The 2011 tax year may be a pivotal one for many U.S. citizens living abroad, including the roughly one million living in Canada, as the Internal Revenue Service moves towards enforcing reporting guidelines and compliance rules for its expatriates.

The United States requires all of its citizens file a tax return on global income regardless of where they live or for how long, even if no money is owed to the IRS. That applies to dual U.S.-Canadian citizens living here — even those who might have moved to Canada as a baby and never returned to their country of birth, let alone ever earned any income in the U.S.

It also applies if a person has dutifully paid all their taxes — often at a higher rate — in Canada, although a treaty prevents such a person from getting dinged twice by the taxman.

The U.S. government also requires Americans to file annual Reports of Foreign Bank and Financial Account (FBARs) if they held foreign accounts that, taken together, totalled $10,000 or more at any point in the tax year.

In other words, the U.S. imposes tax obligations on the basis of citizenship, not residency. And the IRS can impose steep penalties on U.S. citizens for non-compliance.

The question remains how the U.S. could enforce decisions affecting Canadian citizens unless they enter the United States. The Canadian government says the Canada Revenue Agency will not collect penalties imposed by the IRS under FBAR. And Canada's Department of Finance adds that the CRA won't collect taxes the IRS says are owed to the U.S. by Canadian citizens under FBAR.

Tax crackdown

'I think a lot of this is compliance, just getting everyone on board.'—Wayne Bewick, Trowbridge Professional Corp.

Part of the U.S. effort around expatriate tax compliance involves the Foreign Account Tax Compliance Act, passed in 2010 as part of a U.S. jobs bill, which requires foreign financial institutions to provide information on American-owned accounts.

The legislation imposes a 30 per cent tax on U.S.-connected payments to non-participating financial institutions and account holders.

"When taxpayers overseas avoid paying what they owe, other Americans have to bear a disproportionate share of the tax burden. FATCA is an important part of the U.S. government’s effort to address that issue," Emily McMahon, acting assistance secretary for tax policy with the U.S. Treasury, said in a February IRS release.

A number of countries, including Canada, have expressed unease with having financial institutions hand over client data to the IRS. It’s still unclear how the FATCA reporting requirements will work — but the U.S. government is still moving towards implementing the global system.

In February, it touted a new arrangement with five EU countries that will see a government-to-government information sharing arrangement and the IRS said it would lower reporting requirements to align with information already being collected by financial institutions.

‘Getting everyone on board’

The introduction of FATCA caused quite a stir, with many fearful of hefty fines imposed on life savings and retirement nest eggs, although that has largely died down now, said Wayne Bewick, a partner at accounting firm Trowbridge Professional Corp.  

"I think a lot of this is compliance, just getting everyone on board," Bewick, a chartered accountant who specializes in international taxation, said.

And the U.S. government has since eased a number of FATCA provisions, raising the threshold for reporting to accounts holding $200,000 US for singles or $400,000 US for couples and pushing back the implementation to January 2013.

The U.S. has also said data currently being collected by most financial institutions would satisfy its reporting requirements.

Although FATCA seems largely aimed at Americans living in tax shelters like the Cayman Islands, Bewick said now is the time for U.S. citizens living in Canada to start filing returns.

He recommends supplying six years of income tax returns — even if no money is owing — along with a letter explaining why they weren’t filed before. He also suggests filing six years of FBARs.

Steep penalties for non-compliance

The IRS has suggested that U.S. citizens file returns now to avoid trouble in the future.

The good news is that it appears Uncle Sam is willing to give some amount of leeway if expatriates bring their records up to date with the U.S. tax man. In December of last year, it published a fact sheet outlining income tax requirements for Americans living abroad, which said penalties would not be imposed in all cases. 

According to U.S. tax law, the IRS can impose a failure to file penalty equal to five per cent of the amount required to be shown on the return for each month to a maximum of 25 per cent. However, no penalty is imposed if no money is owed.

There are also steep fines for failing to file FBARs — up $10,000 US for non-willful violations and the greater of either $100,000 US or 50 per cent of the account balance for willfully failing to file.

The same December release from the IRS said FBAR penalties would be waived if they were the result of a "reasonable cause."

Bewick said many people have expressed anger at the rules governing U.S. citizens living abroad, some going so far as to suggest they would renounce their citizenship to avoid the reporting requirements.

Renouncing American citizenship, however, requires a person to file five years of income tax returns, Bewick pointed out.

"People just think it’s unfair — it’s completely unfair — and it probably is unfair. But unfortunately the law is the law and it’s just better to get compliant than try to fight off the IRS," he said.

Corrections

  • CBC News added information to this story noting that the Canadian government says the CRA will not collect penalties imposed on Canadian citizens by the IRS under FBAR. The story was also updated to reflect the fact that the U.S. government requires Americans to file annual Reports of Foreign Bank and Financial Account (FBARs) if the aggregate value of all their foreign financial accounts exceeded $10,000 at any time during the calendar year.
    Mar 07, 2012 11:30 AM ET