience in preparing the Form 5471. Not only do we have significant experience preparing Form 5471s, we teach other tax professionals how to prepare a Form 5471, we have been widely cited in a number tax journals regarding the Form 5471 and we have been invited to present at major tax conferences and educational events regarding the predation of this incredibly difficult return.

Anthony Diosdi

Written By Anthony Diosdi

Partner

Anthony Diosdi focuses his practice on international inbound and outbound tax planning for high net worth individuals, multinational companies, and a number of Fortune 500 companies.

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