Reporting Foreign Trusts and Foreign Gifts Made Simple

What Form 3520 Is For

Form 3520 is an information return that U.S. taxpayers use to report their dealings with foreign trusts and large gifts or inheritances received from foreign individuals or entities. Think of it as a transparency document—the IRS wants to know when money or property crosses international borders in certain situations, even though you might not owe any tax on these transactions.

The form serves four main purposes, each covered in a separate part of the return. Part I reports transfers you made to a foreign trust during the year. This includes creating a foreign trust or moving money or property into one that already exists. Part II is for U.S. persons who are treated as "owners" of a foreign trust for tax purposes—meaning the trust's income is taxable to you personally under the grantor trust rules (Internal Revenue Code sections 671-679). Part III handles distributions you received from a foreign trust, including loans from the trust or using trust property without paying fair market value. Finally, Part IV reports substantial gifts or bequests from foreign sources: more than $100,000 from a foreign individual or estate, or more than $14,723 from a foreign corporation or partnership (these thresholds were specific to 2012).

It's crucial to understand that Form 3520 is an information return, not a tax return. Filing it doesn't necessarily mean you owe tax, but failing to file can trigger severe penalties even if no tax is due. The form helps the IRS track international financial flows and ensure that income from foreign sources doesn't escape U.S. taxation. IRS.gov

When You’d Use It (Including Late and Amended Returns)

Regular Filing Timeline

Form 3520 is due on the same date as your federal income tax return, including extensions. For most individual taxpayers filing on a calendar year basis, this means April 15, 2013 for the 2012 tax year (or October 15, 2013 if you filed for an extension). If you're an executor filing for a deceased U.S. citizen or resident, the form is due when Form 706 (Estate Tax Return) is due, if applicable. You must mail the completed form to: Internal Revenue Service Center, P.O. Box 409101, Ogden, UT 84409.

Late Filing

If you missed the original deadline, you should file as soon as possible. For 2012 returns, late filing would apply any time after your extended deadline passed. When filing late, check the "Initial return" box (or "Amended return" if you're correcting a previously filed late return) and include a statement explaining the reason for the delay. The IRS may impose penalties for late filing—typically the greater of $10,000 or 35% of the value of property transferred or distributions received, or 5% for ownership reporting failures. However, these penalties can be avoided if you can demonstrate "reasonable cause" for the delay and show it wasn't due to willful neglect. Note that foreign laws preventing disclosure or reluctance by foreign trustees does not constitute reasonable cause.

Amended Returns

If you discover errors or omissions on a previously filed Form 3520, you should file an amended return. Check the "Amended return" box at the top of the form and complete all relevant sections with corrected information. Include a written explanation of what you're changing and why. Common reasons for amendments include discovering additional gifts you forgot to report, correcting valuation errors, or providing information that was unavailable at the original filing deadline. Filing an amended return voluntarily can help demonstrate good faith if the IRS later questions your return, potentially reducing or eliminating penalties for unintentional errors. IRS.gov

Key Rules and Thresholds for 2012

Several important dollar thresholds and rules governed Form 3520 filing requirements for the 2012 tax year:

Foreign Gift Reporting Thresholds

You must report gifts or bequests totaling more than $100,000 received from a nonresident alien individual or foreign estate during the year. For gifts from foreign corporations or foreign partnerships, the threshold is $14,723. These amounts are aggregated from related foreign persons—meaning you can't avoid reporting by having multiple family members each give you amounts below the threshold.

Qualified Obligations

When you transfer property to a foreign trust in exchange for a promise to pay you back (an "obligation"), the obligation is treated as having zero value unless it meets specific criteria to be "qualified." To qualify, the obligation must: be in writing, have a term of 5 years or less, be denominated in U.S. dollars, have an interest rate between 100% and 130% of the applicable federal rate, and require you to extend the IRS's assessment period. This prevents taxpayers from using sham transactions to avoid reporting transfers.

Grantor Trust Ownership

If you're treated as the owner of a foreign trust under sections 671-679, you must report this ownership on Part II and ensure the trust provides you with a Foreign Grantor Trust Owner Statement (part of Form 3520-A). If the trust doesn't file Form 3520-A, you must prepare and attach a substitute version yourself, documenting the trust's income and assets.

Distribution Taxation

Distributions from foreign trusts may be subject to special "accumulation distribution" rules that can result in additional taxes and interest charges, calculated using Form 4970. However, if the foreign trust provides proper beneficiary statements, you may be able to avoid these complex calculations.

U.S. Agent Requirement

Foreign trusts can appoint a U.S. agent who agrees to provide records to the IRS upon request. Having a U.S. agent simplifies reporting requirements. If no U.S. agent exists, you must attach extensive trust documentation, including all trust instruments, financial statements, and information about trustees and beneficiaries. IRS.gov

Step-by-Step (High Level)

Step 1: Determine Which Parts Apply to You

Read the checkboxes at the top of page 1 carefully. Check every box that describes your situation—you may need to complete multiple parts if you had different types of transactions with the same foreign trust.

Step 2: Complete Identifying Information

Fill in the Service Center where you file your tax return, your name and taxpayer identification number (lines 1a-1h), the foreign trust's information (lines 2a-2g), and whether the trust has a U.S. agent (line 3). If you're an executor filing for a deceased person, complete lines 4a-4f. Accuracy here is critical—misidentifying the trust or providing wrong taxpayer ID numbers is a common error.

Step 3: Complete Applicable Parts

Work through each checked part methodically. Part I requires detailed information about transfers, including dates, property descriptions, fair market values, and adjusted basis. Complete Schedules A, B, and C as applicable. Part II requires you to attach the Foreign Grantor Trust Owner Statement from Form 3520-A or prepare a substitute if the trust didn't file one. Part III involves complex calculations if you received distributions—follow the instructions carefully, especially if completing the accumulation distribution schedules. Part IV lists each foreign gift over $5,000, with donor information and property values.

Step 4: Gather Required Attachments

If the foreign trust has no U.S. agent, you must attach copies of trust documents, financial statements, and information about trustees and beneficiaries (unless previously filed). For transfers involving sales or loans, attach copies of contracts. If claiming an obligation is "qualified," attach documentation proving it meets all requirements.

Step 5: Sign and Mail

Sign and date the return—unsigned returns are not considered filed. Have your paid preparer sign if applicable. Make copies for your records. Mail to the Ogden Service Center address. Consider using certified mail with return receipt for proof of filing, especially for late returns.

Step 6: Report Consequences on Your Tax Return

Information from Form 3520 may affect your income tax return. For example, if you recognized gain on a transfer to a foreign trust (section 684), report that gain on Schedule D or other appropriate forms. If you received a distribution, you may need to attach Form 4970 and report additional tax. IRS.gov

Common Mistakes and How to Avoid Them

Mistake #1: Not Realizing You Need to File

Many taxpayers simply don't know Form 3520 exists. If your foreign relative gives you money for a down payment on a house, or you inherit property from a foreign estate, you may need to file even though the gift or inheritance itself is not taxable. Solution: Consult a tax professional familiar with international tax law whenever money crosses borders. When in doubt, file—there's no penalty for filing unnecessarily, but severe penalties for not filing when required.

Mistake #2: Missing the Related-Party Aggregation Rules

The IRS requires you to aggregate gifts from related foreign persons. If your foreign parents each give you $60,000 in 2012 (totaling $120,000), you must report this even though each individual gift was below the $100,000 threshold. Solution: Carefully review the definitions of "related persons" in the instructions (generally, family members and entities you control) and add up all gifts from the entire group.

Mistake #3: Incorrectly Claiming an Obligation is "Qualified"

Taxpayers often believe that any legitimate loan or obligation from a trust doesn't need to be reported as a transfer. However, unless the obligation meets all six strict criteria for qualified obligations, it has zero value for reporting purposes, meaning you've made a reportable gratuitous transfer. Solution: Don't assume—verify each requirement and document everything. If in doubt, get professional help before checking the "qualified obligation" box.

Mistake #4: Failing to Attach Required Documentation

If the foreign trust has no U.S. agent and you don't attach complete trust documents and financial statements, your Form 3520 is considered incomplete, triggering penalties. Solution: Create a checklist from the instructions and gather all documents before starting the form. If some documents are in a foreign language, obtain certified English translations.

Mistake #5: Not Filing When You're a Trust "Owner"

U.S. persons who are treated as owners of foreign grantor trusts under sections 671-679 must file Part II annually, even if there were no transactions during the year. Many taxpayers mistakenly believe they only need to file when something happens. Solution: If you've ever filed Part II for a foreign trust, continue filing every year until the trust terminates or you're no longer treated as an owner.

Mistake #6: Using Incorrect Valuations

The form requires fair market value determinations for property transferred or received. Taxpayers often use cost basis instead of FMV, or make unsupported guesses. Solution: Use the valuation principles from section 2031 and its regulations (estate tax valuation rules). For valuable property, obtain professional appraisals and keep contemporaneous records of how you determined values.

What Happens After You File

IRS Processing

After you mail Form 3520, the IRS will process it at the Ogden Service Center. Unlike tax returns, you won't receive a refund check or typical acknowledgment letter. The form becomes part of your permanent IRS file and may be cross-referenced with your income tax returns and other information returns.

Assessment Period Extension

If you reported "qualified obligations," you've agreed to extend the IRS's time to assess taxes related to those transactions. Normally, the IRS has three years from your filing date to audit and assess additional taxes. By reporting qualified obligations, you've extended this period until three years after the obligation's maturity date, giving the IRS more time to examine these transactions.

Potential Follow-Up

The IRS may send letters requesting clarification or additional documentation, especially if your form raises questions. For example, if you reported a large transfer but didn't attach sale documents, or if information is inconsistent with your income tax return. Respond promptly and completely to any IRS inquiries.

Penalty Assessment or Abatement

If you filed late without reasonable cause, the IRS may assess penalties. You'll receive a penalty notice (typically a CP notice) explaining the amount and your appeal rights. You can request penalty abatement by demonstrating reasonable cause—this requires a written explanation with supporting documentation showing the failure was not due to willful neglect. First-time penalty abatement may also be available if you have a clean compliance history.

Coordination with Other Returns

Information on Form 3520 may trigger examinations of related returns. For instance, if you reported receiving a large distribution from a foreign trust but didn't report corresponding income on Form 1040, expect questions. Similarly, if you created a foreign trust but your gift tax return (Form 709) shows no gifts, the IRS may inquire about the apparent inconsistency.

Statute of Limitations Impact

Under section 6501(c)(8), if you fail to file a complete Form 3520, the statute of limitations for assessing taxes related to the reportable events doesn't begin to run. This means the IRS can audit those transactions indefinitely until you file a complete form, potentially keeping years open for examination. IRS.gov

FAQs

Q1: Is the money I report on Form 3520 taxable?

Not necessarily. Form 3520 is primarily an information return. Gifts and bequests reported in Part IV are generally not taxable income to U.S. recipients (though the foreign giver might owe U.S. gift tax in some situations). However, distributions from foreign trusts (Part III) may be taxable, and you may owe additional tax and interest under the accumulation distribution rules. Transfers to foreign trusts (Part I) can trigger immediate gain recognition under section 684. Always review the tax consequences with a professional.

Q2: What if the foreign trust or foreign person refuses to give me the information I need to complete the form?

You're still required to file Form 3520 with the information you have and to the best of your ability. The instructions state that a foreign country imposing penalties for disclosure, or a foreign fiduciary's reluctance, is not reasonable cause for failure to file. Document your efforts to obtain information (emails, letters requesting information) and attach an explanation of what you couldn't obtain and why. Consider whether you should decline gifts or distributions if the foreign party won't cooperate with your U.S. reporting obligations.

Q3: Can I file Form 3520 electronically?

No. For the 2012 tax year, Form 3520 must be filed by paper mail to the Ogden Service Center. Unlike many IRS forms, Form 3520 is not available for e-filing. Make sure to keep copies of everything you send, and consider using certified mail with return receipt requested for proof of mailing and delivery.

Q4: Do I need to file Form 3520 if I received a gift from a foreign relative who is also a U.S. citizen?

No. The reporting requirement applies only to gifts from "foreign persons"—defined as nonresident aliens and foreign entities. A U.S. citizen living abroad is not a foreign person, so gifts from them don't require Form 3520 reporting (though they might trigger U.S. gift tax filing requirements for the donor on Form 709). However, if you received a gift from a dual citizen who is a nonresident alien for tax purposes, reporting may be required.

Q5: What's the difference between Form 3520 and Form 3520-A?

Form 3520 is filed by U.S. persons to report their transactions with foreign trusts and receipt of foreign gifts. Form 3520-A is filed by the foreign trust itself to report information to its U.S. owners and beneficiaries. If you're treated as the owner of a foreign trust, you should receive a Foreign Grantor Trust Owner Statement from the trust's Form 3520-A, which you attach to your Form 3520. If the trust doesn't file Form 3520-A, you may need to prepare a substitute version yourself.

Q6: Can penalties really be as high as people say?

Yes. The initial penalty for failing to file Form 3520 is the greater of $10,000 or 35% of the gross value of property transferred to a foreign trust or distributions received (or 5% for ownership reporting failures). If you don't comply after the IRS sends a notice, additional penalties of $10,000 apply for each 30-day period of continued non-compliance, with no maximum limit. For failure to report foreign gifts under section 6039F, the penalty is 5% per month up to 25% of the gift value. These penalties apply even if no tax is owed, which is why timely and accurate filing is critical.

Q7: Where can I get help if this seems too complicated?

Form 3520 is genuinely complex, and the consequences of errors are severe. Consider hiring a CPA, enrolled agent, or tax attorney who specializes in international tax matters. The IRS also provides resources at www.irs.gov/form3520, including instructions and publications. For general international tax questions, see IRS Publication 519 (U.S. Tax Guide for Aliens) and Publication 54 (Tax Guide for U.S. Citizens and Resident Aliens Abroad).

Sources

This guide is based on the 2012 Form 3520 instructions and IRS publications available at IRS.gov. Tax laws are complex and change frequently. This summary is for educational purposes and should not substitute for professional tax advice tailored to your specific situation.

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