International tax

South Florida is full of people whose lives touch more than one country. A U.S. citizen who moved abroad and kept a bank account behind. A family in Boca Raton with an inheritance sitting in Europe or Latin America. A foreign national who bought a condominium and now has to work out what happens when they sell it, or when they die owning it.

None of these people think of themselves as having an international tax problem. Most of them have several, and the majority of the trouble comes not from tax owed but from forms not filed. The U.S. reporting regime imposes substantial penalties for failures to disclose, entirely separately from any tax liability, and many of those penalties apply even where no tax was due at all.

This page explains the main obligations, who they apply to, and what the routes back into compliance look like. It is a map rather than advice on any particular situation, because these matters turn heavily on detail.

Why U.S. taxation is unusual

Almost every country taxes people based on where they live. The United States is one of very few that taxes based on citizenship as well.

The consequence is that a U.S. citizen owes U.S. tax on worldwide income regardless of where they live, how long they have been away, or whether they have ever set foot in the country as an adult. The same applies to lawful permanent residents holding a green card, and to foreign nationals who meet a residence test.

That single feature generates most of what follows. It is also why so many people are non-compliant without any intention to be. Someone who left the United States as a child, or who acquired citizenship through a parent, may have filing obligations they have never heard of.

Who the rules apply to

U.S. persons for these purposes generally include:

• U.S. citizens, including dual nationals and those who acquired citizenship at birth abroad through a parent.
• Lawful permanent residents, meaning green card holders, for as long as that status subsists. It does not end simply because someone stopped living in the United States.
• Foreign nationals who meet the substantial presence test in a given year.
• Domestic entities, including corporations, partnerships, trusts and estates formed or administered in the United States.

The green card point catches people regularly. Someone who obtained permanent residence, moved away, and simply let the card lapse in a drawer may still be treated as a U.S. tax resident until the status is formally abandoned or otherwise terminated.

Residence, and the substantial presence test

A foreign national becomes a U.S. tax resident by being present in the country for enough days. The substantial presence test uses a weighted formula counting the current year in full, a third of the prior year and a sixth of the year before that, with residence triggered once the total reaches the statutory threshold and a minimum number of days is present in the current year.

This matters enormously to snowbirds. A person who spends several months in Florida each winter can cross into tax residence without realising it, and the consequence is exposure to U.S. tax on worldwide income rather than only on U.S. source income.

Two escape routes exist and both require action rather than assumption:

• The closer connection exception, available to someone who was present for less than a threshold number of days in the current year, maintains a tax home in another country and has a closer connection to it. It requires an affirmative filing.
• A treaty tie-breaker, where an applicable treaty resolves dual residence in favour of the other country. Taking a treaty position requires disclosure on a specific form, and failing to disclose carries its own penalty.

Counting days accurately, and keeping a record of them, is unglamorous and occasionally decisive.

Americans living abroad

A U.S. citizen living overseas files a U.S. return reporting worldwide income, whatever they file in their country of residence. An automatic extension applies to those living abroad, with a further extension available on request, though interest still accrues on unpaid tax.

Two principal reliefs prevent the same income being taxed twice:

• The foreign earned income exclusion allows a qualifying individual to exclude a limited amount of foreign earned income, with an additional housing element. Qualification depends on meeting either a bona fide residence test or a physical presence test. It applies to earned income only, so it does nothing for investment income, pensions or capital gains.
• The foreign tax credit gives credit for income taxes paid to another country against U.S. tax on the same income. For people living in higher-tax jurisdictions this frequently eliminates U.S. liability entirely, and it applies to categories of income the exclusion does not reach.

Choosing between them, or combining them, is a planning decision with long-term consequences, since elections can be difficult to revoke.

Other issues that arise routinely for Americans abroad include the treatment of foreign pensions, which is often not what people assume and depends heavily on the relevant treaty; foreign social security contributions and totalisation agreements; foreign life insurance and savings products that behave badly under U.S. rules; and self-employment tax, which is not covered by the earned income exclusion.

Relief from double taxation

The mechanisms above operate alongside tax treaties. In broad terms the system tries to ensure income is not taxed twice, but it does so imperfectly and the interaction requires attention.

Common friction points include income that one country treats as taxable and the other does not, timing differences where the two tax years do not align, and vehicles that are transparent for one country's purposes and opaque for the other's. Retirement accounts and investment funds are the usual culprits.

FBAR: reporting foreign accounts

The Report of Foreign Bank and Financial Accounts, universally called the FBAR, is filed with the Financial Crimes Enforcement Network rather than with a tax return.

A U.S. person must file if the aggregate value of their foreign financial accounts exceeded ten thousand dollars at any point during the year. The threshold is aggregate, not per account, and it is measured at the highest balance rather than the year-end balance. Someone with five modest accounts can easily cross it without any single account looking significant.

Reportable accounts are broader than people expect. They include bank accounts, securities accounts, certain insurance and annuity products with cash value, some foreign pension arrangements, and accounts over which you have signature authority even if you have no beneficial interest, which sweeps in people who signed on a parent's or an employer's account.

The FBAR is not a tax form and no tax is due on it. It is a disclosure, and the penalties for failing to make it are among the harshest in the system.

FATCA and Form 8938

The Foreign Account Tax Compliance Act added a second, overlapping regime. Form 8938, the Statement of Specified Foreign Financial Assets, is filed with the income tax return where the value of specified foreign assets exceeds thresholds that vary by filing status and by whether the taxpayer lives in the United States or abroad.

Form 8938 is broader than the FBAR in what it captures, reaching foreign stock and securities held outside an account, interests in foreign entities and certain foreign financial instruments. It is narrower in some respects and the thresholds are higher. Many people must file both, reporting overlapping information twice, and filing one does not satisfy the other.

FATCA also operates on the other side of the relationship. Foreign financial institutions report U.S. account holders to the IRS, directly or through intergovernmental agreements. The practical consequence is that non-disclosure is far more likely to surface than it once was, often when a foreign bank writes asking a customer to certify their U.S. status.

Foreign companies, partnerships and trusts

Ownership of, or involvement with, a foreign entity triggers its own reporting, and these forms carry significant penalties for each failure.

• Foreign corporations. U.S. shareholders meeting ownership thresholds report annually, with detailed financial information. Anti-deferral regimes may also attribute income of the foreign company to the U.S. owner before any distribution is made, which surprises people who assume nothing is taxable until money is paid out.
• Foreign partnerships, with reporting obligations for controlling or substantially invested partners.
• Foreign disregarded entities and branches, which have their own annual form.
• Foreign trusts. Both the U.S. owner and the U.S. beneficiary have reporting obligations, and distributions carry their own reporting. Foreign trusts are also taxed unfavourably in ways that catch families who set up perfectly ordinary structures under the law of their home country.

A recurring theme: an arrangement that is entirely normal abroad, such as a family holding company or a pension-like savings vehicle, can be treated as an exotic structure under U.S. rules with reporting attached.

Foreign funds and the PFIC rules

The passive foreign investment company rules deserve their own mention because they catch ordinary investors.

A non-U.S. mutual fund, exchange traded fund or similar pooled investment will typically be a PFIC. The default tax treatment is punitive: gains and certain distributions are allocated across the holding period, taxed at the highest applicable rates, and subject to an interest charge. Annual reporting is required for each holding.

Elections exist that can improve the position, but they generally have to be made in time and require information the fund may not readily supply. The practical advice most often given is preventative: a U.S. person living abroad is usually better served by holding U.S.-domiciled funds than local ones, and someone who has already accumulated foreign funds should understand the position before selling.

Gifts and inheritances from abroad

Receiving money from a foreign relative is not itself taxable income to the recipient. It is, however, reportable once it exceeds thresholds, on a form that also covers foreign trust transactions.

The distinction matters and is frequently misunderstood. There is generally no U.S. tax on the receipt of a foreign gift or inheritance. There is a substantial penalty for failing to report it, calculated by reference to the amount received. A family that transfers an inheritance from abroad and says nothing has usually created a penalty exposure without creating any tax liability at all.

What the penalties look like

The penalty structure is what makes this area serious.

• FBAR non-willful violations carry a penalty per violation, adjusted annually for inflation. Willful violations are far greater, calculated by reference to a percentage of the account balance, with criminal exposure in the worst cases.
• Information return penalties for foreign entity and trust forms are substantial per form per year, with continuation penalties for ongoing failure after notice.
• Failure to report a foreign gift attracts a percentage-based penalty.
• Statute of limitations. Failing to file certain international information returns can keep the limitation period open on the entire return, meaning old years never close.

The distinction between willful and non-willful conduct carries enormous weight, and it is a factual question about state of mind assessed on the whole picture, including how obvious the obligation was and what the taxpayer did when they learned of it.

Coming back into compliance

People discover these obligations in predictable ways: a letter from a foreign bank, a conversation with an accountant, an inheritance that needs to move, or a mortgage application that asks for tax returns.

Several routes back exist, and choosing the right one is the substance of the work:

• Streamlined filing compliance procedures, with separate tracks for taxpayers resident in the United States and those resident abroad. These require certification that the failure was non-willful, and the offshore track carries no miscellaneous penalty for those who qualify, which makes it a favourable outcome where it is available.
• Delinquent FBAR submission procedures, for taxpayers who reported and paid tax on the relevant income but simply did not file FBARs.
• Delinquent international information return procedures, with a reasonable cause statement.
• Voluntary disclosure, the route where conduct may have been willful and criminal exposure needs to be addressed.
• Quiet disclosure, meaning simply filing the missing forms without using a programme. This is not a recognised route and carries real risk.

The critical point is timing: these programmes are available only to taxpayers who come forward before the IRS contacts them about the issue. Once an examination begins, the favourable options close. Anyone who has realised they have a problem is in a materially better position today than after a letter arrives.

Foreign nationals with U.S. income

A non-resident alien is taxed only on U.S. source income, but the mechanics differ sharply from those applying to residents.

Income effectively connected with a U.S. trade or business is taxed on a net basis at graduated rates and reported on a non-resident return. Passive U.S. source income of the fixed or determinable annual or periodical kind, such as dividends, certain interest and rents, is generally subject to withholding at a flat statutory rate on the gross amount, frequently reduced by treaty.

The gross basis is the part that surprises. Withholding on rental income takes no account of mortgage interest, taxes, insurance, management fees or depreciation. An election is available to treat U.S. real property income as effectively connected, allowing deductions and net taxation, which for a leveraged rental property is very often the better answer. It must be made properly.

Practical prerequisites include obtaining a taxpayer identification number, which foreign individuals secure through an application process that has its own requirements around certified documentation.

Owning Florida real estate as a foreign person

Florida property is bought by foreign nationals in large numbers, frequently with no U.S. tax advice at all. Four separate regimes touch the same property.

• Income tax while it is held, on rental income, on the gross or net basis as described above.
• Withholding on sale under FIRPTA.
• Estate tax if the owner dies holding it.
• Gift tax if it is transferred during life, since U.S. real property is within the gift tax net for non-residents even though most other assets are not.

The order in which people encounter these is usually the reverse of the order in which they should have been considered.

FIRPTA withholding on a sale

The Foreign Investment in Real Property Tax Act requires the buyer to withhold a percentage of the gross sales price when purchasing U.S. real property from a foreign person, and to remit it to the IRS. The standard rate applies to the gross price, not to the gain, so withholding can substantially exceed the actual tax liability, and in a loss-making sale it applies anyway.

Reduced rates apply in defined circumstances, including certain sales below a stated price where the buyer will use the property as a residence. Exemptions exist where the seller is not in fact a foreign person and provides the appropriate certification.

Where withholding would exceed the seller's actual liability, a withholding certificate may be applied for before or at closing, allowing a reduced amount to be withheld. This is the single most useful step available, and it has to be initiated in good time rather than discovered at the closing table. Without it, the seller waits to recover the excess by filing a return after the year end, which can mean their money sits with the IRS for many months.

Buyers should understand that the obligation is theirs. A buyer who fails to withhold when required can be held liable for the tax.

The estate tax trap for non-residents

This is the single most damaging surprise in the area, and it is entirely avoidable with planning.

A U.S. citizen or domiciliary has a very large estate tax exemption. A person who is neither a U.S. citizen nor domiciled in the United States has an exemption for U.S. situs assets that is dramatically smaller, fixed by statute at a level that has not moved in decades and that is measured in tens of thousands of dollars rather than millions.

U.S. situs assets include U.S. real property and shares in U.S. corporations. So a foreign national who dies owning a Florida condominium can face U.S. estate tax on essentially its whole value above that small threshold, at rates reaching into the tens of per cent, payable before the property can be cleanly transferred. Families discover this at the worst moment, and often without liquidity to pay it.

Note also that domicile for estate tax purposes is not the same test as residence for income tax purposes. It turns on intention to remain, and someone can be a non-resident for income tax while being domiciled for estate tax, or the reverse.

An estate tax treaty may help where one exists with the relevant country. Structure usually helps more.

How foreign buyers hold property

Because of the estate tax exposure, foreign purchasers of U.S. real estate frequently hold through a structure rather than personally. Common approaches involve a foreign corporation, sometimes with a U.S. entity beneath it, or a trust, each with different consequences.

Every structure trades one problem for another. Interposing a foreign corporation can remove the U.S. situs asset from the individual's estate, while introducing corporate level tax, potential branch profits tax, loss of favourable capital gains treatment on sale, and administrative cost. Holding personally keeps the tax treatment on sale simple and leaves the estate exposure in place. There is no universally correct answer, only a choice that fits the family's circumstances, time horizon and appetite for complexity.

Two rules of thumb hold generally. Structure decisions are far cheaper before purchase than after, since unwinding an existing holding can itself be a taxable event. And a structure recommended without regard to the client's home country tax position is only half an answer, because it must work at both ends.

Tax treaties

The United States has income tax treaties with many countries and a much smaller number of estate and gift tax treaties. Treaties can reduce withholding rates, allocate taxing rights, resolve dual residence, and provide relief that domestic law does not.

Two cautions. Taking a treaty position generally requires disclosure on a specific form, and failing to disclose carries a penalty. And most U.S. treaties contain a saving clause that preserves the country's right to tax its own citizens as though the treaty did not exist, subject to listed exceptions. The practical effect is that many treaty benefits simply do not help a U.S. citizen abroad, which is a disappointment people meet repeatedly.

Giving up citizenship or a green card

Some people conclude that the compliance burden is not worth it. Expatriation is possible and it has tax consequences of its own.

An individual who meets defined thresholds for net worth or average annual tax liability, or who cannot certify five years of tax compliance, is treated as a covered expatriate. That status triggers a mark-to-market exit tax, treating worldwide assets as sold on the day before expatriation, with an exclusion amount, and it carries adverse consequences for future gifts and bequests to U.S. persons.

Long-term green card holders are within the regime as well, which catches people who assume it applies only to citizens.

Expatriating without first becoming compliant is generally the worst of both worlds, since the certification requirement cannot be met. The sequence matters.

The Florida advantage, and its limits

Florida imposes no state income tax and no state estate or inheritance tax. For someone relocating from a high-tax state, or from abroad, that is a genuine and substantial benefit, and it is one reason so many families end up here.

It is not, however, a shield against federal obligations, and it does nothing about the reporting regime described above. Two related points are worth flagging for anyone who has recently moved:

• Leaving a high-tax state is a factual question, not a formality. Some states scrutinise departures closely and look at where you actually live, work, keep possessions and maintain connections.
• Establishing Florida residence involves practical steps that also serve as evidence, including a declaration of domicile, homestead exemption, licensing and registration, and moving the centre of your affairs in fact rather than on paper.

What to do next

If any of the following is true, the position is worth reviewing:

• You are a U.S. citizen or green card holder living outside the United States and have not filed recently.
• You hold foreign bank, investment or pension accounts and have not filed FBARs.
• You have received, or expect to receive, a gift or inheritance from abroad.
• You own or have an interest in a company, partnership or trust outside the United States.
• You are a foreign national who owns, or is about to buy, Florida real estate.
• You are selling U.S. property as a foreign person and FIRPTA withholding is in prospect.
• You spend substantial time in Florida each year without being a U.S. resident.

Joseph Bendel holds an LL.M. in Taxation from the University of Miami School of Law, which is why a disability practice and an international tax practice sit under the same roof. Where a matter also touches estate planning, the two are considered together rather than in isolation, since a plan drafted without regard to a foreign asset or a non-citizen spouse can create the very problem it was meant to avoid.

This page is general information about U.S. international tax and reporting obligations. It is not legal or tax advice for your situation, thresholds and rates are adjusted periodically and the rules turn heavily on individual facts, and reading this page does not create an attorney-client relationship.