As mentioned in our previous posts, there are several U.S. tax reporting requirements for our fictional U.S. company “Parent” once it acquires our fictional foreign subsidiary “Sub.” As we discussed in our first post in this series, one of the Parent’s options is to treat Sub as a stand-alone corporation. This would mean that the income and expenses of the subsidiary are generally not included in Parent’s U.S. taxable income. (Note that under certain circumstances, profits of a foreign subsidiary may be required to be included in the parent’s U.S. income tax return, even when the subsidiary is a stand-alone foreign corporation. This income inclusion is governed by the sub-part F rules, a complex set of tax code that was recently expanded by the Tax Cuts and Jobs Act. (See our January 15 blog post for additional information.)
Even though the income and expenses of Sub are not included for U.S. tax purposes, there is still an informational reporting requirement for Parent to report certain items with respect to Sub. This information gets reported on Form 5471, Information Return of U.S. Persons with Respect to Certain Foreign Corporations. (Other parties may also have requirements to file the Form 5471.) In this post we will discuss the requirements of the form and certain categories of filers.
There are several ways in which Form 5471 would be required by a U.S. person (which in this context refers to both individual taxpayers and entities), which are referred to as categories. If a U.S. person falls into one of these categories, it triggers the filing requirement. In this post we will touch on the ways that Parent and any U.S. persons related to Parent could fall into one or more of the categories.
The first category is a category 2 filer (category 1 was repealed in 2004 and is no longer applicable). A category 2 filer is a U.S. citizen or resident who is an officer or director of a foreign corporation in which a U.S. person has acquired 10% or more of the total value of the foreign corporation’s stock. In our example, in the year of Parent’s acquisition of Sub, if the officers or directors of Sub were U.S. persons, they would be required to file Form 5471 since Parent acquired 100%. The officers or directors would file Form 5471 and attach it to their own personal U.S. income tax returns.
The next category is a category 3 filer. This category includes any of the following conditions:
- A U.S. person who acquires stock in a foreign corporation which, when added to any stock already owned, meets 10% ownership with respect to the foreign corporation.
- A U.S. person who acquires stock which, without regard to stock already owned, meets the 10% stock ownership requirement.
- A person who becomes a U.S. person while meeting the 10% stock ownership requirement.
- A U.S. person who disposes of sufficient stock in the foreign corporation to reduce its interest to less than the stock ownership requirement.
In our example, Parent would fall under category 3. Since Parent has acquired 100% of Sub, Parent would be required to file Form 5471 with its U.S. tax return.
The next category is a category 4 filer. This category of filer is a U.S. person who had control of a foreign corporation for an uninterrupted period of at least 30 days during the annual accounting period of the foreign corporation. In general, control is defined as owning stock possessing more than 50% of the total value of shares, or voting power, of all classes of stock of the foreign corporation. In our example, since Parent owns 100% of the value of shares of Sub, Parent also falls under a category 4 filer.
The final category is category 5. This includes a U.S. shareholder who owns 10% or more stock in a foreign corporation that is controlled by a U.S. person for an uninterrupted period of 30 days or more during the tax year. Since Parent is the only shareholder of Sub, it would also fall under this category. (Note that due to changes to the subpart F inclusion rules by the Tax Cuts and Jobs Act, the above 30 day minimums may no longer apply.)
As you can see, there are many ways a U.S. person can fall under a category and be required to file Form 5471. In our example, it is important to determine what categories Parent falls under since the category of filer determines what sections of the Form 5471 need to be completed. As discussed above, in the year of acquisition of Sub, Parent company will be considered a category 3, 4, and 5 filer, and any officers and directors of Parent would be considered category 2 filers. Both Parent and any officers and directors will need to file Form 5471 and attach it to their respective U.S. income tax returns.
It is vital to consult with your tax advisor when determining the filing requirements of Form 5471 and how it relates to your situation. Every situation is unique, and it’s important to consider how each filing category could apply. Significant penalties can be assessed for failure to file Form 5471 when required.