Form 8865 – Return of U.S. Persons With Respect to Certain Foreign Partnerships – An Expat Tax Guide

When multiple U.S. owners of an eligible foreign corporation (generally not a “per se” corporation) elect to treat the entity as a disregarded entity, the IRS will treat it as a foreign partnership. Form 8865 is necessary if a U.S. person owns an interest in a foreign entity that is classified as a foreign partnership for U.S. federal tax purposes. A U.S. person with interest in a partnership formed in a foreign country and qualifying under one or more of the Categories of Filers must complete and file Form 8865. The Filing Requirements for Categories of Filers chart provided with the Form 8865 instructions explains the information, statements, and schedules required for each category of filer. If you qualify under more than one category for a particular foreign partnership, you must submit all the items required for each category under which you qualify.

In general, a U.S. person who is a partner in a foreign partnership must file Form 8865 to report the income and financial position of the partnership and to report certain transactions between the partner and the partnership. The form is required to be filed with the partner’s tax return.

Form 8865 Categories Of Filers

Category 1 Filer

A U.S. person who controlled the foreign partnership at any time during the partnership’s tax year is a Category 1 filer. Control of a partnership means ownership of more than a 50% interest in the partnership.

Category 2 Filer

A Category 2 filer is a U.S. person who at any time during the tax year of the foreign partnership owned a 10% or greater interest in the partnership while the partnership was controlled (meaning that the aggregate interest of all U.S. persons is more than 50%) by U.S. persons each owning at least 10% interests. However, if the foreign partnership had a Category 1 filer at any time during that tax year, no person will be considered a Category 2 filer.

Category 3 Filer

A Category 3 filer is a U.S. person who contributed property during that person’s tax year to a foreign partnership in exchange for an interest in the partnership (known as a Section 721 transfer), if that person either:

• Owned directly or constructively at least a 10% interest in the foreign partnership immediately after the contribution, or
• The value of the property contributed (when added to the value of any other property contributed to the partnership by such person, or any related person, during the 12-month period ending on the date of transfer) exceeds $100,000.

If a domestic partnership contributes property to a foreign partnership, the domestic partnership’s partners are considered to have transferred a proportionate share of the contributed property to the foreign partnership. However, if the domestic partnership files Form 8865 and properly reports all the required information with respect to the contribution, its partners will not need to report the transfer.

Category 3 also includes a U.S. person that previously transferred appreciated property to the partnership and was required to report that transfer under section 6038B, if the foreign partnership disposed of such property while the U.S. person
remained a direct or indirect partner in the partnership.

Category 4 Filer

A U.S. person that had a reportable event during the calendar year under Section 6046A – an acquisition, disposition or change in proportional interest, is considered a Category 4 filer.

Information Required For The Form 8865

In general, Form 8865 requires information similar to what Form 1065 and Form 5471 (for a Foreign Corporation) require. Depending on the category of the filer, it may require financial statements – an income statement and a balance sheet. Form 8865 requires reporting the foreign partnership’s income statement and balance sheet in U.S. dollars, translating them from the functional currency (i.e., generally a foreign currency), and following U.S. GAAP. Form 8865 also requires disclosure of the name, address and tax ID of the partners, information about transfers of property to the partnership and any changes in the ownership interest of any partner.

When Is The Form 8865 Due

Form 8865 is due with the individual income tax return of the U.S. partner, including any extensions of time to file. For most taxpayers, this would be April 15 or the extended due date if they filed an extension.

Why You Should File The Form 8865? To Avoid Penalties

Form 8865 penalties for failing to file the form vary depending on the filer’s category as follows:

Category 1 and 2 Filer

The authorities impose a $10,000 penalty for each tax year of each foreign partnership that fails to furnish the required information within the prescribed time. If the U.S. person does not file the information within 90 days after the IRS has mailed a notice of the failure, the IRS will charge an additional $10,000 penalty (per foreign partnership) for each 30-day period, or fraction thereof, that the failure continues after the 90-day period has expired. Each failure is subject to a maximum additional penalty of $50,000.

Any person who fails to furnish all of the information required within the time 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 date the IRS mails notice of the failure, an additional 5% reduction applies for each 3-month period, or fraction thereof, during which the failure continues after the 90-day period has expired. See section 6038 (and the underlying regulations) for the maximum reduction, the exception due to reasonable cause, and for limits on the amount of these penalties.

Criminal penalties under sections 7203, 7206, and 7207 may apply for failure to file or for filing false or fraudulent information.

Category 3 Filer

Any person that fails to properly report a contribution to a foreign partnership required under section 6038B and the regulations under that section is subject to a penalty equal to 10% of the fair market value (FMV) of the property at the time of the contribution. This penalty is subject to a $100,000 limit, unless the failure is due to intentional disregard. In addition, the transferor must recognize gain on the contribution as if the contributed property had been sold for its FMV. See section 6038B for the exception due to reasonable cause.

Category 4 Filer

Any person who fails to properly report all the information requested by section 6046A is subject to a $10,000 penalty, in addition to the section 7203 criminal penalty, unless they prove that such failure is due to reasonable cause. If the failure continues for more than 90 days after the IRS mails notice of the failure, an additional $10,000 penalty will apply for each 30-day period (or fraction thereof) during which the failure continues after the 90-day period has expired. The additional penalty shall not exceed $50,000.

Help with IRS Form 8865

Most tax professionals have never heard of Form 8865, let alone know how to prepare the form. At Tax Samaritan, if you already have another firm preparing the rest of your individual income tax return, we accept engagements to prepare just your Form 8865.

Our goal at Tax Samaritan is to provide the best counsel, advocacy and personal service for our clients. We are not only tax preparation and representation experts but strive to become valued business partners. We commit to understanding our client’s unique needs. Every tax situation is different and requires a personal approach to providing realistic and effective solutions.

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