Frequently Asked Questions - Tax penalties and fines for U.S. expats
1. I didn’t know about my U.S. tax obligations, will I still be fined?
It depends. Tax penalties and fines for US expats are not always imposed as each taxpayer’s situation is different. The IRS is aware that a large portion of Americans abroad does not know about their filing obligations, so it offers preferential treatment to those who seek ways of complying with U.S. tax law. If you didn’t know that you had to file, you could be eligible for the IRS’ amnesty programs.
The Amnesty Program
The Streamlined Procedure is a great option for expats who have neglected to file their taxes. It’s an IRS tax amnesty that offers them a legal option to catch up on their taxes. The term amnesty means the granting of an official pardon. As its name suggests, the expat tax penalty amnesty program grants tax payers a pardon for not having filed the previous taxes as long as they can certify that their non-compliance wasn’t willful.
U.S. expats who do not owe any tax to the U.S. will not be subject to the failure to file and failure to pay penalties. In addition, the IRS might waive the FBAR penalty if they determine there was a reasonable cause for your failure to file an FBAR and it was not due to willful negligence. People who have not filed in years might be able to come into compliance with the Streamlined Foreign Offshore program or tax penalty amnesty for expats without being penalized for not filing their returns before. If you were unaware of the requirement to file, you can come into compliance under this amnesty program by filing three years of delinquent tax returns and six years of FBARs. No tax penalties and fines for US expats are imposed for failure to file, failure to pay or for late FBARs when non-compliance is due to a reasonable cause.
A reasonable cause is determined by the facts and your circumstances. The IRS will grant reasonable cause relief if you can demonstrate that you have exercised care and prudence in meeting your tax obligations, and yet failed to meet them, or you can show that you had no knowledge of your filing obligations or the requirement to pay taxes to the country you live in and the US. In some instances, a reasonable cause will be granted to those that do not file due to ignorance of the law if a reasonable effort has been made in good faith by the taxpayer.
The current Streamlined Foreign Offshore procedures require a certification statement: a statement that explains why the returns were not filed in a timely manner. If all of the facts and circumstances (both good and bad) are disclosed, the IRS will generally grant the abatement of tax penalties for US expats.
However, in cases where tax is owed and the IRS determines there was no reasonable cause, tax penalties and fines for US expats might be imposed. The penalty for not filing your tax return is 5% of the amount of tax shown on the return for each month you have not filed, up to 25% of your tax owing. If you fail to pay, the IRS imposes a ½ percent penalty for each month that the amount remains unpaid, up to 25% of your total tax owing. The US expat tax penalties to file an FBAR are more severe and the civil penalty for willfully failing to file an FBAR can be up to the greater of $100,000 or 50% of the total balance of the foreign accounts. Expat non-willful violations that are not due to reasonable cause are subject to a penalty of up to $10,000.
These are generally found outside of the Streamlined Foreign Offshore Procedures. And, in the case of FBAR, occur when active steps have been taken to hide the assets.
At 1040 Abroad, we encourage our clients to take advantage of the amnesty programs and come into compliance with the IRS, saving themselves the unnecessary stress of possible tax penalties and fines for US expats and enabling them to enjoy their expat life overseas. In most cases, our clients do not have any tax owing, their tax preparation fees are deductible and the peace of mind they gain is priceless. Contact us now and take advantage of the amnesty programs.
2. What are willful and non-willful violations?
Not knowing about your tax obligations and, therefore, not fulfilling them is considered to be a non-willful violation. But if you were aware of your tax obligations and chose not to file or pay for any reason, then it is an expat willful violation. The former approach leads to lower tax penalties and fines for US expats, or sometimes no penalties at all.
For example, if you knew about your duty to report information on FBAR or Form 8938, but intentionally decided not to report your accounts, this behavior is classified as “willful”. However, if you didn’t know that you were required to report or disclose your foreign income and acted unintentionally, then your behavior was non-willful.
It is important to understand if your tax non-compliance is willful or non-willful conduct as it will determine whether you can use the Streamlined Foreign Offshore Program to become tax compliant. The vast majority of taxpayers who have previously undisclosed interests in a foreign financial account or asset are likely to believe they are “non-willful”, but the issue is whether the IRS will agree with them. So taxpayers and their representatives must be cautious when certifying non-willful status to the government.
How does the IRS define non-willful conduct (which is necessary if you are to be eligible to use the Streamlined Foreign Offshore Program)? According to the IRS, it is “conduct that is due to negligence, inadvertence, or mistake or conduct that is the result of a good faith misunderstanding of the requirements of the law”. As you can see, the definition is quite broad and so gives rise to free interpretation.
You must not only certify to “non-willful” conduct but also provide specific reasons that will support this certification. Furthermore, a “non-willful” statement may be enough for an examining agent to allow the returns to be processed without US expat tax penalties and fines if it is submitted as part of a disclosure outside of the OVDP or Streamlined Procedures. Therefore, it’s important to seek professional tax advice to determine if you qualify for non-willful conduct and can take advantage of the amnesty programs.
3. What are the FATCA/FBAR penalties?
The Foreign Bank Account Reporting (FBAR) is introduced so as to prevent taxpayers from avoiding taxes by hiding their financial assets abroad. You need to file FinCEN 114 if you have one or more foreign financial accounts with an aggregate total value that exceeds $10,000 at any time during the tax year. It also applies to accounts that you have control over, such as a signature authority, for example.
The tax penalties and fines for US expats for not filing FBARs are much stricter and tougher than the failure-to-file or failure-to-pay ones. Expat willful violation means that you knew you had to file but decided not to. Non-willful, on the other hand, means that you weren’t aware of the requirement to file FBAR and, therefore, unintentionally failed it. The minimum penalty you may face for non-willful violation is $10,000 for each year that you fail to file FBAR. If the IRS considers the failure to file as willful, then the penalty will be $100,000 or 50% of the account balance at the time of the violation, whichever is larger.
FATCA requires individuals to report specified foreign financial assets on Form 8938 and it comes separately from FBAR, which means they don’t substitute each other. If you fail to file Form 8938, then you will face a penalty of $10,000 and an additional $10,000 added for each month the failure continues, beginning 90 days after the taxpayer is notified of the delinquency (up to a maximum of $50,000 per return). There is also an additional substantial understatement penalty of 40% on underpayments of tax that is attributable to non-disclosed foreign financial assets.
Failure to file, or filing your tax forms incorrectly, affects the statute of limitations that the IRS has to audit you. For FBAR tax penalties and fines for US expats, the period of a statute is six years. If you fail to file Form 8938 or report a specified foreign financial asset that you are required to report, the statute of limitations for the tax year may remain open for all or a part of your income tax return until three years after the date on which you file Form 8938. If you do not include in your gross income an amount that relates to one or more specified foreign financial assets, and the amount you omit is more than $5,000, any tax you owe for the tax year can be assessed at any time within six years after you have filed your return.
You can’t escape the IRS, as the enforcement of FATCA law obliges about 200,000 foreign financial institutions and banks to report their American clients to the IRS and include their bank balance. This basically enables the IRS to track down every American citizen’s account anywhere in the world and cross-check data from your bank with the information you put on your FBAR. FATCA is a controversial law that forces banks and governments to comply, as they are threatened with a 30% withholding penalty of all U.S. dollar transactions. FATCA has also been criticized for its impact on Americans living overseas and was implicated in record numbers of U.S. citizenship renunciations throughout the 2010s.
We highly recommend that you become tax compliant because the IRS is more lenient to taxpayers who come forward before they have been noticed and called out. As a U.S. person who has non-willful conduct, you may use the Streamlined Procedures and catch up with late taxes and FBARs. The IRS has waived tax penalties and fines for U.S. expats and you simply need to file your last three returns, the last six FBARs and self-certify that you had a non-willful reason for failing to file an expat tax return.