Among an estimated 8.7 million U.S. citizens living abroad, there is a group that has always thought of itself as "foreign" yet is actually composed of U.S. citizens. Dubbed "Accidental Americans," these individuals are discovering that the IRS is interested in them.
There are several ways that someone could be classified as an "Accidental American" and all of these individuals share a common concern - they are subject to U.S. Tax and FBAR reporting. In most of these cases, the taxpayer doesn't find out he or she has any connections to the U.S. until well into adulthood. If you discover you're an Accidental American, you need to decide how you will deal with your U.S. tax filing requirements.
How can someone be an Accidental American?
The four most common scenarios that would make you an Accidental American are:
- Your parents are non-U.S. citizens, but were in the U.S. on a temporary work assignment when you were born. Shortly after your birth, your family moved back to your parents' home country and you haven't lived in the U.S. since.
- You were born outside the U.S. to parents with U.S. citizenship. You received U.S. citizenship at birth by virtue of being born to U.S. citizens. You have lived your entire life in the country you were born, only making short trips to the U.S. to visit extended family.
- You applied for and received a U.S. Permanent Resident Card (Green Card), but then moved out of the U.S. before applying for U.S. citizenship. You became a citizen of your new home country.
- You were at one point a U.S. citizen, but moved out of the U.S. and became a citizen of another country. You thought or were told that by gaining citizenship in your new country you automatically forfeited your U.S. citizenship.
If you fall into any of these scenarios and haven't already filed U.S. taxes, you are considered a U.S. taxpayer, because the U.S. has a very complex tax system that is based on citizenship, not location. With a citizenship criterion that is different than many other countries, this can create a difficult situation for U.S. citizens living abroad-especially individuals who may not have realized they were U.S. citizens and had any filing/reporting requirements to the U.S. Government.
As an Accidental American, you need to catch up on your taxes. Keep in mind that U.S. Taxpayers are required to report their worldwide income regardless of where it was earned, not just the income that can be explicitly traced to a U.S. source.
The good news is that you may be able to take advantage of the Foreign Tax Credit and Foreign Earned Income Exclusion, thereby reducing or completely eliminating their tax due.
How can an Accidental American owe the IRS?
In the past, the IRS hasn't actively pursued the delinquent taxes of those Americans living abroad, so Accidental Americans were never alerted to their surprising citizenship status. Everything changed in 2010 when the U.S. launched a major initiative to uncover tax cheats hiding money and assets abroad.
The most well known part of this initiative is FATCA, the Foreign Account Tax Compliance Act. FATCA requires taxpayers to report specified foreign assets if they exceed certain thresholds (which vary based on filing status and residency). In addition, foreign financial institutions are now required to report on the assets of their American clients.
With this renewed focus by the IRS, many expats have been compelled to come forward to declare their U.S. status and get caught up with their tax filings. Foreign governments and banks have agreed to assist the U.S. government by coming down hard on all their accountholders, going so far as to withhold 30% of banking and investment balances and turning over information and details of accounts to the IRS. The urgency brought on by recent government actions worries many expats, who now wish to get back into compliance while they still control their own situation.
How can you catch up with several years of past-due tax filings and what information will you need?
The IRS developed a program specifically to assist people in these situations. Assuming you were non-willful in your failure to file, you may qualify for the Streamlined Filing Compliance Procedures. This program requires you to send in a package of tax returns for the last three past-due tax years. If there is any tax due after taking advantage of all available deductions, exclusions and credits, you will have to pay the tax due along with some interest on that tax. When you submit you package of returns, you will also submit a signed certification of non-willfulness, stating you were not intentionally avoiding your filing obligation.
In some cases, you may be required to report certain details of your financial accounts. If the maximum value of all your foreign financial accounts during a calendar year exceeds $10,000, then you must submit FinCEN Form 114 for that year, also known as an FBAR report. This would include details for securities, brokerage, savings, demand, deposit, time deposit, and life insurance accounts with a cash surrender value component. FBAR reports for the prior six years need to be submitted in your Streamlined Filing package along with your tax returns and non-willful certification.
In addition to tax and interest due, there is a penalty due equal to 5% of the highest aggregate balance achieved during the last six years. But to encourage more Accidental Americans to come forward and get caught back up, the IRS has granted special treatment to taxpayers living overseas. Specifically, for those who were physically outside the U.S. for at least 330 full days during any of the last three tax years, the 5% penalty is completely waived and only tax plus interest is due with the Streamlined package.
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