Editor: Annette B. Smith, CPA
Many tax-exempt entities participate in the global economy by engaging in charitable or other exempt activities overseas and making foreign financial investments. These activities have drawn attention from the IRS and other federal agencies as they examine the flow of tax-exempt funds around the world. IRS focus on the international activities of tax-exempt organizations includes increased reporting of foreign bank accounts, operations, and investments.
Foreign Bank Accounts
The first step tax-exempt organizations may take toward establishing an international presence is opening a bank account or other financial account overseas. This may trigger reporting to Treasury and the IRS, including reporting indirect ownership of a foreign bank account.
A U.S. person (which can include a tax-exempt organization) that has a financial interest in or signature authority over foreign financial accounts with an aggregate value that exceeds $10,000 at any time during the calendar year must file Form TD F 90-22.1, Report of Foreign Bank and Financial Accounts (FBAR), on or before June 30 of the following year. Tax-exempt organizations that file Form 990, Return of Organization Exempt From Income Tax, must report in Part V of that form whether they had an interest in or signature or other authority over a foreign financial account. The FY 2012 Work Plan for the IRS Exempt Organizations Division (EO) indicates that EO will be looking at organizations that report ownership of foreign bank accounts to determine whether the organization complies with exempt purpose, documentation, and filing requirements.
Tax-exempt organizations may engage in a variety of foreign activities, including grant-making to foreign individuals, organizations, or governments; using agents in a foreign jurisdiction; sending employees abroad; establishing a foreign branch or a foreign controlled entity; and entering into an affiliation agreement with a foreign organization. EO has used a sequential approach in reviewing the foreign activities of tax-exempt organizations: gathering additional information, increasing education and outreach, and using newly reported information in its compliance activities.
Beginning with the 2008 tax year, Form 990 requested new information about a tax-exempt organization’s foreign activities on Schedule F, Statement of Activities Outside the United States. Schedule F enables the IRS to develop a more complete picture of a tax-exempt organization’s foreign activities and investments. If an organization has aggregate revenues or expenses of more than $10,000 related to foreign activities (including grant-making, fundraising, running a trade or business, conducting program services, investing, or maintaining offices, employees, or agents in a foreign country), it reports these activities on Schedule F, Part I. Additional information regarding grants and other financial assistance are reported in Parts II and III of the schedule.
The IRS believes that tax-exempt organizations have a duty to exercise reasonable care to ensure that foreign assets and expenditures are used for exempt purposes. EO stated in its FY 2012 Work Plan that it will be looking at whether an organization has maintained proper control over funds that have left the United States and whether foreign operations and grant-making further organizations’ exempt purposes.
As IRS-wide initiatives have evolved over the past few years, so has foreign investment reporting on Form 990, Schedule F. Beginning with the 2008 tax year, the IRS required limited reporting of passive investments on Schedule F by organizations that satisfied the $10,000 revenue and expense reporting thresholds described above. In 2009, reporting was expanded to require that organizations report investments by region (but no dollar amounts). For the 2010 tax year, Schedule F reporting was further expanded to include more detail on investments held outside the United States. Organizations must report the book balance of foreign investments as well as foreign bank fees and other account maintenance fees. Schedule F, Part IV, contains new questions about foreign operations as well as transfers to and ownership interests in certain types of foreign entities, including corporations, partnerships, and trusts.
Schedule F instructions were revised again for the 2011 tax year to clarify that funds transferred into non–interest–bearing accounts outside the United States to be used for program services are not reportable as investments. Once an organization uses such funds, however, it must report them as foreign expenditures. Further, beginning with 2011 tax years, Schedule F reporting is triggered for an organization if its investments in foreign partnerships, foreign corporations, and other foreign entities had an aggregate book value of $100,000 or more at any time during the tax year.
Broader IRS enforcement initiatives related to foreign investments may affect tax-exempt organizations. Beginning in tax year 2012, the IRS will require the use of Unique Reference Identification (URI) numbers for Forms 5471, 8858, and 8865. These forms collect information on a U.S. taxpayer’s interest in foreign corporations, disregarded entities, and partnerships, respectively. The foreign entity referred to on the form is assigned a URI number by the U.S. taxpayer required to file the form. The URI will allow the IRS to identify more easily a taxpayer’s investments in foreign entities and to compare investment activity from year to year.
The heightened scrutiny around international activities of tax-exempt organizations is not expected to diminish in the near future. At the same time, tax-exempt organizations continue to invest internationally and conduct program activities overseas. The intersection of heightened scrutiny and international growth necessitates that organizations stay abreast of the additional reporting requirements.
Annette Smith is a partner with PwC, Washington National Tax Services, in Washington, D.C.
For additional information about these items, contact Ms. Smith at 202-414-1048 or email@example.com.
Unless otherwise noted, contributors are members of or associated with PwC.