What Is the Domestic Filing Exception?
Understand the tax provision allowing U.S. shareholders to bypass Form 5471 for certain foreign corporations treated as domestic for U.S. tax purposes.
The domestic filing exception excuses certain U.S. shareholders of foreign corporations from the detailed reporting required on Form 5471. This exception applies when a foreign corporation elects to be treated as a domestic corporation for U.S. tax purposes and files its own U.S. income tax return. Because the corporation reports directly to the IRS, the shareholder’s separate filing is redundant. This relief should not be confused with the separate provisions for dormant foreign corporations, which involve a simplified filing procedure instead of a complete exception.
The Domestic Filing Exception
A U.S. shareholder is exempt from filing Form 5471 if the foreign corporation has made a valid election to be treated as a U.S. domestic corporation. This exception is not based on the corporation’s level of income or activity. The primary condition is the existence of one of the following elections:
- An election under Internal Revenue Code Section 953, which allows a foreign insurance company to be treated as a domestic corporation.
- An election under Internal Revenue Code Section 1504, which permits a foreign corporation organized in a contiguous country (Canada or Mexico) to be treated as a domestic corporation for the purpose of filing a consolidated tax return with its U.S. parent company.
Simplified Filing for Dormant Foreign Corporations
Separate from the domestic filing exception, a summary filing procedure is available for shareholders of dormant foreign corporations. This is a simplified method that reduces the reporting burden, not a full exemption. To use this procedure, the filer completes page one of Form 5471, notes that it is filed for a dormant corporation, and includes it with their income tax return.
Conditions for Dormant Status
For a foreign corporation to be considered dormant for a tax year, it must meet several criteria:
- It conducted no business and had minimal income, with gross receipts and expenses each not exceeding $5,000.
- The value of its assets did not exceed $100,000 at any point during the year.
- No shares of the corporation were sold, exchanged, or otherwise transferred.
- The corporation made no distributions to its shareholders.
Record-Keeping Obligations
Even when using the domestic filing exception or the dormant corporation procedure, a shareholder’s record-keeping obligations are not eliminated. The shareholder must maintain all records necessary to prove eligibility for the filing relief, as this documentation is needed during an IRS audit.
Records should include financial statements, bank statements, and corporate minute books or stock ledgers to verify all conditions were met. The burden of proof rests on the taxpayer. Without adequate records, the IRS may disallow the relief and assess penalties.