Foreign Resident IRS Tax Return Filing Penalties – FBAR & FATCA Penalty Waiver
- 1 Tax Returns Filed From Overseas
- 2 Streamlined Foreign Offshore Procedures
- 3 How do Offshore Income & Asset Penalties Work?
- 4 Want to learn more about Offshore Disclosure?
- 5 When Do I Need to Use Voluntary Disclosure?
- 6 Golding & Golding – Offshore Disclosure
- 7 The Devil is in the Details…
- 8 What if You Never Report the Money?
- 9 Getting into Compliance
If you are a “U.S. Person” who resides overseas, and were required to – but did not – file U.S. tax returns in prior years, the IRS may waive all fines and penalties against you for the failure to file tax returns in years past and/or report Foreign Accounts.
The program is called the Streamlined Foreign Offshore Procedures.
While we have already authored multiple articles previously on this issue, we have been receiving numerous inquiries from clients overseas regarding this specific program (which has a very strict residency requirement) — so we want to provide a brief summary of how the process works, and common questions we receive about Streamlined Foreign Offshore
Tax Returns Filed From Overseas
The United States taxes individuals on their worldwide income. It does not matter if you reside in the United States or abroad in a foreign country – if you meet the threshold requirement for filing a tax return, you must file a U.S. Tax Return, report your worldwide income, and disclose certain foreign accounts, assets, investments, etc.
The mere fact that you reside overseas does not exempt from filing a U.S. Tax Return. Rather, when you do file your tax return, you receive an automatic two-month extension to file — from April to June, and possibly another extension through December. You may also receive a Foreign Tax Credit and/or qualify for the Foreign Earned Income Exclusion.
For many individuals (and often serves as the catalyst that begins the non-compliance) a major deterrent to getting into IRS tax compliance is that under U.S. Tax law, all worldwide income is considered taxable – unless a specific exemption/exclusion applies. It does not matter if you reside in the U.S. or abroad, because the U.S. adheres to the concept is CBT (Citizenship Based Taxation) and not RBT (Residence Based Taxation). And, just because the income is tax-free abroad does not mean it will receive tax-free treatment in the U.S. (even if it is similar to a 401K).
Please keep in mind that even though you have to report and pay tax on the foreign income on your US tax return, you may qualify for a Foreign Tax Credit in order to receive credit for taxes you already paid in a foreign country.
Streamlined Foreign Offshore Procedures
It is very important that U.S. Citizens, Legal Permanent Residents, former Long-Term Legal Permanent Residents who did not properly relinquish their green card under Form 8854, and individuals who meet the Substantial Presence Test stay in U.S. Tax compliance.
So much so, that when the U.S. Government created the Streamlined Program, they created an offshoot called Streamlined Foreign Program. This is a very special program, because if you happen to qualify as a foreign resident and were non-willful in your failure to report the income or accounts/assets on your US tax return — you can get into compliance safely without having to pay any penalty to the IRS.
How do Offshore Income & Asset Penalties Work?
If a person is audited, they are at the mercy of the IRS. Depending on whether the person was willful or non-willful, the penalties can range from a Warning Letter in Lieu of Penalties (3800 Letter), all the way up to 100% penalty and a multiyear audit situation in which the IRS believes you are willful.
OVDP (Offshore Voluntary Disclosure Program)
Generally, if a person knew he or she was required to file a US tax return or FBAR but failed to do so, they may be subject to extremely high fines and penalties — upwards of 100% value of the foreign accounts or assets. Instead of risking the penalty, they could enter OVDP (Offshore Voluntary Disclosure Program) and voluntarily agree to pay reduced – but hefty – penalties, with the worst penalty usually being the FBAR/FATCA Form 8938 Penalty — which is either 27.5% or 50% of the highest unreported account/asset max value. There are some additional penalties on the annual tax liability that was due, as well as potential failure-to-file and failure-to-pay penalties.
Streamlined Domestic Offshore Procedures
Alternatively, if the person was non-willful but does not qualify as a “foreign resident,” they may qualify for the Streamlined Domestic Program (still involves Foreign Accounts but the Applicant resides in the U.S.) The penalties are drastically reduced to 5%. Moreover, the penalty computation is based on the highest December 31st value of the unreported accounts – which is historically lower than the max value of the account throughout the year. Moreover, there is no penalty on the annual tax liability.
Streamlined Foreign Offshore Procedures
When a person qualifies as non-willful and a foreign resident, they may qualify for a complete penalty waiver. Qualifying as a foreign resident is tough under this program (there are two different tests depending on whether a person is a US Citizen/Legal Permanent Resident or Foreign Person subject to US tax because they meet the Substantial Presence Test).
If a person is a U.S. Citizen/Legal Permanent Resident, he or she person must have resided outside the United States for at least 330 days in any tax year within the last three tax years. Otherwise, a foreign resident who met the Substantial Presence test in some, but not all years — must show they did not meet the substantial presence test within one of the last three tax years.
By doing so, all penalties are waived although there is still a tax liability (but the applicant may qualify for a Foreign Tax Credit or the Foreign Earned Income Exclusion).
Want to learn more about Offshore Disclosure?
Offshore Voluntary Disclosure Tax law is very complex. There are many aspects that go into any particular tax calculation, including the legal status, marital status, business status and residence status of the taxpayer.
When Do I Need to Use Voluntary Disclosure?
Voluntary Disclosure is for individuals, estates, and businesses who are out of compliance with the IRS and the Department of Treasury. What does that mean? It means that if you are required to file a U.S. tax return and you don’t do so timely, then you are out of compliance.
If the IRS discovers that you are out of compliance, you may become subject to extensive fines and penalties – ranging from a warning letter all the way up to tax liens, tax levies, seizures, and criminal investigations. To combat this, you can take the proactive approach and submit to Voluntary Disclosure.
Golding & Golding – Offshore Disclosure
At Golding & Golding, we limit our entire practice to offshore disclosure (IRS Voluntary Disclosure of Foreign and U.S. Assets). The term offshore disclosure is a bit of a misnomer, because the term “offshore” generally connotes visions of hiding money in secret places such as the Cayman Islands, Bahamas, Malta, or any other well-known tax haven jurisdiction – but that is not the case.
In fact, any money that is outside of the United States is considered to be offshore; the term offshore is not a bad word. In other words, merely because a person has money offshore (a.k.a. overseas or in a foreign country) does not mean that money is the result of ill-gotten gains or that the money is being “hidden.” It just means it is not in the United States. Many of our clients have assets and bank accounts in their homeland countries and these are considered offshore assets and offshore bank accounts.
The Devil is in the Details…
If you do have money offshore, then it is very important to ensure that the money has been properly reported to the U.S. government. In addition, it is also very important to ensure that if you are earning any foreign income from that offshore money, that the earnings are being reported on your U.S. tax return.
It does not matter whether your money is in a country that does not tax a particular category of income (for example, many Asian countries do not tax passive income). It also does not matter if you are a dual citizen and/or if that money has already been taxed in the foreign country.
Rather, the default position is that if you are required to file a U.S. tax return and you meet the minimum threshold requirements for filing a U.S. tax return, then you have to include all of your foreign income. If you already paid foreign tax on the income, you may qualify for a Foreign Tax Credit. In addition, if the income is earned income – as opposed to passive income – and you meet either the Bona-Fide Resident Test or Physical-Presence Test, then you may qualify for an exclusion of that income; nevertheless, the money must be included on your tax return.
What if You Never Report the Money?
If you are in the unfortunate position of having foreign money or specified foreign assets that should have been reported to the U.S. government, but which you have not reported — then you are in a bit of a predicament, which you will need to resolve before it is too late.
As we have indicated numerous times on our website, there are very unscrupulous CPAs, Attorneys, Accountants, and Tax Representatives who would like nothing more than to get you to part with all of your money by scaring you into believing you are automatically going to be arrested, jailed, or deported because you have unreported money. While that is most likely not the case (depending on the facts and circumstances of your specific situation), you may be subject to extremely high fines and penalties.
Moreover, if you knowingly or willfully hid your foreign accounts, foreign money, and offshore assets overseas, then you may become subject to even higher fines and penalties…as well as a criminal investigation by the special agents of the IRS and/or DOJ (Department of Justice).
Getting into Compliance
There are five main methods people/businesses use to get into compliance. Four of these methods are perfectly legitimate as long as you meet the requirements for the particular mechanism of disclosure. The fifth alternative, which is called a Quiet Disclosure a.k.a. Silent Disclosure a.k.a. Soft Disclosure, is ill-advised as it is illegal and very well may result in criminal prosecution.
We are going to provide a brief summary of each program below. We have also included links to the specific programs. If you are interested, we have also prepared very popular “FAQs from the Trenches” for FBAR, OVDP and Streamlined Disclosure reporting. Unlikes the technical jargon of the IRS FAQs, our FAQs are based on the hundreds of different types of issues we have handled over the many years that we have been practicing international tax law and offshore disclosure in particular.
After reading this webpage, we hope you develop a basic understanding of each offshore disclosure alternative and how it may benefit you to get into compliance. We do not recommend attempting to disclose the information yourself as you may become subject to an IRS investigation insofar as you will have to answer questions directly to the IRS, which you can avoid with an attorney representative.
If you retain an attorney, then you will get the benefit of the attorney-client privilege which provides confidentiality between you and your representative. With a CPA, there is a relatively small privilege which does provide some comfort, but the privilege is nowhere near as strong as the confidentiality privilege you enjoy with an attorney.
Since you will be dealing with the Internal Revenue Service and they are not known to play nice or fair – it is in your best interest to obtain an experienced Offshore Disclosure Attorney.
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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, and has also earned the prestigious Enrolled Agent credential. Mr. Golding is also a Board Certified Tax Law Specialist Attorney (A designation earned by Less than 1% of Attorneys nationwide.)
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