FATCA Filing – A Guide for Reporting Foreign Assets for Expats
Did you know that Americans living abroad must report their foreign assets and accounts to the IRS as part of their annual filing? If you have overseas financial accounts or deal with foreign institutions for business transactions, you must familiarize yourself with the Foreign Bank Account Report (FBAR) and the Foreign Account Tax Compliance Act (FATCA) – including the correct forms you must file – to avoid penalties from the IRS.
An estimated $4 trillion in U.S. wealth is deposited overseas, with a significant portion in so-called tax havens. FATCA was enacted to address this issue by requiring U.S. taxpayers to report their foreign financial assets. It also obligates foreign financial institutions to disclose information about their U.S. clients to the IRS. The law’s primary goal is to uncover hidden wealth. However, its complex requirements can put average taxpayers at risk of harsh penalties if they fail to comply.
This article will guide you through the intricacies of FATCA, explaining what it means and how it affects expats. It will also help you understand how to comply with its requirements to avoid unnecessary penalties.
What is the Foreign Account Tax Compliance Act (FATCA)?
The FATCA is a key component of the U.S. government’s strategy to curb tax evasion by U.S. persons holding financial assets abroad. Enacted in 2010 as part of the Hiring Incentives to Restore Employment (HIRE) Act, FATCA imposes stringent reporting requirements on both U.S. taxpayers and foreign financial institutions (FFIs).
Under FATCA, U.S. taxpayers with foreign financial assets exceeding certain thresholds must report these assets annually on Form 8938. It’s filed along with their income tax return. The specific reporting thresholds vary based on filing status and residency. However, the requirement applies regardless of where the taxpayer resides. Failure to comply can result in severe penalties.
FATCA also mandates that FFIs disclose information about financial accounts held by U.S. taxpayers or face a 30% withholding tax on certain U.S.-source payments. This has led to a significant shift in global financial practices as institutions worldwide have adapted to meet these reporting obligations.
Who Should File Under FATCA?
Many U.S. taxpayers mistakenly believe that having offshore finances or assets exempts them from IRS reporting requirements. However, this is a misconception. FATCA requires specific taxpayers to disclose their foreign financial assets to the IRS, regardless of where these assets are held. To determine whether you need to comply with FATCA, consider the following filing requirements:
Taxpayers Living in the U.S.
- Single Filers or Married Filing Separately: You must file under FATCA if the total value of your foreign financial assets is at least $50,000 on the last day of the tax year or more than $75,000 at any time during the year.
- Married Filing Jointly: You are required to file if the combined value of your foreign financial assets exceeds $100,000 on the last day of the tax year or more than $150,000 at any point during the year.
Taxpayers Living Outside the U.S.
- Single Filers: If you reside abroad, FATCA applies if your foreign financial assets are valued at more than $200,000 on the last day of the tax year or exceed $300,000 at any time during the year.
- Married Filing Jointly: Joint filers living outside the U.S. must file if their foreign financial assets exceed $400,000 on the last day of the tax year or $600,000 at any time during the year.
Other Specified Domestic Entities
- Domestic Entities: Certain domestic entities, such as trusts and partnerships, are also subject to FATCA reporting if their foreign financial assets exceed $50,000 on the last day of the tax year or $75,000 at any time during the year.
Foreign Financial Institutions
Foreign financial institutions are required to report information about U.S. account holders to the IRS. These institutions include foreign banks, mutual funds, investment entities, insurance companies, and certain pension funds. The threshold for reporting is generally any account held by a U.S. taxpayer, regardless of the amount. FFIs that fail to comply with FATCA reporting requirements may face a 30% withholding tax on U.S.-sourced income.
What Qualifies as Foreign Financial Assets?
When it comes to FATCA, understanding what qualifies as a foreign financial asset is crucial for U.S. taxpayers with international ties. FATCA requires you to report specific foreign financial assets if their value exceeds certain thresholds. These assets can include bank accounts held abroad, foreign stocks, bonds, and even mutual funds managed outside the U.S.
However, it’s easy to misinterpret what constitutes a foreign financial asset. For instance, U.S.-based accounts managed by foreign financial institutions might not require reporting as foreign assets. Similarly, ownership stakes in foreign entities must be disclosed, but this area can be particularly confusing, leading to common mistakes among U.S. expats.
If you are uncertain about which assets to report, consult with a tax professional specializing in expatriate taxation. Misreporting or failing to report can result in significant penalties under FATCA, so ensuring compliance is essential for avoiding unnecessary legal and financial troubles.
TIP: Foreign real estate is generally not considered a foreign financial asset under FATCA unless it’s held through a foreign entity, such as a corporation or trust. If you own foreign property through an entity, it must be reported, so be sure to consult with a tax professional to avoid misclassification.
FATCA Filing Requirements for U.S. Taxpayers
U.S. taxpayers who meet the reporting thresholds must file Form 8938, Statement of Specified Foreign Financial Assets, along with their annual tax return. Form 8938 requires detailed information about the taxpayer’s foreign financial assets, including account balances and income generated from those assets.
It’s important to note that filing Form 8938 does not replace the requirement to file the FBAR (FinCEN Form 114). You may need to file both forms, depending on the nature and value of your foreign accounts. While FBAR specifically covers foreign bank accounts with balances of $10,000 or more, FATCA has higher value thresholds. It also covers a broader range of assets, such as foreign stocks, bonds, and other financial instruments.
FATCA Filing Requirements for Foreign Financial Institutions
Foreign financial institutions (FFIs) play a crucial role in FATCA enforcement. These institutions must file Form 8966, FATCA Report, to disclose information about U.S. taxpayers’ accounts. Form 8966 includes details such as account balances, transaction receipts, and income earned from the account. FFIs must also obtain a Global Intermediary Identification Number (GIIN) from the IRS and comply with FATCA’s due diligence requirements.
Non-compliance by FFIs can lead to penalties, including a 30% withholding tax on certain U.S.-source payments. This withholding tax can significantly impact the financial institution’s operations, which is why most FFIs opt to comply with FATCA requirements.
Penalties for Non-Compliance
FATCA imposes some of the most stringent penalties for non-compliance, affecting U.S. taxpayers and foreign financial institutions (FFIs). These penalties help ensure full disclosure of foreign financial assets and to deter tax evasion.
Penalties for U.S. Taxpayers
- Failure to File: If you fail to file Form 8938, the IRS can impose an initial penalty of $10,000. If you do not address the issue after receiving a notice, the IRS can add additional penalties of $10,000 for each 30-day period of continued non-compliance, up to a maximum penalty of $50,000.
- Accuracy-Related Penalties: If you underreport your income related to foreign assets on your tax return, the IRS can impose a penalty of 40% of the understated amount. This penalty applies to the portion of underpayment attributable to non-disclosed foreign financial assets.
- Penalties for Underpayment Related to Fraud: If you underpay the tax you owe due to a transaction involving a foreign financial asset and commit fraud, the penalty becomes even more severe. In such cases, the IRS imposes a penalty equal to 75% of the underpayment amount.
- Criminal Penalties: In cases of willful non-compliance, the consequences can escalate to criminal charges. Taxpayers found guilty of deliberately hiding foreign assets may face significant fines and imprisonment. The severity of criminal penalties reflects the U.S. government’s commitment to combating tax evasion on a global scale.
TIP: While non-compliance penalties are severe, taxpayers may be eligible for penalty relief under the IRS’s “reasonable cause” exception if they can demonstrate that their failure to comply was due to reasonable causes, not willful neglect. Consulting with a tax professional can help you build a strong case if you find yourself in this situation.
Penalties for Foreign Financial Institutions
- Withholding Tax: Non-compliant FFIs may be subject to a 30% withholding tax on certain U.S.-source payments, including interest, dividends, and other fixed or determinable annual or periodic income. This penalty is a significant financial deterrent, as it directly impacts the institution’s profitability.
- Exclusion from U.S. Financial Markets: In addition to the withholding tax, FFIs that do not comply with FATCA may find themselves excluded from U.S. financial markets. This exclusion can be devastating, as it limits the institution’s ability to conduct transactions involving U.S. dollars, access U.S. investments, and engage with U.S. clients.
What Should You Do If You Missed Filing Form 8938?
If you discover that you did not file Form 8938 when it was a requirement, you need to take action as quickly as possible to reduce the likelihood of harsh penalties. If you make an effort to come into compliance before the IRS discovers your mistake, they are more likely to handle your case with lenience. Nonetheless, filing delinquent forms does not guarantee that the IRS won’t impose any penalties. Avoiding penalties is easier for taxpayers who reported income related to foreign accounts but simply failed to file the proper disclosures.
Is the Offshore Voluntary Disclosure Program Still an Option?
For taxpayers who willfully fail to report foreign assets, the potential consequences can be significant, including civil and criminal penalties. The IRS previously offered the Offshore Voluntary Disclosure Program (OVDP) as a means for individuals to come forward, reduce their penalties, and achieve compliance with U.S. tax laws. However, the OVDP officially ended on September 28, 2018.
While the OVDP is no longer available, the IRS has introduced the Voluntary Disclosure Practice (VDP) for those who still need to come clean about non-compliant offshore accounts. The VDP allows taxpayers to voluntarily disclose their non-compliance. It can help mitigate the risk of criminal prosecution and reduce some penalties. However, participants in the VDP may still face significant penalties and must settle all outstanding tax liabilities and interest.
For those whose non-compliance was not willful, the IRS offers the Streamlined Filing Compliance Procedures. This program provides a more lenient path to compliance for taxpayers who can certify that their failure to report foreign assets was due to non-willful conduct. Through the streamlined procedures, eligible taxpayers may avoid some of the harsher penalties typically associated with non-compliance.
Both options require careful consideration, and it’s advisable to consult with a tax professional to determine the best course of action based on your specific circumstances.
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FATCA/Form 8938 versus FBAR
U.S. taxpayers with foreign-held assets may also need to file the Report of Foreign Bank and Financial Accounts, or FBAR. Although FBAR and Form 8938 serve similar purposes, they have different filing requirements. FATCA Form 8938 generally applies to those with foreign financial assets exceeding $50,000 (for single filers living in the U.S.). In contrast, the FBAR applies if the aggregate value of foreign accounts exceeds $10,000 at any time during the calendar year. In many cases, taxpayers with foreign accounts or assets must file both of these forms.
Filing one of these forms does not release you from the responsibility to file the other. In addition, the penalties for failing to file FBAR are even more severe than those imposed on taxpayers who fail to file Form 8938. Non-willful FBAR violations can result in fines of up to $10,000 per violation, while willful violations can lead to penalties as high as 50% of the account balance. If you have failed to file both forms, your penalties could be incredibly high.
TIP: FATCA and FBAR have different definitions of what constitutes a foreign financial account. For example, some foreign retirement accounts may be reportable under FBAR but not FATCA. Be sure to review the requirements for both to ensure full compliance.
Common FATCA Pitfalls and How to Avoid Them
Compliance with the FATCA can be complex. Even well-intentioned taxpayers often make mistakes that lead to significant penalties. To help you navigate these challenges, here are some of the most common pitfalls and practical tips on how to avoid them:
1. Incorrect Currency Conversion
One of the most frequent errors involves converting foreign financial assets to U.S. dollars using the wrong exchange rate. The IRS requires converting all foreign financial accounts to U.S. dollars using the official year-end exchange rates provided by the Treasury Department. Failing to use the correct rate can result in underreporting the value of your assets, potentially leading to penalties.
To avoid this, always use the IRS’s official exchange rates, updated annually on their website. Double-check your conversions to ensure they are accurate and reflect the correct values.
2. Reporting the Wrong Account Balance
Another common mistake is reporting only the year-end balance of foreign accounts rather than the highest balance during the tax year. FATCA requires that you report the maximum value of each foreign financial account during the year, not just the balance at the end of the year.
To stay compliant, review your account statements for the entire year to identify the highest balance in each account. This ensures that you report the correct figures and meet FATCA’s requirements.
3. Failure to Report All Foreign Financial Assets
FATCA’s definition of foreign financial assets is broad and includes more than just traditional bank accounts. Many taxpayers overlook assets such as foreign pensions, life insurance policies with cash value, and interests in foreign entities. Failing to report these assets can lead to hefty penalties.
To avoid this, create a comprehensive list of all your foreign financial assets. It should include those that might not be immediately obvious. If you’re uncertain whether an asset needs to be reported, consulting with a tax professional can help ensure you meet all your reporting obligations.
4. Misunderstanding the Reporting Thresholds
The reporting thresholds for FATCA vary depending on your filing status and whether you live inside or outside the United States. Many taxpayers miscalculate whether they need to file by not fully understanding these thresholds.
Carefully review the FATCA reporting thresholds based on your specific situation. For example, the threshold is higher for U.S. taxpayers living abroad than for those residing in the U.S. Understanding where you stand can prevent unnecessary filings or, worse, omissions.
5. Overlooking Jointly Owned or Spousal Assets
Taxpayers often forget to include foreign financial assets jointly owned or held by a spouse, especially if they assume that only individually owned assets need to be reported. However, FATCA requires that you report all qualifying assets, regardless of ownership structure.
Include all foreign financial assets on Form 8938, whether held individually, jointly with a spouse, or even in a business entity. Account for the full value of these assets to avoid penalties.
6. Ignoring Communications from Foreign Financial Institutions
If a foreign financial institution suspects you might be a U.S. taxpayer, FATCA requires them to request information from you. Ignoring these requests can lead to the institution marking your account as non-compliant.
Non-compliance could result in the institution freezing or even closing your account. Some institutions prefer to avoid dealing with the added complexity of FATCA. To avoid these issues, respond promptly to any communications and provide the necessary documents to confirm your status as a U.S. taxpayer. This helps ensure your accounts are accurately reported and remain accessible.
Get Help With Your FATCA Filing Today
The requirements of FATCA and other regulations affecting foreign financial assets are complex. The penalties for failing to comply with these regulations are steep. For this reason, many taxpayers affected by these laws choose to consult a tax professional. They can help them determine which requirements apply to their situation.
Tax Samaritan specializes in helping U.S. taxpayers understand and comply with FATCA regulations. Our team can guide you through the process, ensuring all paperwork is completed accurately and on time. Whether you’re worried about penalties, have violated IRS regulations, or have questions about FATCA, we can help. We’ll work with you to explore your options and find the best solutions to resolve any issues.
