Hi there!
A relatively complex question, hoping to receive some insights from trust tax experts around how this is typically practically reported.
My wife is a U.S. resident alien (former Canadian) who received a lump-sum cash distribution from an Employee Share Ownership Plan (ESOP) trust after leaving her employer, the Canadian branch of a U.S. organization (NYSE-listed stock).
Note that ESOPs in Canada are not regulated and standardized as they are in the U.S.
I don't believe we can use the Canadian and US terms interchangeably.
We both became resident aliens 01/01/2024, and the withdrawal event (~$13k CAD) happened in April 2024.
I’m working to determine if she’s a “U.S. owner” of this foreign trust under IRC Section 679, requiring a substitute Form 3520-A (trust didn’t file one), or if it’s exempt under 6048(a)(3)(B)(ii) as a 402(b) trust.
Here’s the setup:
ESOP Details (listed as part of her employer's Smart Saving Program):
Structure: Canadian trust holding employer’s NYSE-listed stock; voluntary after 6 months employment.
Her Contributions: Elects any percentage of pay via after-tax payroll deductions (biweekly); immediately vested, buys stock.
Employer Match: 50% of her ESOP contributions, up to 1% of her salary (e.g., 2% contribution gets 1% match); vests 100% after she has 2 years in the program.
Vesting: Her contributions immediate; match vests after 2 years; unvested match forfeited if leaving before 2 years (she left post-vesting).
Withdrawals: One free withdrawal/year without penalty; additional withdrawals may suspend match and incur fees; distribution paid out 90 days post-exit (lump-sum, less tax).
Question: Since U.S. owners of foreign trusts must file Form 3520-A, is she a considered an owner under 679, or is this ESOP exempt under 6048(a)(3)(B)(ii) as a 402(b) trust?
Consider:
Section 679(a)(1): U.S. person transferring property to a foreign trust with a U.S. beneficiary (her) is the owner of that portion, unless exempt under 6048(a)(3)(B)(ii).
- "A United States person who directly or indirectly transfers property to a foreign trust (other than a trust described in section 6048(a)(3)(B)(ii)) shall be treated as the owner for his taxable year of the portion of such trust attributable to such property if for such year there is a United States beneficiary of any portion of such trust."
Section 6048(a)(3)(B)(ii): Exempts trusts described in 402(b) from 679 ownership and 6048(a)(3)(A) reporting.
- "Subparagraph (A) shall not apply with respect to a trust which is described in section 402(b), 404(a)(4), or 404A"
Section 402(b): Non-501(a) employees’ trusts; employer contributions taxed when vested (Section 83), distributions taxed when received (Section 72); her contributions after-tax, match deferred 2 years.
However, under Income Tax Regulations 1.402(b)-1(b)(6) there's a clause for "non incidental" employee contributions. In this case, my wife's contributions are typically 2x greater than the employer's (This was a $50CAD employee, $25CAD employer contribution in 2024... The balance were ~$7200CAD employee and ~$3600CAD employer contributions in years prior -- as NRA).
- Section 402(b)(3): however, states that a beneficiary of a trust described in 402(b)(1) shall not be considered the owner of any portion of such trust....
- "A beneficiary of any trust described in paragraph (1) shall not be considered the owner of any portion of such trust under subpart E of part I of subchapter J (relating to grantors and others treated as substantial owners)."
The match’s 2-year vesting feels like deferred compensation, and it’s an employee trust tied to her pay.
Does this:
- Qualify as 402(b), exempting her from 3520-A, or
- Would the IRS likely treat it as a 679 trust due to its foreign status and stock ownership focus, or
- Do the non-incidental employee contributions void 402(b) status for the whole, or part of the trust - bifurcating it?
Personally, I was partial to the 402(b) argument. I felt it defensible.
However, I came across PLR-114270-16 where the IRS introduces the 'incidental' and 'non-incidental' consideration relating to section 402(b)... (emphasis mine)
"Section 402(b)(3) provides that the beneficiary of a nonexempt employee’s trust described in § 402(b)(1) shall not be considered the owner of any portion of such trust under subpart E of part I of subchapter J. Section 1.402(b)-1(b)(6) of the Income Tax Regulations provides, however, that where contributions made by the employee to a trust are not incidental when compared to contributions made by the employer, if the applicable requirements of such subpart E are satisfied, the beneficiary is treated as the owner of the portion of the trust attributable to the employee’s contributions. For this purpose, employee contributions are not incidental when compared to employer contributions if the total employee contributions as of any date exceed the employer contributions on behalf of the employee as of that date."
With this said, would the trust still be considered a 402(b) trust, regardless of bifurcation or U.S. person ownership?
If so, does IRC Section 6048(a)(3)(B)(ii) still hold? (exempting 3520-a reporting)?
What are the practical implications here, based on your assessment?
