IRS SCRUTINIZES FOREIGN TRUSTS
byMarc M. Harris
The Internal Revenue Service is developing a revenue procedure to inform US individuals who avoid paying taxes through a foreign trust what they need to do to come clean. The new procedure will inform these individuals how to pay the tax and the interest on the trust that they have avoided paying. The alternative, according to one IRS spokesman is that the IRS comes after you and you end up with some problems.
This information was presented at a Treasury Department and New York State Bar Association conference on the taxation of foreign trusts. The June 6th session dealt with outbound cases, which involve US persons creating the foreign trust. Tax avoidance incidences in the outbound category of foreign trusts are high in number according to David Sutherland, associate international tax counsel at Treasury.
In 1993, taxpayers filed 3.1 million foreign trust returns. The Service became suspicious that the number of foreign trusts had been increasing in past years. The IRS found that US individuals were "abusing" the foreign trust scheme to avoid taxes. In order to combat the problem, the IRS set up a pilot program of red-flagging Forms 1041. More resources at the IRS are being devoted to training agents to red-flag those returns.
A trust is set up through a bank or trust company to put property or funds into safekeeping. The advantage for many people to set up a foreign trust is that some countries, especially in the Caribbean, are tax havens. When wealthy foreign individuals who have US connections set up the foreign trust and the money or property is distributed to someone in the United States, it is not taxed because the trustee is foreign. The IRS issued proposed regulations (REG-252487-96, REG-2511703-96) June 4 that would change the consequences of such a distribution, and define what is a foreign and domestic trust (108DTR G-3, L-1, L-6, 6/5/97). The regulations implement changes made by the Small Business Job Protection Act of 1996 that would tax the US recipient.
Creating foreign trusts once was a device strictly limited to the wealthy, but in recent years has become a tool used by many middle-class individuals for the purpose of reducing taxes paid to the IRS.
Marc M. Harris is the President of The Harris Organisation, a financial planning and investment management firm with a staff of 150 people based in Panama.
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