What Are the Foreign Grantor Trust Requirements?
Understand the U.S. tax compliance framework for foreign grantor trusts, from classification criteria to the distinct reporting obligations for the trust and its owner.
A foreign grantor trust is a trust established outside the United States where a U.S. person retains certain powers over it. Because of these retained powers, the U.S. person is treated as the owner of the trust’s assets for income tax purposes. This means the trust’s income is reported on the U.S. owner’s personal tax return. The structure carries with it a series of detailed reporting obligations to the U.S. government, and failure to comply can lead to significant financial penalties.
Defining a Foreign Grantor Trust
A trust’s classification as “foreign” for U.S. tax purposes hinges on two specific tests. The first is the “Court Test,” which examines whether a court within the United States can exercise primary supervision over the administration of the trust. If a foreign court has jurisdiction or its administration lies outside the U.S. judicial system, it is considered foreign.
The second is the “Control Test,” which assesses whether one or more U.S. persons have the authority to control substantial decisions of the trust. These decisions include choices about when and how to distribute income or principal, the power to remove or appoint trustees, and decisions regarding investment of trust assets. A trust is defined as foreign if it fails either the Court Test or the Control Test.
Once a trust is determined to be foreign, the next step is to ascertain if it is a “grantor” trust. This status is determined by the powers retained by the grantor under Internal Revenue Code sections 671 through 679. If the grantor retains certain powers, they are taxed directly on the trust’s income.
These retained powers can include the ability to revoke the trust, the power to control who benefits from the trust’s assets, or the right to receive distributions. For instance, if a grantor can take back the property they put into the trust at any time, it is considered a grantor trust.
Required Information and U.S. Agent Appointment
The trustee of a foreign grantor trust is responsible for compiling information annually for Form 3520-A, the “Annual Information Return of Foreign Trust With a U.S. Owner.” This filing requires a complete accounting of the trust’s financial activities, including a full income statement and a balance sheet that lists all assets and liabilities at their fair market value.
The trustee must also gather specific identifying information. This includes the legal name and address of the trust, the U.S. owner, and all U.S. beneficiaries. The form requires a detailed breakdown of any distributions made from the trust to U.S. persons during the year.
A foreign grantor trust must appoint a U.S. agent. A U.S. agent is a person located within the United States who is granted the legal authority to act as the trust’s representative for tax matters. This agent’s function is to provide the IRS with access to the trust’s books and records upon request.
The appointment of a U.S. agent is a condition for streamlined reporting. If a foreign trust fails to appoint a U.S. agent, the U.S. owner may be required to provide much more extensive information to the IRS and could face more severe penalties. Form 3520-A contains specific sections for the agent’s information.
U.S. Person Reporting Obligations
While the foreign trustee is responsible for the informational statement, the U.S. person treated as the owner of the trust has a separate reporting obligation. This duty is fulfilled by filing Form 3520, “Annual Return To Report Transactions With Foreign Trusts and Receipt of Certain Foreign Gifts.” The U.S. grantor is responsible for this filing.
Several events trigger the requirement to file Form 3520. A U.S. person must file this form for the year they create a foreign trust or transfer money or property to an existing one. Any U.S. person treated as the owner of a foreign grantor trust must also file Form 3520 annually to report their ownership status.
The U.S. owner is responsible for ensuring that the foreign trustee correctly files Form 3520-A and provides them with a copy, known as the “Foreign Grantor Trust Owner Statement.” The U.S. owner must then attach this statement to their own Form 3520.
The obligation to file Form 3520 is personal to the U.S. taxpayer. They cannot delegate the ultimate responsibility for filing, even if they rely on the foreign trustee for the necessary documentation from Form 3520-A.
Filing Procedures and Deadlines
Foreign trust reporting involves two separate forms with distinct deadlines. The foreign trustee is responsible for filing Form 3520-A directly with the IRS. The due date for this form is the 15th day of the third month following the end of the trust’s tax year, which for a calendar year is March 15. An extension can be requested to September 15.
The U.S. owner’s reporting requirement, Form 3520, follows a different schedule. This form must be filed by the same due date as the U.S. person’s individual income tax return, which is April 15. An extension for the income tax return also extends the Form 3520 due date to October 15.
Form 3520 cannot be filed electronically and must be mailed separately from the filer’s Form 1040. Both forms must be mailed to a specific IRS service center in Ogden, Utah, that handles international returns. Using the correct address specified in the form instructions is necessary to avoid processing delays.
Penalties for Non-Compliance
Failure to comply with reporting requirements can result in substantial financial penalties. Penalties can be applied for failing to file on time or for filing an incomplete or inaccurate return. However, the IRS has indicated it will review reasonable cause statements before assessing these penalties.
For failure to file Form 3520-A, the U.S. owner is subject to a penalty. The penalty is the greater of $10,000 or 5% of the gross value of the portion of the trust’s assets treated as owned by the U.S. person.
A similar penalty structure applies to the failure to file Form 3520. If a U.S. person fails to report a transfer of property to a foreign trust, the penalty is the greater of $10,000 or 35% of the gross value of the property transferred. If a U.S. person fails to report their status as the owner of the trust, the penalty is the greater of $10,000 or 5% of the gross value of the trust’s assets.