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IRS hints at leniency for Americans living in Canada

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Americans living in Canada who feared the U.S. Internal Revenue Service would slap costly penalties on them for failing to file tax returns and detail their foreign financial holdings are getting a bit of relief.

The IRS confirmed in a release Thursday that for Americans living outside the country it will waive penalties for not filing tax returns - providing those taxpayers owe no U.S. tax. In addition, the IRS hinted that it may be lenient with penalties for those who have failed to file reports of foreign bank and financial accounts (FBARs).

"Taxpayers who owe no U.S. tax (e.g., due to the application of the foreign earned income exclusion or foreign tax credits) will owe no failure to file or failure to pay penalties," the IRS said.

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"In addition, no FBAR penalty applies in the case of a violation that the IRS determines was due to reasonable cause."

Roughly one million Americans live in Canada and some had become fearful of a looming U.S. tax crackdown. Many Americans moved to Canada years ago and they stopped filing tax returns, assuming they owed no tax since taxes in Canada are higher.

U.S. citizens, regardless of where they live and work, are required by the IRS to file annual tax returns. When the U.S. moved to expose citizens hiding assets in offshore tax havens, it caused a wave of panic among Americans living in foreign countries, as they feared they would be hit by punishing penalties for failing to file tax returns.

In addition to filing a tax return reporting their income, Americans must also report all their foreign bank, brokerage, mutual fund and pension accounts. By 2014, Canadian financial institutions will have to identify accounts held by U.S. citizens to the IRS.

The penalties can be steep. Failure to disclose foreign bank accounts can result in penalties of $10,000 (U.S.) a year for every account. If it's determined that a person willfully failed to file reports detailing foreign bank and financial accounts, the fines can be $100,000, or 50 per cent of the total balance of the account, at the time of the violation - whichever is greater.

While the IRS statement will give relief to some people, it doesn't clear up all the issues, said accountant Kevyn Nightingale, a U.S. tax specialist with MNP LLP in Toronto.

"What I see here is that they are demonstrating a willingness to abate the penalties without committing that in all circumstances they'll just say 'fine no problem,' " he said. "That leaves a whole bunch of judgment to this and unfortunately the problem with this is that you don't always get consistency with the judgment."

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In general, though, "the bulk of the people in Canada are going to be helped because the vast majority owe no tax," Mr. Nightingale said. Americans who joined the IRS amnesty program earlier this year have until Friday to file their returns, he added.

Last week, David Jacobson, the U.S. Ambassador to Canada, raised people's hopes that the IRS would soon clarify what Americans living in Canada would face if they hadn't filed their U.S. taxes or foreign holdings. And hopes were that as long as those people came clean, they would not be penalized, said Wayne Bewick, a partner at Trowbridge Professional Corp., who specializes in expatriate and international taxation.

"I don't know how much relief this is going to give to Americans in Canada because they're still not going to have that certainty around penalties," he said, since 'reasonable cause' is open to interpretation.

"Are you going to want to file if you're not sure? It leaves a lot of stress on people and I don't know if this is going to alleviate it."

For Americans in Canada who are wondering whether to file past tax returns or not, he suggests it's best to take action soon.

"I still do think now is the time to come forward if you're going to do it because it's going to get harder and harder" to argue 'reasonable cause' or say you weren't aware of the issue due to all the media coverage, he said.

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About the Author
Assistant Editor, Globe Investor

Gillian Livingston started her journalism career at The Gazette at Western University. She's worked for The Financial Post, Dow Jones Newswires and The Canadian Press as a reporter for news, business, markets and Ontario politics. More

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