Sunday, February 1, 2009

US Tax Return Filing Requirements for Fideicomisos

It is possible that you along with a large number of US Citizens who own real estate in Mexico are in violating the U.S. Tax law each year when you file their your US returns. That occurs when you fail to file the special forms which are required if you are the beneficiary of a Fideicomiso which is the Mexican trust that owns real estate on behalf of foreigners. A Fideicomiso is required own the property when you are a foreigner and located near the ocean. It is a foreign trust in which you as the property owner are the beneficiary and a Mexican bank acts as the Trustee.

Form 3520A is suppose to be filed by the trustee of your Fideicomiso (the Mexican bank which charges you the annual fee to administer your Fideicomiso) . However, they do not in fact file that form since it is not required by Mexican tax law. Some banks have been reported to want $1,000US or more to look into filing the form and then stated they would want an additional fee if they had to fill it out. If that form is not filed in a timely manner each year (it is due on March 15th following the end of the calendar year) or filed late the penalty is 5 % of the value of the property held in the trust. You will be the taxpayer penalized by the IRS if this form is not filed and therefore, the IRS recommends you file it to avoid having to pay the large penalty. This form reports the information on the income of the trust (if any) and the value of its assets and your contribution to the trust and information on the trustee, the beneficiary and other related information.

Form 3520 must also be filed by you the taxpayer not later than the extended due date of your tax return. It needs to be filed in the year the Fideicomiso comes into being and in years there are distributions or dissolution of the Fideicomiso. Therefore it is not always filed. However, when the form is required to be filed the penalty for not filing it or filing it late is 5% of the value of the trust assets (your real estate). This form reports the name and address of the you, the trustee, when the trust was formed and other details of the trust. The first time is form is filed a copy of the Spanish fideicomiso document is attached to it.

The IRS has not excluded US taxpayers owning property through Mexican Fideicomisos from filing both Forms 3520 and 3520A. They are studying whether they should exempt Fideicomisos from the form but to date no decision has been made. A representative has stated it is a low priority issue. Therefore, you still are required to meet the filing requirements until they state otherwise.

Many US Citizens have said they do not file the form since the IRS could never find out they owned real property in Mexico. Those people are failing to take into consideration the Mexican-US tax treaty which provides for an open exchange of information between the two countries and the fact that when fideicomiso is created it is registered in Mexico with a copy of your U.S. Passport. Starting several years ago your passport is now connected with your social security number. In addition, as more banks in Mexico are acquired by U.S. Banks it becomes more probable that information on these fideicomisos will leak back to the IRS.

An IRS spokesman has orally indicated that if a late filing taxpayer attaches a “reasonable explanation” for the late or previous non filing of these forms, the penalties will be waived. So far that statement appears to been honored for those who have filed late, but it cannot be predicted when the IRS may change this informal policy of waiving the penalty. The IRS also has not defined what is acceptable as a “reasonable explanation.”

An IRS Tax auditor's job is to collect tax money to finance the government. That usually takes a lot of time and effort and reviewing tedious accounting records. Forms such as the 3520 and 3520A which provide for large penalties if filed late or not at all are an IRS auditor's dream. They can collect large penalties for non filing or late filing without conducting a tedious audit. This clearly sets forth a good reason to make certain these forms are filed when each year as required.

Most accountants are not familiar with the 3520 and 3520A forms since they are not involved in international taxation and have no training in that area of tax law. It is best to find an experienced tax expert to assist you with this form or to file any past forms not yet filed.

There is one other tax hurdle that relates to property ownership and your US taxes. If your real property is a commercial or rental property, Mexican law allows you to own it through a Mexican corporation. If that is the manner in which you do hold title to your Los Cabos real estate, each year with your US income tax return you must file Form 5471. Failure to file that form or filing it late can result in a penalty of $10,000 per year.

Copies of all forms and directions can be found on the web at

US Taxation of Mexican Corporations

If you, a US Citizen, own your Mexican real estate or small business through a Mexican corporation you have a U.S. Tax filing obligation with the IRS each year. This form is generally required if you own 10% or more of the stock or equitable interest in the foreign corporation.

  • The form is due yearly on the extended due date of your US. Income tax return. It is filed with your personal return and includes information on the foreign corporation's ownership, formation, income and expenses, and assets and liabilities. Usually it will not result in any additional tax due with your personal return, but that is possible if it has Subpart F income.

  • In most situations (unless the flow through election is made as explained below) the form 5471 does not result in any additional tax on your US tax return. However, if the foreign corporation has a sufficient amount of investment income, income from the sole owners personal services, or income from reselling goods made by an affiliate in the US, its income may become immediately taxable to you the shareholder. Subpart F income is complex which means a careful analysis of the sources of the corporations income must be made to determine if it is immediately taxable to its shareholder. If another owner of the foreign corporation files the form, you just need to identify data on that owner in an attachment to your tax return.

  • If the corporation owns real estate, and possible for other reasons, it is advisable that it is formed a a Sociedad de Responsibilidad Limitada (SRL). You as the owner of the SRL can make an election for US income tax purposes to treat it as a flow through entity on the US return of its owner. (This is the same as the treatment of an LLC or partnership for US tax purposes.) This means all of its income or losses flow through to you on your personal tax return and becomes a part of your US taxable income each year. It also allows you to take a foreign tax credit on your personal return for any taxes the foreign corporation pays in Mexico on its income. This election also stops any possibility of double taxation or converting capitals gains into ordinary income on your US income tax return.

  • If the IRS discovers you filed late or you should have been filing this form and did not the penalty is $10,000 per year for each unfiled form. There is a tax treaty between Mexico and the U.S which allows both countries access to the other countries records. Your US passport is included with other documents in the bureau where your Mexican corporation is is registered in Mexico.

  • We recommend to you that you file this form each year if you have the requisite stock ownership in a Mexican Corporation. Failure to file could result in extreme IRS penalties if they discovered you failed to file.