The IRS issues long-awaited good news for US persons regarding reporting and filing requirements for Canadian tax-favored foreign trusts

March 4, 2020

ALERT: IRS Revenue Procedure 2020-17, issued March 2, 2020, provides guidance and relief for eligible US persons regarding tax-favoured (Canadian) foreign trusts including RESPs and RDSPs.

reporting compliance on tax-favoured foreign trusts

Under the Internal Revenue Code (IRC), certain US persons were required to file annual returns with the IRS for transactions with, and ownership of, certain tax-favored retirement and non-retirement trusts established in a jurisdiction outside of the US.

The most commonly agreed upon Canadian plans that were subject to the reporting requirements were the Canadian Registered Education Savings Plan (RESP) and Registered Disability Savings Plan (RDSP). There has also been substantial debate about whether a Canadian Tax-Free Savings Account (TFSA) needs to be reported as well. Failure to furnish the IRS with the correct filings has resulted in the assessment of substantial taxpayer penalties.

After years of waiting, IRS Revenue Procedure 2020-17, issued March 2, 2020, has finally provided much-needed guidance and relief regarding the abovementioned plans for eligible individuals.

Eligibility for Reporting Relief

To be an eligible person for Rev. Proc. 2020-17, you must meet the following criteria:

  • You have properly complied with your US federal tax reporting obligations, to date; and
  • You have reported as income, any contributions to, earnings of, or distributions from, an applicable tax-favored foreign trust on the applicable return (including on an amended return).

Once considered an eligible person, reporting will no longer be required for tax-favored foreign retirement and non-retirement trusts, subject to certain limitations.

What Plans Qualify as Tax-Favored Foreign Trusts?

For a plan to qualify as a tax-favored foreign trust:

  • it must generally be exempt from income tax under the foreign jurisdiction’s laws, with annual reporting provided to the tax authorities of the foreign jurisdiction
  • there must be a contribution limitation, and
  • any withdrawals must also be in line with the intended purposes of the plan’s provisions.

Notably for retirement plans the annual contribution limit is US$50,000 (lifetime limit of $1,000,000) and $10,000 annual contributions (lifetime limit $200,000) for non-retirement plans.

New Requests for Abatement and Refunds Allowed

Another area of good news is if a US person has previously been assessed the penalty for late filing of forms, the IRS has provided procedures for requesting abatement and requesting a refund.

US Persons Can Benefit from RESPs and RDSPs

The bottom line – after a couple of years that have brought a lot of pain to US individuals with international tax reporting obligations, the IRS has finally provided a bit of relief. US persons may benefit from opening RESPs and RDSPs going forward while setting their minds at ease that the IRS will not penalize them for doing so.  However, it is important to note that even with the reduced compliance requirements, the income earned in these foreign trusts will still be taxable on an annual basis.

The IRS guidance doesn’t address US tax reporting requirements for TFSAs.  In past years, we have reviewed TFSA legislation, various formation documents, and discussed the concept with the IRS and concluded that TFSAs are not trusts for US federal income tax, there is no additional reporting required on IRS Form 3520 or 3520-A.