In recent years, the IRS and US Treasury have stepped up their efforts toward tracking down delinquent tax payers and enforcing payment of overdue taxes. One of these initiatives has been labeled the “Foreign Account Tax Compliance Act”. FATCA is part of the Hiring Incentives to Restore Employment (HIRE) Act, which was designed to enforce higher tax compliance among U.S. taxpayers with foreign accounts and assets. FATCA created Form 8938, an additional foreign account reporting requirement over and above the Report of Foreign Bank and Financial Accounts (FBAR) or Form FinCEN 114 that needs to be filed with the U.S. Treasury every year. If a taxpayer has more than a certain amount of foreign assets, Form 8938 is included as part of their annual 1040 filing and requires reporting an expanded list of foreign assets not covered by FBAR.
Every expat should be made aware of FATCA and how it may affect their investments and taxes.
How FATCA Will Affect Me?
The purpose of the FATCA is to force managers of foreign financial institutions to report all American clients to the IRS or be severely penalized with high withholding taxes. If the information reported is not 100% accurate and complete, the fund manager will still be faced with a penalty. This rule, however, is not without complications:
- Some countries have data protection laws in place that would be if the manager cooperates with the IRS.
- A fund manager may not realize that he has an American client because the client is represented by a non-American.
- The client may not provide the manager with the required information.
The penalty is solely applied to the manager, not the American client, regardless of the manager’s nationality. As you see, a non-cooperative American expat client may be more trouble than he is worth.
Who Must File Form 8938
U.S. Citizens Living Abroad:
For U.S. citizens who are considered by the IRS to be foreign residents for the entire tax year or who meet the physical presence test for living in a foreign county, the new limits are:
- Single: Aggregate foreign assets of USD 200,000 on the last day of the year or USD 300,000 at any time during the year.
- Married Filing Jointly: Aggregate foreign assets of USD 400,000 on the last day of the year or USD 600,000 at any time during the year.
For more details on who needs to file, what constitutes foreign assets, and other details, check out the IRS article, "Do I need to file Form 8938, 'Statement of Specified Foreign Financial Assets?'"
Why Should Foreign Fund Managers Comply?
You may wonder why a foreign fund manager would cooperate with the IRS even though they do not (most of them) have any ties to the US government. The answer is simple: the penalty. Fund managers normally feel obligated to register because the American bond and equity markets are the largest in the world.
“The law requires that foreign financial institutions (a category that seems to include everybody from financial advisers to pension funds) register with the Internal Revenue Service by June 30th 2013. If they do not register, they will then be regarded as “non-participating”. In that case a 30% withholding tax will be applied to all their income on American assets from 2014 as well as to the proceeds from the sales of these assets from 2015.”
Can Americans Invest Abroad with FATCA in Place?
FATCA may cause fund managers to deal differently with American clients if it goes through congress unchanged. It is in the best interest of international financial institutions (and, thusly, American investors) that the initiative will be adjusted in such a way that fund managers can continue to work with American clients. Currently, the steep withholding taxes will force many international fund mangers to deny Americans or avoid all American assets, which puts both at a disadvantage.
Some Other Considerations:
- Form 8938 is due at the time of your normal tax filing including extensions.
- Filing Form 8938 does not exempt you from the requirement to file Form FinCEN 114, the Report of Foreign Bank and Financial Accounts (FBAR).
- If you are not required to file a tax return, you do not need to file Form 8938.
- If you are required to file a Form 8938 and you have a specified foreign financial asset reported on Form 3520, Form 3520-A, Form 5471, Form 8621, or Form 8865, you do not need to report the asset on Form 8938. On Form 8938, however, you do have to identify which and how many of each of these forms you did file.
- Even if a foreign financial asset is reported on one of the forms listed above, it still must be included it in your calculation of specified foreign financial assets.
- The penalty for failing to file Form 8938 is USD 10,000, with an additional penalty up to $50,000 for continued failure to file after IRS notification. A 40% penalty on any understatement of tax attributable to non-disclosed assets can also be imposed and special statute of limitation rules apply.
Form 8938 is separate from the FBAR form and its requirements. The FBAR (FinCEN 114) is filed with the US treasury while Form 8938 is filed with the IRS. However, if you are required to file Form 8938, your assets will most likely fall under the FBAR filing requirements (f the majority of your assets are financial) accounts.
Ignorance is not bliss when it comes to anything tax related, and there are penalties for failing to file the appropriate forms by the appropriate date. Each penalty is levied on a case by case basis, however, and those who are ignorant are usually not penalized as harshly as those who have intended to (or appear to have intended to) defraud the government. The penalty that may be incurred for failing to file Form 8938 is a severe $10,000 with an additional $50,000 for those who ignore the IRS’s initial warning. Additionally, the IRS may apply a 40% penalty on the taxes from non-disclosed assets.
Unlike many expat tax matters, the filing requirements leave little guess work. Everything is clearly detailed in the section “Form 8938 instructions” on the IRS website. These details include relevant dates, asset types, account types and thresholds.
Failing to comply or fully understand the 8938 requirements is a costly mistake, both in time and money. For questions and concerns regarding any aspect of your expat taxes, please contact the professionals at Taxes for Expats today.
The IRS continues to roll out new ways to identify Americans holding financial and investment accounts abroad. These disclosure reporting requirements all come loaded with the highest IRS penalties, starting at $10,000 per non-filing or incorrect filing incident.
Some Frequently Asked Questions About FATCA
What's a specified foreign financial asset?
For this definition we can go straight to the source - the IRS text:
- Any financial account maintained by a foreign financial institution.
- Other foreign financial assets, which include any of the following assets that are held for investment and not held in an account maintained by a financial institution.
- Stock or securities issued by someone other than a U.S. person,
- Any interest in a foreign entity, and
- Any financial instrument or contract that has an issuer or counterparty that is other than a U.S. person.
What are the value thresholds?
The aggregate value thresholds of specified foreign financial accounts vary depending on how you file your tax return.
Filing Status: Unmarried/Single
Aggregate Value at Year End: $50,000
Highest Aggregate Value at Any Time During the Year: $100,000
Filing Status: Married Filing Joint
Aggregate Value at Year End: $100,000
Highest Aggregate Value at Any Time During the Year: $200,000
Filing Status: Married Filing Separate
Aggregate Value at Year End: $50,000
Highest Aggregate Value at Any Time During the Year: $100,000
Filing Status: Taxpayer Living Abroad (Non-Joint)
Aggregate Value at Year End: $200,000
Highest Aggregate Value at Any Time During the Year: $400,000
Filing Status: Taxpayer Living Abroad (Joint)
Aggregate Value at Year End: $400,000
Highest Aggregate Value at Any Time During the Year: $600,000
If I'm currently filing the FBAR (FinCEN 114) does Form 8938 replace it?
NO. Both forms are required to be filed. The FBAR will still be filed directly with the Treasury Department. The 8938 will be attached to your U.S. tax return and filed with the IRS.
What happens if the IRS finds out I didn't file or if I under-reported my foreign interest, dividends, capital gains, and business earnings?
If you don't file a complete and correct Form 8938, it is an automatic $10,000 penalty that can grow to a $50,000 penalty if not dealt with immediately. You will be required to pay the regular tax that would have been due on these assets plus interest and incur an additional penalty of 40% of the tax due. Don't forget there may be criminal penalties for non-compliance.
What Else should I know?
Form 8938 is required to be attached to your U.S. income tax return, but only required if you would otherwise be required to file a U.S. income tax return. So, if you are not required to file a U.S. tax return, you are not required to file form 8938 with it.
Do I have to report a specified foreign financial asset on Form 8938 if I report it on other IRS disclosure forms?
Maybe not. Please see a qualified tax professional to help you determine if you need to file form 8938. Remember, failure to file a correct and complete Form 8938 may result in $10,000 or more in penalties.
For most American expats, the annual filing of their U.S. tax return is not the real issue to worry about – it's the required disclosure reporting! Some of the most draconian IRS penalties are associated with the non-filing or incorrect filing of the various disclosure reports that you need to file if you hold foreign investments, foreign bank accounts, or foreign business interests. Don't risk losing your hard-earned international financial accounts to IRS penalties, work with a tax professional experienced in the international reporting requirements.
I.J. Zemelman, EA is the founder of Taxes for Expats