If you are a U.S. citizen or resident with interests abroad, whether in a bank account, in an entity, or in other financial assets, then it is very likely that you must report these interests to the U.S. government each year. If you have not done so, the penalties can be astronomical. Nonetheless, the IRS offers programs to come into compliance.
The filing requirements are exceedingly complex; thus, if you do have a foreign financial account or any other ties to potential foreign income, it is incumbent to extricate your head from the sand and speak to a knowledgeable tax attorney or CPA.
In this article, I discuss when U.S. persons may have a reportable foreign interest, the penalties for not filing, and the methods for coming into compliance if you have not filed in the past. If you have foreign interests, do not ignore your reporting requirements. The ostrich approach never turns out well. Filing is easy—the penalties for failing to file, not so much.
A Real-World Example of Disaster
Arthur escaped Germany in 1944, settling in New York. He married a lovely girl, and he worked with an incredible Bavarian ethic, eventually purchasing a small commercial building. He sold the building in 1990 for $1 million with the “assistance” of a real estate lawyer (read: shyster), who we’ll call Dick. Dick advised Arthur to do what all of his clients were doing in 1990, and park the money in a Swiss bank account. Arthur, not knowing any better, did just that. He and Dick hopped on a plane to Geneva, and Arthur opened an account with a major Swiss bank. From 1990 to Arthur’s death in 2009, the money just sat there, untouched and all but forgotten.
Arthur had one son, who we’ll call, Buddy. Buddy vaguely knew that Arthur had sold the property in the early 1990s, but he didn’t really think twice about it. Going through his dad’s papers, he discovered the Swiss bank account, sent the bank notice that his father had shuffled off his mortal coil, and then, once again, did nothing.
In or around 2010, many Swiss banks (including Arthur’s) entered into an agreement with the U.S. government to disclose the names of U.S. account holders. The bank sent Buddy a notice that he might need to report the account to the Feds, but Buddy paid it no mind.
In 2015, because these cases move like molasses on a cold winter’s evening, Buddy received a love letter from the IRS informing him that he willfully failed to disclose the existence of the Swiss account. The penalty for this indiscretion: $500,000, or half the account’s balance. The molasses heated up at this point. Significantly.
Why Does the IRS Care about Foreign Accounts?
U.S. persons (individuals, businesses, trusts, etc.) are taxed on their worldwide income. This means that the IRS doesn’t care if you make $20,000 in St. Petersburg, Russia or St. Petersburg, Florida—the IRS wants its cut. Well, in the early 2000s, the IRS came to the conclusion that U.S. persons might not be reporting their worldwide income. To combat this, laws were passed, expanded authority was given, and all hell broke loose for U.S. persons with foreign accounts and other interests abroad. Although the IRS cannot tax your foreign holdings (like a bank account), they still want to know about it—the thought being that it might lead to unreported income.
Reportable Foreign Interests, Generally
Foreign bank accounts, though a particular hot button for the IRS, are not the only interests that a U.S. person might need to report. Here’s a brief (and definitely non-exclusive) list of reportable foreign interests:
- Foreign securities or other investments
- Interests in a foreign company (corporation or partnership)
- Interests in a foreign trust or foreign estate
- Foreign pensions, mutual funds, or life insurance
- Certain foreign gifts
- Passive foreign income or assets
Three Common Scenarios
In my practice, I most often run into three distinct types of clients with foreign reporting issues: U.S. citizens, who are chasing la vie bohéme in Europe; immigrants who are chasing the American dream; and children with deceased foreign parents (who aren’t really chasing anything at this point, I suppose).
With each of these types of clients, foreign interests are all but inevitable…and reportable.
Who Must File?
This is where it gets super complicated. First, there are two sets of filing requirements, and second no one rule encapsulates every situation perfectly. The following is a 10,000-foot view of a 737 soaring 10,000 feet above the actual rules.
The first requirement is just for foreign bank accounts (though the definition of an “account” is quite broad and encompasses securities, investments, and other financial assets held abroad). If all of these assets, taken together, have a value of over $10,000 at any time during the year, then you must file a FBAR (Report of Foreign Bank Account). This FBAR is filed with the Financial Crimes Enforcement Network (FinCEN) and is separate from the IRS filing requirements.
The IRS wants to know about your foreign bank accounts, too, as well as every other foreign interest (aside from real property, in many cases). There are different forms to report bank accounts (again, with a very broad interpretation of “account”); foreign trusts, estates, and gifts; business interests; mutual funds; and the rest.
For bank accounts, the filing threshold is based on whether you live in the U.S. or abroad, and whether you file jointly or not. The low end (U.S. resident filing as single) is $50,000 on the last day of the year or $75,000 at any point during the year. Married U.S. residents filing jointly must report accounts twice this threshold ($100,000 / $150,000). Single filers abroad have twice the threshold ($200,000 / $300,000), and married filers living abroad have twice that ($400,000 / $600,000).
Again, this is a vast simplification of the rules, but it at least gives you an idea of where the ballpark is and whether your interest is in or close to said ballpark. The filing requirements get even more complex when multiple interests become intertwined (e.g., a Cayman trust, holding a Swiss bank account, holding stock in a German emu farm).
The Dreaded Penalties
As Buddy discovered in our example above, the price for nondisclosure is extraordinarily high. Failure to file FBARs carries with it a $12,500 penalty for each year. If the failure was “willful,” meaning that you knew (or reasonably should have known but took the ostrich approach) about the foreign account and chose not to report it, the penalty can be as high as 50% of the account’s balance. If someone has been particularly naughty, failure to file FBARs can result in criminal penalties; however, the IRS rarely pursues criminal FBAR penalties unless they decide (in their sole discretion) that the violations were intended to conceal substantial assets.
The failure to file the IRS information reports carries with it a $10,000 penalty, per report, per year. If you have more than one foreign asset or interest, this can add up very quickly. Again, criminal penalties could apply, but generally only in the more egregious situations.
Avoiding the Penalties
So, you inherited a $500,000 account from your great-aunt Helga, who remained in the hinterland after the War, and you haven’t reported it since she died 10 years ago. Are you completely out of luck? No…there’s still hope. The IRS offers a few different programs for nonfilers.
The first of these programs is called “Voluntary Disclosure,” and this is used when there are potential criminal implications. This procedure allows you to report all of the foreign interests voluntarily (hence the name) if you’re not currently under audit or investigation by the IRS. If you voluntarily disclose, the IRS will (in most cases) not pursue criminal penalties, but the civil penalties are fair game.
The second program is called the “Streamlined Offshore Compliance Procedures,” which is used to avoid the non-willful civil penalties. If you can certify that your failure to report was nonwillful, and you otherwise satisfy the filing requirements, then you can enter this program to avoid the $10,000 per return, per year penalties. There is a catch, though. If you are a U.S. resident, you will have to pay a 5% “miscellaneous offshore penalty” equal to 5% of the value of all of your foreign assets. If you pay the troll’s toll to cross the tax bridge (not my best metaphor, but here we are), the IRS will not pursue any other penalties for the years at issue—assuming that the IRS finds that the failure was nonwillful.
The third and final program came about in November 2020, and so, in tax terms, it is still new and relatively untested. Known as the “Delinquent International Information Return Submission Procedures,” this program has you file your delinquent foreign information returns with amended tax returns and a statement as to why you had reasonable cause not to file. The upshot is that there is no 5% penalty. The downside, however, is that the IRS may or may not look at the reasonable cause statement before it asserts penalties. There is a special appeals process for these penalties, but the risk is there that the IRS may send a care package asserting multiple $10,000 penalties before you even have a chance to explain yourself.
Even when you are not making any taxable foreign income, in many cases you must report your foreign interests to the IRS (or FinCEN). I have had many clients come to me with fears that they would be locked up (they wouldn’t) or that they would face massive penalties (they would) if they did not come into compliance. Talk to your tax attorney or CPA. The filing requirements are so darn complex that every situation needs to be examined independently. Just because Karen down the street was told she didn’t have to report her interest in her family’s French pastry conglomerate, this doesn’t mean that you need not report your inheritance from Helga. (And Karen, likely, was wrong…)
This article is just the tip of the proverbial iceberg.
It is not intended as legal advice.
Instead, I simply wanted to point out some elementary concepts, which implicate a vast number of U.S. persons, many of whom simply do not understand the requirements. As with all of my articles, this one paints with a (very) broad brush and purposefully glosses over—or wholly ignores—some important nuances to the “rules.” If you even think that you have a foreign interest, you owe it to yourself to find out if you need to report it.
If you have foreign interests or know someone who does, shoot me an email at firstname.lastname@example.org, and I will be happy to discuss the potential implications and options with regard to those interests.
Be proactive. Don’t be an ostrich. When the IRS comes to call, your options become far more limited.
 Names and places have been changed.
 Non-U.S. residents may use the Streamlined Procedures without paying this 5% penalty.Add to favorites