You may be forgiven for thinking that once you no longer live in the United States, that your ongoing US tax obligations may be relatively simple or even non-existent, particularly if you have never held a US Passport or lived in the US.
However the definition of US citizen is broad and it is clear that the US Internal Revenue Service (IRS) is beating the long grass to flush out and identify US citizens and bring them back into the US tax net. The introduction of FATCA from 1 July 2015 is a key tool for the IRS and behind such initiatives there is a solid regime of harsh penalties and even gaol sentences if you ignore the issue.
The United States of America (USA) has an extraordinarily far reaching tax regime that imposes tax on US citizens and many former green card holders regardless of where they are in the world. This makes it one of the few countries in the world that impose tax on this basis, the others we understand to be North Korea & Eritrea.
Perhaps one of your parents was a US citizen or maybe you once held a green card, but did not hand it back when you left the US. This would create an obligation to file in the US and given US tax rates are generally lower, you may expect that Australian tax credits would mitigate the US liability. There is however fundamental mismatches between the Australian and US tax regimes, which means this does not always work. The most common problem areas are sale of your home, superannuation and certain trust structures, all of which can result in a US liability with Australian tax credits not being available.
There is an established Offshore Voluntary Disclosure Program (OVDP) that can provide a shortcut to getting your affairs in order, however it can be expensive – requiring 8 years returns plus a one off penalty based on the highest value of your assets in that period. The base penalty is 27.5% of that value, but may be up to 50%.
There is however now an alternative "Streamlined Program" that requires filing for 3 years where you have been "non-wilful" in regard to not filing. It has limitations, but it would be fair to say that now may be the best time to get your US affairs in order.
Once in order for 5 years, there is the option to "expatriate" – something that would clearly require deep consideration.
- US taxes on a citizenship as opposed to a residency basis which is a stark difference to Australia, most western countries and Asia;
- As a result of taxation on a citizenship basis, anyone that is a 'US Person' is liable to US taxation, regardless of whether or not they are living in the US and have an obligation to file;
- For people living in Australia, a US Person can include:
- Anyone born in the US, regardless of whether they hold a passport or not;
- Anyone who naturalised previously as a US citizen;
- Resident aliens in respect of any year where they met the substantial presence test
- Anyone who has one or more parents that are US citizens (even if they themselves were born outside of the US); and
- Anyone who held a green card and did not formally hand it back when they left.
- A US Person is liable to US tax on their worldwide income;
- The US taxing authority will generally provide credit for foreign (such as Australian) taxes paid;
- This credit will generally relieve Australian residents from US tax, as Australian taxes are generally higher than US taxes;
- Issues will arise however where there are differences between the Australian and US tax treatment of certain assets or types of income. The main problem areas Australians will encounter are:
- Main residence – ordinarily exempt for Australian purposes, but subject to tax in the US;
- Discretionary trusts –effective streaming of income for Australian purposes, may not be valid for US purposes, where the grantor/controller/funder is assessed under US rules. The tax credit may not be available to the grantor; and
- Foreign tax credit are not available to offset the 3.8% US NIIT tax.
- Superannuation funds – have variety of particular complications depending on type of fund, including:
- SMSF's being treated as grantor trusts
- Possible US taxation of other funds on contributions made, fund earnings and/or pensions paid
- Further significant issues can also arise in respect of:
- Expatriation taxes should a US Person choose to exit the US tax system; and
- Gift and inheritance tax issues.
- In addition US Persons are required to file with the US Treasury details of foreign (non-US) bank accounts they hold (FBAR). The penalties for non-filing of FBAR forms are severe.
To underpin and support all these requirements, the IRS has a standard penalty regime of up to $10,000 per form, per annum – and there can be multiple form required each year. This is in addition to the taxes and related penalties that may be imposed and the prospect of criminal convictions and gaol time where you may have been "wilful".
The US is currently offering a generous streamlined filing concession that allows US Persons to make up to date fillings where the missed filings are due to non-wilful delinquency (i.e. where the persons were not aware they had the obligation). There can be a total remission of penalties under the streamline program.
To qualify however you need to meet the threshold test of being non-wilful , which may be difficult if you can be shown to be aware of your obligations and chose not to file. If eligible, this program only requires 3 years filings to be up to date and penalties regarding failure to file forms are waived. You simply need to get your tax payments up to date.
If the streamline program cannot be accessed, disclosure must be made under the Offshore Voluntary Disclosure Program (OVDP). The terms of the OVDP are significantly less attractive than the streamline program but may be more attractive than possible criminal proceedings.
It is possible to expatriate and surrender your US Citizenship and consequently ongoing obligations. This would be a very difficult decision for most US citizens and depending on your assets; it also may be quite expensive to do so, as there is naturally a cost of doing so.
You must however have your last 5 years of filing obligations up to date to consider this.
Former green card holders can also inadvertently be caught by the exit tax rules, as expatriation can be 'deemed' if a green card holder has spent more than 8 years in the past 15 as a US resident. The 8 years may actually be as short as 6 years and 2 days as part years are included. The critical issue is that loss of green card status may be involuntary where the conditions for maintaining status have not been met, leaving no opportunity to plan for exit tax consequences.
There are several limited exceptions to the expatriation rules for people who are dual citizens from birth and also for those between the age of 18 and 18˝. Again, due care and consideration is required.
A common question asked is how the US will be able to find out about impacted people. The US has started a number of initiatives which are aggressively seeking out the asset positions of US Persons. FATCA now requires financial institutions around the world to report to US Treasury the asset position of any individuals that are US Persons that hold accounts with the financial institution. This has resulted in a number of financial institutions including an "Are you a US Person" question on bank forms, and sending out letters to confirm for any of their customers which they suspect may be US Persons. Anyone that wilfully states no in response to these questions runs the risk of committing perjury, a crime which the US courts take very seriously.
The most recent high profile case was the mayor of London, Boris Johnson. Mr Johnson was born in the US when his parents were at college there. He recently sold his family home in the UK, which was exempt to tax in the UK, but not in the US. The US Government issued him a tax bill, and after much complaint, Mr Johnson eventually paid the bill.
It is possible that some US Persons will evade detection by the US Government, although it is worth considering whether the streamline program and expatriation options could allow for a quick and relatively painless way to exit the US tax system forever. Due consideration would be necessary however it is clear that the US could terminate the streamline program at any time, with little notice.
This area is complex and requires detailed consideration of individual circumstances. It is clear however that the US is seeking to identify impacted people and bring them back into the tax net. If you value your status and wish to be able to freely enter the US, there may be no better time to get your affairs in order and seek advice from your US Tax Advisor or someone experienced in US Expatriate tax.
Moore Stephens maintains a strong relationship with a number of advisors in this area and we would be more than happy to assist with identifying issues and referral to the best advisors in this area.
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