One of the most lengthy and byzantine areas of the U.S. tax code is U.S. taxation of foreign operations and reporting compliance for U.S. individuals and entities that control foreign corporations. To satisfy the reporting requirement for U.S. persons that own foreign corporations, the IRS requires an annual information return, Form 5471, to be filed. Form 5471 must be attached to the U.S. taxpayer’s income tax return, or partnership tax return, as applicable.Categories of foreign income that are subject to the U.S. tax regime include subpart  and Global Intangible Low-Taxed Income (GILTI) among others. To properly complete Form 5471, detailed information must be obtained for each controlled foreign corporation, including fixed asset lives and depreciation schedules, accruals, accounting differences under IFRS or country-specific accounting principles, and non-cash transactions. Accurate completion of Form 5471 and any applicable schedules requires a knowledge of both international accounting standards, U.S. tax and financial reporting standards and exceptions to reporting requirements for U.S. persons. 

One of the most common questions we hear is how do you know if you have to file Form 5471? 

 The following categories of U.S. persons must file Form 5471 and any required schedules for that category:

Category 1- includes a US shareholder of a Section 965 “specified foreign corporation” at any time during any tax year of the foreign corporation, and who owned that stock on the last day in that year. A specified foreign corporation includes: 1) a controlled foreign corporation, or 2) any foreign corporation with respect to which one or more domestic corporations are a US shareholder.

Category 2 – US persons who are officers or directors of a foreign corporation in which since the last time Form 5471 was filed, a US person has acquired a ten percent or greater ownership or acquired ten percent or greater ownership.

Category 3 – A US person who (a) has acquired a cumulative ten percent or greater ownership in the outstanding stock of the foreign corporation, (b) since the last filing of Form 5471 has acquired an additional ten percent or greater ownership in such stock, (c) owns ten percent or greater of the value of the outstanding stock of the foreign corporation when it is reorganized, or (d) disposes of sufficient stock in the foreign corporation to reduce the value of his ownership of stock in that corporation to less than ten percent, or who becomes a US person while owning ten percent, or who becomes a US person while owning ten percent or greater in value of the outstanding stock of the foreign corporation.

Category 4 – a US person who had “control” of a foreign corporation for an uninterrupted period of at least 30 days during the foreign corporation’s annual accounting period. Control means more than 50 percent of the voting power or value of the CFC applying the Section 958 attribution rules.

Category 5 – A US person who is a ten percent or greater shareholder in a corporation that was a CFC for an uninterrupted period of thirty days during its annual accounting period and who owned stock in the CFC on its last day of its annual accounting period.

The most common category of filer for taxpayers who own a foreign business is Category 4, U.S. persons who have a controlling interest of greater than 50% of the foreign corporation. As shown in the IRS table excerpt below, Category 4 filers have the most significant reporting burden, with a laundry list of additional schedules required to be attached to the return. 

Table of Required Information

However, determining whether a U.S. person is required to file Form 5471 is not as straightforward as it seems, due to multiple exceptions to reporting and the interplay of other regulations. 

In the case of a family-run business with foreign operations or related party ownership structure, careful consideration must be taken to constructive ownership rules and family attribution rules. Certain constructive owners of foreign corporations are exempted from any filing requirements, provided they have only an indirect interest in the foreign entity, and a U.S. person through which they constructively own said interest files Form 5471 and reports all required information: 

Certain constructive owners.

• A U.S. person described in Category 1, 3, 4, or 5 (“shareholder”) does not have to file Form 5471 if all of the following conditions are met.
  1. The shareholder does not own a direct interest in the foreign corporation.
  2. The shareholder is required to furnish the information requested solely because of constructive ownership (as determined under Regulations section 1.958-2, 1.6038-2(c), or 1.6046-1(i)) from another U.S. person.
  3. The U.S. person through which the shareholder constructively owns an interest in the foreign corporation files Form 5471 to report all of the required information.

No statement is required to be attached to tax returns for persons claiming the constructive ownership exception.

The second most common question on this topic is how should the financial information of the foreign corporation be prepared to achieve proper Form 5471 reporting?  We recommend consulting with our tax professionals to help navigate the reporting of foreign operations on Form 5471. The regulations require making adjustments to income and expenses on the foreign corporation’s books to comport with U.S. financial accounting and tax rules. We can help you work with overseas accounting personnel to cut through complexity and obtain the right information. 

The calculation of any tax due from foreign-source operations is an added layer of complexity. We help owners of foreign corporations retain more of their hard-earned income through planning, tax structuring, the proper netting of foreign income and losses with multiple controlled foreign corporations, leveraging credits for foreign tax paid by foreign corporations, and maintaining higher levels of depreciable assets abroad to maximize the 10% Qualified Business Asset Investment (QBAI) deduction for U.S. persons with foreign operations or multinationals.