International Investments: Surprise Reporting Requirements for Plans and Fiduciaries

Recent comments by representatives of the Internal Revenue Service (“IRS”) indicate that benefit plans and their fiduciaries may now be required to report to the IRS what has become a staple of many plans’ investment portfolios: the offshore investment fund. Investments which include foreign bank or securities accounts must be reported to the IRS on Form TD F 90–22.1, Report of Foreign Bank and Financial Accounts (the “FBAR”), by the investor and anyone with signature or other authority over the investment. The FBAR for any calendar year ordinarily must be filed by June 30 of the following year. The IRS has temporarily extended this deadline to September 23, 2009 for certain investors who file an FBAR for 2008 and prior years. This article describes the FBAR filing requirements as they relate to plans, plan sponsors and service providers.

General Filing Requirements

In general, any U.S. person with a financial interest in or signature or other authority over foreign financial accounts, including bank, securities or other types of financial accounts in a foreign country, the aggregate value of which exceeds $10,000 at any time during the calendar year, must file an FBAR for that calendar year by June 30 of the following year.

Although the 2008 FBAR was due by June 30, 2009, the IRS has acknowledged that many investors learned only recently of their obligation to file, and has extended the filing deadline for investors who reported all 2008 taxable income and paid all income taxes thereon, if any. These investors may avoid penalties by filing the 2008 and prior years’ FBARs by September 23, 2009.

Civil and criminal penalties may be imposed for failure to file an FBAR. The IRS may impose civil penalties of up to $100,000 or 50% of the value of the foreign account, in addition to criminal penalties of up to $500,000 and five years imprisonment. These penalties are discretionary, and if appropriate may be reduced or waived by the IRS.

Plans and individuals involved with their investments, including investment managers, investment consultants, auditors, and third party administrators, therefore will need to determine rather quickly whether the plan has a financial interest in any foreign financial account and, if so:

  • whether the amount of such financial interest(s) triggers the FBAR filing requirement; and
  • which individuals must file an FBAR because they have signature or other authority over those accounts.

What Constitutes a Financial Interest in a Foreign Financial Account?

According to the FBAR instructions, a “financial account” includes:

any bank, securities, securities derivatives or other financial instruments accounts. Such accounts generally also encompass any accounts in which the assets are held in a commingled fund, and the account owner holds an equity interest in the fund (including mutual funds). The term also means any savings, demand checking, deposit, time deposit, or any other account (including debit card and prepaid credit card accounts) maintained with a financial institution or other person engaged in the business of a financial institution. Individual bonds, notes, or stock certificates held by the filer are not a financial account nor is an unsecured loan to a foreign trade or business that is not a financial institution.Until recently, the investment community has operated under the assumption that offshore investment funds, such as hedge funds, private equity funds and infrastructure funds, which generally are structured as corporations or similar entities, are not subject to FBAR reporting. However, during a June 12, 2009 teleconference sponsored by the American Bar Association and the American Institute of Certified Public Accountants, IRS representatives took the position that investments in offshore investment funds are subject to FBAR reporting. This statement may have been intended to clarify that the reference in the instructions to “commingled funds” encompasses not only mutual funds, but other types of commingled funds. If the statement was intended to signal that hedge funds structured as corporations will be treated as financial accounts, it would appear to conflict with the statement in the above instruction that individual stock certificates are not financial accounts. In any event, in recent weeks many hedge fund managers have responded by notifying investors of possible FBAR reporting obligations. Until further guidance is issued, plans with equity interests in foreign hedge funds may be in limbo, forced to decide whether to file an FBAR as a precaution or to take their chances.

The IRS has done little to clarify this issue. In updated FAQs describing the FBAR filing requirements released on June 29, 2009, one FAQ describes the treatment of U.S. hedge funds invested in foreign accounts as follows:

Q. If a United States person holds a partnership interest in a hedge fund that is located in the United States but that owns foreign financial accounts, must the United States person report his interest in a hedge fund on an FBAR, assuming the United States person does not hold more than a 50% partnership interest in the hedge fund?A. Generally, no. If the hedge fund is located in the United States, a financial interest in the hedge fund is not an interest in a foreign financial account for FBAR reporting purposes, even though the hedge fund may have foreign operations. If the domestic partnership has a financial interest in a foreign financial account, then it may have to file an FBAR. If a United States person who is an officer, employee, or partner of the partnership has a financial interest in, or signature or other authority over a foreign financial account, then that person may also have to file an FBAR. If a partner owns an interest in more than 50 percent of the profits of the partnership (distributive share of income, taking into account any special allocation agreement) or more than 50 percent of the capital of the partnership, then that partner has a financial interest, for FBAR reporting purposes, in the foreign financial accounts of the partnership and may have to file an FBAR.Since this FAQ only addresses U.S. based investment funds, it does not resolve whether the IRS intends to treat equity interests in investment funds located offshore as financial accounts. Thus, until further guidance is issued, plans with equity interests in foreign investment funds may be in limbo, forced to consider filing an FBAR as a precautionary measure.

The FBAR reporting requirements apply not only to direct interests in foreign investments, but also to certain interests in U.S. investments which invest in foreign markets. Under the so-called lookthrough rules, investors owning a 50% or greater interest in a U.S. entity generally are treated for purposes of the FBAR as owning any foreign financial accounts owned by that entity. Thus, as the above FAQ demonstrates, an investor holding a 50% or greater interest in a U.S. based investment fund would be required to report on its own FBAR any foreign accounts, such as custodial accounts, held by that fund. As a practical matter, since this information generally would not appear on periodic reports or account statements, the look-through rule may require investors to inquire with the fund whether the fund has any foreign accounts.

Who Must File an FBAR Reporting the Plan’s Foreign Financial Accounts?

Only U.S. persons are required to file an FBAR. A U.S. person includes U.S. citizens and residents and domestic partnerships, corporations, estates and, of particular interest to employee benefit plans, domestic trusts. As domestic trusts, funded employee benefit plans may be required to file an FBAR. A person or entity that would be required to report more than 25 foreign accounts is required to disclose that fact (and keep proper records of the accounts) in lieu of listing each account on the FBAR.

Anyone with “signature or other authority” over an employee benefit plan investment may be required to file an FBAR if that investment involves a foreign account. However, individuals with such authority are not required to file an FBAR if they are officers and employees of a corporation which is publicly traded, or has over $10 million in assets and over 500 shareholders, who have no personal financial interest in an account, if the corporation has filed a current FBAR reporting that account. A similar exemption is available to officers and employees of banks. However, there currently is no exemption for employee benefit plans or those involved with their investments.

The FBAR instructions state that a person has signature authority over an account if that person can “control the disposition of money or other property” in the account “by delivery of a document containing his or her signature (or his or her signature and that of one or more other persons) to the bank or other person with whom the account is maintained.” A person has “other authority” if that person can exercise power comparable to signature authority over an account “by communication with the bank or other person with whom the account is maintained, either directly or through an agent, nominee, attorney, or in some other capacity on behalf of the U.S. person, either orally or by some other means.”

The instructions are not entirely clear on how far signature or other authority extends, or whether delegation of authority absolves the delegating party of the obligation to file an FBAR. Since employee benefit plan governance varies widely among plans, the authority of each individual involved with plan investments will need to be analyzed to determine whether that individual must file an FBAR. For example, if plan investment decisions are made by an investment committee and the committee’s authority is delegated to a single person who carries out the committee’s decisions, it is not clear whether the entire committee, or just the person to whom authority has been delegated, must file an FBAR. The answer may depend on whether the investment committee, as a body, has authority to take action with respect to investments such as, for example, terminating an investment agreement. In addition, it is not clear whether a directed trustee with signature authority, but no discretionary authority over plan assets, must file an FBAR. The following two FAQs from the IRS website [IRS Small Business Website FBAR FAQs] provide some guidance:

Q. An American citizen, X, gives a person who is a citizen or resident of the U.S. power of attorney to X’s Canadian bank accounts. X files an FBAR form annually. Does the power of attorney also need to file an FBAR?A. Yes, because the power of attorney has signature or other authority over the accounts and because he is a U.S. person.Q. A fiduciary who is a U.S. person has control as a trustee for an IRA with a foreign account. Should an FBAR be filed?A. Yes, because the fiduciary is a U.S. person.Comment Period

On June 5, 2009, the IRS invited the public to comment on the revised FBAR form and instructions (issued October 2008). Comments should be submitted by August 31, 2009. With any luck, some of the issues discussed in this article will be resolved as a result of those comments.

Please contact us if you would like to discuss the FBAR filing requirements.