U.S. Tax Laws Involving Foreign Income, Assets & Financial Accounts

  1. U.S. Taxpayers (generally residents or citizens) must report their world-wide income, credits and deductions on their U.S. tax returns (Form 1040) and, in general, are entitled to foreign tax credits for taxes income taxed to a foreign country.
  2. U.S. Taxpayers with an ownership interest or signature authority over foreign financial accounts (bank and brokerage accounts, on-line gaming accounts, corporate, escrow, trust and other entity accounts, certain retirement plans and life insurance with a cash value) are required to electronically file an annual Foreign Bank and Financial Account Reports (FBARS) on or before June 30th of the following year. There are no extensions. The maximum fine for the non-willful failure to timely file an FBAR is $10,000 and there is a six-year statute of limitations for assessment of the penalty. The penalty may be reduced or eliminated upon a showing of “reasonable cause.”
  3. In addition to the FBAR requirement, starting in 2011 U.S. taxpayers with foreign financial account and certain other financial assets (generally, stock or securities,  including certain employee stock benefit plans, partnership or LLC interests, precious metal certificates) must report those assets on Form 8938, which is filed with the Form 1040. The threshold filing requirements start at $50,000 for single taxpayers living in the U.S. and $100,000 for married couples.  These amounts are doubled if the couple lives overseas.  Note: Physically holding gold or silver bars or other precious metals (even if they are in storage) is not a financial account, but holding certificates representing an interest in precious metals is considered a financial account.
  4. U.S. Taxpayers who have a 10% or greater interest in a foreign corporation must file Form 5471 with the Form 1040. There are equivalent filing requirements for 10% or more ownership in a foreign partnership.  Interests in family investments, if held in an entity is subject to this reporting requirement, but total or partial ownership of real estate is not.
  5. U.S. Taxpayers who receive a foreign gift or inheritance from an individual of more than $100,000 during the calendar year must file Form 3520 to report the gift or inheritance. The due date of Form 3520 is the same as the Form 1040, and is extended if a valid extension is filed for the Form 1040. The threshold reporting requirement for a gift from an entity or trust is much lower.
  6. U.S. Taxpayers who earn wages or self-employment income while residing outside the U.S. may be entitled to a foreign earned income exclusion if they are considered residents of a foreign country or remain outside the U.S. for a period of 330 days during any 12-month period. The maximum income exclusion is $97,600 for 2013, $99,200 for 2014, $100,800 for 2015 and $101,300 for 2016. The exclusion, however, must be claimed on a timely filed U.S. tax return, it is not automatic. There is also a partial exclusion for housing costs, if they exceed a certain minimum.
  7. IRS has a couple of “amnesty” programs available for taxpayers with unreported foreign income for foreign financial accounts, as well as taxpayers who failed to properly report ownership in foreign entities or receipt of foreign gifts or inheritances of $100,000 or more in the calendar year.  Penalties are drastically reduced for taxpayers willing to sign a sworn statement, under federal laws of perjury, that they were not “willful” in their failure to comply with the tax law.
Print Friendly, PDF & Email

An Extremely Simple Tax Proposal

Introduction

The frantic April 15th tax-filing ritual is over, restaurants and businesses are advertising bargains to cash-strapped taxpayers and once again, we wonder, isn’t there a better way?

Everyone claims to want a simpler, fairer and loophole-free tax system, so here’s a solution so simple that, for most taxpayers, return preparation and filing could be completed in less than one minute – that’s it!

Broaden the Tax Base, Lower the Tax Rate

As Emperor of America, charged with the task of making the income tax system simple, straightforward, with no loopholes, here’s my approach.  It terminates tax-driven businesses, including the tax preparation industry (goodbye CPAs, Turbo-tax and scheming tax lawyers) – and all that waste of time and money.

Individuals

Taxpayers receive a large front-loaded exemption along with drastically lower tax rates, in exchange for eliminating all deductions:

  • From $0 to 50,000 = no tax
  • From $50,000 to $100,000 =10%

    • Thus, the first $100,000 of income is taxed at no more than 5% ($5,000 maximum)

  •  From $100,000 to $250,000= 20%
  •  From $250,000 to $500,000 = 25%
  •  Over $500,000 = 30%

That’s it, a major reduction in the current tax rates, which range as high as 39.6% for taxable incomes exceeding $400,000 for joint filers.

No Write-Offs

Oh by the way, there are no deductions, exemptions or credits whatsoever. Seriously, no deductions for mortgage interest, charitable donations, state, local, sales or property taxes, alimony, retirement contributions or medical expenses.  The first $50,000 you earn is tax free (you pay only 5% on the first $100,000) and replaces all deductions.  Also, all income is taxed at the new rates, thereby eliminating capital gains (a major cause of complexity and abusive tax planning) and other preferential tax rates; in addition the alternative minimum tax is tossed out (another huge source of mind-boggling complexity and unfairness).

Filing

Since IRS directly receives information concerning wages and compensation, interest, dividends, royalties and other reportable payments, it can compute your taxes instantly.  Consequently, for the vast majority of taxpayers, returns can be prepared and submitted on-line in less than a minute.  With all deductions eliminated, the tax calculation is simple.

For those with business and investment income and expenses, the process is slightly more complicated.

Business and Investment Deductions

Business and investment income is taxed differently because legitimate deductions are incurred in the production of that income.  However, I would eliminate all deductions except for directly-related and essential expenses actually incurred (costs of purchasing raw materials, labor, rent, direct overhead) and not subject to accounting manipulations.

No Interest Deductions

There would be no interest deductions, since they distort our tax system by favoring borrowed funds (debt) over direct investments (equity).  Eliminating the interest deduction should collapse deals whose economic survival depends on writing-off interest expenses, such as leveraged buyouts and leveraged real estate deals, tax shelters and securities speculations.

Limited Depreciation Deductions

There would be no deductions for depreciation on real estate, no oil or gas depletion allowance, no amortization for intellectual property or goodwill; only business assets that actually wear out within seven years will have a depreciation allowance.  Eliminated are deductions for entertainment, meals and perks for execs, such as automobiles and club memberships, although a straight mileage allowance for vehicles actually used in  business would be permitted.

“Tax-free” exchanges of real estate would no longer exist (the transaction would be immediately taxable) and reorganizations (mergers, acquisitions and alike) would be subject to a flat tax of 2% on the gross value of the transaction.

The upshot:  businesses and investments would have to stand on their economic merit, rather than on tax loopholes and accounting shenanigans.

World-Wide Income

Individuals and entities would be taxed on their world-wide income, whether or not the income, whether or not the funds were repatriated to the U.S.  The current gimmicks used by Apple, Google, Marriott and others to escape U.S. taxation by transferring intellectual property to foreign subsidiaries would be stopped.

Entity Tax Rates

Entities will pay 5% tax on the first $100,000 of gross income, then 15% to $5.0 million, then  25% over that amount. Note: the current corporate tax rate is generally 35% on income over $100,000.  Current flow-through entities (partnerships, LLCs and S-corporations) would be taxed as entities.  As with individuals, the reduced rate up to $5.0 million compensates entities for the loss of deductions.

Minimum tax

Individuals with gross receipts of more than $100,000 will pay a minimum tax of 2%. Entities with gross receipts of more than $25 million a will pay a minimum of 4%.   This will eliminate accounting tricks and gimmicks.  These minimums will apply each year, carryover losses will not reduce the minimum tax – every individual and entity will pay at least the minimum tax – no exceptions.

Example: An individual earns $1.0 million in real estate income, but claims $1.2 million in deductions. Even so, the individual pays 2% on the million or $20,000 at a minimum.

Example: Assume GE has $150 billion of gross income but currently pays no income taxes.  Under the minimum tax, it pays $6.0 billion.  Thus, GE, even with its army of 375 tax lawyers, will not escape the minimum tax.

Audit Risk

If an entity is caught under-reporting taxes by more than 10%, the minimum tax doubles to 8% for the next three years.  This should deter companies that hire boatloads of accountants and attorneys to finagle their taxes.

Conclusion

This drastically simplifies our current tax code by eliminating loopholes and special interest deductions that have created such a mess.  It is simple, fair, and causes every individual and entity to pay taxes.

The reduction of billions of hours of wasted time and dollars spent on dealing with the current law will boost our economy, but the most important result is that businesses and investments will once again base their decisions on economic merit, rather than on gaming the tax system.

Print Friendly, PDF & Email

Fiscal Cliff Deal

Congress dove off the fiscal cliff at midnight, December 31st, but then quickly passed legislation preserving the Bush tax cuts for all but the highest income earners.  The full text of the legislation is contained in H.R. 8.

Individuals

Despite President Obama’s insistence that those earning more than $250,000 pay higher taxes, the final amount was almost doubled to $400,000 for single files and $450,000 for married couples. (“new ceiling”).

Income exceeding the new ceiling is taxed as follows (i) capital gains and dividends at 20%; and (ii) ordinary income (compensation, retirement distribution, rents, interest, royalties) at 39.6%, the rate under President Clinton.  The alternative minimum tax exemptions were increased to $50,600 for individuals ($78,750 for joint filers) and indexed for inflation.

Deductions and Credits

Itemized deductions remain subject the phase-out rules, but the thresholds have been raised to $250,000 for individuals and $300,000 for married couples.  Tax credits have been continued for five years, including the earned income credit, educational credits and the child care credit.

 New Obamacare Tax

Starting in 2013, investment income [1. Generally, investment income is all income except compensation, active business income, municipal bond interest, life insurance proceeds and retirement distributions] is subject to an additional 3.8% tax to pay for Obamacare and applies to income in excess of $200,000 for individuals and $250,000 for married couples.

 Estate and Gift Tax

The 2012 estate and gift tax rules will continue with one minor modification.  The unified estate and gift exemption remains at $5 million per individual ($10 million for a couple) and is indexed for inflation ($5,120,000 in 2013), but the tax rate is increased to 40%.

 Payroll Tax and Unemployment Benefits

The 2% break for payroll taxes on the first $113,000 of compensation will expire, thus raising taxes for almost all wage earners; however, long-term unemployment benefits are extended for another year.

 S Corporations

The 10-year waiting period for built-in gains (gains taxed at the corporate rate of 35%) has been slashed to 5 years, so small corporations with built-in gains may want to convert to S corporation status.  After the five-year period, those gains will be taxed at individual capital gains rates (15% for those under the ceiling).

 Miscellaneous Provisions

The rules regarding income from the discharge of indebtedness involving a principal residence were continued through 2013.  Research and development credits were extended, as well as the 50% bonus first year depreciation tax break.

Footnotes

Print Friendly, PDF & Email