Expatriation Tax: Fulfilling Your Obligations while Outside the US


If you are a US resident or citizen who is staying overseas for more than a year, then you are called an expatriate. However, this status does not exclude you from your obligation to pay taxes. You are still required to file your US income tax returns and account for how much you earned while living abroad. Sadly, not all expats know this fact and they end up not filing.

What Will Happen if You Don’t File Your Tax Returns?

According to The Expat’s Guide to U.S. Taxes, the IRS can impose an underpayment penalty, a late filing penalty, and a non-filing penalty on top of the interest on the amount that is owed. Nonetheless, penalties are only applied if there is a tax due.

What Should You Do if You Haven’t Filed Your Tax Returns?

If you have not been reporting your foreign income for quite some time now, you should file those returns. The good news is that based on the 1993 Treasury Decision, you are excluded to file your tax returns as long as there is no tax liability. On the assumption that you are going to use this excuse, write on top of Form 1040 “Filed Pursuant to Sec. 1.911-7 (a)(2)(i)(D).”

But if you did owe a tax and the IRS doesn’t know it yet, file your tax returns. Just don’t forget to write “Filed Pursuant to Sec. 1.911-7 (a)(2)(i)(D)” on the top of the form.

If it turns out that you cannot pay all your taxes, you can use Form 9465 or the Installment Agreement Request. This will allow you to pay your taxes in installments. If a penalty was incurred, you can have the IRS drop it under special circumstances like loss of your financial records or a death in the family.

In the event that you haven’t filed your tax returns and the IRS knows it, you can ask for a Private Letter Ruling which will allow you to be excused to file your tax returns on time. However, you have to provide the IRS with a good reason. Also, you will be required to pay a fee of $500 if your income is less than $150,000, and $2,500 if it is more than $150,000. On the brighter side, there are special tax provisions that will reduce the expatriates’ tax liability while overseas. These are the Foreign Tax Credit and Exclusions from Income.

Using the Foreign Tax Credit

The Foreign Tax Credit will help compensate the taxes you were obliged to pay while on foreign soil. It works by using the foreign tax as a direct credit against your tax obligation in the US. This tax credit is ideal for those US expats who earn a lot in a country where the tax rates are higher than his or her home country.

According to the expat tax guide, the foreign tax credit is applicable if it was exacted on your earnings, you were legally compelled to pay the tax, you paid the foreign tax and did not gain anything from it, and the country is not sanctioned by the United States. But remember that the foreign tax credit can only be used for the tax liabilities that are relevant to your foreign income.

Using the Foreign Earned Income Tax Exclusion (FEIE)

Expatriates have the opportunity to exclude two items from their tax returns: foreign income worth $95,100 or less, and foreign housing costs limited to 30% of the maximum FEIE. However, expatriates can only claim this exclusion if the source of income is a result of a work or service carried out in a foreign country, the location of the business or employment is in a foreign country, and he/she passed the bona fide residence test or the physical presence test.

If an expatriate has lived in a foreign country all throughout one calendar year, then he or she has passed the bona fide residence test. Otherwise, the person must be outside the US for 330 consecutive days to be able to achieve the requirement for the physical presence test.

Programs for Expatriates to Catch-Up on Their Tax Reporting Responsibilities

According to the expat tax guide, the IRS proposes two programs for those US expatriates who are seen as irresponsible when it comes to filing their tax returns.

Streamlined Filing Program

The IRS acknowledges that many expats are unaware of their responsibility to file their income tax returns even if they reside outside the country. Streamlined Filing Program will help these expatriates catch-up with their obligations to prevent penalties from being incurred.

To qualify, the expat must have lived outside the US since January 1, 2009; must have not fulfilled his/her obligation to file his/her tax return; and must show that the failure to file the tax returns was non-willful.

Offshore Voluntary Disclose Program

Through this program, expats who have undisclosed income from offshore financial accounts will have the chance to update their tax returns. However, the process will require significant paperwork and high penalties. On the brighter side, he/she can avoid criminal prosecution.

“Quiet” Disclosure

Using this approach, expats can file their tax returns without having to use the two programs proposed by the IRS. Since the statute of limitations covers three years of tax returns, a few taxpayers are choosing this approach. However, the IRS warns taxpayers who opt for this method to be wary of the risks involved. The worst case scenario is that they will be criminally prosecuted.