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Filing Your Back Taxes for Multiple Years as an American Expat

Filing Your Back Taxes for Multiple Years as an American Expat
Ines Zemelman, EA
15 August 2011

Once a U.S. citizen or green card holder leaves U.S. soil, the issue of tax owed to the American government is often misunderstood. Some expats file late. Some file on time but without understanding of the intricacies surrounding expat taxes. Many expats simply do not file. They still must file taxes with the U.S. government, however, even if no tax is due. And after years of non compliance, they can be presented with a hefty bill. In this article, we will explain how one can put themselves in good standing with the IRS after a one or many years of non-compliance.

The Good News

First of all, don’t panic. The ruthless evils of the IRS make for a good urban legend, but the penalties are rarely as harsh as you might think. Harsh penalties are normally reserved for those who attempt to hide from and deceive the IRS. Being upfront and compliant will, under most circumstances, grant you an instant favor. 
If you owe taxes, or if you would owe taxes without submitting the relevant forms and claiming the relevant exclusions, you will receive a penalty for failing to file. There are three different types of penalties that may apply.

  • Failure to File US Expat Taxes: As an expatriate who is living and working overseas, the US gives you until June 15th to file your expat tax return. If you are not able to file by June 15th, you may extend your filing deadline until October 15th. You may only extend your filing date, however, not the date your taxes are due. Failure to file or extend the deadline will result in a penalty, 5% assessed, to each month that you do not file (this penalty maxes out at 25%). 
  • Failure to Pay Penalties: If, after failing to file or extend your deadline and receiving a 5-25% penalty, you fail to pay that penalty, you will receive an additional penalty (.5% of the total tax due) for each month that you fail to pay. There is no cap on this penalty.
  • Assessment of Interest: The interest applied to your overdue taxes is not consistent. Actually, it varies every three months according to market activity. At the time of this article, the interest rate was 4%. Interest accrues every day on whatever is the remaining balance. There is no cap on the interest that can accrue on back taxes.

Time for more good news? If you are owed a refund, you will not owe interest and none of the above penalties will apply to you. The catch is that you only have three years to file and claim back refunds on your expat taxes. Contrarily, the IRS has ten years to chase down and collect owed taxes from expats.

If the IRS finds you (which they always do eventually) before you file, they are permitted to file for you. This is referred to as a Substitute for Return, and it will not be drawn in your favor. None of the exemptions or deductions for which you qualify will be applied, and taxes will be assessed based on your income alone. After the Substitute for Return has been filed, the IRS will formally seek to collect on back taxes and penalties. To avoid the pitfalls that coincide with a Substitute for Return, race to file your own return as quickly as you can.

Filing Back Taxes

The longer it has been since you’ve filed your taxes, the worse and more treacherous the task appears. If you’ve never filed, you might wonder how many years you must include to result in a “current” status. The truth is, the number of years for which you should file varies depending on your situation. The following should be considered:

  • Remember, you can only claim a refund back three years from the return’s actual due date (one day over and you will have missed the deadline). If, to the best of your knowledge, you would have received a refund in all of the years you failed to file, most accountants will recommend only filing back three years. After doing so, you can consider yourself compliant.
  • The IRS has the past six years’ information at their fingertips. Some accountants will suggest that, because of this, you file back six years whether your situation is favorable or unfavorable (tax wise). It is unlikely, whether you would have owed money or been owed a refund, that the IRS will pursue your case back any farther, but be sure to check with a qualified accountant who can help with your decision in this matter. Although the IRS only maintains information on the past six years, there isn’t a statute of limitations on unfiled expat taxes. So under certain situations, you may want to file back even farther.
  • The IRS tax code states that you must file an expat return for every year in which you have earned any amount over that years’ threshold. If you are self-employed, you must file if you earned over $400. The IRS is allowed to pursue taxes on these amounts for up to ten years from the return’s original due date. In cases of tax fraud, however, where the expat has willfully deceived the IRS, and under-reported their income by 25% or more, there is no statute of limitations on collection.
  • 2011 presents a twist, because the IRS has decided to institute the 2011 Offshore Voluntary Disclosure Initiative (OVDI). This initiative allows you, as an expat, to come up to date and back into the IRS’s good graces without facing fines or penalties! For some of you, this news is tremendous! To take advantage of this initiative, you must file back eight years and pay all taxes due by August 31, 2011.

As you can see, it is not immediately clear whether you should file back three years, six years, eight years, ten years, or every year that you have been gainfully employed. This is a decision that should be made carefully and with the help and guidance of an international tax expert. But if you regularly expect a large refund staying within the three year time frame is usually sufficient. 

Retrieving the Necessary Documentation

Making the decision to file your back tax returns and how far back to file is really the easy step in the process. Once you have decided to file, next comes the hunt for long lost paperwork, receipts and forms. There’s good news here too, however!

The IRS keeps a six year record of all reported income. If you need this information, you can request it from the IRS via Form 4506-T. Keep aware of the filing deadlines, however, because this method often takes up to 45 days. Although, accountants often have the privilege of rushing this information. When the information arrives, it will only apply to your Federal taxes. Additionally, it will not be detailed information. If you are filing back several years, it will be wise to check your files, contact your employers and request information from the IRS.

You might need information that was never reported to the IRS or is older than six years. If you have not kept your bank statements and check stubs, this will prove to be difficult. Think of any and all employers and contact them all. Contact your host country if you were overseas during the time in question. In the end, you may have to file without having every piece to the puzzle. Something is better than nothing, and filing is better than not filing!

Special Penalties

In addition to penalties applied to unfiled taxes, unpaid taxes and unpaid penalties, many tax forms have their own, separate, penalties. If any of the following forms are relevant to your tax life, pay careful attention.

  • If you are a US citizen who owns 10% or more of the total value of stock in a foreign company, you are required to file Form 5471.
  • US Citizens who have $10,000 in all of their foreign accounts combined at any point during the year must file Form TDF 90-22.1 with the US Treasury. 
  • US citizens who have transferred property or money to foreign corporations must file Form 926.
  • US citizens who are involved in a foreign business partnership must file Form 8865.

This list simply outlines some of the most common forms and should not be viewed as a comprehensive list.

Self-Employment and Expat Taxes

Self employment tends to complicate your US taxes as an expat. If you are self employed, you are required to pay the self-employment tax that your employer would normally pay on your behalf. The Foreign Earned Income Exclusion and the Housing Exclusion both offset your income. They do not, however, cover the currently 15.3% self employment tax that is imposed on your earnings as a self-employed expat. This makes it even more important to remain current in your filing. Interest on back taxes is much higher for you as a self employed US citizen overseas.

Closing with more good news, the US does have agreements with several countries. These agreements have programs that are very similar to our social security program. By living and working in these countries, you will be paying into their program just as stateside Americans pay into social security. If this is the case for you, and you reside in a country that has an agreement with the US, you are not obligated to pay the standard US self-employment tax! Some of these countries are the UK, Canada, Australia and Germany. Paper work is involved in the process, but if you reside in a country with this very beneficial agreement in place with the US, you can be self-employed without additional tax burden.

The issues of filing back taxes, determining how far back to file and learning the necessary expat tax forms take years upon years to learn. You can trust the international tax experts and Taxes for Expats to conduct the process with knowledge and as much ease and benefit as it possible in your situation.

Ines Zemelman, EA
founder of Taxes for Expats