New Streamlined Tax Compliance Process For U.S. Citizens Living Abroad
The IRS announced a new streamlined procedure for U.S. citizens residing overseas, including dual citizens, to become compliant with respect to their U.S. tax-filing and foreign account reporting obligations.
The new procedure, which will not be available until September 1, 2012, will apply to individuals whom the IRS deems to have a “low risk” U.S. tax profile. Details regarding the new procedure have not yet been announced, but are expected before the new procedure comes into effect.
Background
U.S. citizens are subject to federal income tax on a worldwide basis (that is, with respect to all income, irrespective of which country is the source of the income). U.S. citizens residing abroad and making more than a minimum exemption amount and the standard deduction generally will be required to file a federal income tax return. Nevertheless, U.S. citizens who reside abroad, many of whom are also citizens of their country of residence, may not be aware of a requirement to report certain non-U.S. bank and other financial accounts. Any U.S. person who has beneficial ownership in or signature authority over one or more foreign financial accounts which have an aggregate balance anytime during the year exceeding $10,000 must report such foreign accounts annually by filing with the Department of the Treasury a Report of Foreign Bank and Financial Accounts at (“FBAR”) on Treasury Department Form TD F 90-22.1. The penalty for a failure to timely report the account is $10,000 per year, unless “reasonable cause” can be shown. (“Willful” failures to file the FBAR can be penalized in amount of up to 50 percent of the foreign account balance for each year that such will noncompliance occurs.)
The New Procedure
The new procedure will be available to U.S. taxpayers residing abroad who are determined to represent a “low compliance” risk to the IRS. Eligible individuals will include those whose additional federal income tax liability for the past three years attributable to previously unreported income from undisclosed foreign accounts is $1,500 or less the tax liability is above the $1,500 amount, the IRS may request additional information about the individual’s income and assets, level of economic activity in the U.S., and the existence of “sophisticated” tax planning. In that case, the IRS may conclude that the individual is not “low risk”, and deny the new procedure. Individuals requesting the new procedure who are determined to be “high risk” will face the risk of an audit and will be foreclosed from entering the IRS Offshore Voluntary Disclosure Program.
Although the instructions have not yet been formulated, the new procedure will involve the filing delinquent tax returns (along with any appropriate related information returns) for the past three years, and filing delinquent FBARs for the past six years.
A U.S. citizen living in a foreign country who is in full compliance with that country’s tax obligations should be able to simply file late tax returns and FBARs and avoid any penalties and interest charges. While the new procedure is advantageous to the extent that it provides penalty relief to eligible individuals, it is not clear at this point whether those who may owe taxes in excess of the $1,500 amount for any of the applicable years would benefit from submitting under the new procedure in light of the qualification uncertainties. Such individuals may want to consider the Offshore Voluntary Disclosure Program, although a voluntary disclosure will involve a penalty as high as 27.5% of the non-U.S. investment assets.