Expat Tax Questions & Answers – IRS International Reporting Guide
- 1 Golding & Golding, APLC
- 2 Do I have to Include Offshore Tax-Free Income?
- 3 Do I report ownership In a Foreign Company?
- 4 Can the IRS Take My Passport?
- 5 When/How do I File an FBAR?
- 6 When/How do I File FATCA?
- 7 Does the U.S. Tax My Provident Fund?
- 8 Does the U.S. Tax My Superannuation Fund?
- 9 Superannuation and U.S. Tax Treaty Language
- 10 What is Form 8854?
- 11 How do I Get Into Compliance?
- 12 Golding & Golding, A PLC
We are providing you with “Expat Tax Questions & Answers – IRS International Reporting Guide,” prepared by the International Tax Lawyers at Golding & Golding.
As a U.S. Expat, there are very important tax laws that you must be aware of in order to ensure you remain in compliance with IRS filing and reporting requirements.
To the surprise of many Expats, they may have U.S. reporting and tax requirements that they never could have imagined — especially considering they no longer reside within the United States.
The biggest area of concern for expats and taxes are the penalties a U.S. Expat may be subject to it he or she fails to properly file and submit the necessary U.S. Tax Forms with the Internal Revenue Service, Department of Treasury, or other Government Agency — depending on the facts and circumstances of their situation.
Golding & Golding, APLC
We represent hundreds of new international clients each year – and speak with several thousands of clients in over 50 countries. Many of these individuals are Expats who have the same questions, fears, and concerns regarding the current state of the law, and how Citizen-Based Taxation impacts their ability to comfortably build and thrive outside of the US borders.
These 10 questions are not necessarily the most important questions, but they are the questions we receive most often from our Expat clients.
*When it comes to getting into compliance, our tax law firm focuses exclusively on IRS Offshore Disclosure. We do not provide tax planning services or assist you in preparing for compliance; we are the law firm (one of the only law firms worldwide exclusively practicing in this niche) you call once you realize you are already out of compliance, and facing some serious penalties.
By understanding the 10 following topics, it may better prepare you to avoid any future fine or penalty for noncompliance – but we always recommend that you speak with an experienced international tax planning firm before making any cross-border relocation.
Am I Still Subject to U.S. Tax?
Yes, because United States practices Citizen-Based Taxation. That means, that no matter where in the world you reside, you are still subject to US tax (unless you are a non-U.S. person without certain types of U.S. Sourced Income). To clarify, individuals who are subject to US tax include: U.S. Citizens, Legal Permanent Residents, certain temporary Visa Holders who pass the Substantial Presence Test (H-1B, L-1, E-2), and Long-Term Residents who did not properly file a form 8854 and renounce or relinquish their citizenship/residency.
There are many myths and folklore involving U.S. Tax Law and Expat Rules, such as once you live outside of the United States for 25 years, you are no longer subject to US tax – but that is not true. If you fall into one of the aforementioned categories of individuals, then you need to file a US tax return each year and report your worldwide Income.
Even though you must report this income, depending on the type and category of foreign income you are earning, you may qualify for the Foreign Earned Income Exclusion or the Foreign Tax Credit. In some circumstances, you can combine them both to reduce taxes — such as highly compensated earners (not just employees).
Do I have to Include Offshore Tax-Free Income?
Yes. But, it should be noted that the United States has entered into tax treaties with many different countries. Therefore, even though the money is “taxable,” you may still receive an exclusion for the income.
The U.S. Taxes everything. For example, if you live in Hong Kong and earn bank interest income, then you have to report the income. If you live in India and your PPF is earning (but not distributing) interest, capital gains, or dividends, that must be included as well.
Likewise, if you have a savings account in Ireland that is tax-free by the government, or you are earning rental income in South Africa that is below the threshold requirement for having to report it in South Africa, it does not mean it will be excluded from your U.S. Tax Return.
In other words, all foreign income is potentially taxable. The idea of CBT (Citizen Based Taxation) and Worldwide Income Tax go hand-in-hand, and means that the U.S. taxes individuals on income they earn anywhere in the world (aka Worldwide Income). As a result, just because you are temporarily or permanently residing abroad, does not mean you should stop reporting worldwide income. This is especially true if you recently moved abroad and believe you will never return to the United States.
Trust us, we have represented enough people who let us know they moved abroad in their younger years (thinking they would never relocate back to the United States) only to settle down, get married and realize there are many benefits to raising children in the United States – and want to come “home.”
Do I report ownership In a Foreign Company?
Usually, and this is where stars get a little more complicated, but we’re going to keep it basic and simple. If you are a U.S. Expat residing overseas and you have ownership interest in a foreign company, the threshold requirement to determine is whether you have ownership in a Foreign Corporation or a Controlled Foreign Corporation.
The test is relatively simple: if the foreign corporation is owned more than 50% by U.S. persons who each own (attribution rules apply) at least 10% interest in the Corporation, then it is a controlled foreign corporation and you will be subject to US tax and reporting rules that are much stricter than normal for certain types of income.
Primarily, the rules such as Subpart F income involve passive income — with the goal of the U.S. government is to disallow controlled foreign corporations from accumulating significant wealth abroad, only to distribute it later as passive income (or issue “loans” to the owners), and avoid annual tax and reporting requirements.
Alternatively, if you happen to have ownership in a foreign corporation that is owned primarily by foreigners, then it is not a controlled foreign corporation and the same rules do not apply. Nevertheless, if you own at least 10% ownership (or have control thereof or other potential threshold requirements) then you must also file a form 5471 (you would file the form 5471 if you have at least 10% ownership in either a foreign corporation or controlled foreign corporation).
The failure to file the form can have significant consequences, including penalties that start up words of $10,000 per occurrence. Moreover, recently the IRS issued what may be considered excessive fines against an individual who attempted to sidestep this reporting requirement, and in the District Court upheld the ruling (presumably it will be appealed, but the current state of the law is that penalties will sand). The case is called, Flume.
Can the IRS Take My Passport?
Yes. Moreover, in recent months (currently, June 2017) the IRS has been increasing public awareness that this is a very real law, and it is going to be enforced. Technically, a person must have more than $50,000 worth of tax debt before the IRS can deny or revoke a US passport.
The reality is, having a passport revoked or denied is a very real concern for individuals who travel extensively and/or ex-pats who reside abroad but like to come back and visit. It could mean that you are detained at the airport, and/or it could be part of a larger investigation.
The IRS is understaffed. Therefore, once you get stuck in the matrix of IRS dealings, it can be very arduous trying to find a sympathetic ear at the IRS to approve the return of your passport. In addition, the current president is not very forgiving on issues involving immigration, so it is safe to say ensuring that your passport is returned to you is not going to be a primary concern or objective of the current administration.
When/How do I File an FBAR?
An FBAR is a Report of Foreign Bank and Financial Account Form. It is required to be filed by any individual when that individual has ownership, joint ownership, signature authority, or other relation to money in foreign accounts or otherwise, that when aggregated together on any day the year exceeds $10,000 (Read: that you have access to, o are the owner or signatory to accounts that exceed, in total $10,000 — you have to report on an FBAR).
Filing the FBAR has no relation to income. In other words, even if you have no income reporting requirement, you still have a requirement to file an annual FBAR Statement. The biggest issue with the FBAR is the penalty. The penalty is absurd, and ranges anywhere from a warning letter in lieu of penalty all the way up to $10,000 per account, per year-presuming you are non-willful. If your willful, the IRS can take upwards of $100,000 or 50% value of the account-whichever is greater.
As you can see, Internal Revenue Service and U.S. government takes these matters very seriously. Moreover, with the introduction of FATCA (see below), the IRS has ramped up enforcement priority of offshore and foreign accounts in particular, and included in the enforcement priority is the enforcement of the FBAR Penalty
When/How do I File FATCA?
FATCA is the Foreign Account Tax Compliance Act. It is a complex law, that has various facets to it, but most important (to you) is the reporting requirement. Whether or not you meet the threshold reporting requirement to have to file for FATCA will depend on the specific facts and circumstances of your situation. To put it in perspective, if you are married filing joint and residing overseas the threshold requirement is very high, and if you are single and filing as a US resident, the threshold is very low for having to report.
While many individuals are up in arms about FATCA – it is currently the law, and at the current time there are no signs that the government is planning on repealing or modifying the law. Therefore, when it is time to file your tax return if you meet the threshold requirements then you must file a form 8938 along with your tax return. Unlike the FBAR, the form 8938 is filed along with your tax return and submitted directly to the Internal Revenue Service
Does the U.S. Tax My Provident Fund?
Even though the Provident Fund may receive tax-deferred treatment in its country of origin, does not mean the United States recognizes that tax-deferred treatment as well.
Example: David is a Permanent Resident of Singapore and therefore is required to contribute to his CPF. The Singapore CPF is one of the largest Provident Funds in the world with extremely high contribution rates. David is a Highly Compensated Employee (“HCE”), with a salary upwards of $400,000. As such, David has a large portion of his salary diverted into CPF through employer contributions. In addition, David contributes a significant portion of his own salary into the CPF.
David is also a US citizen and has to report the CPF each year to the United States.
What about the CPF Tax Liability (Contributions, Deductions and accrued Growth) to David?
Provident Funds – Employer Contributions
Since the mid-1990s, the IRS has taken the position that employer contributions to the CPF on behalf of the employee are not deductible by the employee and must be considered to be income. For example, if an employer was to contribute $30,000 of David’s salary into the CPF, that $30,000 is to be considered income by David, and David would therefore have to pay U.S. tax on the employer contribution portion to the Provident Fund now — as opposed to the U.S. recognizing tax-deferred treatment in which that income which was diverted into the CPF would not currently be taxed, such as when a U.S. Employer contributes to an employee 401K plan .
Provident Funds – Employee Contributions
Moreover, unlike a 401(k) in which an employee can contribute to the 401(k) and receive tax-deferred treatment on the contributions — (since a 401(k) is tax-deferred and the recipient does is not taxed until the money is distributed) –David does not receive a tax-deferred benefit.
In other words, if David decides to contribute $25,000 of his pretax salary towards the CPF, he still needs to report the the contributed amount as part of his current income (aka he cannot “deduct” the pretax contributions from his overall current tax liability)
Provident Funds – Accrued Earnings
This is a very complex issue.
The reality is, because the United States does not recognize tax-deferred status on a CPF (employer or employee contributions), and there is no tax treaty with many of the countries which utilize Provident Funds as a retirement vehicle – the going theme is that the non-distributed accrued earnings are presently taxable.
In other words, if David’s CPF earned $7,000 in dividends and interest — even though David cannot access the money now, he would still have to pay tax on the non-distributed earnings. The theory is that because the United States does not recognize tax-deferred treatment of either the employer or employee contributions to the fund, then by default the accrued but not distributed earnings should be taxed (and not receive tax-deferred treatment either).
It should be noted, that once David pays tax on the non-distributed earnings, it will increase his basis in so far as he will not be paying double-tax in the future, on the same income.
Example: Let’s say David was properly paying U.S. tax on all of his employer contributions, employee contributions and accrued earnings, to the tune of $500,000. Once David begins to withdraw his money, David will not be taxed on the first $500,000 – or whichever amount David has already paid taxed on. In addition, future distributions based may be taxed as a hybrid, to ensure that the portion of the distribution which is “principal” is not taxed, versus the portion that is income generated on the principal – which has not yet been taxed.
In other words, it is not as it David is being double taxed (save for the fact that many provident funds are not taxed at distribution), but rather, David is being taxed now while the earnings accumulate – as opposed to later when the earnings are distributed (as to the portion of the distributions which is considered to have been already taxed).
Does the U.S. Tax My Superannuation Fund?
The United States has entered into tax treaties with upwards of 60 different countries, including Australia. The tax treaties are used to determine certain benefits for individuals with income, investments, assets, etc between the two countries so that citizens/residents of each country will have an idea of their tax liability – as well as receive some additional benefits such (as no double taxation, and reduced tax rates for investments between the two countries).
In other words, the U.S. enters into tax treaties (typically) with countries it “likes,” and wants to foster an ongoing positive relationship with.
Superannuation and U.S. Tax Treaty Language
In order to keep it nice and confusing, the Australian Tax treaty does not make any specific reference to superannuation funds. Even though the superannuation fund scheme has been in place for many years, the treaty simply does not directly reference superannuation funds.
*For example, some treaties have a very expansive description of retirement, pension and Social Security – such as the tax treaty with the UK.
Nevertheless, in accordance with the Australian treaty, it would seem that the United States has the right to tax pension payments received by an individual residing in the United States (even from an Australian Employer) unless it is a government or public pension issued for service performed in Australia (in which Australia would have the right to tax the public/government pension).
What is Form 8854?
Form 8854 is a form required by individuals who have expatriated from the United States. This area is very complex, so for purposes of this article, we will deal with the question that is most common to us — What happens if I’m not in tax compliance for the last five years?
A covered expatriate generally involves individuals who make good money and have significant assets. But, the IRS is a bit sneaky and created a third way to get people to still be subject to US tax even after they have long left the United States.
In a nutshell it goes like this: if you reside in the United States for at least eight (8) of the last 15 years then when you expatriate, you are considered a long-term resident. When you file your first expatriate statement form 8854 it will ask you certain questions, but the most important question for these categories of individuals is whether they can show they have been in tax compliance for at least the last five (5) years.
If the person cannot show their tax compliance for the last five years, then they are considered to be covered expatriate and could be subject to additional US tax in the future-even though they have relocated abroad.
Thus, even as an expat who relinquished their green card, or US citizen who announced their citizenship – the IRS will still require them to continue filing a US tax return and pay tax each year until they can certify that for at least five years there properly complied with US tax law.
How do I Get Into Compliance?
If you are out of US tax compliance and are interested in getting back into US tax compliance, one of the safest and most effective methods doing so is through the IRS offshore voluntary disclosure program.
Golding & Golding, A PLC
We have successfully represented clients in more than 1,000 streamlined and voluntary disclosure submissions nationwide and in over 70-different countries.
We are the “go-to” firm for other Attorneys, CPAs, Enrolled Agents, Accountants, and Financial Professionals across the globe.
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Sean holds a Master's in Tax Law from one of the top Tax LL.M. programs in the country at the University of Denver. He has also earned the prestigious IRS Enrolled Agent credential. Mr. Golding's articles have been referenced in such publications as the Washington Post, Forbes, Nolo, and various Law Journals nationwide.