June 22, 2010
Dear Client:
We are writing to inform you of certain reporting requirements which may apply to you, if you own property located in Mexico held in a foreign trust. We wanted to alert you of recent actions the IRS has taken to vigorously address foreign trust reporting requirements. If you own property in a Mexican trust or other foreign trust you are responsible for new IRS reporting rules. Failure to comply with these rules will result in incredibly significant monetary penalties. If you are not currently reporting it to the IRS, please read this letter closely and contact us if you have any questions or need assistance.
The Mexican Constitution prohibits direct ownership of real estate by foreigners in what has come to be known as the "restricted zone". The restricted zone encompasses all land located within 100 kilometers (about 62 miles) of any Mexican border, and 50 kilometers (about 31 miles) of any Mexican coastline. However, in order to permit foreign investment in these areas, the Mexican government created the "fideicomiso", which can be roughly translated as a real estate trust. Essentially, this type of trust is similar to trusts set up in the United States, but in this case a Mexican bank must be designated as the trustee, and, as such, has title to the property and is the owner of record. The Mexican government created the "fideicomiso" to reconcile the problems involved in developing the restricted zone and to attract foreign capital. This enabled foreigners, as beneficiaries of the trusts, to enjoy unrestricted use of land located in the restricted zone.
A "fideicomiso" is a trust agreement created for the benefit of a foreign buyer, executed between a Mexican bank and the seller of property in the restricted zone. Since foreign buyers do not have the capacity to enter into a normal real estate sales contract, due to Mexican Constitutional restrictions, the bank acts on their behalf.
The bank, as trustee, buys the property for the foreigner, and has a fiduciary obligation to follow instructions given by the beneficiary. The beneficiary of the trust retains and enjoys all the rights of ownership while the bank holds title to the property. The foreigner is the beneficiary of the trust and is entitled to use, enjoy and, if he or she should decide to, even sell the property held in trust at its market value to any eligible buyer.
According to rulings from the Internal Revenue Service and the recently passed Hiring Incentives to Restore Employment (HIRE) Act, U.S. Persons with property in a Fideicomiso have a foreign trust which are required to file Form 3520 and Form 3520-A. These forms are generally for disclosure purposes only. However, there are very severe penalties imposed for noncompliance with these foreign trust provisions. Not properly and timely filing Form 3520 has a potential penalty of up to 35% of the value of the property transferred to or from the trust. Not filing Form 3520-A has a penalty up to 5% of the value of the property in the trust. In addition, the newly enacted HIRE Act also contains a section requiring uncompensated personal use of trust assets to be reported as a distribution from the trust and this distribution could be subject to income tax.
If you own real estate in a Mexican trust and have not complied with the US foreign trust filing requirements, please contact us as soon as possible. If you require assistance with filing the Forms 3520 and 3520-A, we will need to gather some information to properly prepare the necessary forms. To comply with these filing requirements, we will need to obtain from you the trust documentation including the name of the foreign trust, the name of the bank holding the foreign trust and the trust identification number.
If you have any questions regarding this information, please call us at your convenience.
Very truly yours,
