Few basic U.S. tax compliance questions matter more to a U.S. citizen or green-card holder living abroad than what an unfiled FBAR can actually cost in penalties.  Also, a green-card holder might not have any reporting requirements at all – given the law explained in the federal district court decisions originally appealed by the government in my 9th Circuit decision:   Aroeste v. United States, Case No. 22-cv-00682-AJB-KSC. 

What Are the Penalties for Not Filing an FBAR?

Failure to file an FBAR may result in a civil penalty if assessed by the government. The willful civil penalty is frankly more onerous than the criminal penalty that is maxed out by statute.  The maximum civil penalty depends on whether the violation is determined to be non-willful or willful.

The statutory framework was initially set out by a federal district court in 2015, that also reviewed the FATCA laws, and it is worth reading the summary here: 

A person who fails to file a required FBAR may be assessed a civil monetary penalty. 31 U.S.C. § 5321(a)(5)(A). The amount of the penalty is capped at $10,000 unless the failure was willful. See 5321(a)(5)(B)(i), (C). A willful failure to file increases the maximum penalty to $100,000 or half the value in the account at the time of the violation, whichever is greater. § 5321(a)(5)(C). In either case, whether to impose the penalty and the amount of the penalty are committed to the Secretary’s discretion. See § 5321(a)(5)(A) (“The Secretary of the Treasury may impose a civil money penalty[.]”)

Crawford v. U.S. Department of the Treasury (S.D. Ohio 2015 – Case No. 3:15-cv-00250)

The IRS internal revenue manual (4.26.16.4.1) summarizes how and why the IRS has purported authority to assess penalties for FBAR Title 31 violations as set forth below:

As of April 8th 2003, IRS was delegated the authority to assess and collect FBAR civil penalties. 31 C.F.R. § 103.56(g). The delegation includes the authority to investigate possible FBAR civil violations, provided in Treasury Directive No. 15-41 (Dec. 1, 1992), and the authority to assess and collect the penalties for violations of the reporting and recordkeeping requirements.

Was this delegation of authority from FinCEN to the IRS even valid as a matter of law?  That questions has not been challenged yet in the courts.  

When performing these FBAR functions, the IRS is not acting under Title 26 (the federal tax law) but, instead, is acting under the authority of Title 31 (the Bank Secrecy Act). Provisions of the Internal Revenue Code generally do not apply to FBARs and visa-versa.  Does the IRS even have lawful authority to manage and assess these penalties – which previously were in the hands of the more obscure FinCEN.  

What Is the Penalty for a Non-Willful FBAR Violation?

A non-willful FBAR violation may result in a civil penalty of up to $10,000 per violation. The Supreme Court has now held (after years of litigation) that, for non-willful violations, the penalty generally applies singularly – per report – rather than per account as the IRS argued for years.  Bittner v. United States, 598 U.S. 85, 143 S. Ct. 713 (2023)

For years the government (IRS) read that $10,000 could be assessed for each account, and the Supreme Court finally resolved the question in 2023 against the government.  The Ninth Circuit had ruled against the government in United States v. Boyd, 991 F.3d 1077 (9th Cir. 2021) and the Fifth Circuit (United States v. Bittner, 19 F.4th 734 (5th Cir. 2021)) overturned the federal district court in the eastern district of Texas in United States v. Bittner, No. 4:19-CV-415, 2020 WL 4200057 that had originally ruled in line with Boyd.  

See an article I wrote on this issue along with two of my international tax colleagues at Chamberlain Hrdlicka: published as a Special Report in Tax Notes:  

Six Weeks, Three International Information Reporting Decisions –

On February 28th, 2023, the Supreme Court of the United States (“SCOTUS”) resolved in Bittner that the applicable non-willful FBAR penalty is not measured by every foreign account of the individual as the Service had argued for years and as they put into their IRM.  The author had the opportunity to draft as one of the co-authors of the ACTEC amicus brief that was filed in Bittner.  After Bittner, the total maximum penalty per year is $10,000 for non-willful violations.   A maximum penalty of $50,000 (x5 years) applied per the SCOTUS versus the IRS determined amount of US$2.7M+ multiplying each account by $10K.

“Best read, the BSA treats the failure to file a legally compliant report as one violation carrying a maximum penalty of $10,000, not a cascade of such penalties calculated on a per-account basis.”   The ACTEC brief was cited by the majority opinion- “ We see evidence, too, that the point of these reports is to supply the government with information potentially relevant to various kinds of investigations, criminal and civil alike. But what we do not see is any indication that Congress sought to maximize penalties for every nonwillful mistake (whether a late filing, a transposed account number, or an out-of-date bank address). See Brief for American College of Trust and Estate Counsel as Amicus Curiae 5–7.”

Importantly, the U.S. Supreme Court rejected the IRS interpretation of multiple per year non-willful FBAR penalties in Bittner v. United States, 598 U.S. 85, 143 S. Ct. 713 (2023).

What Is the Penalty (Civil) for a Willful FBAR Violation?

A willful FBAR violation may result in substantially higher penalties. The maximum penalty is generally based on the greater of a statutory amount or a percentage of the account balance.

Because the willful penalty is measured against the account itself, it can exceed the balance entirely once assessed over several years.  See, United States v. Carl R. Zwerner, Case No. 1:13-cv-22082-CMA (2014)

The government was  on its face, very “successful” in the Zwerner case in convincing a jury they should render a verdict for 3 years of FBAR 50% willfulness penalties (150% of the account balance in total).  The government tried to assert 4 years of willfulness penalties, which would have been 200% of the account balance; all under a civil penalty provision in the statute, that looks like a criminal penalty on its face and via its outcome.

In Zwerner, the taxpayer did come forward and disclose the unreported foreign accounts, and received a letter from the IRS CI on February 17, 2009, stating that ” . . . based upon the information provided a criminal investigation will not be initiated at this time. . . ”   Nevertheless, the government pursued 50% civil willfulness penalty assessments for multiple years (4 years).  The Tax Division of the Justice Department pursued this case through trial, incurring the time and costs of government resources, arguing Mr. Zwerner owed a total of $3,630,119.29 (on an account with a maximum value during the years at issue of apparently no more than US$1.69M) in their Motion for Summary Judgement.

In Count Six, Plaintiffs contend that the FBAR “Willfulness Penalty” is unconstitutional under the Excessive Fines Clause. Plaintiffs allege the Willfulness Penalty is designed to punish and is therefore subject to the Excessive Fines Clause. Plaintiffs further allege the Willfulness Penalty is grossly disproportionate to the gravity of the offense.

Can the IRS Penalize Each Foreign Account Separately?

Not for non-willful violations as explained above.  The “jury is still out” regarding to what extent multiple years of 50% willfulness penalties may be assessed.  The IRS has tempered their approach a bit over the last decade – particularly as of late, after losing a number of key FBAR cases going to trial.  

Is the FBAR Penalty Mandatory?

No. The statute provides that the government may assess an FBAR penalty, giving the government discretion over whether, and in what amount, a penalty is imposed.

The distinction between what the statute permits and what it requires is easily missed, and it matters a great deal for individuals who have not filed FBARs.  Especially for those residing outside the United States – including those individuals with green cards.

 The relevant statutory provision is that “The Secretary of the Treasury may impose a civil money penalty on any person who violates, or causes any violation of, any provision of section 5314.”  31 U.S.C. Section 5321(a)(5)(B).  

How Long Does the IRS Have to Assess an FBAR Penalty? – Six Years – 

The IRS generally has six years to assess a civil FBAR penalty. This limitations period differs from the rules that apply to federal income tax returns.

The two bodies of law run on different time clocks.  

The FBAR (the Foreign Bank Account Report) comes from a different law than the federal income tax. The income tax is from Title 26 of the U.S. Code. The FBAR comes from the Bank Secrecy Act, which is Title 31. These two laws are very different, with very different obligations and rights. One of the important differences is the time frame in which the government can assess penalties for not complying.

A statute of limitations is the time frame in which the government has to assess penalties for not complying with the law. For foreign accounts, these time periods are not the same under Title 31 (the Bank Secrecy Act) as they are under Title 26 (the income tax law). The gap between the two is what makes this area confusing.

No. When a U.S. citizen or LPRs residing overseas fails to file an income tax return, the time period for the IRS to make tax assessments never lapses. There is effectively no statute of limitations against the IRS in that situation. The clock to assess does not start until a return is filed.

Title 31, the Bank Secrecy Act, is different. It does have a time period that runs against the U.S. federal government, even if the FBAR was never filed. For civil assessments of penalties, that time period is 6 years.  This important distinction helps drive strategic decisions of foreign account holders if they have failed to file FBARs. 

There is a statute of limitations whether or not an FBAR was filed.  Hence if a USC or LPR neglected to file an FBAR for the year 2006, for instance, the time period for the government to assess penalties has lapsed long ago.  See, When does the Statute of Limitations Run Against the U.S. Government Regarding FBAR Filings?

How Does the IRS Collect an FBAR Penalty?

An FBAR penalty is generally not collected through the IRS’s ordinary tax lien and levy procedures. Instead, the government is typically required to bring a civil action to collect an unpaid penalty.  They also have “off-set” rights that can be invoked against other payment amounts owed to the taxpayer.  See, Bureau of the Fiscal Service and their powers through the  Treasury Offset Program (TOP). 

Assessing a penalty and actually collecting it are separate problems for the government, particularly where the taxpayer and the assets are outside the United States.

The collection of the FBAR penalty is not as easily collected under the law, as is a tax claim.  A Title 26 tax lien and levy claim against the taxpayer’s property cannot be used to collect an FBAR penalty.  Instead, the government has rights of set-off and will typically be required to bring a judicial action in Court to enforce the penalty assessment.  See, an early case, United States v. Williams, 489 F. App’x 655 (4th Cir. 2012), where the government sued to collect the 50% FBAR willfulness penalty.

The laws of many countries outside the U.S. often conclude that enforcing these FBAR penalties against a U.S. citizen or LPR, inside that person’s home country, violates the laws of that country. Canada is one example. Calgary based tax attorney Roy Berg has written on the question of whether the IRS can collect FBAR penalties under the Canada-US Treaty.

The “Revenue Rule” was a common law concept that generally prohibited the U.S. government from assisting in the collection of taxes of another country.  Hence, the U.S. Treasury renegotiated the treaties with five countries (including Canada) that now have a specific treaty provision such as XXVI A above:

As a result of these cases and the Revenue Rule, the U.S. and Canada modified their income tax treaty to (at least in theory) to allow for the international enforcement of taxes.  The U.S. now has five income treaties with “mutual assistance” provisions: Canada, Sweden, France, Denmark, and the Netherlands (with a clause in the newly negotiated, but yet to go into force, Swiss treaty).

In the Dewees case, we learned that the assistance in collection provision is not merely a theoretical tool that can be used in collecting taxes.   The IRS was successful in a long running case with FBAR penalties and Title 26 penalties for failure to file IRS forms 5471 regarding the U.S. citizens Canadian companies.  He lived in Canada.  See, Dewees v. United States, 272 F. Supp. 3d 96 (D.D.C. 2017), which was subsequently affirmed by the D.C. Circuit Court of Appeals (Dewees v. United States, 767 F. App’x 4 (D.C. Cir. 2019)).  The actions of both the Canadian (CRA) and U.S. governments (IRS and District Court Judge), made the provision effective.   The US$120,000 penalty, that has nothing to do with any U.S. income taxes owed (nor FBAR penalty), was collected by the IRS; a penalty under 26 U.S.C. § 6038(b) for failure to file informational returns – .

Can an FBAR Violation Lead to Criminal Charges?

Yes, but not every FBAR violation is a criminal matter. Criminal liability generally requires proof of willful conduct and carries a burden of proof on the government – (beyond a reasonable doubt) – and always depends on the facts of the case.

Yes. A U.S. citizen or LPR living overseas could in theory become criminally liable for willfully not filing the FBAR form. Criminal liability carries different legal consequences than a civil penalty. These are not easy cases for the government – and hence they rarely have brought criminal FBAR cases for taxpayers residing overseas.  It all depends upon the facts.  

IRS Criminal Investigation (division) has been delegated the authority to investigate possible criminal violations of the Bank Secrecy Act. 31 C.F.R. §103.56(c)(2).  This should not be taken lightly.  

Yes, there are also statutes of limitations for criminal charges the government brings for FBAR violations. The law gets much more complex here, especially when the taxpayer is residing outside the U.S. In that situation, the time period can be tolled or suspended in favor of the government, which extends the window to bring charges. Jack Townsend (an amazing, now retired criminal tax defense lawyer who has contributed extensively to the tax law practice) has written on the statutes of limitations for FBAR noncompliance related to tax reporting.  Jack is co-author of Tax Crimes – John  (“Jack”) Townsend with my law partner the esteemed criminal tax defense lawyer Larry Campagna along with Steve Johnson, and Scott Schumacher.

 

U.S. citizens residing overseas clearly have FBAR filing requirements – if they meet the thresholds.  The law is quite different for those with “green cards” residing predominantly overseas in a country with an income tax treaty with the U.S.  Here, it gets a lot more complicated, but see my case of  Aroeste v. United States, Case No. 22-cv-00682-AJB-KSC (2023) that was appealed to the Ninth Circuit by the government after they lost.  

What Can We Learn from Real FBAR Penalty Cases?

Reported cases show that the outcome of an FBAR penalty dispute depends heavily on the facts. They also demonstrate that proposed penalties may be successfully challenged in appropriate cases.

One case makes the point better than any summary of the rules could.

This case was covered extensively by various tax journalists and followed by tax professionals around the world from the time it started until it concluded. I know, because I was the lead attorney representing the then 91 year old widow from Canada, dear Mrs. Margaret Jones. The pleadings in the case can be viewed here – Margaret J. Jones v. United States (2:19-cv-04950)

In my view, this case should have never ended up before the U.S. District Court. The IRS erred in making a determination of “willful blindness” against Mrs. Jones who was legally blind at her advanced age. They conceded Mrs. Jones had no actual knowledge of the reporting requirement. She was advised for more than two decades by a CPA, both she and her late husband (an immigrant from New Zealand). They both had accounts that were decades old from their respective countries – Canada and New Zealand. Held openly and directly for the majority of their lives.

Mrs. Jones did the right thing by going to the Streamlined Filing Procedure (the streamlined filing procedure) and correcting her errors on her tax returns. She was then selected by the IRS for audit (because of that filing) where she got a tax refund of over $20,000. For that effort, time and expense, the IRS turned around and slapped her with US$3.4M of “willful blindness” penalties regarding her accounts in Canada and New Zealand, most of which were her husband’s accounts. Her late husband served in World War II while living in New Zealand before moving to the U.K. then Canada (where he met Mrs. Jones) and then on to the U.S. They both had high school diplomas.

The case was set for a jury trial (on two occasions) but Judge Selna postponed it on both occasions due to the Corona-virus. Unfortunately, Mrs. Jones never had her day in Court where I believe a jury would have found that the government did not carry its burden against Mrs. Jones and her late husband. Not even a close call. Her facts were not nefarious, unlike most of the cases where sophisticated taxpayers have been hiding their assets from the IRS, such as in Swiss bank accounts.

After the government conceded the bulk of the case and it was dismissed just before Christmas of 2020, Mrs. Jones passed away shortly afterwards. May her Soul Rest in Peace.

The DOJ drives the bus (NOT the IRS) once the case falls into their hands.

A jury trial should always be considered in the right case, a good faith taxpayer case, as jurors will generally see and understand the big picture.

By contrast, in Zwerner the penalty amount apparently sustained by the jury has been reported as “. . . $2,241,809 on an offshore account that had an apparent high balance of $1,691,054. . . “

The author has spoken on defending Title 31 FBAR penalties at the University of San Diego School of Law – International Tax Institute, alongside Caroline D. Ciraolo, former Acting Assistant Attorney General of the Justice Department’s Tax Division, and Robert S. Horwitz; and many other panels and forums advising clients on these FBAR issues.  Seek advice on FBAR issues if you have a filing requirement.

If you’re a U.S. citizen or green card holder living abroad, your foreign bank will likely ask for your U.S. tax status under FATCA. The form you need is Form W-9 — not Form W-8BEN. W-8BEN is strictly for non-U.S. persons; signing it as a U.S. citizen or LPR is a false certification under penalty of perjury. Use W-9 to confirm your U.S. taxpayer status and provide your SSN.

What are all the IRS forms and their purposes? 

• W-9: Used by U.S. citizens and Lawful Permanent Residents (LPRs) to provide their Taxpayer Identification Number (TIN) to a third party.
• W-8BEN: Used by non-U.S. individuals to certify they are not “U.S. persons” for tax purposes.
• W-8BEN-E: An eight-page form used by foreign entities to identify “substantial U.S. owners”.
• W-7: Used by individuals who are not eligible for a Social Security Number to apply for an Individual Taxpayer Identification Number (ITIN).
• W-8IMY: A form for foreign intermediaries or flow-through entities that was substantially modified due to FATCA.
• W-4: Used to determine an employee’s federal income tax withholding.
• W-8ECI: Used by foreign persons to claim that income is effectively connected with a U.S. trade or business.
• W-8EXP: Used by foreign governments or other foreign organizations to claim an exemption from withholding.
• W-8: A general category of forms for foreign status reporting.

What are Taxpayer Identification Numbers (TINs)? 

A TIN is a broad term for the identification number used for U.S. tax purposes. Its sub-types include:

• Social Security Number (SSN): For U.S. citizens, LPRs, and individuals with permission to work in the U.S. under specific visas.
• Individual Taxpayer Identification Number (ITIN): For individuals who are not U.S. citizens or LPRs and are ineligible for an SSN.
• Employer Identification Number (EIN): For business entities such as corporations, partnerships, and trusts.

Is Form W-9 the standard for Americans abroad? 

Yes. If a foreign bank or company asks for your U.S. tax status, Form W-9 is the standard form you should use. It’s how you officially tell them, “I’m a U.S. taxpayer, and here is my ID number”.

Who Can Sign Form W-8BEN?

• U.S. Citizens: They cannot sign this form. Doing so would be a false certification that they are not a “U.S. person” under federal tax law.
• Lawful Permanent Residents (LPRs): Generally, they also cannot sign this form, as they are considered U.S. persons for tax purposes.
• Former Citizens with a CLN: While the source highlights the importance of a Certificate of Loss of Nationality (CLN) in relation to FATCA status, it does not explicitly state that holding one allows for the signing of a W-8BEN, though it notes that only non-U.S. persons can legally sign the form.

What are the banking requirements for U.S. Persons?

When a bank asks for tax status, a U.S. person should sign Form W-9. However, many Foreign Financial Institutions (FFIs) use substitute forms that comply with regulations but may not look exactly like the official IRS version.

What is the Form W-8BEN-E?

• Who completes it: Non-Financial Foreign Entities (NFFEs).
• Definitions: A “substantial U.S. owner” is generally a U.S. person who holds a 10% or greater economic interest in the foreign entity.
• Burdens: The form is eight pages long and requires the user to understand over 450 pages of FATCA regulations to select from roughly 30 different categories.
• Consequences: The form is signed under penalty of perjury. Due to its complexity, the source notes that many “good faith errors” are inevitable.

When does the 8-page Form W-8BEN-E become necessary? 

This massive 8-page form is usually for businesses, not just individuals. If you own 10% or more of a foreign company, that company has to use this form to report you to the IRS as a “substantial U.S. owner”.

What are the risks of misfiling these complex entity forms? 

It’s a major headache because the instructions for these forms are over 450 pages long, and you have to pick from about 30 different categories. If you check the wrong box, even by mistake, you’ve technically signed a false legal document under penalty of perjury.

Why are foreign banks suddenly demanding this information? 

Because of a law called FATCA, banks all over the world—including those in China and Hong Kong—are now required to hunt down and report data on any account holders who might be U.S. taxpayers.

How does this affect my ability to maintain a bank account? 

It puts you in a “Catch 22” situation. If you live abroad and want to open or keep a local bank account, you are often forced to give up this private tax info to the bank, or they might refuse to work with you.

 

If you’re an attorney, read this post instead: https://tax-expatriation.com/fatca-driven-new-irs-forms-w-8ben-versus-w-8ben-e-versus-w-9-etc-etc-for-uscs-and-lprs-overseas-its-all-about-information-and-more-information/

There is an idea that only recently has permanent resident US immigration status into the United States grown substantially. The peak years were in the early 1990s as to absolute numbers. However, the greatest number of permanent residents as a relative percentage of the population was in the early 1900s; by far. See the chart below that I created from DHS immigration statistics data.

This is important for LPRs who come into the US and then stay long enough to become “long-term residents” as defined in the tax law. See, an earlier post – Who is a “long-term” lawful permanent resident (“LPR”) and why does it matter?

• “Covered Expatriate” Status and Negative US Tax Consequences

Once these “long-term residents” leave the US they can typically be subject to various adverse tax consequences. See an earlier post: The “Hidden Tax” of Expatriation – Section 2801 and its “Forever Taint.”

See the “TIGTA Report”. Read it here: More Enforcement and a Centralized Compliance Effort Are Required for Expatriation Provisions 

Does TIGTA have the Answer: to the Question – How many former U.S. citizens and long-term lawful permanent residents have filed and should have filed IRS Form 8854?

The short answer to the question above – is NO!

The government does not know how many IRS Forms 8854 should have been filed.

Note the total numbers of 8854 returns filed as reported in Figure 2 of the TIGTA Report were less than 25,000 during a ten year period. This report focuses really only on former U.S. citizens (“USC”) who have renounced their citizenship. Not on lawful permanent residents (“LPRs), which during that same ten year period there were around 200,000 who filed USCIS Form I-407.

* How Many Individuals Should have Filed Form 8854?

POSTED ON JUNE 7, 2024

Tax professionals advising on tax expatriation cases in the United States have been anxiously awaiting final regulations for more than a decade. See previous post in 2014 –  Proposal to US Treasury and IRS: Await Final Regulations on “Covered Gifts” and “Covered Bequests”

See also a 2014 post,   The “Hidden Tax” of Expatriation – Section 2801 and Its “Eternal Stain.”

Now the rumor is out: Treasury and the IRS are actively working to finalize these long-awaited regulations. Coming soon . . . ?

These proposed regulations were published almost 10 years ago in 2015. Please see  Guidance under Section 2801 on the Imposition of Taxes on Certain Covered Expatriate Gifts and Bequests.

The Treasury and the IRS recently published proposed regulations related to foreign trusts. See  Transactions with Foreign Trusts and Reporting of Information on Transactions with Foreign Trusts and Large Foreign Gifts  : Rule proposed by the   Internal Revenue Service   on   05/08/2024  .

See, proposed rules –

• § 1.6039F-1
• § 1.6048-1
• § 1.6048-2
• § 1.6048-3
• § 1.6048-4
• § 1.6048-5
• § 1.6048-6
• § 1.6048-7
• § 1.6677-1
• § 1.643(i)-1
• With several
• reviews to –
• § 1.679-1
• § 1.679-2
• § 1.679-3
• § 1.679-4
• § 1.679-5
• § 1.679-6, and
• § 1.679-7

These regulations are extensive and provide an explanation of the purpose of these rules.

II. Purpose of Foreign Gift and Trust Provisions

During the mid- to late-1990s, abusive tax schemes, including offshore schemes involving foreign trusts, reemerged in the United States after reaching their last peak in the 1980s. GAO, Efforts to Identify and Combat Abusive Tax Schemes Have increased, but challenges remain, GAO–02–733 (Washington, DC: May 22, 2002). In these schemes, foreign trusts were used to transfer large amounts of assets abroad, where it was much more difficult for the IRS to identify whether U.S. persons owned a trust.

interest in such trusts, and whether such persons were reporting and paying the required taxes on their income from such trusts. Many of the foreign trusts were established in tax haven jurisdictions with bank secrecy laws. Before the 1996 Act amended sections 6048 and 6677, there was no Form 3520-A), which was limited to five percent of the transfer or corpus of the trust, as applicable, not to exceed $1,000. In light of this, it was difficult for the IRS to obtain information about income earned by U.S.-owned foreign trusts and distributions to U.S. beneficiaries from foreign trusts, and Sections 6048 and 6677 were generally ineffective in ensuring that U.S. persons provided this information. information. The result was “rampant tax evasion.” 141 Cong. Rec. S13859 (daily edition of September 19, 1995) (comments by Senator Moynihan). Requirement for U.S. Persons to Report Distributions from Foreign Trusts and the Penalty for Failure to Report Transfers to a Foreign Trust or an Annual Foreign Trust Information Statement (in Federal Register/Vol. 89, No. 90/Wednesday, May 8 of 2024/Proposed Rules and 141 Cong. Rec. S13859 (daily edition of September 19, 1995) (comments by Senator Moynihan).

Many tax practitioners think they are prohibited from discussing with a taxpayer the probability or likelihood that a tax return, tax position or a form (e.g., IRS Form 8854, Initial and Annual Expatriation Statement) will be audited by the IRS.

Many practitioners think such a statement is somehow taboo – and cannot be answered when a client asks the question: “Will my tax return get audited?”

Someone who has become a “covered expatriate” might want to know – whether the IRS audit of expatriate tax returns is high or low? What if I do not even have a social security number (e.g., as a U.S. citizen born outside the U.S.) from my date of birth, and I have lived outside the U.S. almost all of my life? Will that impact the chances of tax audit? Can answers be provided to these logical questions raised by taxpayers?

First, no one ever knows whether any tax return or position will get audited. The answer necessarily requires the ability to peer into the future.

The government filed a Motion to Dismiss their appeal as I predicted on February 2, 2024.

This is a classic report that now reads quaintly.

This 1998 U.S. Treasury report was written before the IRS and the Department of Justice started enforcing what has now become numerous international information reporting penalty provisions in the law. The author watched the change over these years, and the introduction of some new statutory penalties (e.g., 26 USC § 6039F in 1996; § 6039D in 2010; § 6039G in 1996; and major modifications in 2010 to § 6048, among others and increased FBAR penalties). Most importantly, the biggest change was how international individual taxpayers can (and often are) severely penalized by the IRS.

This 1998 report is full of sensible ideas. The Treasury explains the complex tax laws applicable to United States citizens (“USCs”) and lawful permanent resident (“LPR”) residing outside the U.S. The report has suggestions on how to best educate international taxpayers living overseas who are impacted by these laws.

Fast forward more than 25 years later (post 9/11/2001; post USA Patriot Act of 2001; post Swiss Bank scandals 2009+; post FATCA 2010+, etc.) and we are in a world of international tax penalties galore.

The U.S. international tax world in 2024 is a very different world, even though the core of the U.S. international tax law of how much tax is owing has largely remained the same for individuals. The calculation of income taxes for USCs and LPRs living overseas in 2024 is largely the same as it was in 1998. Plus, the IRS reports that only 10,684 resident income tax returns (IRS Form 1040) were filed by these individuals living overseas in the last year the IRS Office of Statistics reporting tax returns with IRS Form 2555 (Foreign Earned Income).

What has changed over these years is the IRS enforcement and easy found money on penalty collections. One example is the penalty for reporting tax-free gifts and inheritances. The reporting requirement of that law (26 U.S. Code § 6039F – Notice of large gifts received from foreign persons) was adopted in 1996.

The IRS has been increasingly aggressive in asserting international tax penalties: The available data shows . . . there were over 4,000 penalties assessed against individuals and businesses, totaling $1.7 billion [just for this penalty under 6039F]. During this period, the average penalty was . . . $426,000 . . .

Taxpayer Advocate Report (2023): Most Serious Problem #8 – The IRS’s Approach to International Information Return Penalties Is Draconian and Inefficient

The IRS assessed US$1.7 billion of penalties for this simple 6039F reporting violation over the four years of 2018-2021. The 2018 amounts tripled or quadrupled in subsequent years (e.g., $77M v. $238M v. 282M). Not all of these taxpayers are residing overseas, but certainly USCs and LPRs residing outside the U.S. are likely to encounter foreign gifts and foreign bequests, simply because their lives are foreign!

On the flip side, there have been few favorable changes to the U.S. citizen and lawful permanent resident (“LPR”) living outside the U.S. over these 25 years.

The most favorable developments have come in the last year or so. Importantly, the U.S. Supreme Court rejected the IRS interpretation of multiple per year non-willful FBAR penalties in United States v. Bittner, 143 S. Ct. 713 (2023). The author of this blog worked on the ACTEC amicus brief in Bittner, cited by the majority opinion (Justice Gorsuch) and the dissent (Justice Sotomayor).

Also of significance for individuals living in tax treaty countries is the case of Mr. Aroeste. The author of this blog represents the Mexico City resident who had not formally abandoned his LPRs. The case law provides significant relief for different groups of international taxpayers pursuant per the ruling by the federal district court in Aroeste v United States, 22-cv-00682-AJB-KSC (20 Nov. 2023). That case had over $3M of penalties assessed for IRS Forms 5471, 3520 and FBAR filings.

Plus, the DOJ conceded the penalty assessed against a Polish immigrant for a foreign gift in Wrzesinski v. United States, No. 2:22-cv-03568, (E.D. Pa. Mar 7, 2023) for not filing IRS Form 3520 based upon reasonable cause. Finally, the U.S. Tax Court decision in  Farhy v. Commissioner of Internal Revenue (2023) concluded the IRS could not automatically assess penalties for not filing IRS Form 5471.

See Three Precedent Setting Cases in International Information Reporting (“IIR”) in 6 Weeks:  * Aroeste, * Bittner, and * Farhy: all Interconnected via Title 26, Title 31 and U.S. Income Tax Treaties

Indeed, the international tax world has changed much over this past quarter century since the 1998 U.S. Treasury report. These recent string of cases in favor of international taxpayers is starting to look like a positive trend. See, Six Weeks, Three International Information Reporting Decisions (18 Sept. 2023).

More comments to come – in Part II.

No, not talking about Texas-Style Chili as reported in the – NYT Cooking Recipe.

Chile, the country in South America and the newest country to have an income tax treaty go into force with the United States. The U.S.-Chile Tax Treaty (in the works for more than a decade) went into force at the end of 2023, on 19 December 2023.

The question is how many “LPRs” are residing in a tax treaty country that are impacted favorably (presumably all of them) by the federal district court decisions we successfully handled against the IRS and DOJ, Tax Division: Aroeste v United States, 22-cv-00682-AJB-KSC (20 Nov. 2023)?

As previously explained, the Aroeste decision will affect potentially millions of “Green Card” holders (a subset of the 3.89M estimated by the government) living outside the U.S. Those who have not formally abandoned their lawful permanent residency status. See, “LPR Tax Limbo” – Formal Abandonment of LPR (Form I-407) – (2020). This “LPR Tax Limbo” is no longer the case after the Aroeste decision.

These individuals who are living in tax treaty countries are not in “LPR Tax Limbo” any more since the Court clarified when the individual is not a United States tax resident. The Court explained, that filing a “late” tax treaty position, does not cause the non-U.S. citizen to have waived the benefits of the income tax treaty. It is the tax treaty with each of the 66 countreis that has the potential of unlocking the “escape hatch” described by the Court.

The Court agrees with Aroeste. Although Aroeste gave untimely notice of his treaty position, the Court finds this does not waive the benefits of the Treaty as asserted by the Government. Rather, I.R.C. § 6712 provides the consequences for failure to comply with I.R.C. § 6114, namely a penalty of $1,000 for each failure to meet § 6114’s requirements of disclosing a treaty position.

See- Aroeste v United States – Order Nov 2023, p. 10.

The court in Aroeste outlined a 5-step analysis that becomes crucial for the 3.89 million LPRs residing abroad in one of the 66 tax treaty countries, in determining whether they are “United States persons” under the law. This will be covered in Part II.

See an earlier post: DHS Report: 3.89M Emigrated LPRs — Who Falls Under the Tax Treaty Escape Hatch?

• Millions of LPR Individuals Living in 66 Different Countries Could Be Impacted by Aroeste vs. U.S.

The United States has a total of 58 income tax treaties that covers 66 countries. See, Countries with U.S. Income Tax Treaties & Lawful Permanent Residents (“Oops – Did I Expatriate”?) (2014); ironically reflecting the same tax treaties in force in November 2023 as of 2014 (until the Chile treaty came into effect). The 1973 U.S. – U.S.S.R. income tax treaty applies to Armenia, Azerbaijan, Belarus, Georgia, Kyrgyzstan, Moldova, Tajikistan, Turkmenistan, and Uzbekistan.

See, United States income tax treaties – A to Z

Importantly, individuals in this category who: (1) have not formally abandoned their “Green Card”, and (2) live predominantly in one of these 66 tax treaty countries, should consider taking steps to minimize the U.S. tax and penalty risks to them under U.S. law. Understand the implications to them if they travel in and out of the United States. See, The Information in DHS/USCIS Database (A-Files, EMDS, CIS, PII, eCISCOR, PCQS, Midas, etc.) on Individuals is Extensive and Can be Shared with Internal Revenue Service

Importantly, anyone in these circumstances would be remiss, if they did not consider carefully the “mark to market” tax implications to them if they were to become a “covered expatriate” as defined in the law. These “mark to market” tax consequences can have potentially devastating consequences, including to U.S. beneficiaries in the future if not properly planned and considered.

More to come in Part II.

Depending upon the factual circumstances of each individual, they may be able to benefit from the international tax treaty law articulated by the U.S. Federal District Court in Aroeste v United States – Order (Nov 2023).  Future posts will explore the legal relevance of some of the following questions to consider:

• • Does the individual reside in one of the 67 countries affected by a U.S. income tax treaty with the United States?  See, DHS Report: 3.89M Emigrated LPRs — Who Falls Under the Tax Treaty Escape Hatch?

• • Does the individual have a “green card” they never formally abandoned (has it “expired” on its face; of the document)?

• •  Was no USCIS Form I-407, Record of Abandonment of Lawful Permanent Resident filed with the U.S. federal government?
• • If one was filed, when, from where, and how was it filed?
• • Has the individual affirmatively filed USCIS Form – I-90, Application to Replace Permanent Resident Card (Green Card)?
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• • Has the individual filed any U.S. federal income tax returns since leaving the United States?
• • Was a professional tax return preparer hired or consulted about the filing of a federal income tax return (e.g., a certified public accountant, an enrolled agent, a full time tax return preparer,  ta tax attorney, etc.)?

• • Has the individual been filing IRS Form 1040 Resident Tax Returns in the same way Mr. Aroeste was filing – based upon the advice (that turned out to be erroneous -although given in good faith) from their U.S. tax return preparer?
    

    

• • Has the individual been filing IRS Form 1040NR, Non-Resident Tax Returns?  If so, when and how?

• • Has the individual ever filed IRS Form 8854, Initial and Annual Expatriation Statement?  If so, when and how (was it attached to a federal tax return 1040 or 1040NR)?

• • Has the individual ever filed IRS Form 8833, Treaty-Based Return Position Disclosure Under Section 6114 or 7701(b)?
• • What steps if any have been taken to notify the U.S. federal government (irrespective of the agency) regarding their physical residency outside the United States?
    

 There are important unintended tax consequences that can befall individuals here:  see, Oops…Did I “Expatriate” and Never Know It: Lawful Permanent Residents Beware! International Tax Journal, CCH Wolters Kluwer, Jan.-Feb. 2014, Vol. 40 Issue 1, p9).

This information is intended to provide general information about tax expatriation legal concepts under U.S. law to help readers better understand often very complex issues within the U.S. international tax field for citizens and lawful permanent residents.  General legal information is not the same as legal advice, that is, the concrete application of law to a specific case with unique and particular facts. 

Legal advice also should include strategic planning and advice to a particular case.  A legal adviser should be able to assist an individual in taking important decisions and steps, related to the specific goals of the individual, while understanding the legal and tax consequences of each step.  There are a range of consequences that the “U.S. tax expatriation” laws impose upon different types of transactions, transfers, reorganization of assets, etc.  None of these items are discussed in this Tax-Expatriation.com   This is not legal advice.