US citizens and permanent residents working outside the United States generally are still required to file annual US tax returns, and the IRS is constantly updating its technology to better locate those non-filing taxpayers and bring them into compliance. However, in addition to increasing its enforcement capabilities, the IRS has also taken steps to encourage non-filers to come into compliance by waiving penalties for those taxpayers eligible to take advantage of the streamlined offshore compliance procedures.
Although required to file US returns, taxpayers working abroad may not ultimately have a tax liability on their US tax filings. These taxpayers can potentially use foreign tax credits paid or exclusions to lower or eliminate their US tax liability on income earned outside of the US.
Who Needs to File a Return?
Generally, all US citizens and permanent residents are required to file a US federal form 1040 as if they were still residing in the United States though a US taxpayer working internationally may not need to file if they do not meet the IRS’s gross annual income threshold. For 2019, the threshold is $12,200 for an individual taxpayer and $24,400 for married taxpayers filing jointly. For those taxpayers over the age of 65, the thresholds are slightly higher.
Self-employed individuals cannot take advantage of the IRS thresholds and are required to file a return if their net earnings total $400 or more.
Additional US Federal Filing Requirements
US taxpayers working outside the United States may also have informational filing requirements related to their financial accounts. Those requirements include complying with the Foreign Account Tax Compliance Act (FATCA) and filing a Report of Foreign Bank and Financial Accounts (FBAR). It is important to note that certain informational reporting forms, such as the FBAR, can be required even if the taxpayer does not meet the income thresholds necessary for an income tax return filing. Accordingly, US taxpayers working abroad who fail to comply with these financial reporting requirements may face large fines even though a US income tax is not due.
What Happens If a US Taxpayer Working Abroad Fails to File?
A US taxpayer whose tax home is outside the United States on the initial due date, receives an automatic two-month filing extension, typically to June 15. Late-filing penalties can apply if there is a balance due on the return and the return has not been submitted timely. Unless an additional filing extension has been requested, late filing and payment penalties are typically calculated at up to 5 percent per month on the outstanding liability, and can continue to accrue until the penalty reaches 25 percent of the unpaid tax. In addition to the potential penalties, taxpayers are also responsible for paying interest on their unpaid balance from the original due date.
US taxpayers working abroad who fail to file may lose their ability to claim the foreign earned income exclusion or certain elections. These provisions are generally possible only in connection with a timely filed return.
Failure to Pay Results in Additional Penalties
The IRS failure to pay penalty is 0.5 percent for late payments, and it may be applied to the same months as the failure to file penalty. However, for those months when both penalties are applied, the failure to file penalty is reduced to 4.5 percent and the total penalty for failing to file and failing to pay still tops out at 5 percent.
If a taxpayer has failed to file and pay for more than five months, the failure to file penalty will have maxed out, but the failure to pay penalty continues to accrue until the tax is paid, topping out at 25 percent of the unpaid tax. The maximum combined penalty for failure to file and pay is 47.5 percent of the tax owed.
IRS Offers Streamlined Offshore Compliance Procedures to Avoid Penalties
The IRS has outlined procedures for eligible taxpayers that may allow the individual to come into compliance while avoiding certain penalties, including the failure to file and failure to pay penalties described above. The program is known as the Streamlined Foreign Offshore Program.
The program has been made available to any US citizen or resident working outside the United States who has failed to pay all of their tax due or to report foreign financial assets as a result of their “non-willful conduct.” The IRS defines non-willful conduct as that which is “due to negligence, inadvertence, or mistake or conduct that is the result of a good faith misunderstanding of the requirements of the law.”
To qualify for the streamlined program, in part, a taxpayer must certify that they failed to file because of non-willful conduct on the part of the taxpayer. They must also meet a “non-residency” requirement and have failed to report income from a foreign financial asset and pay required US tax due. The taxpayer may also have failed to disclose their financial account on an FBAR.
As noted, it is important that the taxpayer be considered a non-resident to qualify for these procedures. For a US citizen, this requirement would be met by someone who, in one of the past three years for which the original or properly extended US tax return due date has passed, did not have a US abode and was physically present outside the US for at least 330 full days.
Under these procedures, the taxpayer must file original or amended US federal returns for each of the most recent three years and file any required delinquent FBARs for each of the most recent six years for which the filing due dates have passed. The full amount of the tax and interest due in connection with these filings must be remitted with the delinquent or amended returns.
If the IRS finds a taxpayer is eligible for the program, then many of the standard non-filing penalties will not apply. However, previously assessed penalties or penalties assessed, associated with the normal filing of a deficient tax return, may still apply.
Because of the complicated nature of the procedures for taking advantage of the Streamlined Foreign Offshore Program, taxpayers who wish to participate in the program should seek the assistance of a mobility tax professional to help guide them through the process.
What Happens If the IRS Finds You Have Not Filed
If the IRS locates a US citizen or permanent resident working abroad who has not filed returns, the IRS will contact the taxpayer. In general, the IRS will first contact a taxpayer by a letter delivered by the US postal service. Taxpayers will often be asked to respond to this letter within 30 days, but they usually do not face criminal charges. A taxpayer who has been contacted by the IRS for failing to file should contact a mobility tax specialist to ensure they are taking the steps necessary to comply and prevent the accrual of additional interest and penalties and protect their assets.
Failing to file a tax return can have serious consequences, including financial and legal implications. The IRS ultimately has the authority to seize property, take money from financial accounts, garnish wages, or seek criminal charges. As a result, it is critical that taxpayers understand the filing requirements and their rights and options. For example, if the taxpayer cannot afford to pay a balance due, the IRS will often work with them to set up a payment plan. Setting up a payment agreement will help to limit penalties and avoid the consequences that can result from not filing a return. A mobility tax professional can assist in addressing delinquent filings and in working with the IRS to resolve payment and filing issues.
The information provided in this newsletter article is for general guidance only and should not be utilized in lieu of obtaining professional tax and/or legal advice.