What Is a 3520 and When Do I Need to File One?

Arin V., EA , MBA

Arin is an Enrolled Agent (EA), authorized to represent taxpayers in front of the IRS, and holds a BA and MBA (Management) degree from California State University, Northridge.

Few things feel as good as getting a large chunk of money from one’s parents (or a rich uncle who lives far away). However, did you know that you may have a tax filing requirement in this scenario, even if your parents (or uncle) are not U.S. persons?

Indeed, this would be just one of the numerous scenarios under which you would be required to file a Form 3520. One of the several information returns that exist in the U.S. tax system, Form 3520 is a lesser-known form, but still a very important one.

Last week we covered Form 5471 and its multiple categories of filers, in all of its glorious mind-boggling complexity. Fortunately, Form 3520 is not as complex as Form 5471, nor as time-consuming, but this form can still trip one up because there are several very different scenarios under which you would be required to file it.

The most common reason one would need to file a Form 3520 is if they were the owner, or grantor, of a foreign trust. This would be the case even if you received no distributions from the trust and even if there was no activity in the trust during the tax year. 

On the other hand, if you received a distribution from a foreign trust during the year, you would have a Form 3520 filing requirement, even if you were not the owner of the foreign trust. Naturally, in this scenario, you would also have to report the income received from the trust on your 1040 tax return.

Going back to how we started this discussion, if you were to receive more than USD$100,000 from a non-U.S. person (such as a parent) during the tax year, or, more than USD$16,649 from a foreign corporation or partnership, you would have a Form 3520 filing requirement, although in this scenario, you would not owe any tax. 

Another less common scenario in which you would have to file a Form 3520 is if you were to transfer property or assets to a foreign trust during the tax year. 

Therefore, as you can see, you may have a Form 3520 filing requirement even though it may not seem obvious to you during the course of your daily life. What makes matters worse is that in some of these scenarios, you may end up owing tax in the U.S., whereas in other scenarios, you may not. And if that wasn’t enough, in certain scenarios, your foreign retirement plan (such as a self-managed superannuation account in Australia) may be considered a foreign trust, and thus would trigger a Form 3520 filing requirement. 

So what happens if you are required to file a Form 3520 but do not do so in a timely manner? Or what happens if you do file the form, but you do it incorrectly? As you can imagine, the penalties are just as draconian as many other IRS penalties. For instance, failure to file the form (or failure to file it correctly) may result in a penalty of $10,000 or 5 percent of the gross value of the portion of the trust’s assets that you own. Further, failure to report any distributions received from the foreign trust may result in a penalty equal to 35 percent of the gross value of the distributions. And if you transferred assets to a foreign trust but failed to report this on a Form 3520, the penalty may be equal to 35 percent of the gross value of the property or assets transferred to the trust. 

It should be noted that even though the Form 3520 filing deadline is generally April 15 (so as to match the filing deadline of your personal tax return), the form is not filed together with your 1040 tax return. It should also be noted that this brief article is by no means an exhaustive resource on Form 3520 and its nuances. Indeed, if you are the owner of a foreign trust, or you have received distributions from a foreign trust, or if you have received a gift from a non-U.S. person, please get in touch today to make sure that your Form 3520 is filed correctly.