BY D. ADAM ANDERSONThis article originally appeared in the April 4, 2017 edition of the Portland Business Tribune.
With tax day looming (this year, April 18), now is a good time to consider whether you are in full reporting and tax compliance with respect to your non-U.S. assets and other sources of foreign income. These issues reach and affect more individuals than you might expect, and I have encountered misunderstandings among clients about these obligations. If you are not in full reporting and payment compliance for past years, eventual interest and penalties can be harsh; more so, if noncompliance is willful or knowingly unresolved. The IRS administers generous self-disclosure and amnesty programs, but those are only available before the IRS initiates audit. There is no time like the present.
A fundamental—and often misunderstood—point is that U.S. citizens and resident aliens, wherever they may live during a tax year, are generally taxed by the U.S. on their worldwide income, wherever derived. Tax treaties between the U.S. and relevant nations may modify otherwise applicable rules, and the U.S. Foreign Tax Credit generally functions to at least partially reduce double taxation by the U.S. and foreign countries. Nevertheless, even if all income or taxes attributable to foreign sources are zeroed out due to treaties, deductions, credits, or other methods, one still generally has an obligation to report foreign income to the IRS. Noncompliance may result in penalties, interest, and an extended statute of limitations on assessment for the IRS.
Income tax reporting aside, U.S. owners of foreign assets generally also have two separate annual reporting obligations under the Bank Secrecy Act of 1970 (the Report of Foreign Bank and Financial Accounts, or “FBAR” form) and the Foreign Account Tax Compliance Act (“FATCA”) of 2010 (IRS Form 8938). Both forms are generally aimed toward federal anti-money laundering and counter-terrorism efforts, but are nevertheless required by anyone owning reportable foreign assets totaling specific threshold amounts. Note these forms are not interested in the income generated by a foreign asset in a given year, but instead in the existence, location, and value of such an asset.
The FBAR form must be filed annually (and electronically) with the office of Financial Crimes Enforcement Network (“FinCEN”) when the aggregate value of reportable foreign assets exceeds $10,000 at any point during the calendar year. Under FATCA, Form 8938 must be filed with an annual tax return to the IRS when the aggregate value of reportable foreign assets is at least $50,000 on the last day of the tax year, or exceeds $75,000 at any other point of the tax year (thresholds double for married joint filers). Both forms are due when income tax returns are due (usually April 15) and six-month extensions are generally available. In addition to differing filing thresholds, the forms also differ somewhat on what constitutes a reportable asset. Suffice it to say, however, that those with foreign deposit accounts, brokerage accounts, mutual or hedge fund interests, or business interests should be on notice to determine the extent of their filing obligations. Note that both FBAR and FATCA reporting generally pertain to accounts and other intangible financial interests, not physical assets like real estate, personal property, or directly held foreign currency.
Under FATCA, foreign financial institutions are actively disclosing the existence of accounts held by U.S. nationals to the IRS. Whether or not you report such accounts on your own, chances are the IRS will learn (or have already learned) of them one way or another. Penalties for even inadvertent noncompliance with FBAR and FATCA requirements can be in the thousands of dollars (aside from penalties and interest for nonpayment of taxes attributable to such assets). Willful noncompliance can result in much higher penalties, including imprisonment. As noted, the IRS has developed various amnesty and self-disclosure programs. These vary widely in complexity depending on the extent and reason for noncompliance, but all can result in significant penalty abatement. The IRS has made clear these programs can end at any time, and all require that the IRS has not yet initiated audit. The race is on.