A recent U.S. Tax Court ruling has significant implications for U.S. taxpayers who have been assessed penalties for late or omitted U.S. international tax filings or are currently delinquent with respect to such international tax filings.
Case background
The Farhy case involved IRS penalties assessed on a U.S. tax filer Alon Farhy for failure to timely file Form 5471 (“Information Return of U.S. Persons With Respect to Certain Foreign Corporations”) for two foreign corporations owned by him between 2003 and 2010. The IRS initially assessed a penalty of $10,000 for each year of non-filing and later assessed a continuation of penalties up to a maximum of $50,000 for each year. The IRS penalties were assessed under Section 6038(b) of the Internal Revenue Code, which provides information reporting requirements for U.S. taxpayers who own at least a 10% interest in a foreign corporation or partnership. Section 6038(b) also provides for penalties for non-filing.
Farhy argued that the IRS lacked the statutory authority to assess penalties under Section 6038(b) and said there was no other law giving the IRS the power to do so, while the IRS argued it had statutory authority to assess penalties for failure to file some international information returns without having to pursue civil litigation to collect the penalties and without having to pursue deficiency procedures.
The Tax Court agreed with Farhy's argument, stating Congress did not grant the IRS the power to assess penalties under Section 6038(b) of the Code.
How does this impact me?
The court's decision may have significant implications for other taxpayers who are contesting Form 5471 penalties (or penalties for other U.S. international tax forms listed below) and the IRS's ability to enforce foreign information return penalties. While the U.S. may be able to collect liabilities for these penalties through a civil action, the IRS cannot assess or administratively collect these penalties as Section 6038(b) penalties are not assessable penalties.
The court also rejected the notion the assessment authority provided by Section 6201(a) of the Code covers all penalties imposed by the Code, simply because it covers taxes and certain other exactions specifically included. The court reasoned Congress has explicitly authorized assessment with respect to numerous penalty provisions in other section of the Code but not for section 6038(b) penalties.
Forms affected by Section 6038(b) penalties
- 5471 – Information Return of U.S. Persons with Respect to Certain Foreign Corporations
- 5472 – Information Return of a 25% Foreign-Owned U.S. Corporation or a Foreign Corporation Engaged in a U.S. Trade or Business
- 8865 – Return of U.S. Persons with Respect to Certain Foreign Partnerships
- 926 – Return by a U.S. Transferor of Property to a Foreign Corporation
- 8858 – Information Return of U.S. Persons with Respect to Foreign Disregarded Entities (FDEs) and Foreign Branches (FBs)
- 8938 – Statement of Specified Foreign Financial Assets
- 8975 Country-by-Country Report
- 8991 – Tax on Base Erosion Payments of Taxpayers with Substantial Gross Receipts
- 8992 – U.S. Shareholder Calculation of Global Intangible Low-Taxed Income (GILTI)
We’re here to help
If you believe you may be affected by this ruling or have any questions about what it means, contact your tax advisor today. They will be able to help you determine the procedures for any prior year delinquencies or previously assessed penalties.