20.1.9  International Penalties

Manual Transmittal

March 21, 2013

Purpose

(1) This transmits revised IRM 20.1.9, Penalty Handbook, International Penalties.

Material Changes

(1) Minor editorial changes have been made throughout this IRM. Website addresses, legal references, and IRM references were reviewed and updated as necessary. Significant changes to this IRM are reflected in the table below:

References Description
IRM 20.1.9.1.1 (4) Revised paragraph to address full compliance and reasonable cause to the unique nature of international transactions.
IRM 20.1.9.1.1 (5) Revised to delete items (a) and (b). Effective July 2012 the penalty can be computer generated.
IRM 20.1.9.1.4 (4) Added paragraph regarding the 2012 Offshore Voluntary Disclosure Initiative (2012 OVDI).
IRM 20.1.9.2 (15) Revised paragraph to address full compliance and reasonable cause regarding international transactions. Added items (e) and (f).
IRM 20.1.9.2 (17) Revised paragraph and example to note separate Form 8278 assessments for the initial and continuation penalties.
IRM 20.1.9.2 (18) Removed example and clarified that a zero amount for the initial penalty is no longer included along with subsequent continuation penalties.
IRM 20.1.9.2.1 (2)(a) Revised paragraph to note that separate Form 8278 required for continuation penalty proposed in conjunction with an initial penalty.
IRM 20.1.9.2.3 (1) Revised paragraph to address full compliance and reasonable cause regarding international transactions.
IRM 20.1.9.3.2 Deleted paragraph (1). Effective July 2012 the penalty can be computer generated.
IRM 20.1.9.3.3 (3) Added paragraph regarding forms attached to late-filed partnership returns.
IRM 20.1.9.3.5 (1) Revised paragraph to address full compliance and reasonable cause regarding international transactions.
IRM 20.1.9.3.5 (3) Added guidance specific to PRN 599 penalties.
IRM 20.1.9.4.5 (1) Revised to address full compliance and reasonable cause regarding international transactions.
IRM 20.1.9.5.2 Deleted procedures for manual issuance of notice. Effective July 2012 the penalty can be computer generated.
IRM 20.1.9.5.3 (3) Added paragraph 3 regarding the new systemic penalty for late-filed Forms 5472, Information Return of a 25% Foreign-Owned U.S. Corporation or a Foreign Corporation Engaged in a U.S. Trade or Business (Under Sections 6038A and 6038C of the Internal Revenue Code).
IRM 20.1.9.5.4 (2) Changed the continuation penalty PRN from 619 to 701.
IRM 20.1.9.5.5 Addressed full compliance and reasonable cause regarding international transactions. Added paragraph (2) to clarify that reasonable cause does not apply to the continuation penalty.
IRM 20.1.9.7.2 Deleted procedures for manual issuance of notice. Effective July 2012 the penalty can be computer generated.
IRM 20.1.9.7.5 Addressed full compliance and reasonable cause regarding international transactions. Added paragraph (1).
IRM 20.1.9.8.4 (2) Changed the continuation penalty PRN from 619 to 705.
IRM 20.1.9.8.5 Addressed full compliance and reasonable cause regarding international transactions. Added paragraph (1).
IRM 20.1.9.10.2 Deleted procedures for manual issuance of notice. Effective July 2012 the penalty can be computer generated.
IRM 20.1.9.10.5 Addressed full compliance and reasonable cause regarding international transactions. Added paragraph (1).
IRM 20.1.9.11.2 Deleted procedures for manual issuance of notice. Effective July 2012 the penalty can be computer generated.
IRM 20.1.9.11.5 Addressed full compliance and reasonable cause regarding international transactions. Added paragraph (1).
IRM 20.1.9.12.5 Addressed full compliance and reasonable cause regarding international transactions. Added paragraph (1).
IRM 20.1.9.13.4 Changed the continuation penalty PRN from 619 to 702.
IRM 20.1.9.13.5 Addressed full compliance and reasonable cause regarding international transactions. Added paragraph (1).
IRM 20.1.9.14.4 Changed the continuation penalty PRN from 619 to 703.
IRM 20.1.9.14.5 Addressed full compliance and reasonable cause regarding international transactions. Added paragraph (1).
IRM 20.1.9.15.2 Deleted procedures for manual issuance of notice. Effective July 2012 the penalty can be computer generated.
IRM 20.1.9.15.4 Changed the continuation penalty PRN from 619 to 704.
IRM 20.1.9.15.5 Addressed full compliance and reasonable cause regarding international transactions. Added paragraph (1).
IRM 20.1.9.16 Deleted and reserved this section. It contained information regarding IRC 6683, Personal Holding Company Tax of Foreign Corporation, which was repealed for tax years beginning after December 31, 2004.
IRM 20.1.9.17.5 Addressed full compliance and reasonable cause regarding international transactions. Added paragraph (1).
IRM 20.1.9.18.2 Deleted procedures for manual issuance of notice. Effective July 2012 the penalty can be computer generated.
IRM 20.1.9.18.5 Addressed full compliance and reasonable cause regarding international transactions. Added paragraph (1).
IRM 20.1.9.19.5 Addressed full compliance and reasonable cause regarding international transactions. Added paragraph (1).
IRM 20.1.9.20.5 Addressed full compliance and reasonable cause regarding international transactions. Added paragraph (1).
IRM 20.1.9.22.1 and IRM 20.1.9.22.3 (1) Incorporated Servicewide Electronic Research Program (SERP) IRM Procedural Update (IPU) 111205 regarding Form 8938, Statement of Foreign Financial Assets, per Notice 2011-55.
IRM 20.1.9.22.4 (2) Changed to incorporate SERP IPU 110952 to show the correct Penalty Reference Number (PRN) for continuation penalties as 710.
IRM 20.1.9.22.5 Addressed full compliance and reasonable cause regarding international transactions. Added paragraph (1).
Exhibit 20.1.9-1 and Exhibit 20.1.9-4 Deleted references to IRC 6683 (Repealed).
Exhibit 20.1.9-2 Removed reference to Form 3645, Computation of Penalty for Failure to File Information Returns or Furnish Statements. Employees are to use Form 8278, Assessment and Abatement of Miscellaneous Civil Penalties
Exhibit 20.1.9-3 Updated to include the 2012 OVDI information. Also, incorporated hyperlink edit per SERP IPU 110952.
Exhibit 20.1.9-5 Expanded to emphasize full compliance before considering reasonable cause and deleted references to IRC 6683 (repealed).
Exhibit 20.1.9-17 Deleted procedures for manual issuance of notice. Effective July 2012 the penalty can be computer generated.

Effect on Other Documents

IRM 20.1.9, dated 04-22-2011 is superseded. This IRM incorporates SERP IPU 110952, Changes to 20.1.9.22.4(2), dated 5-9-2011 and SERP IPU 111205, Cautions Inserted Suspending Penalty until Form 8938 is Released (re: IRS Notice 2011-55), dated 6-24-2011.

Audience

Small Business/Self-Employed (SB/SE), Large Business and International (LB&I), Tax Exempt and Government Entities (TE/GE) and Wage and Investment (W&I) employees who address international penalties.

Effective Date

(03-21-2013)

Bradley J. Bouton
Director, Exam Policy
Small Business/Self Employed Division

20.1.9.1  (03-21-2013)
Overview

  1. International information return penalties are civil penalties assessed on a U.S. person for failure to timely file complete and accurate international information returns required by specific Internal Revenue Code (IRC) sections.

    1. U.S. taxpayers are required to report their worldwide income. International information returns provide a vehicle for verifying that the correct income tax is assessed.

    2. Although this IRM includes current law, penalties may be assessed for periods under prior law.

    3. Generally, the returns are required for entities or events that the taxpayer has "control" over or that the taxpayer has the power or authority to administer such requirement.

    4. Returns submitted that are not complete and accurate are considered as "un-filed" (not having been filed).

    5. Some returns are considered un-filed if the taxpayer does not provide required information when requested and penalties apply even if the required return has been submitted.

    6. Penalties may be assessed prior to the filing of the required information return or the submission of required information.

    7. U.S. persons frequently have multiple obligations for each year and multiple penalty assessments. Penalties apply to each information return that was required to be filed for each year.

  2. For international return processing, see IRM 3.21, International Returns and Documents Analysis, IRM 3.22, International Error Resolution, IRM 3.37, International ISRP, and IRM 3.38, International Tax Returns and Documents.

  3. The exhibits listed in the table provide the following information:

    IRM Title
    Exhibit 20.1.9-1 Quick Reference Guide to International Penalties
    Exhibit 20.1.9-2 Reference Guide to Forms
    Exhibit 20.1.9-3 Quick Guide for Reference Numbers to Process International Penalty Assessments
    Exhibit 20.1.9-4 International Penalties Subject to or Not Subject to Deficiency Procedures
    Exhibit 20.1.9-5 Reasonable Cause Relief
    Exhibit 20.1.9-6 Pattern Letter for Failure to File Form 5471
    Exhibit 20.1.9-7 Pattern Letter for Failure to File Form 8865
    Exhibit 20.1.9-8 Pattern Letter for Failure to File Form 5472
    Exhibit 20.1.9-9 Pattern Letter for Failure to Maintain Required Documents
    Exhibit 20.1.9-10 Pattern Letter for Failure to Authorize as Agent
    Exhibit 20.1.9-11 Pattern Letter for Failure to File Form 926
    Exhibit 20.1.9-12 Pattern Letter for Failure to File Form 8865 Schedule O
    Exhibit 20.1.9-13 Pattern Letter for Failure to File Form 5471 Schedule O
    Exhibit 20.1.9-14 Pattern Letter for Failure to File Form 8865 Schedule P
    Exhibit 20.1.9-15 Sample of CP 15 Notice
    Exhibit 20.1.9-16 Sample of CP 215 Notice

20.1.9.1.1  (03-21-2013)
Common Terms

  1. U. S. Person—Unless otherwise indicated, the term "U.S. person" includes citizens or residents of the United States, domestic corporations, domestic partnerships, estates, or trusts. Trusts are considered U.S. persons only if a court within the US is able to exercise primary supervision over the administration of the trust, and one or more US persons have the authority to control all substantial decisions of the trust. See IRC 7701(a)(30)(E). Penalties cannot be assessed on married taxpayers jointly, but can be assessed on each person separately.

  2. Assessable Penalties—Penalties listed in this section, unless otherwise noted, are assessable penalties and are not covered by deficiency procedures of IRC 6211 through IRC 6215 (relating to deficiency procedures for income, estate, gift, and certain excise taxes). For these penalties, there is no 30-day letter, no agreement form, and no notice is required prior to assessment. See Exhibit 20.1.9-3, Quick Guide for Reference Numbers to Process International Penalty Assessments, for a list of Penalty Reference Numbers (PRNs). The PRN identifies the applicable IRC section and dictates the explanatory language in the assessment notice.

    Note:

    Notice letters are required prior to assertion of certain penalties. See IRM 20.1.9.1.1 (14), IRM 20.1.9.2 (12), and IRM 20.1.9.2 (13).

  3. Statute of Limitations—Penalties that are not considered taxes generally have no statute of limitation for assessment. Penalties related to returns are generally treated as taxes and governed by the statute of limitation for assessment.

  4. Reasonable Cause—Reasonable cause applies to most, but not all, of the penalties. However, taxpayers who conduct business or transactions offshore or in foreign countries have a responsibility to exercise ordinary business care and prudence in determining their filing obligations and other requirements. It is not reasonable or prudent for taxpayers to have no knowledge of, or to solely rely on others for, international transactions. When considering reasonable cause, examiners must consider the following:

    1. Reasonable cause will be considered by the examiner per IRM 20.1.1, Introduction and Penalty Relief, prior to assessing the penalty. Reasonable cause does not apply to penalties assessable after the taxpayer was notified of the requirement to file or was requested to provide specific required information. See Exhibit 20.1.9-5, Reasonable Cause Relief, for a quick reference. Specific information is listed with the related penalty and IRC sections.

      Note:

      The fact that reasonable cause relief was granted to the related income tax return does not automatically provide relief for the failure to timely file the information returns.

    2. Because of the unique nature and risks associated with international transactions, reasonable cause should not be granted to a taxpayer merely because:
      1) A foreign country would impose penalties on them for disclosing the required information,
      2) A foreign trustee refuses to provide them information for any other reason, including difficulty in producing the required information or provisions in the trust instrument that prevent the disclosure of required information, or
      3) The taxpayer relied on another person to file returns. It is the taxpayer’s responsibility to ensure that all returns are filed timely and accurately.

    3. Examiners should ensure the taxpayer is in full compliance with the requirements of the IRC section for which reasonable cause is being sought. For example, if a taxpayer wants reasonable cause for three years filed, but has not filed two subsequent years that are due, no reasonable cause should be considered until all open period filings have been secured. If the IRS only addresses the late-filed returns in hand and does not address subsequent required period returns, three different unintended consequences may result as follows:
      1) The IRS will need to rework the civil penalty issue should the taxpayer later file the other required periods,
      2) The IRS will need to start up another examination against the taxpayer if the taxpayer fails to subsequently file all required periods, or
      3) The taxpayer will not subsequently file or otherwise comply.

  5. Appeal Rights—Appeals currently provides a prepayment appeal process for all international penalties. See IRM 8.11.5, Penalties Worked in Appeals, International Penalties. Also, Appeals provides for an accelerated process for certain international penalties. See IRM 8.11.5.2, International Penalty—Accelerated Appeals Consideration.

    Reminder:

    The prior policy was to allow an appeal prior to making payment for "Chapter 68 penalties" (refer to: 26 U.S.C. Chapter 68 - Additions to the Tax, Additional Amounts, and Assessable Penalties). However, other international penalties, "Chapter 61 penalties," were not entitled to any appeals consideration until after the penalty was fully paid. Also see IRM 20.1.9.2.2 (5) regarding compliance with Rev. Proc. 2012-18, Ex Parte Communications Between Appeals and Other Internal Revenue Service Employees.

  6. Specific Powers of Attorney or Authorizations to Disclose Tax Information—These documents are required prior to discussing penalty issues with a person other than the person subject to the assessment or required to file the returns.

  7. Information Returns—These documents are generally required to be attached to the related income tax return. In addition, certain information returns must also be separately filed with the IRS campus site identified in the instructions for such form. Any information return required to be attached to the related income tax return is due on the due date of the income tax return, including extensions. Examiners should focus on the requirement to attach the information returns to the related income tax return when determining whether or not the required return has been filed timely. Form 3520, Annual Return to Report Transactions With Foreign Trust and Receipt of Certain Foreign Gifts, and Form 3520-A, Annual Information Return of Foreign Trust With a U.S. Owner, are processed to Master File (on MFT 68 and 42 respectively) and are not required to be attached to an income tax return.

  8. Field Office Penalty Cases—These cases are not controlled on AIMS. However, penalties assessed are associated with an examination on the taxpayer. Use CFOLZ to identify closed examinations.

  9. Campus Penalty Cases—Examiners are authorized to assess penalties on late filed or incomplete information returns received at the campus. Campus employees can abate penalties asserted by campus personnel.

    Note:

    All other abatements must be approved by the organizational unit that authorized the assessment (e.g., LB&I, SB/SE, TE/GE, W&I).

  10. Form 8278—International penalties are assessed by Examination on Form 8278, Assessment and Abatement of Miscellaneous Civil Penalties, with a Form 886-A, Explanation of Items, attached to identify what penalty is being assessed and how it was calculated.

  11. Penalty Tax Adjustments—Some of the IRC penalty sections include penalty adjustments to income tax or penalties that are based on the amount of income tax. Penalties based on the amount of income tax, income tax deficiency, adjustments to taxable income, tax credits, or income tax computations are return-related penalties and are covered by deficiency procedures. Return-related penalties must be included in an examination report. These penalties are noted in Exhibit 20.1.9-4 for information purposes.

  12. Related Statute for Assessment—IRC 6501(c)(8) extends the statute for assessment on the related income tax return regarding items related to the information required to be reported until 3 years after the information required by IRC 6038, IRC 6038A, IRC 6038B, IRC 6038D, IRC 6046, IRC 6046A and IRC 6048 is furnished to the Secretary. Examiners should be aware that filing or failing to file information returns may affect the statute for assessment on the related income tax returns.

    Note:

    The HIRE Act amendments to IRC 6501(c)(8), as well as the additional amendments in the Education Jobs and Medicaid Assistance Act, Public Law No. 111-226, make clear that IRC 6501(c)(8) applies to the related income tax return, but there is also a reasonable cause exception.

  13. Notice—A notice and demand for payment is a legally due and payable assessment (bill) mailed to the taxpayer.

    1. IMF—A notice is generated and the penalty is assessed to a MFT 55 account based on the information provided on Form 8278. When the penalty case is closed and processed, the PRN and the amount of penalty assessed is input into the IRS computer system which, in turn, generates a Computer Paragraph (CP) notice or CP 15, Notice of Penalty Charge, which is sent to the taxpayer.

    2. BMF—A notice is generated and the penalty is assessed to a MFT 13 account based on the information provided on Form 8278. The PRN and amount of penalty assessed is input which systemically generates a CP 215, Notice of Penalty Charge, which is sent to the taxpayer.

  14. Notice Letters—Notice letters are pre-assessment requests for returns (or complete and accurate return information) sent by certified mail to the taxpayer.

20.1.9.1.2  (03-21-2013)
Other Penalties

  1. Criminal penalties should be considered for U.S. and foreign taxpayers who willfully fail to file a return (IRC 7203) or file a false or fraudulent return (IRC 7206 and IRC 7207).

  2. IRC 6662(e), Substantial Valuation Misstatement Under Chapter 1, and IRC 6662(h), Increase in Penalty in Case of Gross Valuation Misstatements, address the coordination of IRC 482 transfer price adjustments.

  3. The following reporting and filing requirements are subject to failure to deposit penalties as discussed in IRM 20.1.4, Failure to Deposit Penalty, and are applicable to Form 1042, Annual Withholding Tax Return for U.S. Source Income of Foreign Persons.

    Statute Subject
    IRC 1441 Withholding of Tax on Nonresident Aliens
    IRC 1442 Withholding of Tax on Foreign Corporations
    IRC 1446 Withholding Tax on Foreign Partners' Share of Effectively Connected Income

20.1.9.1.3  (04-22-2011)
31 U.S.C. 5321—TD F 90-22.1, Report of Foreign Bank and Financial Accounts (FBAR)

  1. Generally, a U.S. person having one or more foreign accounts with maximum balances totaling over $10,000 for any calendar year is required to maintain records and file Form TD F 90-22.1 with the Internal Revenue Service by June 30th of the following year.

  2. A penalty applies—

    1. Under 31 U.S.C. 5321(a)(5)(B) for any non-willful violation of the recordkeeping and filing requirements under 31 U.S.C. 5314,

    2. Under 31 U.S.C. 5321(a)(5)(C) for any willful violations of the recordkeeping and filing requirements under 31 U.S.C. 5314,

    3. Under 31 5321(a)(6)(A) for negligently failing to meet the filing and recordkeeping requirements for financial institutions or non-financial trades or businesses, and

    4. Under 5321(a)(6)(B) for a pattern of negligent violations of any provision of 31 U.S.C. 5311-5332.

  3. See IRM 4.26.16, Report of Foreign Bank and Financial Accounts (FBAR), for FBAR penalty computation rules and mitigation guidelines. See IRM 4.26.17Report of Foreign Bank and Financial Accounts (FBAR) Procedures, for FBAR penalty procedures.

  4. See 31 U.S.C. 5321(b) for the statute of limitations on assessment and collection.

20.1.9.1.4  (03-21-2013)
Voluntary Disclosure Special Process

  1. Criminal Investigation's (CI's) Voluntary Disclosure Practice is described in IRM 9.5.11.9, Voluntary Disclosure Practice.

  2. The 2009 Offshore Voluntary Disclosure Program (2009 OVDP) was available to taxpayers beginning March 23, 2009, for voluntary disclosures received by the IRS through October 15, 2009. The penalty was asserted on Form 8278 in the following manner:

    1. The penalty was a percentage of the amount in foreign bank accounts, or fair market value of assets, that was paid in lieu of other penalties during the six year look-back period.

    2. PRN 595 was designated for a 5 percent reduced penalty in certain circumstances, and

    3. PRN 596 was designated for a 20 percent penalty.

  3. The 2011 Offshore Voluntary Disclosure Initiative (2011 OVDI), with a different penalty framework, was available to taxpayers beginning February 8, 2011, for voluntary disclosures received by the IRS through August 31, 2011. The penalty is asserted on Form 8278 in the following manner:

    1. The penalty was a percentage of the amount in foreign bank accounts or fair market value of assets that were paid in lieu of other penalties during the eight year look-back period.

    2. PRN 595 was designated for a 5 percent reduced penalty for certain taxpayers with little connection to their accounts or who did not know they were U.S. citizens,

    3. PRN 597 was designated for a 12.5 percent penalty for smaller offshore accounts or assets that did not surpass $75,000 in any calendar year, and

    4. PRN 598 was designated for a 25 percent penalty.

  4. The 2012 OVDI was announced January 9, 2012, and is similar to the 2011 OVDI with the following exceptions:

    1. PRN 594 was designated for a new 27.5 percent penalty, and

    2. Currently, this initiative has no expiration date. It remains open until an expiration date is announced.

20.1.9.2  (03-21-2013)
Assessment Procedures for Penalties Not Subject to Deficiency Procedures

  1. This section provides general procedures common to international penalties. Exceptions are noted in the discussion of the specific penalties.

  2. Generally, the penalties included in this section are asserted by international examiners, revenue agents, tax auditors, tax compliance officers, tax examiners, or estate and gift tax attorneys (collectively referred to hereafter as "examiner(s)" ) after inquiring about the event, information return or requesting the return from the taxpayer.

    Note:

    In certain situations, the examiner will make the determination that the return is required without first contacting the taxpayer with respect to an income tax examination.

  3. Examiners must perform appropriate research when addressing these penalties. Technical advisors can provide additional information on specific provisions. See Exhibit 20.1.9-1, Quick Reference Guide to International Penalties. For other detailed examination procedures on international penalties, refer to IRM 4.60.8, International Examination and Processing Procedures.

  4. Deficiency procedures under Subchapter B of Chapter 63 (relating to deficiency procedures for income, estate, gift, and certain excise taxes) do not apply to penalties discussed in this section. See Exhibit 20.1.9-4, International Penalties Subject to or Not Subject to Deficiency Procedures.

  5. U.S. and foreign taxpayers are subject to criminal penalties such as willful failure to file a return (IRC 7203) and filing a false or fraudulent return (IRC 7206 or IRC 7207). If at any point these IRC sections apply, examiners must discuss the situation with their manager and the fraud technical advisor before further contacting the taxpayer.

  6. Penalties are assessed on U.S. persons as defined in IRM 20.1.9.1.1 (1).

  7. Requirement to File—The examiner must determine that the information return was required to be filed before referring to the information listed under the individual IRC section and Penalty Reference Number (PRN). The following types of information support a presumptive requirement to file an international information return:

    1. Testimony of the taxpayer or other reliable persons.

    2. Late filed return.

    3. A filed return indicating that information returns are due for prior or subsequent periods or for related entities.

    4. A filed return that does not include all the required information or the required supporting information was not provided when requested.

    5. Information that the taxpayer has control over, is receiving benefits from, is receiving distributions or income from an account in the name of a foreign entity.

    6. Statement in the name of the foreign entity addressed to the taxpayer.

    7. Information received from promoter investigations that indicates the taxpayer owns or has control over a foreign entity, is controlled by a foreign entity, or meets another filing requirement.

  8. Fact of Filing—The examiner must determine that the information return (with complete and accurate information) has not been filed or was filed after the required date. Also note that:

    1. Generally, the information returns or statements are required to be attached to the related income tax return and the due date is the same as the related income tax return (including extensions). Specific exceptions are noted for each penalty separately.

    2. Some returns have dual filing requirements and the penalty can apply for failure to file either return.

    3. Examiners should focus on the requirement to attach the information return to the related income tax return when determining whether or not the required return has been filed timely.

      IF for the taxpayer ... THEN ...
      you have a TIN request BMFOLI to identify all filings for the period in question and then request BMFOLT and BRTVU (the BRTVU has all lines of the return transcribed) for the specific MFT(s) and period(s) desired.
      you do not have a TIN research NAME for a TIN (If no TIN is located, include research in the case file).

  9. Referral—Domestic examiners must make a referral on the Specialist Referral System for international assistance when they are assigned a case which involves international information returns. The specialist electronic referral home page is: https://srs.web.irs.gov.

    Note:

    SB/SE examiners have been delegated the authority to issue penalty letters when referrals are not accepted and to make all other penalty determinations. See IRM 1.2.43, Delegations of Authority for the Examining Process.

  10. Penalty Case Control—When an examiner determines that an information return is due as a result of failure to file a required information return or failure to file a complete or accurate information return the examiner must take the following actions:

    1. Request approval for a penalty investigation from his or her manager,

    2. Establish penalty case controls, and

    3. Prepare a penalty case file (see IRM 20.1.9.2.2).


    The file must include the information that supports the requirement to file and establishes that the information return has not been filed.

  11. Request the Returns—Examiners should inform the taxpayer of the requirements to file the information returns and of the intent to assess the penalty for failure to comply. The initial penalty can be assessed without advance notification. However, examiners should inform the taxpayer prior to assessing the penalty. Examiners must take steps to secure appropriate documentation to support the requirement to file the returns. This information may also be necessary for the related income tax examination.

  12. Notice Letter Provisions—Penalties under IRC 6038, IRC 6038A, IRC 6038D, IRC 6677, and IRC 6679 have "notice letter" provisions and a continuation penalty may apply. The provisions state that:

    1. If the required returns are not filed or the required information is not received on or before the 90th day after the notice letter is issued, additional penalties of $10,000 per month (or fraction thereof) may be assessed.

    2. The penalty continues to increase until the required information is received, or the information returns are filed, or the maximum penalty is assessed.

    3. The maximum penalty amount for the continuation penalty is different for each IRC section and is referenced in each penalty section.

  13. Notice Letters—Examiners must issue notice letters at the earliest date possible. The taxpayer must respond within a specified period after the date the letter was issued. Notice letters also provide an opportunity for the taxpayer to produce information to prove that the information return in question was not required to be filed or to request reasonable cause for the failure to timely file. Notice letters are available through http://publish.no.irs.gov/catlg.html. Required language for additional letters is available from the international penalty technical advisor, IRC, notices, and regulations.

    1. Notice letters are addressed to the U.S. person responsible for ensuring that the required returns are filed and include the name of the related foreign entity.

    2. Notice letters must be signed by an examination group manager in SB/SE or a revenue agent in LB&I.

    3. Notice letters that are sent certified mail instruct the taxpayer to mail the information returns to the address of the examiner issuing the letter.

    4. Notice letters may also be hand delivered or issued directly to the taxpayer. The examiner should get a receipt from the taxpayer on the date of delivery. Many notice letters have a specified response period prior to a continuation penalty being asserted. The receipt is proof of the date the notice letter was issued.

    5. There is no provision in the IRC or Treas. Regs. for an extension of the 90-day period described in the notice letter. However, the running of the 90-day period may be suspended by other IRC sections not specific to these penalties.

  14. Secured Returns—When an examiner secures a delinquent information return or statement, determine if it provides all of the required information and is accurate. If the return is incomplete or inaccurate, the examiner must inform the taxpayer that the return is not considered filed until it is complete and accurate. For complete and accurate returns, perform the following actions:

    Note:

    For purposes of this paragraph, a "delinquent information return" does not include Form 3520. (See IRM 20.1.9.10 and IRM 20.1.9.13). Form 3520 is separately processed to business Master File (BMF) under MFT 68, or Form 3520-A is separately processed to BMF under MFT 42. (See IRM 20.1.9.14).

    STEP Action
    1. Date stamp and make 1 photocopy of the document.
    2. Associate the original document with the related income tax return. Often, the received date of the information return affects the statute for assessment on the related income tax return. See IRC 6501(c)(8).
    3. Place the photocopy in the penalty case file. The return received will be kept in the penalty case file and the related income tax file.

  15. Reasonable Cause—Once examiners determine that the taxpayer is in full compliance for all open years (not on extension) with respective provisions of the law, they must consider any reason a taxpayer provides in conjunction with the guidelines, principles and evaluating factors relating to reasonable cause based on the facts and circumstances. Examiners should be mindful of the fact that, generally, these penalties apply to individuals who have business or investment activities in foreign countries, and, as such, general care and prudence requires researching the filing and tax obligations of all jurisdictions. See Exhibit 20.1.9-5, Reasonable Cause Relief, the IRC, and the Treas. Regs. relating to the specific penalty. Also examiners should note the following:

    1. Reasonable cause does not apply to the initial penalty in some IRC sections.

    2. Many of the penalty sections have specific provisions for reasonable cause.

    3. Examiners must issue a determination letter if the taxpayer requested reasonable cause consideration and it was denied.

    4. Reasonable cause determinations can only be made by the unit that asserted the penalty (e.g., campus cannot allow reasonable cause for a penalty asserted by LB&I, TE/GE, or SB/SE Field Office Examination).

    5. A taxpayer’s repeated failure to file does not support testimony that the taxpayer demonstrated normal business care or prudence for the older, late-filed years. Once all open periods (not on extension) are secured, examiners can make a determination as to reasonable cause for any of the periods not timely filed. IRM 20.1.1.3.2.1 lists the standards and authorities for establishing reasonable cause and IRM 20.1.1.3.2.2 defines ordinary business care and prudence.

    6. A taxpayer’s testimony that records were not available year after year has no merit. Once all late filings are secured, examiners can make a determination as to any reasonable cause for all periods secured. IRM 20.1.1.3.2.2.3 provides criteria for taxpayers unable to obtain records.

  16. Compute the Penalties—After the examiner has determined that a penalty applies, the examiner must compute the amount of the penalty and prepare the assessment documents. Form 8278, Assessment and Abatement of Miscellaneous Civil Penalties, and Form 886-A, Explanation of Items, are required. The penalty amounts are discussed in the section for each penalty. Penalty computation time frames are as follows:

    1. Penalties will be computed until the date returns are filed, until the required information is received, or until the maximum penalty amount is reached.

    2. For penalties without notice letter provisions, or if no notice letter was issued:
      (i) Assess penalties promptly after receipt of the required returns or return information, or
      (ii) If no return is received, assess penalties 90 days after the request for the return.

  17. Penalties with a Notice Letter Provision—When the examiner does not receive a response from the taxpayer, it is recommended that the initial assessment package be prepared on or after the 125th day, but before the 150th day after the date that the notice letter was issued. As a result, two assessments, each on a separate Form 8278 are required. One assessment would be for the initial penalty and a second assessment is required for two months of the continuation penalty.

    Example:

    For one delinquent Form 5471, Information Return of U.S. Person With Respect to Certain Foreign Corporations, the first two assessments (each on a different Form 8278) would be as follows:

    Description Penalty Reference Number Penalty Amount
    Initial Penalty 623 $10,000
    Continuation Penalty 619 $20,000

  18. The examiner must maintain a copy of the initial penalty case file for subsequent assessments if noncompliance continues. Please note:

    1. The second and subsequent (if applicable) assessments of the continuation penalty should be made after 215 days from the date of the notice letter, unless the maximum penalty amount has been reached.

    2. As a result, any subsequent assessment(s) will be for three months: $30,000 for each required return.

  19. Continuation Penalties—A continuation penalty is associated with several penalties and can either be assessed at the same time as the initial penalty or at a later date. There are maximum limits to some continuation penalties while others have no limitation on the amount that can be assessed. Additional information about each continuation penalty is presented in the respective penalty sections that follow. In addition:

    1. Penalty Case Control—Once the initial penalty case file (either the initial penalty alone or the initial penalty along with the first continuation penalty) is closed, subsequent continuation penalties are not automatically assessed. Separate penalty case files will need to be developed for each subsequent continuation penalty. It is recommended that every three months that the taxpayer noncompliance continues, the examiner request approval from his or her manager to open a new continuation penalty case file until the maximum penalty is reached or until an "administrative decision" is made to suspend additional assessments.

    2. Administrative Decision—For those continuation penalties that do not have a maximum limit, managers must weigh the facts and circumstances of the taxpayer in determining how long to pursue continuation penalties for each taxpayer.

  20. Approval—IRC 6751 requires that managers approve penalties prior to assertion. Managers must approve the case control, sign the notice letters, and approve the penalty by signing Form 8278 prior to closing the penalty case file. Personal approval of the manager is met with an original signature or a digital (e.g., through Adobe PDF) signature.

    Note:

    Notice letters issued by SB/SE must be signed by the group manager. Notice letters issued by LB&I can be signed by the LB&I revenue agent.

  21. Payment—To process payments use:

    1. Form 3244, Payment Posting Voucher, to list the payment amount,

    2. Transaction Code (TC) 640 if the payment is received prior to assessment,

    3. TC 670 if the payment is received after assessment, and

    4. The appropriate Designated Payment Code (see IRM 21.3.4.7.1.3, Designated Payment Code (DPC)).

20.1.9.2.1  (03-21-2013)
Penalty Assessment–Form 8278, Assessment and Abatement of Miscellaneous Civil Penalties

  1. The examiner will enter the dollar amount of the penalty on Form 8278 and attach Form 886-A, Explanation of Items.

  2. Form 8278 is the assessment document for the civil penalty module. The penalty assessment is posted to the module using the penalty reference numbers (PRN) reflected on the Form 8278. The PRNs included in section "F" of Form 8278 are the PRNs referred to in Exhibit 20.1.9-3, Quick Guide for Reference Numbers to Process International Penalty Assessments. When completing the form, remember to:

    1. If a continuation penalty is proposed in conjunction with an initial penalty, a separate Form 8278 is required for each type of penalty.

    2. Prepare a separate Form 8278 for each tax year and IRC section for which a penalty assessment is made.

    3. If a penalty investigation is started and the penalty is waived for reasonable cause or other reasons, document the reason(s) the penalty was waived in the workpapers.

  3. Attach Form 886-A to each Form 8278 and include the following information:

    1. Name and TIN of the U. S. person required to file the information return.

    2. Name and TIN of the entity for which the return was required to be filed (if applicable).

    3. Applicable IRC section(s).

    4. Computation of penalty.

    5. Date the notice letter (if applicable) was issued or returns requested.

    6. Any other significant correspondence.

    7. Date the information or information return was received.

    8. Discussion of facts and law as necessary, e.g., reasonable cause for not filing; information on Abusive Transactions (AT) involvement and the promotion; pattern of filing information returns; or other related tax violations (e.g., understatement of income tax related to the failure to file the information returns)

    Reminder:

    These penalties should not be entered on Form 870, Waiver of Restrictions on Assessment and Collection of Deficiency in Tax & Acceptance of Overassessment, Form 4549, Income Tax Examination Changes, Form 4549-A, Income Tax Discrepancy Adjustments, or any other examination report. For assistance in preparing the international examiners report, refer to IRM 4.60.9, International Examiner's Report.

  4. If the taxpayer agrees to the penalty assessment, note this in your workpapers and on Form 886-A. The taxpayer’s signature is not required with respect to these penalties.

20.1.9.2.2  (04-22-2011)
Penalty Case File Assembly and Procedures

  1. Examiners will prepare a separate penalty case file for penalties that contains all relevant information. The "penalty report" consists of Form 8278 and Form 886-A with supporting explanations and computations. For each penalty case file, be sure to:

    1. Prepare a separate penalty case file with a separate Form 8278 when penalties will be assessed under more than one IRC section or for more than one tax year.

    2. Identify multiple assessments for the same taxpayer.

      Reminder:

      Assessable penalties are assessed on individual taxpayers even when a married filing joint income tax return is filed.

    3. Request a current CFOLI for the TIN that the penalty is to be assessed on. If other civil penalties are on the module, request CFOLT and analyze the accounts. Comment that the penalty should be assessed and is not a duplicate penalty assessment.

    Note:

    Form 5344, Examination Closing Record, is not used for a penalty case file.

  2. Prepare the case file as follows:

    1. Complete and attach Form 3198, Special Handling Notice for Examination Case Processing, to the outside of the penalty case.

    2. Penalties are assessed to MFT 13 for entities and MFT 55 for individuals.

    3. Indicate the PRN and penalty amounts on Form 3198. For example: "Assess PRN 623 for $10,000. Civil Penalty Form 8278 enclosed."

  3. Include a copy of the following with your workpapers:

    1. The secured information return or statements (if filed).

    2. The first page of the income tax return with a comment that you inspected the entire return and the required form was not attached.

    3. Copy of the notice letter with certified mail receipt.

  4. Keep the penalty case file separate from any related income tax cases. Identify related penalty cases as "related returns." Keep a copy of the following in the penalty file:

    1. A copy of the information return (if secured, with stamped received date), and

    2. Form 8278 with Form 886-A and copies of any relevant documents from the related income tax case file.

  5. For cases submitted to Appeals, be sure to:

    1. Attach Form 4665, Report Transmittal, and

    2. Include taxpayer's written request for appeal of penalties.

      Caution:

      Comments on Form 4665, must be in compliance with Rev. Proc. 2012-18, which provides, "The transmittal memorandum or any similar document that the originating function uses to transmit the administrative file (transmittal) should not include statements or comments intended to influence Appeals' decision-making process. This includes recommendations concerning what Appeals should consider and how Appeals should resolve the case." For additional information regarding Rev. Proc. 2012-18 visit http://mysbse.web.irs.gov/exam/tip/exparte/default.aspx.

20.1.9.2.3  (03-21-2013)
Claims or Penalty Abatement Requests

  1. In certain instances, taxpayers will ask for reconsideration of a penalty that has been assessed. The examiner will first determine if the taxpayer is in full compliance for all open years (not on extension) with the respective provisions of the law. It is important to ensure that the taxpayer has filed, reported, and maintained all information as provided in the Code. The examiner will then determine whether all the facts were considered when the penalty was assessed.

    Note:

    Refer taxpayers to the Taxpayer Advocate Service (TAS) (see IRM Part 13, Taxpayer Advocate Service) when the contact meets TAS criteria (see IRM 13.1.7, Taxpayer Advocate Service (TAS) Case Criteria) and you cannot resolve the taxpayer’s issue the same day. The definition of "same day" is within 24 hours. "Same day" cases include cases you can completely resolve in 24 hours, as well as cases in which you have taken steps within 24 hours to begin resolving the taxpayer's issue. Do not refer "same day" cases to TAS unless the taxpayer asks to be transferred to TAS and the case meets TAS criteria. Refer to IRM 13.1.7.4, Same-Day Resolution by Operations. When you refer cases to TAS, use Form 911, Request for Taxpayer Advocate Service Assistance (and Application for Taxpayer Assistance Order), and forward to TAS. See also IRM 21.1.3.18, Taxpayer Advocate Service (TAS) Guidelines.

  2. In the case of Wheaton vs. U.S., 888 F. Supp. 622 (D.N.J. 1995), the court held that after a penalty is assessed, the taxpayer must make "…a 'plausible and believable' assertion that, viewing the facts and law most favorably to the government, the government is certain to fail on the merits of its case. In his affidavit, plaintiff simply denies control over the ten foreign corporations as that term is used in IRC section 6038. Although in theory this allegation may be plausible and believable, the Court does not deem it sufficient to shift the burden of proof to the government."

  3. Payment of claims on penalties or abatement of penalties must be approved by the organizational unit that assessed the penalties. This includes the following situations:

    1. Collection personnel do not have delegated authority to abate or decrease penalties in this chapter assessed by examiners in LB&I, TE/GE, W&I, or SB/SE.

    2. Campus Examination personnel do not have delegated authority to abate or decrease penalties in this chapter assessed by Examination field office examiners.

    3. Delinquent information returns received with a claim or abatement request must be referred to the Examination function that assessed the penalty. The referral package must include the assessment documents.

20.1.9.3  (03-21-2013)
IRC 6038—Information Reporting With Respect to Foreign Corporations and Partnerships

  1. IRC 6038(b) provides a monetary penalty for failure to furnish information with respect to certain foreign corporations and partnerships.

  2. The filing requirements apply to both entities which are treated as associations taxable as corporations or as partnerships under Treas. Reg. 301.7701-3.

20.1.9.3.1  (04-22-2011)
Reporting and Filing Requirements

  1. Form 5471, Information Return of U.S. Persons With Respect to Certain Foreign Corporations, and Form 8865, Return of U.S. Persons With Respect to Certain Foreign Partnerships, are used for reporting purposes.

  2. Foreign Corporations—IRC 6038(a) and Treas. Reg. 1.6038-2(a) require a U.S. person to furnish information with respect to certain foreign corporations. The required information includes foreign corporation entity data, stock ownership data, financial statements, and intercompany transactions with related persons. Other provisions that must be considered include:

    1. A taxpayer meets the requirement by providing the required information on a timely filed Form 5471. A Schedule M attached to Form 5471 is used to report related party transactions. The information is for the annual accounting period of the foreign corporation ending with or within the U.S. person’s taxable year. Form 5471 is filed with the U.S. person’s income tax return on or before the date required by law for the filing of that person’s income tax return, including extensions. See Treas. Reg. 1.6038–2(i).

    2. Regulations provide exceptions for attaching the Form 5471 to the related income tax return when the return is filed by another shareholder.

      i) The taxpayer must provide a copy of the filed Form 5471 when requested.
      ii) The non-Form-5471-filer must attach a statement to his or her income tax return with both the name and TIN of the person filing the Form 5471. If the required return was not filed timely by the other party, the penalty applies.

    3. Rev. Proc. 92-70 provides for summary reporting of dormant corporations. By using the summary filing procedure, the filer agrees that it will provide any information required within 90 days of being asked to do so on audit. The monetary penalty or the foreign tax credit reduction (see IRM 20.1.9.4) can be imposed if the information is not provided with the 90 days. Rev. Proc. 92-70 applies in its entirety.

  3. Foreign Partnerships—IRC 6038(a) and Treas. Reg. 1.6038-3(a) require a U.S. person to furnish information with respect to certain foreign partnerships. The required information includes foreign partnership entity data, ownership data, financial statements, and intercompany transactions with related persons. The information is furnished to the IRS as follows:

    1. A taxpayer meets the requirement by providing the required information on a timely filed Form 8865, Return of U.S. Persons With Respect to Certain Foreign Partnerships.

    2. Schedule N, attached to Form 8865, is used to report related party transactions. The information is for the annual accounting period of the foreign partnership ending with or within the U.S. person’s taxable year.

    3. Form 8865 is filed with the U.S. person’s income tax return on or before the date required by law for the filing of that person’s income tax return, including extensions. See Treas. Reg. 1.6038-3(i).

  4. Generally, examiners verify fact of filing of the required information return(s) by inspecting the original income tax return. When examiners believe that neither Form 5471 nor Form 8865 was filed timely, examiners should be sure to secure them and attach copies to the related income tax return.

  5. See IRC 6501(c)(8) for statute of limitations on assessment.

20.1.9.3.2  (03-21-2013)
Penalty Letters, Notice Letters and Notices

  1. Failure to File Form 5471—See Exhibit 20.1.9-6, Pattern Letter for Failure to File Form 5471.

  2. Failure to File Form 8865—See Exhibit 20.1.9-7, Pattern Letter for Failure to File Form 8865.

  3. Computer Paragraph (CP) Notices—Once a penalty is identified by the campus or a penalty case is closed by the field and the Form 8278 is processed, a CP notice is generated and sent to the taxpayer as follows:

    1. IMF—A CP 15, Notice of Penalty Charge, for penalties assessed on MFT 55 with Penalty Reference Number (PRN) 623 is generated and sent to the taxpayer. A sample of a CP 15 notice (for a different penalty) is shown at Exhibit 20.1.9-15, Sample CP 15 Notice.

    2. BMF—A CP 215, Notice of Penalty Charge, for penalties assessed on MFT 13 with PRN 623 is generated and sent to the taxpayer. A sample of a CP 215 notice for this penalty is shown at Exhibit 20.1.9-16, Sample CP 215 Notice.

20.1.9.3.3  (03-21-2013)
Penalty Assertion

  1. An initial penalty is asserted by field examiners on Form 8278 using PRN 623 when an examiner determines the taxpayer has not timely filed the required information or has not filed complete and accurate information.

  2. Penalties may be systemically asserted during initial processing of a late-filed Form 5471 that is attached to a late-filed Form 1120 as follows:

    1. For IMF, refer to IRM 21.8.1.25, Form 5471 – Information Return of U.S. Persons with Respect to Certain Foreign Corporations.

    2. For BMF, refer to IRM 21.8.2.21, Form 5471 – Information Return of U.S. Persons with Respect to Certain Foreign Corporations.

    3. PRN 599 will be used to denote such systemic penalties.

  3. Penalties may be systemically asserted during initial processing of a late-filed Form 5471 that is attached to a late-filed Form 1065, U.S. Return of Partnership Income, as follows:

    1. Reserved.

    2. PRN 712 will be used to denote such systemic penalties.

20.1.9.3.4  (04-22-2011)
Penalty Computation

  1. Initial Penalty—The initial penalty is $10,000 per failure to timely file complete and accurate information on each Form 5471 or Form 8865. The penalty is assessed for each form (of each foreign corporation or partnership) for each year that was not timely filed with complete and accurate information.

  2. Continuation Penalty—If any failure continues more than 90 days after the day on which the notice of such failure was mailed to the taxpayer (90-day period), additional penalties will apply. The continuation penalty is $10,000 for each 30-day period (or fraction thereof) during which such failure continues after the expiration of the 90-day period. These additional penalties are also asserted on Form 8278 using PRN 619. Also note that:

    1. The maximum continuation penalty for IRC 6038(b) is $50,000 per required Form 5471 or Form 8865.

    2. For assessments prior to July 2005, the total penalty amount including the continuation penalty was assessed using PRN 623.

  3. The maximum total penalty under IRC 6038(b) is $60,000 per Form 5471 or Form 8865 required to be filed per year (an initial penalty maximum of $10,000 plus the continuation penalty maximum of $50,000 per return).

20.1.9.3.5  (03-21-2013)
Reasonable Cause

  1. Initial Penalties—To show that reasonable cause exists, the person required to report such information must be in compliance with all open reporting years (not on extension) and must make an affirmative showing of all facts alleged as reasonable cause for such failure in a written statement. For failure to file Form 5471, the written statement must contain a declaration that it is made under the penalties of perjury. Additional information is available for:

    1. Form 5471 at Treas. Reg. 1.6038-2(k)(3)

    2. Form 8865 at Treas. Reg. 1.6038-3(k)(4).

  2. Continuation Penalty—There is no reasonable cause exception for this penalty.

  3. PRN 599 Penalties—The first-time abatement (FTA) penalty relief provisions (see IRM 20.1.1.3.6.1(8), exception) do not apply to event-based filing requirements such as with Form 5471. If the related abatement on the Form 1120, U.S. Corporation Income Tax Return, filing reflects an FTA penalty reason code (PRC) 018, abate the PRN 599 penalty using PRC 043. If the related abatement on the Form 1120 filing reflects a PRC of other than 018, abate the PRN 599 penalty using the same PRC as shown on the abatement of the Form 1120 filing penalty.

20.1.9.4  (04-22-2011)
IRC 6038(c) – Reduction of Foreign Tax Credit

  1. IRC 6038(c) provides for a reduction in foreign tax credit for a failure to furnish information with respect to a controlled foreign corporation (see IRC 957 ) or a controlled foreign partnership that is required to be filed under IRC 6038.

20.1.9.4.1  (04-22-2011)
Reporting and Filing Requirements

  1. For reporting and filing requirements including Form 5471, Information Return of U.S. Persons with Respect to Certain Foreign Corporations, and Form 8865, Return of U.S. Persons With Respect to Certain Foreign Partnerships, refer to IRM 20.1.9.3.1, Reporting and Filing Requirements.

20.1.9.4.2  (04-22-2011)
Penalty Letters, Notice Letters and Notices

  1. Failure to File Form 5471—See Exhibit 20.1.9-6, Pattern Letter for Failure to File Form 5471.

  2. Failure to File Form 8865—See Exhibit 20.1.9-7, Pattern Letter for Failure to File Form 8865.

20.1.9.4.3  (04-22-2011)
Penalty Assertion

  1. The foreign tax credit reduction is limited to the greater of $10,000 or the income of the foreign entity for the applicable accounting period.

  2. Not every controlled foreign corporation carries a foreign tax credit to the U.S. income tax return.

  3. Coordination With IRC 6038(b). The amount of the IRC 6038(c) penalty is reduced by the amount of the dollar penalty imposed by IRC 6038(b).

20.1.9.4.4  (03-21-2013)
Penalty Computation

  1. Initial Penalties:

    1. Application of IRC 901—The amount of taxes paid or deemed paid is reduced by 10 percent.

    2. Application of IRC 902 and IRC 960—The amount of taxes paid or deemed paid is reduced by 10 percent. The 10 percent reduction is not limited to the taxes paid or deemed paid by the foreign corporation(s) with respect to which there is a failure to file information but applies to the taxes paid or deemed paid by all foreign corporations controlled by that United States person.

  2. Continuation Penalties—If such failure continues for more than 90 days after the day on which the notice of such failure was mailed to the taxpayer (90-day period), the amount of the reduction is increased by an additional reduction of 5 percent for each 3-month period, or fraction thereof, during which such failure continues after the expiration of the 90-day period.

  3. Limitation—The amount of the foreign tax credit reduction for each failure to furnish information with respect to a foreign corporation may not exceed the greater of:

    1. $10,000, or

    2. The income of the foreign corporation for its annual accounting period with respect to which the failure occurs.

      Note:

      No taxes may be reduced more than once for the same failure. Also, the regulations have not been updated. Where the IRC currently refers to a foreign corporation’s "post 1986 undistributed earnings," the regulations still refer to "accumulated profits."

20.1.9.4.5  (03-21-2013)
Reasonable Cause

  1. Initial Penalties—To show that reasonable cause exists, the person required to report such information must have filed for all open years (not on extension) and must make an affirmative showing of all facts alleged as reasonable cause for such failure in a written statement. For failure to file Form 5471, the written statement must contain a declaration that it is made under the penalties of perjury. Additional information is available for:

    1. Form 5471 at Treas. Reg. 1.6038-2(k)(3), and

    2. Form 8865 at Treas. Reg. 1.6038-3(k)(4).

  2. Continuation Penalty—There is no reasonable cause exception for this penalty.

20.1.9.5  (03-21-2013)
IRC 6038A(d) – Information Reporting for Certain Foreign-Owned Corporations

  1. IRC 6038A provides a penalty for certain foreign-owned domestic corporations failing to report required information or failing to maintain records.

  2. For international examination and processing procedures, refer to IRM 4.60.8.3, IRC Section 6038A and 6038C Cases.

20.1.9.5.1  (03-21-2013)
Reporting and Filing Requirements

  1. IRC 6038A(a) and Treas. Reg. 1.6038A-2 generally require a reporting corporation to furnish detailed information regarding each person who is a related party or had any transaction with the reporting corporation during the taxable year, including, but not limited to:

    1. Name,

    2. Business address,

    3. Nature of business,

    4. Country in which organized or resident,

    5. Name and address of all direct and indirect 25-percent shareholders,

    6. Name and address of all related parties with which the reporting corporation had a reportable transaction,

    7. Nature of relationship of each related party to the reporting corporation,

    8. Description and value of transactions between the reporting corporation and each foreign person who is a related party, and

    9. See Treas. Reg. 1.6038A-2(b).

  2. Form 5472, Information Return of a 25% Foreign-Owned U.S. Corporation or a Foreign Corporation Engaged in a U.S. Trade or Business (Under Sections 6038A and 6038C of the Internal Revenue Code), is filed as an attachment to the U.S. income tax return by the due date of that return, including extensions. But, if the reporting corporation’s income tax return is not timely filed, Form 5472 nonetheless must be timely filed at the campus where the return is due. When the income tax return is ultimately filed, a copy of Form 5472 must be attached. In addition:

    1. A taxpayer meets the requirement by timely filing the required information on Form 5472.

    2. A separate Form 5472 must be filed with regard to each related party that has reportable transactions with the reporting corporation.

    3. A taxpayer is also specifically required to maintain relevant records sufficient to allow determination of the correct tax treatment of the transactions with a related party (as defined in IRC 6038A(c)(2)). See IRC 6038A and Treas. Reg. 1.6038A-3.

  3. The following exceptions apply:

    1. A reporting corporation that, along with all related reporting corporations, has less than $10,000,000 in U.S. gross receipts for a taxable year is not subject to the record maintenance requirement or the authorization of agent requirement (see IRM 20.1.9.6 below) for such taxable year.

    2. If the total value of all gross payments (both made to and received from) foreign related parties (including the value of transactions involving less than full consideration) with respect to related party transactions for a taxable year is not more than $5,000,000 and is less than 10 percent of its U.S. gross income, the reporting corporation is not subject to the record maintenance requirement and the authorization of agent requirement for those transactions.

      Note:

      These exceptions apply only to the record maintenance requirements and the authorization of agent requirement. These exceptions do not apply to the reporting requirements for Form 5472 and the general record maintenance requirements of IRC 6001.

  4. Reporting Corporation—For purposes of IRC 6038A, a reporting corporation is a domestic corporation that is 25 percent (or more) foreign-owned.

  5. 25 Percent Foreign-Owned—A corporation is 25 percent foreign-owned if it has, at any time during the taxable year, at least one direct or indirect 25 percent foreign shareholder (a foreign person owning at least 25 percent of the total voting power of all classes of stock of such corporation entitled to vote or the total value of all classes of stock of such corporation). The attribution rules of IRC 318 apply, with modifications. See IRC 6038A(c)(5).

  6. Related Party—The term "related party" means:

    1. Any direct or indirect 25 percent foreign shareholder of the reporting corporation;

    2. Any person who is related (within the meaning of IRC 267(b) or IRC 707(b)(1)) to the reporting corporation or to a 25 percent foreign shareholder of the reporting corporation; and

    3. Any other person who is related within the meaning of IRC 482 to the reporting corporation.

  7. Foreign Person—For purposes of IRC 6038A, the term "foreign person" generally means:

    1. Any individual who is not a citizen or resident of the United States;

    2. Any individual who is a citizen of any possession of the United States and who is not otherwise a citizen or resident of the United States;

    3. Any partnership, association, company, or corporation that is not created or organized in the United States or under the law of the United States or any State thereof;

    4. Any foreign trust or foreign estate, as defined in IRC 7701(a)(31); or

    5. Any foreign government (or agency or instrumentality thereof).

20.1.9.5.2  (03-21-2013)
Penalty Letters, Notice Letters and Notices

  1. Form 5472—See Exhibit 20.1.9-8, Pattern Letter for Failure to File Form 5472.

  2. Failure to Maintain Required Documents—See Exhibit 20.1.9-9, Pattern Letter for Failure to Maintain Required Documents.

  3. Computer Paragraph (CP) Notices—Once a penalty is identified by the campus or a penalty case is closed by the field and the Form 8278 is processed, a BMFCP 215, Notice of Penalty Charge, for penalties assessed on MFT 13 with PRN 625 is generated and sent to the taxpayer. A sample of a CP 215 notice (for a different penalty) is shown at Exhibit 20.1.9-16, Sample CP 215 Notice.

20.1.9.5.3  (03-21-2013)
Penalty Assertion

  1. An initial penalty is asserted on Form 8278 using PRN 625 when the examiner determines that a U.S. corporation that is 25 percent foreign-owned during a taxable year has had transaction(s) with a related party and:

    1. Has failed to timely file Form 5472,

    2. Has filed a Form 5472 which is inaccurate or incomplete, or

    3. Has failed to maintain records of transactions with related parties.

      Note:

      Generally, the records that must be maintained pursuant to IRC 6038A must be maintained within the U.S. However, a reporting corporation may maintain such records outside the U.S. if such records are not ordinarily maintained in the U.S. and if the reporting corporation makes the records available to the Service within 60 days of the request to produce them, or brings the records to the U.S. and complies with the notice requirements under Treas. Reg. 1.6038A-3(f)(2)(ii).

  2. Meeting Records Requirements—Generally, a taxpayer meets the requirement by complying with the request for books, records, or documents.

  3. Penalties may be systemically asserted during initial processing of a late-filed Form 5472 that is attached to a late-filed Form 1120 as follows:

    1. Refer to IRM 21.8.2.22 , Form 5472 - Information Return of a 25% Foreign-Owned U.S. Corporation or a Foreign Corporation Engaged in a U.S. Trade or Business.

    2. PRN 711 will be used to denote such systemic penalties.

20.1.9.5.4  (03-21-2013)
Penalty Computation

  1. Initial Penalty—The initial penalty is $10,000 for each failure during a taxable year of a reporting corporation to:

    1. Timely file a separate Form 5472 with respect to each related party with which it had a reportable transaction during such taxable year,

    2. Maintain the required records relating to a reportable transaction, or

    3. In the case of records maintained outside the U.S., meet the non-U.S. record maintenance requirements.

    Reminder:

    The initial penalty is asserted once per related party per taxable year even if multiple infractions have occurred, e.g., failure to file Form 5472 and failure to maintain records for the same related party. Note: Prior to July 2005, all IRC 6038A assessments were made using PRN 619.

  2. Continuation Penalty—If any failure continues more than 90 days after the day on which the notice of such failure was mailed to the taxpayer (90-day period), additional penalties will apply. The continuation penalty is $10,000 for each 30-day period (or fraction thereof) during which such failure continues after the expiration of the 90-day period. These additional penalties are also asserted on Form 8278 using PRN 701 (prior to January 2013, PRN 619 was used for this continuation penalty).

    Note:

    Under certain circumstances, an additional penalty for a taxable year may be imposed if, at a time subsequent to the time of imposition of the initial penalty, a second failure is determined and the second failure continues after notification. See Treas. Reg. 1.6038A-4(d)(2) and Treas. Reg. 1.6038A-4(f) Example (2).

20.1.9.5.5  (03-21-2013)
Reasonable Cause

  1. Initial Penalty—To show that reasonable cause exists, the reporting corporation must have filed for all open years (not on extension) and must make an affirmative showing of all the facts alleged as reasonable cause for the failure in a written statement containing a declaration that it was made under the penalties of perjury. See Treas. Reg. 1.6038A-4(b) and note that:

    1. Treas. Reg. 1.6038A-4(b)(2)(ii) provides a separate reasonable cause exception for small corporations.

    2. This provision states that reasonable cause will be applied liberally when the small corporation had no knowledge of the IRC 6038A requirements, has limited presence in (and contact with) the U.S., promptly and fully complies with all requests to file Form 5472, and promptly and fully complies with all requests to furnish books and records relevant to the reportable transaction.

    3. A "small corporation" for purposes of this section is defined as a corporation whose gross receipts for a taxable year are $20,000,000 or less.

  2. Continuation Penalty—Generally, if there is reasonable cause for a failure, the beginning of the 90-day period after mailing of a notice by the Service of a failure shall be treated as not earlier than the last day on which reasonable cause existed. See Treas. Reg. 1.6038A-4(b)(1).

20.1.9.6  (04-22-2011)
IRC 6038A(e) – Noncompliance Penalty for Certain Foreign-owned Corporations

  1. IRC 6038A provides that a foreign related party must authorize the reporting corporation to act as its limited agent for the purpose of an IRS summons regarding transaction(s) with the related party. IRC 6038A also provides that a reporting corporation must substantially comply in a timely manner to an IRS summons for records or testimony relating to a transaction with a related party. The penalty for failure to authorize an agent or for failure to produce records is described in IRC 6038A(e)(3). For applicable definitions, see IRM 20.1.9.5.1 (4) through (7).

  2. For international examination and processing procedures, refer to IRM 4.60.8.3.7, IRC Section 6038A(e) Noncompliance Penalty.

20.1.9.6.1  (04-22-2011)
Reporting and Filing Requirements

  1. A taxpayer meets the requirement by providing an executed Authorization of Agent within 30 days of request by the Service or, in the case of production of records, by complying with the request for books, records, or documents. The penalty is not imposed if a taxpayer quashes a summons other than on grounds that the records were not maintained as required by IRC 6038A(a).

  2. Statute of Limitations—The running of any period of limitations under IRC 6501 and IRC 6531 may be suspended as provided in IRC 6038A(e)(4)(D).

20.1.9.6.2  (04-22-2011)
Penalty Letters, Notice Letters and Notices

  1. Failure to Authorize as Agent—See Exhibit 20.1.9-10, Pattern Letter for Failure to Authorize as Agent.

  2. Failure to Maintain Required Documents—See Exhibit 20.1.9-9, Pattern Letter for Failure to Maintain Required Documents.

20.1.9.6.3  (04-22-2011)
Penalty Assertion

  1. A penalty is asserted when the examiner determines that:

    1. A foreign related party, upon request, fails to authorize the reporting corporation to act as its agent for IRS summons purposes pursuant to the requirements set forth in Treas. Reg. 1.6038A-5, or

    2. The reporting corporation has failed to respond substantially and timely to a proper summons for records.

  2. The noncompliance penalty follows deficiency procedures and is reflected on the notice of deficiency.

20.1.9.6.4  (04-22-2011)
Penalty Computation

  1. The noncompliance penalty adjustment permits the Service, in its sole discretion, to adjust the amount of deductions and to adjust cost of goods sold with respect to the related party transaction(s) based upon information available to the Service. See IRC 6038A(e)(3).

20.1.9.6.5  (04-22-2011)
Reasonable Cause

  1. In exceptional circumstances, the IRS may treat a reporting corporation as authorized to act as agent for a related party for IRS summons purposes in the absence of an actual agency appointment by the foreign related party in circumstances where the actual absence of an appointment is reasonable. See Treas. Reg. 1.6038A-5(f).

20.1.9.7  (03-21-2013)
IRC 6038B(c) – Failure to Provide Notice of Transfers to Foreign Persons

  1. IRC 6038B(c) provides a penalty for failure to furnish information with respect to certain transfers of property by a U.S. person to certain foreign persons.

20.1.9.7.1  (03-21-2013)
Reporting and Filing Requirements

  1. Form 8865 Schedule O, Transfer of Property to a Foreign Partnership (Under section 6038B), and Form 926, Return by a U.S. Transferor of Property to a Foreign Corporation, are used for reporting purposes.

  2. Foreign Corporations—IRC 6038B(a) and the regulations issued thereunder require that any U.S. person that transfers property to a foreign corporation (including cash, stock, or securities) in an exchange described in IRC 332, IRC 351, IRC 354, IRC 355, IRC 356, IRC 361, IRC 367(d), or IRC 367(e) must report certain information concerning the transfer:

    1. Treas. Reg. 1.6038B-1(b) provides the general reporting requirements.

    2. Treas. Reg. 1.6038B-1(b)(1) states that notwithstanding any statement to the contrary on Form 926, the form and attachments must be filed with the transferor’s tax return for the taxable year that includes the date of the transfer.

    3. Form 926 must be complete, accurate, and filed with the taxpayer's income tax return by the due date of the return (including extensions) at the campus where the taxpayer is required to file in order to meet the requirements outlined in Treas. Regs. (a) and (b) above.

  3. Foreign Corporations Exceptions—The penalty does not apply:

    1. For transfers of stock or securities to a foreign corporation in a transaction described in IRC 6038B(a)(1)(A) in which the requirements of Treas. Reg. 1.6038B-1(b)(2)(i) are satisfied and Form 926 need not be filed,

    2. Under Treas. Reg. 1.6038B-1(b)(3), for transfers of cash in a transfer described in IRC 6038B(a)(1)(A), Form 926 is only required to be filed when:
      1) Immediately after the transfer, such person holds directly, indirectly, or by attribution (determined under the rules of IRC 318(a), as modified by IRC 6038(e)(2)) at least 10 percent of the total voting power or the total value of the foreign corporation; or
      2) The amount of cash transferred by such person or any related person (determined under IRC 267(b)(1) through (3) and (10) through (12)) to such foreign corporation during the 12-month period ending on the date of the transfer exceeds $100,000.

  4. Foreign Partnerships—IRC 6038B(a) and Treas. Reg. 1.6038B-2 require that any U.S. person that transfers property to a foreign partnership in a contribution described in IRC 721 must report certain information concerning the transfer. Also note that:

    1. These rules are generally effective with respect to such transfers except as otherwise provided in the regulations.

    2. Taxpayers meet the requirements by filing Form 8865 Schedule O, with their federal income tax return by the due date of the return (including extensions) at the campus where they are required to file.

  5. Description of Transfer to Foreign Corporations—A transfer described in IRC 367(a) occurs if a U.S. person transfers property to a foreign person in connection with an exchange described in IRC 332, IRC 351, IRC 354, IRC 355, IRC 356, or IRC 361, provided an exception in IRC 367(a) is not applicable.

    Note:

    A transfer described in IRC 367(d) occurs if a U.S. person transfers intangible property to a foreign corporation in an exchange described in IRC 351 or IRC 361.

  6. Description of Transfer to Foreign Partnerships—A transfer described in IRC 721 occurs if a U.S. person transfers property to a foreign partnership under the nonrecognition of gain or loss on contribution rule. Also note that:

    1. The rule for transfers to foreign partnerships under IRC 6038B(b) applies only if a U.S. person holds at least a 10% interest in the partnership immediately before or after the contribution, or

    2. The value of the property transferred exceeds $100,000 which includes the value of all property transferred during the 12-month period ending on the date of the transfer (not determined on a calendar year). See Treas. Reg. 1.6038B-2(a)(1).

      Note:

      The value of any property transferred is the fair market value at the time of its transfer.

  7. Statute of Limitations—The HIRE Act amendments to IRC 6501(c)(8), as well as the additional amendments in the Education Jobs and Medicaid Assistance Act, Public Law No. 111-226, make clear that the IRC 6501(c)(8) period applies to the entire return, not just those items associated with the failure to file under IRC 6038B, unless the taxpayer can show reasonable cause. In the case of a taxpayer who demonstrates reasonable cause, only those items related to the failure under IRC 6038B will be subject to the longer period under IRC 6501(c)(8).

20.1.9.7.2  (03-21-2013)
Penalty Letters, Notice Letters and Notices

  1. Form 926—See Exhibit 20.1.9-11, Pattern Letter for Failure to File Form 926.

  2. Form 8865 Schedule O—See Exhibit 20.1.9-12, Pattern Letter for Failure to File Form 8865 Schedule O.

  3. Computer Paragraph (CP) Notices—Once a penalty is identified by the campus or a penalty case is closed by the field and the Form 8278 is processed, a CP notice is generated and sent to the taxpayer as follows:

    1. IMF—A CP 15, Notice of Penalty Charge, for penalties assessed on MFT 55 with Penalty Reference Number (PRN) 676 is generated and sent to the taxpayer. A sample of a CP 15 notice (for a different penalty) is shown at Exhibit 20.1.9-15, Sample CP 15 Notice.

    2. BMF—A CP 215, Notice of Penalty Charge, for penalties assessed on MFT 13 with PRN 676 is generated and sent to the taxpayer. A sample of a CP 215 notice (for a different penalty) is shown at Exhibit 20.1.9-16, Sample CP 215 Notice.

20.1.9.7.3  (04-22-2011)
Penalty Assertion

  1. A penalty is asserted on Form 8278 using PRN 676 when the examiner establishes that the taxpayer:

    1. Is a U.S. person and has made a transfer to a foreign corporation or a foreign partnership as described above,

    2. Has failed to timely file Form 926 and attachments, or Form 8865 Schedule O, Transfer of Property to a Foreign Partnership (Under section 6038B), as specified in IRC 6038B, and

    3. Has not shown that such failure to comply was due to reasonable cause.

  2. The penalty under IRC 6038B(c) is not subject to deficiency procedures. However, the income tax adjustment for gain recognition is subject to deficiency procedures.

20.1.9.7.4  (03-21-2013)
Penalty Computation

  1. If a U.S. person fails to furnish information in accordance with IRC 6038B regarding some or all of the property transferred and the reasonable cause exception does not apply, then with respect to such property:

    1. It is not considered to have been transferred for use in the active conduct of a trade or business outside the U.S., and gain must be recognized with respect to that property to the extent provided in IRC 367(a) if transferred to a foreign corporation; and

    2. The U.S. person must pay a penalty equal to 10% of the fair market value of the property on the date of transfer, not to exceed $100,000, unless the failure was due to intentional disregard. See Treas. Reg. 1.6038B-1(f).

    3. If the property was contributed to a foreign partnership, in addition to the monetary penalty, gain must be recognized by the transferor. See Treas. Reg. 1.6038B-2(h).

  2. The period for limitations on assessment of tax on the transfer of such property does not begin to run until the date on which the U.S. person complies with the reporting requirements.

    Note:

    IRC 6501(c)(8) applies to the income tax deficiency from items required to be reported under IRC 6038B.

  3. See examples under Treas. Reg. 1.6038B-2.

20.1.9.7.5  (03-21-2013)
Reasonable Cause

  1. No reasonable cause should be considered until the taxpayer has filed all open years (not on extension).

  2. IRC 6038B(c)(2) provides that no penalty shall apply to any failure if the U.S. person shows such failure is due to reasonable cause and not to willful neglect.

20.1.9.8  (03-21-2013)
IRC 6038C – Information with Respect to Foreign Corporations Engaged in U.S. Business

  1. Generally, a foreign corporation engaged in a trade or business within the United States at any time during the taxable year is a "reporting corporation." See IRC 6038C and Treas. Reg. 1.6038A-1(c)(1).

20.1.9.8.1  (03-21-2013)
Reporting and Filing Requirements

  1. Generally, each reporting corporation as defined in Treas. Reg. 1.6038A-1(c) shall make a separate annual information return on Form 5472 with respect to each related party as described in Treas. Reg. 1.6038A-1(d) with which the reporting corporation has had any "reportable transaction." See Treas. Reg. 1.6038A-2(a)(2) and Treas. Reg. 1.6038A-2(a)(1).

  2. Generally, a reporting corporation must keep the permanent books of account or records as required by IRC 6001 that are sufficient to establish the correctness of the federal income tax return of the corporation, including information, documents, or records to the extent they may be relevant to determine the correct U.S. tax treatment of transactions with related parties. Such records must be permanent, accurate, and complete, and must clearly establish income, deductions, and credits. See Treas. Reg. 1.6038A-3(a)(1).


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