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The most common reason American citizens living abroad fall behind on their taxes is lack of awareness. Until recently, the IRS was quite relaxed with enforcing the filing requirements for those who live outside the US. So if you weren’t filing each year, chances are the IRS wasn’t paying much attention and that’s why you didn’t hear from them. Things have now changed a bit. The IRS is enforcing FBAR and FATCA much more diligently then in the past, which is bad for expats, but the IRS has also instituted a Streamlined Procedure for individuals to get caught up on their US taxes. This is very good for late filers and can eliminate many of the “mandatory” penalties people are afraid of such as failure to file and FBAR penalties.
You’ve probably heard about FATCA, the Foreign Account Tax Compliance Act, as it has been making global headlines for months. FATCA is part of the US initiative to find tax cheats hiding money in offshore accounts and recover lost tax revenue (which is estimated to be billions of dollars). FATCA requires individuals to report on the value of their foreign assets if they exceed certain thresholds—and now foreign financial institutions are required to submit information on their American clients to the IRS. This is where much of the uproar among expats stems from—if you don’t report your assets to the IRS, your bank will. This is causing all sorts of issues such as banks closing the accounts of US citizens and making it very difficult for US citizens to live normal lives while overseas.
Many expats that are frustrated with FATCA’s privacy invasion have taken a wait and see attitude, choosing Option B—meaning, I’m not going to tell the IRS a thing until I am forced to. The general sentiment among disillusioned expats is that it is unfair for the IRS to require US expats to file US tax returns and it’s even more ludicrous that banks will be reporting their personal account information, as well.
So many individuals are choosing to ‘fly under the radar.’ We understand the rationale behind the thinking—there are approximately 7.6 million Americans living in a world of 8 billion people – surely it will take the IRS some time to track down all of them! For many folks, flying under the radar (either knowingly or unknowingly) has worked for years, but the future of this approach is unclear.
The IRS is actively seeking out information on those living abroad and in the future will likely be able to root out individuals living abroad. For many folks this isn’t a big deal – most expats don’t owe taxes to the US when they file and FBAR penalties have been waved for expats. The trouble will come if and when the IRS reverses the rules on FBAR penalties or they recognize a failure to file the FATCA forms. So while you may go unnoticed for a while, there is no telling how long that anonymity will last. And if they find you before you come forward, you may not get the same relaxed treatment that is available today.
Other expats have hesitated to come forward because they worry about the costs. It appears that many expats are more afraid of the costs to get caught up than the potential penalties if they don’t. Let’s take a quick look at both options and the possible financial impact.
Cost of Option A
So what does it cost an innocent expat to become compliant on their US taxes? Obviously the answer is, ‘It depends!’
If you choose to file under the Streamlined Filing Procedures (an IRS amnesty program designed to help those whose lack of filing was non-willful), the costs can be quite minimal. You are required to file the last 3 years of Federal tax returns and the last 6 years of FBAR (Foreign Bank Account Report) if required. FBAR must be filed if your foreign bank account balance(s) exceed $10,000 or more at any point during the tax year. (This is where many expats find themselves delinquent—FBAR filing requirements were not only generally unknown, for years they were entirely unenforced.)
Choice 1: File Your Back Taxes on Your Own
You could file your tax returns and FBARs on your own, which wouldn’t cost you a thing. There are a number of free online options for filing your tax returns and they are available on the IRS website (click here.) This is a viable option for people with relatively simple situations, low incomes and a bit of time on their hands to do some research. If you choose this approach make sure you read up on Publication 54 and specifically the Foreign Earned Income Exclusion and Foreign Tax Credit. The FBAR is fairly easy to file and can be done directly online at the BSA.gov website (click here). All you need is your account balances, account numbers and the foreign exchange rates. This can also be submitted online so you don’t even have a postage cost!
Right now, the IRS is waiving all late filing and FBAR penalties for those filing under the Streamlined Procedures, so even if you did owe taxes and interest, that’s about all you’d pay. It’s also worth noting that if you do choose to file on your own you can probably hire a tax professional to review one or more of your returns to make sure you did it correctly.
Tax Preparation Cost: $0
Choice 2: Have a Professional Prepare Your Returns
This is where the biggest amount of confusion exists. There has been extensive media coverage of the tax impact of the Offshore Voluntary Disclosure Programs and the Streamlined Procedure for individuals. There has also been a lot of information and misinformation published about who needs to do what in order to get caught up on their late US taxes. If you have fallen behind on your taxes and it is not because you were trying to hide money overseas then you probably qualify for the Streamlined Procedure and you will need to file 3 Federal tax returns, 6 FBAR’s and answer some questions as to why they have not been filing. Now depending on who you hire to do this, it could cost up to $15,000 or more! I personally think that is outrageous, but to each their own. Most individuals who are living and working overseas will have fairly standard expat tax returns. These are a bit more complex than your standard domestic return, of course. You will likely need to file Form 1116 and/or 2555, convert your income to USD from the local currency, and sifting through some of your housing expenses to see what might be deductible, etc. But there are experts who can do this for you for a bit over $1300 – Total. The benefit of using an expat tax specialist is that they can make sure you qualify for the Bona fide Residence test or the Physical Presence test, that you get all the deductions and exclusions that you are eligible for and to make sure you submit a complete and accurate package when filing under the Streamlined Procedures.
If you don’t qualify for the Streamlined Procedure because you have been willfully failing to file your US taxes or FBAR and/or purposefully trying to hide assets overseas then we would recommend that you speak with an attorney about your specific situation. In this case you will likely want to consider the Offshore Voluntary Disclosure Program and you will likely pay both hefty fees and hefty penalties, but this is not the situation most US expats are in.
Cost of Option B
If you choose to try to stay under the radar, there is really no way to accurately determine what your future penalty could be if the IRS were to catch you. That would require a time machine to see how the IRS behaves in the future. What we can determine today is the statutory penalties as they currently stand, which will give you an idea of the potential future penalties. Please note that this is hypothetical – the IRS is currently not imposing most of these penalties on individual late filers, but they could if they were to change their tactics. Here is a breakdown of what you might face if you were required to file FBAR and/or FATCA:
For non-willful violators, the penalty is $100,000 or 50% of the account balance at the time of the violation.
Cost for purposeful non-filers: $10,000 – $100,000 (or more). And those accused of willful violations may also be subject to criminal prosecution (though that is highly unlikely for expats).
If you didn’t have account balances or assets that triggered a filing requirement for FBAR or FATCA, you will only be subject to the IRS’ standard late filing/failure to file penalties and interest on any tax owed (which could total $0 if you don’t owe any money to the IRS).
No one can make this decision for you, but I hope that by dispelling the myth that “catching up” will cost you your life savings that you can evaluate the options in a clear and rational way. Obviously we are a tax preparation company so our recommendation would always be to become compliant and then stay compliant. Whether you decide to become compliant on your own, with the help of an advisor or you decide to try to stay under the radar, we are happy to help in any way we can.
When you live in the US, tax day is simple: April 15th! When you move abroad, it’s not so straightforward! Learn about all the expat deadlines and extensions you need to know to file.