Expat taxes can be complicated on their own, but having a business in the mix adds a new layer of difficulty. Your company could be considered a Foreign Disregarded Entity if it was not created in the US, which may mean additional expat tax reporting requirements.
Additionally, for owners of a Foreign Disregarded Entity (FDE), it is critical to file Form 8858 when your expat income tax return is due. But determining what constitutes an FDE and what tax forms and information must be completed, can be a difficult task.
Read on to find out the answers to questions many expats have about Form 8858 and FDE.
What is Form 8858 and How Does It Apply to Foreign Disregarded Entities?
Form 8858 (Information Return of US Persons With Respect To Foreign Disregarded Entities) is, as the title implies, a disclosure form for US taxpayers who have formed a business entity outside of the US that can be treated as a disregarded entity for US income tax purposes. A disregarded entity is one that is not seen as a separate entity from its owner. All the income and expenses of the foreign company are considered the income and expenses of the individual in the eyes of the IRS – similar to a US single-member LLC.
In What Situation Would a Form 8858 Be Required?
Let’s imagine for a moment that you decide to see an accountant in your host country. The accountant suggests minimizing your tax liability by setting up a company in your new location through which you will run your business. Everything is looking great until it comes time to file your US returns for the year. You tell your US accountant about your new company and they explain your additional reporting obligations with respect to the new company. You may be required to file Form 5471 (Information Return of US Persons With Respect to Certain Foreign Corporations); if not, you will need to file Form 8858 annually.
Who Needs to File Form 8858?
You will need to file Form 8858 if you are the owner of a foreign entity that is considered a disregarded entity of US income tax purposes. To have your business qualify as a disregarded entity, you will want to complete Form 8832 (Entity Classification Election) and file this with the IRS. Checking the box will confirm your election to be treated as a disregarded entity. Next, you will need to obtain an Employer Identification Number (EIN) for your foreign entity. The process is simple: place a call to the IRS at +1-267-941-1099 and you will receive the EIN on the spot.
What is a Foreign Disregarded Entity?
According to the IRS, “An FDE is an entity that is not created or organized in the United States and that is disregarded as an entity separate from its owner for U.S. income tax purposes under Regulations sections 301.7701-2 and 301.7701-3.”
Tax vs. Direct Owner of an FDE
For filing purposes, there are two types of FDE owners. A tax owner, who is considered the owner of the FDE assets and liabilities, and the direct owner, who is the legal owner of the disregarded entity.
What Information Do I Need to Include?
Along with your personal details (name, address, SSN, etc.) and the identifying information of your disregarded entity, including your newly obtained EIN, you will need to include the financial information of the company. For example, you will want to have profit and loss numbers handy as well as balance sheet details.
Does This Impact Self-Employment Tax?
Potentially, yes. While the foreign entity will be considered a disregarded entity for income tax purposes, the income will flow through to Schedule C of your Form 1040, so it is possible you’ll pay Self-Employment tax on any profits earned. The good news, however, is that if you are living in a country that has a totalization agreement in place with the USA, the odds of paying SE tax are slim.
How Do I File Form 8858?
Form 8858 is due when your tax returns are due – including extensions. The form needs to be filed with your federal tax return, so be sure to attach a copy to your return prior to filing with the IRS.
Will I Be Penalized for Failing to File Form 8858?
Unfortunately, yes. As with most IRS disclosure forms, the penalties for failure to file can be quite severe, ranging from financial to criminal penalties.
- A $10,000 penalty exists for each annual accounting period for controlled foreign corporations or controlled foreign partnerships that fail to furnish the required information within the time frame prescribed. If the information isn’t filed within 90 days after the IRS mailed a notice to the person responsible, an additional $10,000 penalty is imposed for each 30-day period or fraction thereof, following the initial 90-day period expiry. The additional penalty is limited to $50,000 for each failure – which is still quite a hefty fine!
- Any person who fails to file or report all of the information required within the time frame prescribed will be subject to a reduction of 10% of the foreign taxes available for credit under sections 901, 902, and 960. If the failure continues 90 days or more after the IRS sends a notice to the person responsible, an additional 5% reduction will be made for each 3-month period or fraction thereof, following the initial 90-day period expiry. For more details on the limits on the amount of this penalty, see section 6038(c)(2).
- In certain cases, criminal penalties may apply.
What Should I Do if I Need to File but Have Not?
If you have not filed anything to the IRS, then entering into an IRS disclosure program (the Streamlined Filing Procedures) is a good option. Another option (if you are up to date on your filings) would be filing amended returns to include Form 8858.
Want More Information?
Greenback accountants specialize in expat taxes, so they are familiar with all the ways to help ensure you don’t spend more money than necessary! Contact us today to put your mind at ease about filing your expat taxes and Form 8858.
Originally published in 2017; updated August 14, 2019.