DEBUNKING THE THREE MOST COMMON MYTHS OF U.S. EXPAT TAX RETURNS
Many U.S. expats are often unaware of the fact that they need to continue to file a U.S. expat tax return even though they live and work outside the U.S. Each week our firm receives several inquiries from U.S. expats who haven’t filed their tax returns in several years and are now looking to become compliant. In the overwhelming majority of these cases, the response we get is that they simply did not know they had to file. Interestingly, this answer is even more prevalent when it comes to the requirement to file an FBAR (Foreign Bank Account Reporting – Form 114). The concerning matter with this observation is that the FBAR penalties are actually much higher and much more onerous than the penalties that apply when failing to file a tax return.
Although I have no doubt that the overwhelming majority of individuals who say they did not know they had a filing obligation are most likely telling the truth, nevertheless, one should keep in mind that ignorance of the law alone is generally not a valid defense. In the Internal Revenue Manual on penalties and interest, the IRS states that taxpayers are expected to exercise ordinary business care and prudence standard. Given this standard, it is often very challenging to argue ignorance of the law as a valid defense absent certain mitigating circumstances.
Some of the most common myths worthy of attention are:
MYTH #1: I DO NOT NEED TO FILE SINCE I EARN LESS THAN THE FOREIGN EARNED INCOME EXCLUSION (FEIE)
This is probably one of the most common misunderstandings we encounter. Often, U.S. expats believe that if their income is below the foreign earned income exclusion ($97,600 in 2013), then they do not have to file a tax return. The truth is, the FEIE only excludes a fixed amount of income from U.S. tax but has nothing to do with an individual’s requirement to file a tax return. Therefore, even if your income is, for example, $90,000 in 2013 and, therefore, you do not owe any tax in the U.S., you will still need to file a U.S. tax return.
MYTH #2: I DO NOT NEED TO FILE SINCE I PAY HIGHER TAXES IN MY COUNTRY OF RESIDENCE
As many of you are aware, the U.S. tax code provides a credit for foreign income taxes paid on the income you earn overseas. However, many U.S. expats incorrectly assume that if their income will be wiped out due to the credit they receive for their foreign taxes, then they also are exempt from filing a return. Not only is this incorrect, but the credit for the foreign taxes can only be claimed by attaching Form 1116 to your tax return!
MYTH #3: I DON’T NEED TO FILE AN FBAR SINCE THE ACCOUNT IS NOT IN MY NAME
In addition to filing an annual tax return, U.S. citizens are also required to file annually (assuming certain thresholds are met) a Report of Foreign Bank and Financial Accounts (FBAR) or Form 114. The form does not trigger a payment but rather serves an informational purpose only by updating the IRS of the balances in foreign accounts held by U.S. citizens. The rules regarding FBAR are very broad and far reaching. As a result, many expats are unaware not only of the requirement to file the FBAR but also of its scope. Very often U.S. expats believe that if the account is not in their name, then they do not need to report it. Unfortunately, this isn’t the case. In fact, even if the account is solely in the name of your non-U.S. spouse or parent and your only connection with the account is the fact that you have the right to sign checks and withdraw from the account, you still have a requirement to file and FBAR and include this account in your report. Keep in mind that the penalties for failing to file an FBAR can be severe and, under the new FATCA legislation, foreign banks will be required to provide information about their U.S. account holders directly to the IRS.
Do you need help filing an FBAR? We’ll be glad to help. Contact us today!
