Detailed Technical Comments and Recommendations to the IRS on Proposed Regulations for Form 3520 and Code Section 6039F (REG-108066-22)

The Internal Revenue Service’s (IRS) proposed regulations regarding Form 3520 and Code Section 6039F, as outlined in REG-108066-22, significantly change the reporting requirements for receiving foreign gifts. While the intent behind these regulations is laudable, several aspects warrant closer examination and potential revision to ensure clarity, fairness, and practical implementation. This submission aims to provide detailed technical comments and recommendations from a U.S. tax lawyer’s perspective, specifically referencing the relevant sections of the proposed regulations.

1. Expanded Definition of “Gift” under Proposed Treas. Reg. § 1.6039F-1(c): Balancing Enforcement with Legitimate Transactions

The proposed regulations significantly broaden the definition of “gift” under Treas. Reg. § 1.6039F-1(c), encompassing a wider range of transactions, including certain loans and transfers for less than full and adequate consideration. While intended to curb tax avoidance, this expansion could inadvertently capture legitimate arm’s length transactions, creating an undue reporting burden on taxpayers and potentially discouraging cross-border business activities.

  • Recommendation: The IRS should consider adopting a more nuanced approach to the definition of “gift” in Treas. Reg. § 1.6039F-1(c). This could involve establishing clear criteria to differentiate between bona fide gifts and legitimate business transactions. For example, a safe harbor could be created for loans with commercially reasonable terms, such as market interest rates and adequate security. Additionally, guidance could be provided on the factors to be considered in determining whether a transfer for less than full and adequate consideration constitutes a gift, such as the intent of the parties, the relationship between them, and the economic substance of the transaction.

2. Valuation of Non-Cash Gifts: Addressing Practical Challenges and Disproportionate Burdens Under Proposed Treas. Reg. § 1.6039F-1(e)

Proposed Treas. Reg. § 1.6039F-1(e) mandates the use of qualified appraisers for valuing non-cash gifts. While this aims to ensure accurate reporting, it can impose significant financial and logistical burdens on taxpayers, particularly for gifts of relatively low value. Requiring formal appraisals in all cases may be disproportionate and discourage compliance.

  • Recommendation: The IRS should consider establishing a de minimis exception for non-cash gifts below a certain value threshold, allowing taxpayers to rely on reasonable estimates or readily available valuation methods. This would alleviate the burden on taxpayers while still ensuring that high-value gifts are properly valued. Additionally, the IRS could provide guidance on acceptable alternative valuation methods, such as using publicly available market data or obtaining valuations from reputable online sources when qualified appraisals are not feasible or economically justifiable.

3. Reporting of Indirect Gifts: Striking a Balance Between Enforcement and Practicality Under Proposed Treas. Reg. § 1.6039F-1(g)

The expanded scope of reportable indirect gifts under Proposed Treas. Reg. § 1.6039F-1(g), including those received through certain foreign partnerships and disregarded entities, raises concerns about the practicality of compliance. Taxpayers may not have access to all the necessary information regarding the underlying transactions and ownership structures of these entities.

  • Recommendation: The IRS should consider implementing a reasonable cause exception for taxpayers who demonstrate a good faith effort to comply but are unable to obtain complete information on indirect gifts. This would prevent taxpayers from being penalized for circumstances beyond their control. Furthermore, the IRS could provide detailed guidance on the level of due diligence expected from taxpayers in identifying and reporting indirect gifts, taking into account the varying levels of information available to different taxpayers.

4. Penalties for Non-Compliance: Promoting Fairness and Encouraging Voluntary Compliance Under Proposed Treas. Reg. § 1.6039F-4

The existing penalties for late or inaccurate filing of Form 3520, as outlined in Proposed Treas. Reg. § 1.6039F-4, can be harsh, especially considering the complexity of the reporting requirements and the potential for unintentional errors. These penalties may deter voluntary compliance and disproportionately affect taxpayers with limited resources.

  • Recommendation: The IRS should consider adopting a more graduated and proportionate penalty structure, taking into account the nature and severity of the non-compliance. Lower penalties could be applied for minor or unintentional errors, while higher penalties could be reserved for cases of willful neglect or intentional misreporting. Additionally, the IRS could introduce a first-time abatement or penalty waiver program for taxpayers who demonstrate good faith efforts to comply and correct any errors promptly.

5. Effective Date of the Proposed Regulations: Mitigating Ambiguity and Facilitating Smooth Transition

The proposed regulations are set to take effect for gifts received after the final regulations are published in the Federal Register. This creates ambiguity for gifts received during the interim period and may lead to compliance challenges for taxpayers who may not be aware of the new requirements.

  • Recommendation: The IRS should consider delaying the effective date of the final regulations to provide taxpayers with sufficient time to adapt to the new rules and seek professional guidance if needed. Alternatively, the IRS could provide transitional relief for gifts received during the interim period, such as allowing taxpayers to rely on the prior regulations or providing a grace period for compliance with the new rules.

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